Case study 1
Let’s take a 40-year-old client who has a £300,000 ($425,000, €377,000) pension fund and is intending to retire to South Africa at age 60.
Assuming the client achieves an annual net return of 5% per annum for the 20 years prior to retirement, the fund at retirement would be valued at £796,000, 30% of which would be drawn as a tax-free lump sum (on the basis that the client had been a non-UK resident for more than five full tax years at the time of benefit withdrawal).
The balance (£557,200) would then be available to pay a retirement income. Based on Boal & Co’s actuarial drawdown tables, a 60-year-old male would be recommended to draw a pension of £35,825 pa (assuming his fund remained invested in growth assets post-retirement and continued to earn a 5% pa net investment return going forward).
The tax on this pension will be different based on the domicile of the scheme that is paying it:
• Gibraltar-based Qrops – Gibraltar’s simple method of charging 2.5% results in a tax charge of £896 (net pension of £34,929 per annum).
• Isle of Man-based Qrops – the Isle of Man does not have a DTA with South Africa, and so charges tax at 20%, resulting in a tax charge of £7,165 (net pension £28,660 per annum).
• Malta – it does have a DTA in place with South Africa. Under article 18 of the DTA, the taxing rights remain with Malta, which means the pension income is taxed as being paid to a non-resident using the rates detailed.
Let’s assume for this analysis that the member has no other income in Malta and so can avail of all of the tax bands. The tax payable would be around £11,882 (net pension of £23,943 per annum), using current FX rates.
Now you would also expect to have to factor in income tax payable to the South Africa Revenue Service (SARS). However, in the case of pension income accumulated by employment outside of South Africa, SARS does not seek to charge any additional tax, so the results above are definitive.
In cases such as this, there is a clear choice, with the Isle of Man and Malta unable to compete.
Case study 2
Sticking with the same client from case study 1, but with the client now retiring in the United Arab Emirates, how will that affect the outcome?
• Gibraltar – no change to the taxation; the simple 2.5% applies, which results in a tax charge of £896 (net pension of £34,929 per annum).
• Isle of Man – it does not have a DTA with UAE, so it again charges tax on its non-resident basis, resulting in a tax charge of £7,165 (net pension of £28,660 per annum).
• Malta – it does have a DTA with the UAE, and under article 18 it passes the taxing rights to the UAE. This results in no tax being paid by the client on his pension.
In this example, Malta is the jurisdiction of choice, marginally edging Gibraltar in terms of the tax payable. Interestingly, though, we often see Gibraltar used by clients in this scenario, despite the 2.5% tax difference between Gibraltar and Malta.
The main reason for this is the perceived complex process clients must go through to register under a DTA so the pension income is paid gross. We see many cases where the pension is relatively small, where the client is happy to pay a small amount in tax so that they can forgo the paperwork required to claim under a DTA.
Deciphering DTAs can be very difficult unless you are well versed in their operation. They have many different articles that relate to all kinds of different income. Ordinarily, DTAs have specific articles relating to pension income, which should detail how the pension is taxed.
You would think this is straightforward, but when articles make specific references to conditions such as ‘in consideration of past employment’, the article itself can be quite difficult to definitively apply in a given situation. Any good Qrops administrator should be able to help advisers with their analysis in this regard.
Another area for consideration when assessing a client’s tax position for retirement is Unilateral Tax Relief and Tax Credits. Using these methods, clients can effectively obtain relief for tax on income already paid in another country. There are a number of countries that provide for this, such as China, Malaysia, Spain and even the US. But, equally, other countries such as France and the UAE do not.
When you couple all of the options considered, and factor in the ability for clients to take benefits using approaches such as ‘phased retirement’, advisers play a major role in a client’s ultimate outcome at retirement.
There was a TV advert run in the UK a number of years ago by the Inland Revenue, in which Moira Stewart suggested that ‘tax doesn’t have to be taxing’. With proper planning and advice it doesn’t have to be, but if you fail to take all aspects into consideration then it can be something of a minefield.
