The Taxation of Australian Superannuation (Pension/Retirement)

The Taxation of Australian Superannuation (Pension/Retirement)

US Taxation of Australian Superannuation Funds

One of the most complex aspects of international tax law is trying to apply foreign income tax rules and laws to the United States Tax Code. This becomes a major problem in matters involving pensions and other types of retirement plans sourced in a foreign country. That is because, in a foreign country, the income is usually tax-exempt – or subject to a reduced tax rate. In addition, in most foreign countries the employer contributions are pretax, and the taxpayer does not become subject to income tax until they begin receiving distributions from the foreign pension plan.  While the taxation of Australian Superannuation is very complicated, it is only one part of the US compliance equation. Therefore, in addition to summarizing the tax implications of a super, we have developed additional resources specifically for reporting a superannuation (FBAR, FATCA, 3520) and understanding how the US/Australia Tax Treaty applies to Australian superannuation. Let’s dive in and explore the basics of the Australian Super and US tax rules.

Making Contributions to an Australian Super

When it comes to contributions to Australian superannuation there are two main categories –– although these categories can be further subdivided. There are pre-tax contributions (concessional) that are made by the employer and on behalf of the employee – which is similar to a 401(k). The income is then taxed (in part) within the superannuation (unlike a 401K), and it continues to grow until it is distributed. In addition, there are also post-tax contributions that Australians can make which are referred to as non-concessional contributions. These are post-tax (take-home pay) contributions that are contributed to the superannuation – but there are some limitations. There are other types of contributions that can be made as well such as income generated from a home sale — but for the most part, Australian superannuation contributions are made from employment-related income.

Australia/US Totalization Agreement 

Unlike the United States, in Australia, the Social Security system is more of a social assistance program, as opposed to employment/employee funded. Hence, superannuation is a major source of retirement income for Australians. A totalization agreement between two countries is designed to assist taxpayers from having to make contributions to two social security systems. The United States has entered into ~25 totalization agreements, including Australia. Specifically, the agreement covers Superannuation Guarantee contributions (SG) that employers make to retirement plans for employees. We included this subsection for taxpayers who may come to the realization that they have been paying into two Social Security systems. If they are approaching retirement they should be especially careful to avoid the application of any windfall provision if possible.

Superannuation Growth

This is where it begins to get more complicated from a US tax perspective. Different tax professionals may take different positions when it comes to the income that grows within superannuation. Technically, the superannuation is not a qualified fund similar to other country pension plans (such as various UK types of retirement that are identified in the tax treaty between the United States in the UK). In the United States/Australia tax treaty –– which is outdated – there is no direct reference involving superannuation growth. But, most experienced tax professionals take the position that the growth is not taxable until it is distributed. While the IRS may be able to take a different position, the general consensus is that until it is distributed it is not taxable based on Article 18(4).

Article 18 (4) US/Australia Tax Treaty

      • The term “pensions and other similar remuneration”, as used in this Article, means periodic payments made by reason of retirement or death, in consideration for services rendered, or by way of compensation paid after retirement for injuries received in connection with past employment.

Superannuation Distributions

In general, distributions from private pensions would be taxable for the simple fact that pension income is usually generated from pre-tax dollars and would be taxable in the United States under the worldwide income tax rule. While the treaty identifies the fact that pensions derived and beneficially owned by a resident of one of the contracting states for past employment shall be taxable only in that state, the saving cause eliminates this benefit or protection for most taxpayers. The same concept does not apply to government remuneration, including pensions, in which the general rule is that the income is only taxable in the country of source — and not the country of residence – but the application can be limited based on paragraph four (4) of the saving clause.

Article 19 US/Australia Tax Treaty

      • Wages, salaries, and similar remuneration, including pensions, paid from funds of one of the Contracting States, of a state or other political subdivision thereof or of an agency or authority of any of the foregoing for labor or personal services performed as an employee of any of the above in the discharge of governmental functions to a citizen of that State shall be exempt from tax by the other Contracting State.

Article1 (4)(b) US/Australia Tax Treaty

      • The benefits conferred by a Contracting State under Article 19 (Governmental Remuneration), 20 (Students) or 26 (Diplomatic and Consular Privileges) upon individuals who are neither citizens of, nor have immigrant status in, that State (in the case of benefits conferred by the United States), or who are not ordinarily resident in that State (in the case of benefits conferred by Australia).

Are You Considering Expatriation and Have Superannuation?

One important fact to keep in mind is that for taxpayers who are considered US citizens or Long-Term Lawful Permanent Residents and want to expatriate, Australian superannuation can be deemed ineligible deferred compensation and require a deemed distribution at the time of expatriation – although the step-up rules may apply.

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 that specializes exclusively in these types of offshore disclosure matters.

About Our International Tax Law Firm (Golding & Golding)

Golding & Golding specializes exclusively in international tax, and specifically IRS offshore disclosure and Australian Superannuation.

Contact our firm today for assistance with getting compliant.