27 Jun Is a government pension from Japan taxable in the USA?
Is a government pension from Japan taxable in the USA? Like everything in the US Tax Code, it depends!
This fascinating question is brought to us by Sara, a USA taxpayer with a green card living in Japan. Sara receives a pension distribution from the government of Japan and is concerned that the pension benefit might be taxable in USA.
The concerns are legitimate as the US income tax implications of the pension depend on whether the USA <-> Japan Tax Treaty benefits are considered.
- Generally, USA Green Card Holders report their worldwide income including pension benefits, just like a U.S. Citizen.
- Unless specifically excluded by the USA <-> Japan Tax Treaty Sara must include the Japanese public pension benefits in USA taxable income.
Article 17 Pension states that:
“Subject to provision of paragraph 2 of Article 18, pension and other similar remuneration, including social security payments, beneficially owned by a resident of a Contracting State shall be taxable only in THAT contracting state. “
What does Article 17 really mean?
It means that subject to Article 18 paragraph 2 that when pensions and other social security is paid to a resident of Japan, it will only be taxable in Japan.
For example, Sara is a Green Card holder who lives in Japan, therefore any government pensions she receives as a resident in Japan should only be taxed in Japan.
Here’s the twist
- If Japan does not necessarily tax that type of pension, Sara could potentially be obligated to report the Japan pension to the USA as per the “Savings Clause.”
- The Savings Clause generally means income taxes will apply in the U.S. if the pension is not taxable income in Japan.
- For Sara, her Japan pension is in fact taxable in Japan so she is protected from the Savings Clause.
Article 18, paragraph 2 (a) states that:
“Any pension and other similar remuneration paid by, or out of funds with contributions are made by a contracting state or political subdivision or local authority thereof, other than payments made by the United States under provision of the Social Security or similar legislation, shall be taxable only in THAT contracting state. However, such pension and other similar remuneration shall be taxable only in the other Contracting State if the individual is a RESIDENT of and a NATIONAL of, that other contracting State.
Paragraph 3 The provision Articles 14, 15, 16 and 17 shall apply to salaries, wages and other similar remuneration, and to PENSIONS and other similar remuneration, in respect of services rendered in connection with a business carried on by a Contracting State or a Political subdivision or local authority thereof.”
What does Article 18 really mean?
Paragraph 2(a) of Article 18 provides that if the pension paid is a public or government pension, then it is only taxable in the country that issues the pension to a resident of the Unites States who is neither a citizen of United States, nor a person who has been admitted for permanent resident.
Because Sara is a green card holder who happens to live in Japan and earns public pension from work performed in Japan, that pension benefit is only TAXABLE IN JAPAN. She is respectful of Article 17 without disregarding Article 18 paragraph 2(a), and the Savings Clause does not apply to Sara.
The procedural tax compliance question – Whether To File Form 8833 or Not
Whether Sara’s Japan pension is simply excluded from income reporting to the IRS on form 1040, or whether a Treaty Based Return Position Form 8833 is in order disclosing the exclusion of pension income to the IRS has led to robust discussions in the tax practitioner community.
Some practitioners will confer that a best practice is to file IRS Form 8833 “Treaty based return Position Disclosure, under IRC §7701(b) or §6114 – attached to the electronically transmitted IRS Form 1040 asserting that Japan pension income will only be taxed in Japan.
My team and I to drilled down and better understand the exceptions from reporting Form 8833 spelled out in US Treasury Regulation 26 CFR § 301.6114-1 – Treaty-based return positions.
Provisions for which reporting is waived include:
- When a treaty reduces or modifies the taxation of income derived by an individual from dependent personal services, pensions, annuities, social security, and other public pensions, as well as income derived by artists, athletes, students, trainees, or teachers.
- When a Social Security Totalization Agreement or Diplomatic or Consular Agreement reduces or modifies income.
- When a treaty exempts excise tax imposed by IRC 4371 when certain conditions are met.
- When a treaty exempts from tax or reduces the rate of tax on FDAP income.
- When a partnership, trust, or estate has disclosed a treaty position that the partner or beneficiary would otherwise be required to disclose.
NOT reporting Sara’s Japan pension benefit comports to a compliance standard spelled out in US Treasury Regulation 26 CFR § 301.6114-1 – Treaty-based return positions
The 8 year Green Card Holder rule in the year you become a ‘dual status’ for income reporting purposes in the USA.
- Because Sara is a dual-resident taxpayer for tax year 2022 and a long term resident of the USA, asserting a Treaty based return position is a deemed termination of US residency which if she was in the USA for more than 8 years causes an exploration into USA expatriation and all the nuances of filing IRS Form 8854.
- Fortunately for Sara she has not held her Green Card for more than 8 years so this is not a concern.
For more on whether a government pension from Japan taxable in the USA, contact me today.