Even if you are an Australian resident but your pension is still in the UK, your pension is taxed in the UK – but you can move your pension into a Qualifying Recognised Overseas Pension Scheme (QROPS) to save money.
UK pension rules changed on April 6, 2015 putting all pensions based in the country under the same regulations governing tax on payments, with the exception of the state pension.
The state pension cannot be transferred into a QROPS.
All other workplace or private pensions come under the same tax umbrella.
As a rule of thumb, the first 25% taken from any pension is tax-free and the balance is taxed at the marginal rate – which is the highest rate a UK resident pays their income tax.
This can be from 0% for the income within the personal allowance and 20%, 40% or 45% for those with a total income in the UK adding up to more than the personal allowance limit.
The exception is if the country where an expat lives has a double taxation agreement with the UK.
Australia QROPS options
The good news is Australia has one of these agreements with the UK which allows any pension or annuity payment from the UK to be taxed under Australian income tax rules.
However switching a UK pension to an offshore QROPS can mitigate any tax liability.
Some QROPS centres, such as Gibraltar and Malta allow expats living in Australia to park their pensions offshore.
The benefits are different for each jurisdiction.
Malta has a double taxation agreement with Australia and charges no income tax on QROPS payments providing the pension member can show income tax is paid on any withdrawals in Australia.
The tax position is then:
- Income tax is paid on QROPS withdrawals in Australia
- No tax is due in the UK if the expat has lived overseas for at least five years or the total QROPS drawdown is no more than £100,000
- No inheritance tax is paid on unspent QROPS funds in Malta or the UK
- No UK death benefit charges if the payment is made to a UK non-resident, again if they have lived overseas for at least five years
Gibraltar has no double taxation agreement with Australia, but the tax position on QROPS withdrawals is the same except the government in Gibraltar levies a 2.5% tax charge on pension payments.
Australia QROPS tax issues
Transferring a UK pension to a QROPS outside Australia is not taxable, providing both funds meet the Australian superannuation fund definition, so the first step to consider when switching to a non-Australian QROPS is whether the fund qualifies under this rule.
To work out if any tax is due on QROPS withdrawals in Australia, the next step is to review tax residency.
For residents, pension income from overseas is taxable at the Australian income tax marginal rate.
However, in most cases only the fund growth is taxed and the base figure is set at the size of the fund on the date an expat becomes an Australian tax resident.
Special rules apply to taking a pension lump sum within the first six months of becoming tax resident, temporary tax residents and non-residents.
Setting up an Australia QROPS is a little more complicated as the government imposes annual contribution thresholds that may exceed the size of the UK pension fund.
The way forward is generally setting up more than one offshore QROPS with a value that does not exceed the Australian contribution threshold and then moving them one at a time to an Australia QROPS with a three-year gap between transfers to benefit from carry back rules.
Australia QROPS collapse
Registered pension rules changed in the UK in April 2015, a new rule called the pension age test was introduced.
This test forbids any pension to make payments from tax-relieved contributions made in the UK to anyone under 55 years old.
Unfortunately, Australia QROPS allow such payments under hardship rules, so on June 17, 2015, HM Revenue & Customs (HMRC) in the UK pulled all but one Australia QROPS from the list of pensions that can receive transfers from a UK scheme.
At that time, Australia has 1,650 QROPS delisted.
That decimation of the Australia QROPS market leaves thousands of UK expats, Australians and other retirement savers from other countries living in Australia unable to switch their UK pension rights into a local QROPS.
The rule also prevents many more retirement savers who may wish to switch their cash from their delisted Australian QROPS to an offshore scheme.
Australia had always been at the top of the QROPS list with the most schemes available worldwide since QROPS were introduced in April 2006 as the country is a favourite destination for British expats.
In June 2015, Australia QROPS represented around 44% of the total number of schemes available worldwide.
Now, only a handful of schemes are open to transfers from the UK.
If a retirement saver transfers money from a UK pension or an offshore QROPS to an Australia pension not listed by HMRC, both the pension provider and the retirement saver face hefty tax penalties.
For individuals, the penalties start at 55% of the tax-relieved contributions transferred.
Value of good advice
Malta and Gibraltar options may not suit every potential Australian QROPS consumer.
The tax position of anyone making a QROPS transfer in Australia is complicated. Before deciding which QROPS is right for them, cross-border tax and tax residency need careful consideration to make sure any pitfalls are avoided.
Other issues like personal financial goals, investment risk, age and estate planning also need weighing up.
Australian financial service rules also demand a properly qualified and authorised independent financial adviser must write off a report on the suitability of a QROPS transfer in or out of the country.
In the short term, a few Australia QROPS may return to the market, but no one yet knows if the expat pension sector will recover to previous levels and how long any recovery might take.