UK Private Pension - tax free lump sum

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I moved to Germany twenty years ago and now have dual UK/German citizenship.  I pay German taxes but nothing in the UK.

 

However, I have 2 separate private pensions in the UK, from my earlier employment there, which should start to pay out this year.

Both offer an initial "Tax Free" lump sum.  But would that also be regarded as Tax Free in Germany?

 

The helpdesk of the pension trustees for the larger of the two, have told me that it should be tax free, even in Germany. However, a couple of years ago I spoke with a representative of Abbey Wealth about possibly moving the main pension to a QROPS, and he told me that the lump sum would definitely be treated as income by the German tax authority, and taxed accordingly.

 

Does anyone know for certain one way or the other?

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3 hours ago, Martin Clark said:

However, I have 2 separate private pensions in the UK, from my earlier employment there, which should start to pay out this year.

Both offer an initial "Tax Free" lump sum.  But would that also be regarded as Tax Free in Germany?

No, unless you move back to the UK before getting it, Germany will tax it. 

 

If you don't move back to the UK before getting it, you are looking at this:

Even though the double taxation agreement (DTA) offers in article 17 (3), if you had paid tax-relieved money into it for more than 15 years while still living in the UK, the taxation rights on that private pension to the UK, it then goes on to state that if the UK then does not want to tax that amount, Germany will tax it instead: https://www.bundesfinanzministerium.de/Content/DE/Standardartikel/Themen/Steuern/Internationales_Steuerrecht/Staatenbezogene_Informationen/Laender_A_Z/Grossbritannien/2010-11-23-Grossbritannien-Abkommen-DBA-Gesetz.pdf?__blob=publicationFile&v=3

  • (3) Notwithstanding the provisions of paragraph 1, such a pension, similar remuneration or annuity arising in a Contracting State which is attributable in whole or in part to contributions which, for more than 15 years in that State,
    a.) did not form part of the taxable income from employment, or
    b.) were tax-deductible, or
    c.) were tax-relieved in some other way
    shall be taxable only in that State.
    This paragraph shall not apply if that State does not effectively tax the pension, other similar remuneration or annuity, or if the tax relief was clawed back for any reason, or if the 15 year condition is fulfilled in both Contracting States.

Since the UK declines to tax it, you fall back to the default rule of article 17 (1) of the DTA, that your country of residence, Germany, gets to tax the pension payout:

  • Article 17
    Pensions, annuities and similar payments
    (1) Subject to the provisions of paragraph 2 of Article 18, pensions, other similar remuneration or annuities arising in a Contracting State and paid to a resident of the other Contracting State, shall be taxable only in that other State.

 

3 hours ago, kiplette said:

My guess is yes, because you have dual citizenship if nothing else

Correct answer, wrong reason ;-)

 

His German citizenship would only matter if received a pension for government service, i.e. the pensions described in article 18 (2) of the DTA:

  • (2) Notwithstanding the provisions of paragraph 1, pensions and other similar remuneration paid by, or out of funds created by, a Contracting State, a “Land” or a political subdivision or a local authority of a “Land” or a Contracting State or some other legal entity under public law of that State to an individual in respect of services rendered to that State, “Land”, subdivision or authority or legal entity under public law shall be taxable only in that State.
    However, such pensions and other similar remuneration shall be taxable only in the other Contracting State if the individual is a resident of, and a national of, that State.
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This is exactly what I would have written but sitting reading it, it made me wonder.  What is the " pension, similar remuneration or annuity" in this context?  Is it each payment, or is it the total paid out in relation to the payments into the "pension scheme" over X years?  And if it is the latter, is the "pension" "effectively taxed" if the UK subjects pensions to tax at marginal rates but allows 25% to be taken tax free?  And if that does not mean "effectively taxed", and the whole pension therefore falls back into 17(1) territory, when would UK pensions ever fall into 17(3) as virtually all pension schemes are structured to pay out 25% tax free at retirement?

 

I think I know how the FA will view it, i.e. we tax the lump sum, but would they then tax the monthly pension payments too, relying on 17(1), or consider 17(3) applies to the rest?  And if it is the latter, are they not splitting payments under a single contract to suit their purposes? Seems like "cake and eat".  Surely someone has tested this?

 

I guess the other option, if 17(3) would otherwise apply is to forego the lump sum, essentially "un-commute" it, and take a higher monthly pension, if the rules allow for such.  That would lead to a higher annual taxable amount but also access to the UK personal allowance and tax rates on the excess over the PA, so overall perhaps less tax compared to the whole thing being taxed in Germany.  Time to get your spreadsheet out and to study the scheme rules in detail?

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No, only the kinds of income listed in §34 (2) EStG are eligible for the Fünftelregelung, and this is §22 income, which is not listed in there: https://www.gesetze-im-internet.de/estg/__34.html

  • (2) Als außerordentliche Einkünfte kommen nur in Betracht:

      1. Veräußerungsgewinne im Sinne der §§ 14, 14a Absatz 1, der §§ 16 und 18 Absatz 3 mit Ausnahme des steuerpflichtigen Teils der Veräußerungsgewinne, die nach § 3 Nummer 40 Buchstabe b in Verbindung mit § 3c Absatz 2 teilweise steuerbefreit sind;
      2. Entschädigungen im Sinne des § 24 Nummer 1;
      3. Nutzungsvergütungen und Zinsen im Sinne des § 24 Nummer 3, soweit sie für einen Zeitraum von mehr als drei Jahren nachgezahlt werden;
      4. Vergütungen für mehrjährige Tätigkeiten; mehrjährig ist eine Tätigkeit, soweit sie sich über mindestens zwei Veranlagungszeiträume erstreckt und einen Zeitraum von mehr als zwölf Monaten umfasst
  • (2) Only the following shall be eligible as extraordinary income:
    1. capital gains within the meaning of sections 14, 14a(1), 16 and 18(3), with the exception of the taxable part of capital gains which are partially exempt from tax under section 3 number 40(b) in conjunction with section 3c(2);
    2. compensation within the meaning of section 24 number 1;
    3. user fees and interest within the meaning of § 24 number 3, insofar as they are paid in arrears for a period of more than three years;
    4. remuneration for activities lasting several years; an activity is deemed to be lasting several years if it extends over at least two assessment periods and covers a period of more than twelve months.

If he is lucky, the Finanzamt will accept to tax it under §22 Nr. 5 Satz 2 EStG which points to §20 (1) Nr. 6 EStG, with only the difference between what he paid in and what he gets out of it (or even only 50% of that "gain" if he is over 60) being taxed with 26.375%: https://www.gesetze-im-internet.de/estg/__20.html

This would then be analogeous to the taxation of a US 401k payout stemming from pre-2008 contributions: 

If he is unlucky, the Finanzamt will see it as a payout from a betriebliche Altersvorsorge (assuming that he paid in tax-relieved money) and will make him tax 100% of the payout with his own personal variable income tax rate of up to 42%, as laid down in §22 Nr. 5 Satz 1 EStG: https://www.gesetze-im-internet.de/estg/__22.html

 

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Many thanks to PandaMunich and other for the detailed and helpful responses. Since I do have the option to forego the lump sum and take a higher monthly pension, it seems that that will be the right way to go.

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On 23/02/2022, 11:31:33, PandaMunich said:

If he is unlucky, the Finanzamt will see it as a payout from a betriebliche Altersvorsorge (assuming that he paid in tax-relieved money) and will make him tax 100% of the payout with his own personal variable income tax rate of up to 42%, as laid down in §22 Nr. 5 Satz 1 EStG: https://www.gesetze-im-internet.de/estg/__22.html

 

 

So UK state pension is considered taxable income, not taxed in the UK and therefore taxed here in Germany (after being in Germany 15 years).

What about SIPPs, where the year that the pension can be drawn is from 58 onwards as either drawdown or an annuity?

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1 hour ago, scook17 said:

So UK state pension is considered taxable income, not taxed in the UK and therefore taxed here in Germany (after being in Germany 15 years).

No.

I have no idea how you came to that conclusion.

"Being in Germany 15 years" is not a criteria for anything.

 

A UK state pension is a "social security" pension, which means that it is taxable by the UK, see article 17 (2) of the double taxation agreement (DTA) between Germany and the UK: https://www.bundesfinanzministerium.de/Content/DE/Standardartikel/Themen/Steuern/Internationales_Steuerrecht/Staatenbezogene_Informationen/Laender_A_Z/Grossbritannien/2010-11-23-Grossbritannien-Abkommen-DBA-Gesetz.pdf?__blob=publicationFile&v=3

  • (2) Notwithstanding the provisions of paragraph 1, payments which are made in accordance with the social insurance legislation of a Contracting State shall be taxable only in that State

Don't forget that you still have to declare it in your German tax return, since it is income subject to Progressionsvorbehalt which does not mean that it will be taxed again, but it will raise your German income tax rate.

 

 

1 hour ago, scook17 said:

What about SIPPs, where the year that the pension can be drawn is from 58 onwards as either drawdown or an annuity?

 

There is the view that sees it as a pension plan that is similar to a German life insurance, which means that it would only be taxed when you take money out if it and that it benefits from the tax breaks for German life insurance: https://blog.handelsblatt.com/steuerboard/2019/04/23/britische-pension-plans-und-die-deutsche-einkommensteuer/

  • if you started paying into by 31.12.2004, the payout would be tax-free in Germany, as long as you paid more than 12 years into it.
  • if you started paying into it from 01.01.2005 and you didn't pay tax-relieved money into it for more than 15 years while living in the UK (in which case the UK would have the taxation rights on it according to article 17 (3) of the DTA D/UK. Only Progressionsvorbehalt in Germany), you are back at the default of article 17 (1) DTA D/UK, i.e. having to tax it in Germany, i.e. you would only have to tax the difference between what you paid in and what you got out of it.

******************************************************************************

 

Of course, there is the more conservative view, that a SIPP is nothing like a German life insurance (this is the view I adhere to).

Following this conservative view means that you cannot be accused of tax evasion.

 

A German life insurance is a "black box" where you have no influence into what you money is invested in.

While in a SIPP (self-invested private pension) means that you are the one who gets to decide what you invest in and you merrily buy and sell stocks/funds/bonds and so on within your SIPP.

Which in my view makes it a standard investment account.

 

I do acknowledge that the DTA supersedes German income tax law, so should someone move to Germany with a SIPP in tow, into which he has already paid tax-relieved money for more than15 years while living in the UK and that SIPP would therefore fall under UK taxation according to article 17 (3) DTA (and the UK then really taxes any payouts/annuities), I will leave it alone and only declare the payouts/annuities as income subject to Progressionsvorbehalt in the German tax return.

 

But if you move to Germany with a SIPP that does not fall under this DTA exception, I have to classify it according to German tax rules, and sorry, but a SIPP is not a "black box" like a German life insurance.

--> you have to tax all earnings within it every year, just like in a normal investment account. 

 

Which means you also have to calculate both the real capital income and also the "fictive profit" (Vorabpauschale) on funds, according to German tax rules.

Which is a lot of work, so any such client who feels the need to keep that UK SIPP has to collect all the input data needed for the German tax return himself. 

I will then do the calculation, but I refuse to hunt down purchase dates and prices in the SIPP statements every time the client does a sale. 

I need these purchase dates and prices, since calculating capital income according to German rules is not as straightforward as you may think, for example, if you sold a financial asset (e.g. stocks or fund shares) in your SIPP, you can’t simply take the profit in GBP and convert it into € with the exchange rate of the day of the sale.
You have to calculate:

  • profit in € = (selling price, converted into € using the exchange rate on the day that you sold the asset) – (purchase price, converted into € using the exchange rate on the day that you bought the asset)

So depending on how the exchange rate evolved, a loss in GBP might turn out to be a profit in €, or vice versa!

Once they see how much work is needed to collect this input data, they usually see the wisdom of moving their money to a German investment account, since there the German bank/broker does all the work, i.e. all capital income in that account gets taxed by the German bank/broker.

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