Australian Expats and US Retirement Planning - Part 3

Australian expats and Dual US-Aus nationals face a lot of difficult decisions along the path to retirement. Specifically, how should one structure their retirement assets?! Should I contribute more into my Roth IRA? Do I contribute to my 401K when I get no employer match? Are super contributions worth it? All these questions are rather normal and is something we assist our own clients with day by day.

Ultimately, where you are looking to retire is where a large portion of your wealth should be accrued but there are always going to be a lot of risks along the way. Some of those risks might be; taxation, access, currency risk, regulatory changes, personal changes and so on.

If you fall into the I don’t know camp, which a large portion do, then to hedge against uncertainty, do a bit in both the US and Australia. We call it diversifying our retirement options through a cross-border approach.

In this article, let's drill down on Superannuation and Social Security, casting a lens on both from a tax perspective and how they can benefit you in the long term, depending on your situation.

Australian Superannuation

Australian Super Quick Summary:

• Grows in a concessionally taxed environment, where income is taxed at a maximum of 15% and long term capital gains are only taxed at 10%.
• Contribution caps for both pre-tax(Concessional) and post-tax(Non-concessional) deposits. These can range between $27,500 – $157,500(2024FY) upwards to $110,000 or $330,000. Eligibility criteria apply. Pre-tax contributions include your employer's contributions if you are receiving this benefit while living in the US.
• When converting into a pension, earnings are now tax-free as well as the annual income stream you draw is also tax-free in the eyes of the ATO.
• Max amount allowed in pension mode $1.9m referred to as your General Transfer Balance Cap.

What does the IRS think of Australian Super?

A great question! Formally, the IRS hasn’t provided a specific breakdown of how Australian Super should be treated from a taxing standpoint. If they did, they would have to do so for all foreign pensions around the world which won’t ever happen. However, there have been some case law in the last 20 years that mainly focus on Self-managed Super Funds(SMSFs) but nothing defining an ordinary super fund like an account you have with AustralianSuper, Hesta, CBUS, etc.

Therefore, how an Australian super account is treated falls to your US accountant and their understanding of the US tax legislation. Currently, most accountants in the US follow the same treatment of an Australia Super account. Which treat it as one of the following:

• Employee Benefits Trust under Sec. 402(b) of the Internal Revenue Code (IRC); OR
• Foreign Grantor Trust under Sec. 671-678 of the Internal Revenue Code (IRC)

The most common would be the Employee Benefits Trust, which has two categories, where you are either treated as a highly compensated employee or not. This can then dictate if you are only taxed by the IRS on contributions into the account or also taxed on the income and capital growth of the account. Note that if you are receiving employer contributions while in the US, then the contributions would just be treated as ordinary income by your US accountant. The accountant could use the 15% contribution tax as a foreign tax credit to offset some tax but likely not all of it based on US marginal tax rates and state taxes.

The Foreign Grantor Trust(FGT), would easily be the most punitive

As there are extensive reporting requirements and you will be paying tax on all contributions plus income and capital growth within the account. Typically, we see SMSF’s fall into this category and often you know if you are running an SMSF. They are commonly born from large after-tax contributions, which means the US accountant looks at the control test based on who has contributed more, you or the employer. Usually, an SMSF will mean you have tipped in more.

?PFIC’s can be a big concern and is one of the reporting items which can attract those extra taxes.

A foreign tax credit can be used in the US for the tax being paid within your Super fund if it is a reportable and taxable item. The difficulty with a lot of retail super funds is transparency; as often you might not be aware of the tax credits or tax being paid within your account, and therefore, your accountant might not be able to extract the relevant credit to use.

A careful reminder is that if you are paying tax on your Super account in the US, you should naturally be building up some sort of US basis as well. This just means that should you retire in the US or a US Dual in Australia and start withdrawing some funds from your super account, your US accountant might be able to state that only a portion of your pension income is taxable as you have been paying tax as you go each calendar year.

Ultimately, in all cases, when moving your Super into pension mode, this income stream will be assessable by the IRS. If you’re a Dual national, your US accountant will decide on whether it is best for you, based on your assets and income, to use the foreign tax credit system or the foreign earned income exclusion system.

Making a decision on what is right for you will always be difficult when it comes to Super, so we highly recommend speaking to a specialist. The accumulation phase is concessionally taxed which can still make it a very appealing investment vehicle for expats, as there is nothing else like it in the world.

How does the AUS-US DTA help?

Simply put, it doesn’t!

While there is a carve out for government pensions such as social security or Australia’s age pension there is no carve out for Australian Super. This is something which many groups are constantly trying to lobby to have the treaty updated from the 1983 enforcement date. A key insight here is that Superannuation was a big part of the Australia's retirement system, and, therefore, it would need a large amendment. Annoyingly, the UK has this in their DTA but we don’t!

US Social Security

Social Security in the US is a terrific retirement income supplement, which we can be very envious of here in Australia. This is especially true when we compare it our age pension amount depending on whether one qualifies for it. If you are a US expat or an Australian who has spent considerable time working in the US, then you could certainly qualify even if you were on a temporary visa such as an E3.

Basic criteria to be eligible for Social Security:

Bum on seat time! In order to be eligible you need to accrue 40 credits the SSA. 1 credit is equivalent to 1 quarter or 3month of work. Put simply, we need 10 years of total work, to get the credits to be fully insured for retirement benefits with the Social Security Administration.

There is a great fact sheet here: SSA - Social Security

?The benefits you receive are based on your highest 35years of earnings. The more you put into the system over the 10 year threshold the more you will get out of it when you retire. Typically, it can be accessed early from age 62 but the most common is retirement age at 66 and 67 depending on your DOB. The longer you postpone taking benefits the higher the monthly amount you will receive.

How does residency or VISA status impact eligibility?

It doesn’t! You don’t need to be a tax resident when you apply for the benefits, nor do you need to be a citizen or permanent resident either. If you were only ever on an E3, L1 O1 type visa then you are still owed your benefits assuming you accrued the minimum credits. There would be thousands of Australian’s who are retired and are likely leaving SS benefits on the table because they are just unaware of their eligibility.

How does SS differ from the Age pension in Australia?

The age pension in Australia is means tested, which means if you have different assets; Super, savings, investment property, shares, etc then you might be over the threshold and therefore can’t get the age pension from Centrelink. The major difference is that social security is not means tested at all, it is based on what you have contributed to the system not what your asset level is.

How does the AUS-US DTA help with SS?

The good news is that the treaty does cover social security and therefore is only taxable in the US from source

but to help the ATO has an interpretive decision which can be found here: ATO ID 2001/382. It is not something that is included in your Australian tax return.

Does anything else impact my Social Security entitlements?

The Windfall Elimination Provision(WEP), could have an impact, read more on WEP here: SSA-WEPs. However, the application of WEP is unusual because it requires the IRS to recognise superannuation as a form of social security or pension, which it does not. The situation primarily arises if a U.S. employer contributes to superannuation instead of Social Security taxes, a scenario that is quite rare, making it uncommon for superannuation to impact Social Security benefits.

Concluding Thoughts

Navigating retirement planning for Australian expats and dual US-Australia nationals requires expert guidance due to the complex interplay of regulations and tax implications in both countries. With considerations ranging from superannuation management to understanding US Social Security benefits, the path to a secure retirement can be intricate. A strategic approach, informed by professional advice, is crucial in optimising retirement assets and ensuring compliance with tax laws.

Engaging with specialists who understand the nuances of cross-border financial planning can provide invaluable support in making informed decisions that align with individual retirement goals and circumstances.

Disclaimer?–?The above commentary is general in nature and should not be construed as tax or financial advice. Please consult a licensed tax accountant and financial adviser to determine whether the above information is suitable for you.