Defined Benefit to QROPS Pension Transfer | Overseas Case Study

A well known financial adviser firm approached a British client based in USA through LinkedIn saying that he was going to lose his death benefits in the UK unless he took action. The client, Joe, also told him he would be better off if he transferred out of his “Defined Benefit” (final salary scheme) pension and invest into a QROPS scheme based in Malta.

The adviser suggested the client should transfer the full amount of $740,000 into a “trustee” investment with a custodian known as Royal London 360 (RL360).

There was no mention that RL360 was an investment bond based in the Isle of Man, nor any charges. In fact he was told the charges were 1% per annum plus a trustee fee. A TVAS calculation also indicated no charges.

He was told the plan would provide a better pension when he retired, improved tax free death benefits and he would be able to invest in funds of his choice. The client was told there would be no charge to do the transfer, which is typical for internal pension transfers in the USA, so it was not a surprise, but the adviser said he would be paid a marketing fee from the insurance company.

The client went ahead and signed the contract for the transfer and the business was processed, when he received the contract he discovered he could not invest into the funds of his choice and he was concerned by the charging structure, his US adviser did some research on the internet and found our website and asked us to help him.

We examined the case and discovered that the adviser had taken a commission of $58,000 from the transferred amount without the knowledge of the client, furthermore his pension was now in a high charging investment bond that would inhibit the performance of his investment and he could not freely invest into his preferred funds. The adviser selected a custodian in Malta to take out an investment bond that had an 8-year “locked in” charging structure coupled with QROPS trustee fee of 3%, split 1% to the trustee and 2% to the adviser. Any access to the pension in the first 8 years would lead to some “access” charges (we call them surrender penalties). Considering the client intended to take his entitlement to tax free cash in 18 months this was unacceptable to him.

HIDDEN COMMISSIONS & EXIT CHARGES

The QROPS in Malta presented the biggest problem, as an enquiry into the Internal Revenue Service (IRS) indicated that under ordinary circumstances, that transfers between states (UK and Malta in this case) would not come under Article 18(1) of the 2001 United Kingdom-United States income tax double Tax Treaty, and the distribution would be viewed as income unless it was rolled-over, timely from a qualified plan into another qualified plan. It said as an explanation that plans outside of The U.S. are generally not recognized as qualified plans. Whilst this is not law, it is a clear indication that firms advising that a QROPS is recognized by the US are not necessarily correct, and this places a risk on taking the action of using a QROPS as if the transfer is not a tax-deferred rollover distribution it may incur a 50% tax penalty if not declared. Additionally the IRS (US tax authorities) can see a QROPS as a form of a trust which therefore necessitates “annual foreign trust” reporting. Failure to comply with this reporting requirement alone can also result in the 50% tax charge for the account value. The client also did not have any “tax credits” and therefore the transfer would be regarded as a “taxable event”.

Tailormade took the urgent following steps to correct the situation. The client cancelled the contract with his adviser; he could do this as he was still within the 30-day “cooling off” period that is a legal condition in the US. We then set up a SIPP in the UK as this has a low charging structure and it means the client would not incur the 50% tax charge as the pension was not transferred out of the UK and therefore was not a “taxable event”. Tailormade also removed the commission charge and agreed a fee with the client before the work was carried out thus greatly improving the clients’ position and protecting his pension fund for him and his family for many years to come.

With the new rules coming in 6 April 2015, then the original advantages cited to the client were now all available through the UK pension anyway up to the age of 75. After 2 years of investment, the client has paid $37,000 less in charges, and the fund has no “access” penalties.