Media Briefing Note: New US withholding tax - overseas pension schemes may be caught

LONDON, 1 November 2010 -

·                     The US has recently introduced new laws to target offshore tax evasion by US citizens, known as the Foreign Account Tax Compliance Act ("FATCA") provisions.  

·                     These provisions introduce a withholding tax of 30% on payments such as dividends from US companies to foreign entities from 1 January 2013, unless the entity complies with onerous reporting requirements.  This will affect some UK investors including, potentially, pension schemes.

·                     An exemption from the FATCA provisions has been suggested for foreign retirement plans; however the current drafting of the exemption would in fact exclude many UK pension schemes, particularly those sponsored by multinational companies.  Hogan Lovells has submitted a comment to the IRS and US Treasury, proposing a revised exemption.

·                     The official deadline for comments to the IRS on FATCA is today (1 November) (although we understand that members of the European Fund and Asset Management Association ("EFAMA") have been given an extension until Monday 15 November).

Background:  FATCA provisions

The FATCA provisions were introduced by the Hiring Incentives to Restore Employment Act of 2010. FATCA  imposes a 30% withholding tax on payments such as dividends, interest and share proceeds from US entities to Foreign Financial Institutions ("FFI"s) unless the FFI agrees to comply with reporting and withholding requirements aimed at curtailing tax evasion by US citizens.  An FFI is defined to include an organisation that "holds financial assets for the account of others".  The IRS believes this can be read to include at least some foreign pension schemes, and has proposed an exemption for foreign pension schemes meeting certain conditions on the grounds that they pose a low risk of tax evasion.

However, the proposed pension scheme exemption is not wide enough to cover most UK pension schemes because it does not exempt schemes that allow participation by US persons (which would include any member or beneficiary who holds US citizenship) who do not work for the employer in the country in which the scheme is established.  Few UK schemes could guarantee that no member that holds US citizenship would be seconded outside the UK, and it is even more unlikely that a UK scheme could ensure that all US beneficiaries (such as spouses) also work for the employer in the UK. Indeed, typically, a scheme administrator would not know about either the citizenship of members and beneficiaries, or necessarily where they are working. 

Alternative exemption

The IRS requested comments on various aspects of FATCA in Notice 2010-60. Hogan Lovells has submitted a comment to the IRS and US Treasury pointing out that most UK pension schemes will not have a record of the citizenship of their members (much less beneficiaries) or know at all times where they are working.  Moreover, it is unclear what such a requirement adds to the other aspects of the proposed exemption. 

Hogan Lovells has proposed an alternative exemption resting on the foreign pension plan's tax status in the home country, and the existence of a tax treaty and information exchange between the US and the home country. 

If the exemption is not broadened, UK pension scheme trustees may need to revisit their investments in the US. 

Penny Pilzer, Of Counsel at Hogan Lovells' London office observed:

 "UK pension plans will be discouraged from investing in the US if tax is withheld at a rate of 30%.  We hope that the IRS and US Treasury will fashion an exemption from FATCA requirements that is broad enough to allow UK plans to continue to invest in the US without red tape and without a withholding tax".  

Kurt Lawson, Partner at Hogan Lovells' Washington office, agreed, stating:

"Employer-sponsored pension plans that are tax-approved in foreign jurisdictions are unlikely to be used for tax evasion.  We believe that an exemption from the FATCA requirements is appropriate and hope that the government agrees." 

Kurt Lawson
+1 202 637 5660

Penny Pilzer
Of Counsel
020 7296 5799

Rachael Droog
PR Coordinator
020 7296 2780

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