Residents of Spain with UK pensions

Tax treatment of UK pension payments

Pension payments in the UK are, in most cases, taxed as earned income, and residents of Spain, who have pensions payable from the UK, may find that they are taxed twice – once under the UK PAYE system and again in Spain.

However, in line with many other European countries, Spain has a Double Taxation Agreement (DTA) with the UK whereby a resident of Spain can take their pension in Spain and reclaim the tax paid in the UK.

A simple way to avoid having to keep reclaiming overpaid UK tax is for the member to apply for a UK “NT” tax code which allows the UK scheme to make the payment without any tax deduction. The gross pension income can then be declared in Spain in the usual way.

An alternative is to consider transferring your UK pension to a Qualifying Recognised Overseas Pension Scheme (QROPS).

QROPS

If you have a UK Defined Contribution (DC) scheme (eg a SIPP or Personal Pension), the benefit payable on death to your beneficiaries is usually the value of your fund at the date of death. If you have deferred benefits in a UK ‘defined benefit’ (DB) scheme (often referred to as a ‘final salary’ scheme), it is not possible for your family to receive the capital value of your pension on your death – a dependant’s pension is usually payable instead which is taxed as earned income.

However, you can transfer either type of arrangement to a QROPS which is, as the name suggests, a non-UK pension arrangement. You retain much of the flexibility of a UK DC scheme but without the potential tax burden imposed by UK rules. All QROPS providers must certify to HMRC that their products meet HMRC requirements and failure to do so may result in tax being payable.

The advantages of a QROPS are very similar to those of a UK pension in that you can take income and cash as and when you need it, and the whole of your fund can be passed to nominated beneficiaries on your death. However, two key differences are that:

• Income from a QROPS is generally paid out gross without the need for a UK ‘NT’ code and
• Once transferred, the fund will generally not be subject to UK legislation.

UK Pension Taxes

The Lifetime Allowance (LTA)
A significant reason to transfer to a QROPS was the Lifetime Allowance (LTA) which imposed a limit of £1.73m on the total ‘tax-privileged’ amount you could hold in a UK pension fund. 

Any fund in excess of this amount would be taxable at 25% (or possibly 55% if you took the excess amount as cash). A transfer to a QROPS would remove any future liability to the LTA .

However, the LTA was abolished in 2024, which means that one of the main reasons for considering transferring to a QROPS has now diminished in importance.
Keeping your pension in the UK would mean that your fund may be subject to the following taxes:

1          Lump Sum Allowance (LSA)

The Government has introduced two new limits on pension funds – a maximum tax-free lump sum allowance (LSA) on taking benefits. The maximum tax-free cash is now £268,275 – this is 25% of the old LTA.

2         Lump Sum Death Benefit Allowance (LSDBA)

The maximum tax-free cash on death is £1,073,100 – the same as the old LTA. You may be entitled to a higher LSA and/or LSDBA if you have any form of pension protection.

It is important to note that the above provisions apply only to UK residents. Different rules may apply if you are not resident in the UK and you should take tax advice before taking any action.

Transferring your pension to a QROPS – Overseas Tax Allowance (OTA)

You may think that because the LTA excess charge has been abolished, you can ‘crystallise’ (transfer) your UK funds to a QROPS with no charge even if you are over the current LTA of £1.73m. However, the Government has introduced a new charge known as the Overseas Transfer Allowance (OTA). The charge is 25% of the excess over £1.073m for any transfer from a UK scheme to a QROPS. A transfer to another UK arrangement – such as to a SIPP or another Personal Pension – is exempt.

However, you could still give serious consideration to a transfer to a QROPS even if your fund is in excess of the OTA. The reason for this is that any excess charge will simply increase over the years as your fund grows. You may wish to rid yourself of any future potential liability by transferring to a QROPS sooner rather than later

Transferring your pension to a QROPS – Overseas Tax Charge (OTC)

Another potential tax pitfall is that if you transfer your UK pension to a QROPS, an Overseas Tax Charge of 25% of the value of the fund is payable unless certain specific exemptions apply.  The two most common are:

• Where the member is resident in the same country as the one in which the QROPS is established – for example if the member lives in Malta and has a QROPS which is Malta-based, then the charge does not apply.
• Where both the member and the QROPS are resident in an EU state (but not necessarily the same country). Thus, a member resident in Spain holding a Malta QROPS would be exempt from the charge because both Malta and Spain are within the EU.

Is a QROPS suitable for me?

A QROPS may be suitable for you if:

• Your fund is likely to breach the new LSA or LSDBA limits
• You are near the new OTA limit or are likely to breach it in the future
• You simply want to remove your fund from the effects of future UK legislation

QROPS are available in major financial centres such as Malta, Gibraltar and the Isle of Man.

This information is based on current legislation, which is subject to change.

Please get in touch with us if you would like more information.