We work hard to build up our pensions for a secure and enjoyable retirement.
But while our pensions feel like our money, set aside for retirement, they are still liable to taxes. If you are living in Portugal with a UK pension, you have tax considerations in both countries.
How UK pension income is taxed in Portugal
Much depends on what type of pension you have and, in some cases, how the contributions were made.
UK and occupational pensions
Once you are tax resident in Portugal, your State Pension is taxable only in Portugal at the scale rates of income tax. For 2023 income, this starts at 14.5% for income up to €7,479 and rises to 48% for income over €78,834. You benefit from a deduction up to €4,104.
Likewise, occupations pensions are generally taxed as general income. In some cases, if there have been employer contributions, a more beneficial tax treatment could potentially apply, but you would need personal advice.
Government service pensions
In contrast, income from government service pensions is always liable to UK tax and is not taxed in Portugal.
This is where it can get confusing. In the UK, you can have a retirement annuity contract, a SIPP, SSAS, or defined benefit or defined contribution occupational schemes, and they are all treated as pensions for tax purposes. In Portugal, in order to be taxed as a pension, there must be an employer contribution (since pension income is effectively deferred employment income).
Personal contributions are taxed differently than employer contributions. The capital element (the contribution) is not taxed. The growth is treated as investment income, so you can opt for the fixed 28% rate.
Personal pensions without employer’s contributions can be considered a savings scheme and receive the favourable tax treatment applied to life assurance policies.
Most UK nationals have a mix of both employer and personal contributions and cannot distinguish between the elements, so all their UK pension income is likely to be taxed at the scale rates.
Pension lump sums
The UK rules allow you to take a 25% ‘pension commencement lump sum’ tax free. But if you take this lump sum after becoming resident in Portugal, it is taxed here in the same way as other pension income.
Pension treatment under non-habitual residence (NHR)
If you registered as a non-habitual resident before March 31, 2020, your foreign source pension income is generally tax free.
If you are registered from April 2020 onwards, foreign pensions are generally taxed at 10%. This is lower than the income tax rates otherwise applied and particularly favourable for those with higher pension income.
UK government service pensions remain taxable in the UK.
The UK has frozen income tax thresholds until 2028, which means you could pay more tax.
The pensions lifetime allowance is also frozen at £1,073,100 until 2028. It may sound a high limit, but you may be surprised at how close you could get to it. Bear in mind that defined benefits (final salary) pensions are usually multiplied by 20 to calculate the capital value. Once you cross the threshold you could be hit by the lifetime allowance charge: 55% on lump sums and 25% if taken as income. You may want to take action now to prevent paying these charges in future.
UK tax changes ahead?
The Institute for Fiscal Studies (IFS), a UK economic think tank, published a report recommending that UK pensions should be liable to income and inheritance tax when the scheme member dies. Currently, pensions escape UK inheritance tax and income tax is not payable when the holder dies before age 75.
The IFS is calling for basic rate income tax to be applied to the remaining pension funds on death regardless of age and for the pension to be included in the value of the estate for inheritance tax purposes.
Moving your pension out the UK now could protect you from future costly tax reforms. Take regulated personalised advice to ensure you don’t put your retirement savings at risk.
Reviewing your pension arrangements
If you are a resident of Portugal and have a UK pension, you should review your pension arrangements and establish what is best for your current and future circumstances.
Pensions are not always set in stone. Like you, they might benefit from moving abroad, and you need to regularly review your objectives. That could mean changing your investment profile, reassessing your risk tolerance, or developing an alternative strategy that embraces your overall financial situation.
Take personalised advice from a specialist adviser who can provide integrated advice covering pensions, investing, and cross-border tax and estate planning covering both countries.
Tax rates, scope and reliefs may change. Any statements concerning taxation are based upon our understanding of current taxation laws and practices which are subject to change. Tax information has been summarised; individuals should seek personalised advice.
Keep up to date on the financial issues that may affect you on the Blevins Franks news page at www.blevinsfranks.com
Dan Henderson is a Partner of Blevins Franks in Portugal. A highly experienced financial adviser, he holds the Diploma in Financial Planning and advanced qualifications in pensions and investment planning from the Chartered Insurance Institute (CII). | www.blevinsfranks.com