US Taxation of New Zealand Pension Plans

US Taxation of New Zealand Pension Plans

US Taxation of New Zealand Pension

The United States tax system treats certain foreign pensions differently than U.S.-based pension plans, such as 401K. In order to evaluate the taxation of foreign pensions — such as New Zealand pensions — there are a few moving parts to consider.

      • Is there a Tax Treaty with foreign country?

      • Was the income earned as a U.S. Person or prior to becoming a U.S. Person?

      • Is there a Totalization Agreement with the foreign country?

      • Has the IRS issued any rulings or procedures involving the specific type of income

The U.S. has entered into multiple tax treaties with New Zealand, which generally means that the income earned in the pension will not be taxable to U.S. persons with New Zealand pensions until after the income is distributed — but because New Zealand follows the 3-pillar pension systems, the IRS may take the position that certain income in Pillar 2 or Pillar 3 is taxable, even before it is distributed.

The 3-Pillar Pension System in New Zealand

The pension plan system in New Zealand is a common three (3) Pillar structure. In accordance with the World Bank Pillar framework (which recently transitioned from a three-pillar to a five-pillar system), New Zealand’s pension system has three components:

      • Pillar 1: State Pension Scheme

      • Pillar 2: Occupational Pension

      • Pillar 3: Voluntary Private Savings

The U.S. Tax liability and IRS Reporting for the New Zealand Pension of a U.S. Person will differ from how the pension is taxed in New Zealand. Generally, Pillar 1 is characterized as social security, while Pillars 2 and 3 are treated as “pension.”

Reporting on FBAR, FATCA, 3520, and 8621

It is also important to note that beyond the US Taxation of New Zealand Pension, Foreign pensions are also required to be reported on various IRS international reporting forms as well.

      • FBAR (FinCEN Form 114)

      • Form 8938 (FATCA)

      • Form 8621 (PFIC)

      • Form 3520 (Trust and Rev 2020-17 Exception)

We will summarize if a New Zealand Pension Plan is Taxable in the US, and how the reporting rules work.

Pillar 1: New Zealand Superannuation

The first part of the US Taxation of New Zealand Pension analysis is with the Pillar 1 Social Assistance program. The New Zealand superannuation is not technically a pension, in the sense that it is not used to offset wages.  Similar to the social assistance program in Australia and other countries, the purpose of the New Zealand superannuation is to assist people with old age, by providing all people who qualify a minimum standard of income.

It is not “income-tested” which means you do not have to be retired to receive it or employed to contribute to it..

As provided by the NZ Superannuation website:

    • “You may qualify for NZ Super if you:

      • are 65 or over

        • either:

          • are a New Zealand citizen

          • are a permanent resident, or

          • hold a residence class visa

            • are ordinarily resident in New Zealand, the Cook Islands, Niue or Tokelau when you apply

              • have lived in New Zealand for at least 10 years since you turned 20

              • have lived in New Zealand, the Cook Islands, Niue or Tokelau (or a combination of these) for at least 5 years since you turned 50.

              • When we say ‘you live’ or ‘you’ve lived’, we mean you normally live in NZ, the Cook Islands, Niue or Tokelau and that’s where your home is.

              • You may qualify for NZ Super with less than 10 years residence if you have migrated to New Zealand from a country that New Zealand has a social security agreement with.

              • Note: You don’t have to be retired from work to get NZ Super as it’s not income tested.

              • Other income you earn can affect other payments you get from us (over and above NZ Super/Veteran’s Pension).”

There are certain resident requirements that are necessary to qualify for the pension, but it is not employment-related and therefore even if a person has not worked, they may still receive the New Zealand superannuation distribution – as long as the other requirements are met.

Is there a Totalization Agreement with New Zealand?

No. Even though the U.S. and Australia have entered into a Totalization Agreement (27 countries in total), the U.S., and New Zealand have not entered into a Totalization Agreement.

This means a Taxpayer may end up paying into two (2) social security systems

An example of how the Totalization Agreement works:

      • Under the terms of the agreement, a national of the United States or Country X who would otherwise be covered by both countries, will generally remain covered only by the country of which he or she is a national and is exempt in the other.

      • However, Country X nationals and dual nationals (nationals of both the U.S. and Country X ) who are working in employment or self-employment covered by both systems must elect to be exempt from coverage and taxation under one system and to pay Social Security taxes to the other.

      • This election must be made within three months from the date the work begins.

      • Therefore, while payments the Country X Social Security/Assistance system is not deductible, a U.S. person working in Country X does not have to pay into both systems.

Pillar 2 Occupational Pension (KiwiSaver)

The next part of the US Taxation of New Zealand Pension focuses on the KiwiSaver. KiwiSaver represents the second pillar (pillar II) of the New Zealand Pension system.  Unlike the NZ Superannuation, the KiwiSaver is offered via employment, and is “income-tested.” Employees contribute a portion of their gross earnings to the KiwiSaver. Since 2008, the Employer has been required to contribute a certain portion to the KiwiSaver, up to 4% based on length of employment and salary amounts. While the employer portion is deductible to the employer, the amount of contributions from the employee is not deducted from the gross, but rather the next pay of the employee.

For example, if the rate was 8%, then 8% of the salary is contributed (based on the gross), but the 8% is deducted from the next pay – so there is no gross deduction for the employee contributions.

How is the KiwiSaver Invested?

The KiwiSaver is generally invested in global funds.  Since it is invested in funds, there are concerns about whether there may be a PFIC Form 8621 issue, and the timing of the reporting for the U.S. Person.

As provided by the IRD:

An Employer’s Role in KiwiSaver

      • “Employers work out if new employees are eligible for automatic enrolment in KiwiSaver. They also enrol existing employees if they choose to opt in to KiwiSaver.

      • Employers send the details of all enrolments to us and also send us new employee KiwiSaver opt out requests.

      • Employers make KiwiSaver deductions from their employees’ pay. They also make a compulsory minimum contribution of 3% towards their employees’ KiwiSaver fund –  unless they are already contributing to another superannuation fund for their employees.

      • An employer will also stop payments if their employee has a savings suspension, or if they’re given notice by us or their employee that contributions are to stop.

      • Employers cannot give you financial advice.”

*Please note the spelling differences in NZ and AUS of the word “enrollment”

Our role in KiwiSaver

        • Employers pay employee deductions and employer contributions to us with the rest of their payroll deductions like tax.

        • We also manage voluntary contributions from employees, self-employed people and those not working. Any money paid to us for KiwiSaver we pass on to KiwiSaver providers. We also administer requests for opt-outs and savings suspensions.

        • If you do not choose a scheme, we will allocate you to one of our default schemes or to your employer’s chosen scheme.

        • We cannot give you financial advice.

KiwiSaver Providers role in KiwiSaver

      • KiwiSaver scheme providers invest their members’ KiwiSaver funds to make a greater return on the savings for their retirement. They also have the main relationship with members.

      • KiwiSaver providers with staff who are registered as financial advisors can give you advice.

The Government’s role in KiwiSaver

      • There is a yearly government KiwiSaver contribution to members. KiwiSaver providers apply for this government contribution on behalf of their members. The amount of the government contribution depends on how much a member has contributed to their fund from 1 July to 30 June. The maximum amount the government contributes is $521.43.

      • KiwiSaver is a voluntary, work-based retirement savings scheme. Independent KiwiSaver providers run the savings schemes. You can choose one of them to manage your savings.

      • KiwiSaver is for all New Zealand citizens and permanent residents living or normally living in New Zealand. Members can still get New Zealand Superannuation when they reach 65.

      • You are automatically enrolled into KiwiSaver if you are:

          • eligible to be enrolled

          • starting work with a new employer

          • aged between 18 and 65.

          • If you are eligible for KiwiSaver but not yet a KiwiSaver member you can enrol by:

          • asking your employer for a KiwiSaver employee information pack and completing a KiwiSaver deduction form

          • choosing a provider and signing directly with them.

          • Private Investments”

Voluntary (Personal)

In addition to the Superannuation and KiwiSaver, New Zealand has personal voluntary pensions available as well, which is generally used in lieu of KiwiSaver. They are less common with the introduction of the KiwiSaver but may include PIE investments, Personal Superannuation, etc.

U.S. New ZealandTax Treaty (Article 18 Pension)

The Tax Treaty between the U.S. and New Zealand is relatively compact on the issue of Pensions.

Let’s take a look:

NZ Pension Distributions

The treaty sets out various pension distribution rules under Article 18.

Article 18, Paragraph 1

      • “Subject to the provisions of Article 19 (Government Service)

      • (a) Pensions and other similar remuneration derived and beneficially owned by a resident of a Contracting State in consideration of past employment shall be taxable only in that State; and

      • (b) Pensions and other payments made under the social security legislation of a Contracting State to a resident of the other Contracting State or a citizen of the United States shall be taxable only in the first-mentioned State.”

What does 1(a) Mean?

It means that subject to Article 19 on service for prior employment for the government, a pension that is being paid to a resident of the U.S. for consideration of employment (in US or New Zealand) is taxable in the U.S., because the taxpayer is a resident of the U.S.

Two important aspects of the treaty language:

      • It does not clarify”consideration of employment,” and

      • It does not clarify if the pension must be derived (or accrued) in the same state of residence. Rather, it merely provides that it must be derived (and owned) by the resident.

What does 1(b) Mean?

It means that if the payment involves “Social Security,” then it is only taxable in the contracting state of source.  So, if a U.S. resident receives Social Security from New Zealand, then it is only taxable to New Zealand (First-Mentioned State) and not U.S. (Second-Mentioned State).

Article 18, Paragraph 2

      • “Annuities derived and beneficially owned by a resident of a Contracting State shall be taxable only in that State. The term “annuities” as used in this paragraph means stated sums (not being alimony) paid periodically at stated times during life or during a specified or ascertainable number of years, under an obligation to make the payments in return for adequate and full consideration (other than services rendered or to be rendered)”

What Does Paragraph 2 Mean?

It means, for example, an annuity (as defined in the treaty) owned by a resident of a contracting state, shall only be taxable in that state.  So if a U.S. resident is receiving an annuity from New Zealand, it is taxable in the contracting state of the resident.

Are NZ Pension Contributions Deductible?

Unlike other country tax treaties (such as the UK), pension contributions are not tax deductible in the U.S..

It makes sense, since the contributions in NZ to theNZ  KiwiSaver are deducted from the Net, not the Gross in New Zealand.

Here is an example of how a tax treaty can make an otherwise non-deductible pension contribution deductible for US Tax:

Article 18, Paragraph 6

      • For purposes of this Convention, where an individual who is a participant in a pension plan that is established and recognized under the legislation of one of the Contracting States performs personal services in the other Contracting State:

      • (a) Contributions paid by or on behalf of the individual to the plan during the period that he performs such services in the other State shall be deductible (or excludible) in computing his taxable income in that State. Any benefits accrued under the plan or payments made to the plan by or on behalf of his employer during that period shall not be treated as part of the employee’s taxable income and shall be allowed as a deduction in computing the profits of his employer in that other State.

      • (b) The provisions of this paragraph shall apply only if:

      • (i) contributions by or on behalf of the individual to the plan (or to another similar plan for which this plan was substituted) were made before he arrived in the other State; and

      • (ii) the competent authority of the other State has agreed that the pension plan generally corresponds to a pension plan recognized for tax purposes by that State.

      • The benefits granted under this paragraph shall not exceed the benefits that would be allowed by the other State to its residents for contributions to, or benefits otherwise accrued under a pension plan recognized for tax purposes by that State.

FBAR, FATCA, 3520 & 8621 New Zealand Pension Reporting

There are many IRS International Information forms to consider when reporting the New Zealand Pension to the IRS.  With the IRS taking an aggressive position on matters involving foreign accounts compliance and unreported offshore income — it is important to stay compliant with the Internal Revenue Service rules and requirements. Since the US and New Zealand have entered into multiple tax treaties such as a FATCA Agreement and Double Tax Treaty, there are complex rules involving which country can tax the pension – usually based on residency and which Pillar is at play. Since Pillar 1 is social security equivalent, it is generally not reportable, as it is not an individualized funded account.

As to Pillars 2 and 3, here are some of the basics:

New Zealand Pension Plan & FBAR

The FBAR Is used to report foreign bank and financial accounts, including life insurance, investment accounts, etc. Generally, while Pillar 1 (Social Security) is not considered FBAR reportable — since it is equivalent to U.S. Social Security and not technically an account — the same cannot be said for other pillars.  Pillar 2 (Occupation) or Pillar 3 (Private) are reported on the FBAR since they are segregated accounts for each person who contributes, and the accounts have a separate identifier and value based on the contribution amounts.

FATCA Form 8938 & New Zealand Pension Plan

The IRS Form 8938 (FATCA) form is required for certain U.S. Taxpayers to report specified foreign financial assets.  The FATCA reporting (for U.S. Taxpayers) was introduced on the 2011 tax returns and is technically referred to as the Foreign Account Tax Compliance Act.  Foreign Pension & Retirement is considered a foreign asset for FATCA purposes and therefore would be reportable on Form 8938.  Generally, the same rules would apply as for the FBAR, insofar as Pillar 1 may escape reporting, but Pillars 2 and 3 are reportable.

Form 3520/3520-A & New Zealand Pension Plan

Form 3520-A/3520 is used to report Foreign Trusts. At its most basic, a pension such as a New Zealand Pension is a foreign trust, so Form 3520 can be an issue — 

Pillar 1: 3520-A

Pillar 1 is State-mandated (State) which most resembles U.S. social security. It has no identifiable segregated balance, and the beneficiary (employee) is not the owner of the trust.

Presumably, the trust would not be reportable on Forms 3520/3520-A.

Pillar 2: 3520-A

There is no concrete ruling by the IRS on the reporting for the New Zealand Pillar 2 and 3 pensions on Form 3520-A. Generally, unless the employee has contributed more to the pension plan than the employer has, it is not reported on Forms 3520, since the beneficiary is not the owner of the trust during the years the beneficiary is employed and funding the pension. In addition, it may qualify for a Revenue Procedure exception under Rev. Proc. 2020-17, depending on the person’s salary, age (determines percentage contributions), voluntary vs. mandatory, and employed vs. self-employed.

Pillar 3: 3520-A

New Zealand Pension Pillar 3 is completely optional and voluntary. Therefore, chances are this is a foreign trust that would be subject to Form 3520-A Reporting (Rev. Proc. 2020-17 may exempt reporting). In addition, some clients will take the position that it is still a form of pension vs. pure investment, and therefore while it is in the growth phase, and deductions are not being taken, it is can escape reporting.

Form 8833

Form 8833 is used by Taxpayers who want to take a Treaty Position on issues involving the applicability of tax rules when it involves the pension (and other tax-related matters).

Form 8621

Form 8621 is used to report PFIC (Passive Foreign Investment Companies). It also includes Foreign Mutual Funds. Generally, Pillar 1 is not reportable, but Pillars 2 and 3 would be, although the treaty exception for PFIC may limit reporting in some instances.

Late Filing Penalties May be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and other international information-related reporting forms, the IRS has developed many different offshore amnesty programs to assist taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Current Year vs Prior Year Non-Compliance

Once a taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist who specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure

Contact our firm today for assistance.