Understanding Effects of Superannuation on your US Taxes in Australia
As an American living in the Land Down Under, you likely have many questions about “supa” (as it is commonly referred to by the Australians), or superannuation as it is formally known. Adding to the complexity of your tax filing requirements, you might be considered to be a “highly compensated employee”, which potentially affects your superannuation as well as your United States expat filing requirements. This article will give you more details about how both the United States and Australia tax superannuation, and how being a highly compensated employee affects it.
The Basics of Superannuation
Simply put, superannuation is a fund where Australians save for retirement. It is funded by contributions made to the fund by employers, and usually employees as well. The government can also add to the fund via co-contributions, as well as the super contribution for low income. The superannuation funds usually are run as if they were trusts, so the United States government treats them that way. Every employee over the age of 18 is required to be a contributor to the Australian superannuation fund unless as a foreign employee they are exempt because of a coverage certificate being in place. Guaranteed contribution for the superannuation fund is 9.5% currently, and will be increased to 12% due to current legislation. Employee contributions to superannuation is funded as well as vested.
How Superannuation is Treated on US Expat Tax Returns
As is the case with many foreign pensions, superannuation taxes are not cut and dried. The Internal Revenue Service does not have the resource to review every foreign pension plan in order to provide tax guidance for each plan individually. Because there is not clear guidance, you are likely to find a variety of opinions on the right way to treat this income on your US tax return. Usually, superannuation is treated as one of two types of trusts - either employee benefits, or grantor. How the United States tax regulations treat your ownership of an Australian superannuation trust is dependent on several factors.
You should understand that superannuation does not count as a qualifying fund the way a 401k does. What this means is that superannuation contributions do not get deducted on your taxes when determining taxable income. Additionally, the Australian-United States tax treaty does not contain a deferral clause to allow treatment as a qualifying fund. Take these factors into consideration when thinking about how you save for retirement.
Superannuation income does not qualify under the Foreign Earned Income Exclusion, which means you cannot use this exclusion for your superannuation income. But, you can use Foreign Tax Credits instead to offset United States taxes on the income.
Foreign Grantor Trusts
Most superannuation funds are grantor trusts, so the income and ownership of the superannuation fund must be reported using Form 3520 as well as Form 3520A for each year of ownership. Income, growth (both realized as well as unrealized), and contributions get reported on the 3520A and are then taxed by the United States.
Since the distinction between the grantor and non-grantor trust in case of the employer-sponsored pension plan is not clear cut, to be on the safe side you have to add contributions made by employer to your pension plan on your annual U.S. tax return. This way, income that is not allowe for deferral in the U.S. is reported and taxed even if grantor trust position is not taken.
Superannuation and Highly Compensated Employees
In order to explain U.S. tax consequences of income growth in the the Super we have to explain the concept of Highly Compensated Employees. The term is not what you may think it is because in some cases it covers individuals with very modest compensation. The IRS defines highly compensated employees as:
- Had ownership of over 5% of the business during any period in this or the prior year, without regard to compensation received or earned, or
- During the prior year, was compensated by the business more than $120,000 (for 2015 and 2016), and when ranked using compensation fell into the top twenty percent of employees.
The earnings number is adjusted each year. For these purposes, the term “business” is considered to be the fund itself.
For Employees Who Are Not Highly Compensated
If you aren’t considered highly compensated, you include your plan contributions in your United States taxable income. Employer contributions are also included in this income number. Keep records of the contributions since they will form the cost basis that is tax free in the US upon distribution. However, earnings in the plan in form of interest, reinvested dividends and capital gains qualifies for deferral and does not need to be included in your annual tax return.
For Employees Who Are Highly Compensated
When you are classified as highly compensated, you are taxed not just on contributions, but also on any earnings in the plan within that calendar year. Finding all of this information can be a challenge since it is usually provided based on a year end of June 30 versus the calendar year that is used in the US. It is important to retain the quarterly statements send by the superannuation funds. Plan earnings include dividends, interest, stock gains (both realized and unrealized), as well as any other kinds of income generated by the fund. Although subject to taxes in the present year, the earnings also are added to the cost basis of the fund and will be tax free upon distribution.
There is another factor to keep in mind when thinking about the United States tax implications for your superannuation plan - Passive Foreign Investment Companies (PFICs). If the superannuation plan holds a PFIC, you have an additional annual reporting obligation using Form 8621. Passive Foreign Investment Companies usually include foreign mutual funds, pooled investments, partnerships, and some ETFs. PFIC reporting only affects the highly compensated employees. Pension fund where earning in the plan are allowed for tax deferral are exempt from PFIC reporting.
Also remember to consider your superannuation fund when totaling your foreign assets for reporting on Form 8938 for the Foreign Account Tax Compliance Act (FATCA). Given the complexity of these forms, it is always wise to speak with your tax professional for additional information on reporting thresholds for foreign assets.
FBAR Implications of Superannuation
The regulations concerning FBAR have become less clear than they were in the past in regard to reporting for foreign employee trusts. There are exemptions for FBAR reporting of trusts when under 50% of trust assets are owned by the individual. In most cases, the fund will be large enough that you will not own over 50% of fund assets. So, you might not be required to report this under the FBAR regulations. The decision as to reporting on the FBAR should be made in consultation with a tax professional because of the ambiguities in the regulations.
Usually, it is better to report on the FBAR than not to. Reporting the accounts does not necessarily mean you will be taxed.
Questions About Superannuation and Taxes?
Contact us! We have an expert team to provide tax advice to expats, and give you all the information you need to know to file your United States expat tax return while living outside the country.