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  • Writer's pictureLewis Grunfeld, CPA

US UK Tax Treaty Explained

Updated: Feb 23

Understanding the US UK Tax Treaty is crucial for American living in the UK and to British people who have US source income. This comprehensive guide explains the treaty's provisions, offering clarity on how it affects personal taxation and helps avoid double taxation.

Executive Summary

  • The US UK Tax Treaty offers mechanisms to prevent double taxation.

  • The treaty includes a "Savings Clause" that maintains the US right to tax its citizens as per its domestic laws and not per the treaty with limited exceptions.

  • US-sourced passive income, such as interest, dividends, and pensions, may be taxed at reduced rates or exempted for UK residents who are US non-resident aliens.

Relief of Double Taxation

The US UK tax treaty provides mechanisms for relief from double taxation, ensuring that income earned in one country by residents or citizens of the other is not taxed twice. Specifically, the treaty allows U.S. citizens and residents to claim a foreign tax credit for the income tax they pay to the UK against their U.S. tax obligations. Conversely, the UK offers a credit for U.S. taxes paid against the UK tax liabilities of its residents.


The Savings Clause

Every tax treaty of the United States, including the one with the UK, includes a provision known as a "Savings Clause." This clause ensures that the U.S. retains the ability to tax its citizens as per its domestic tax laws, irrespective of the stipulations outlined in the treaty. As a result of this clause, for U.S. citizen expats, the majority of the benefits and reductions offered by the treaty do not apply.

Expert Tip: It's crucial for U.S. citizens to familiarize themselves with the Savings Clause exclusions in the US UK Tax Treaty to accurately determine which tax benefits they can utilize.

Tax Residency and the Tie-Breaker Rules

The United States and the UK each have their own criteria for determining who is a resident for tax purposes. It's possible for someone to meet the residency requirements of both countries simultaneously. To prevent the problems that dual residency could cause, the US UK Tax Treaty provides a series of tie-breaker rules. These rules help to decide which country has the primary right to tax the individual's income.

  • Permanent Home Test: The first consideration is whether the individual has a permanent home available to them in one of the countries. If a permanent home is available in only one country, that country is generally considered the individual's country of residence for tax purposes.

  • Centre of vital interests Test: If the individual has a permanent home in both countries or in neither country, the treaty looks at where the individuals center of vital interests lies, in other words, where they have a closer personal and economic interests.

  • Habitual Abode Test: If the individual has a center of vital interests in both countries or in neither country, the treaty looks at where the individual has a habitual abode; in other words, where they live regularly. This could be where they spend more time or where they have a regular presence.

  • Nationality Test: If the individual has a habitual abode in both countries or in neither, the next factor considered is nationality. If the person is a citizen of only one of the countries, that country is typically considered their country of residence for tax purposes.

  • Mutual Agreement Procedure: In the rare case that the individual is a citizen of both countries or of neither, and the above tests do not resolve the issue of residency, the competent authorities of the United States and the UK will determine the individual's residency through a mutual agreement, taking into account the person's facts and circumstances.


Taxation of US-Sourced Passive Income

Passive income from U.S. sources, which is not tied to a U.S. trade or business, is taxed at a flat rate of 30% if earned by a non-resident alien. However, the US UK tax treaty may lower this rate or totally exempt it from US taxation for certain types of income. We've summarized some of the tax treaty rates in the table below. It's important to note that that these rates generally do not apply to U.S. citizens due to the savings clause mentioned earlier.

​Tax Rate

Treaty Article Citation

​Interest

0%*

11(1)

​Dividends - Paid by U.S. Corporations

15%

10(2)

Dividends - Qualifying for Direct Dividend Rate

5%

10(2)

Pensions and Annuities

0%**

17(1)

Social Security and Alimony

0%

17(3)

* Contingent interest that does not qualify as portfolio interest

**0% rate does not apply to a lump-sum distribution derived from a U.S. pension plan.


Personal Service Income Earned While Temporarily Present in the US

Generally, income received from work performed in the US would be considered US source income and would be subject to US taxation. However, the US UK tax treaty lists certain exemptions where taxes rates are reduced or even eliminated. It's important to note that these exceptions generally do not apply to US citizens because of the savings clause mentioned earlier. We've summarized some of these exceptions in the table below:

​Income Type

​Maximum Presence in U.S

Required Employer or Payer

Maximum Amount of Compensation

Treaty Article Citation

​Employee

No limit

Any foreign resident*

No limit**

14

Contractor

Treated as business profits under Article 7 (VII) of the treaty



7

​Public entertainment

No limit

Any U.S. or foreign resident

$20,000

16

​Teaching or research***

2 years

Any U.S. educational institution

No limit

20A

​Studying and training - remittances or allowances****

1 year

Any foreign resident

No limit

22

*The exemption does not apply if the employee's compensation is borne by a permanent establishment that the employer has in the United States. **Fees paid to a resident of the treaty country for services performed in the United States as a director of a U.S. corporation are subject to U.S. tax.

***Does not apply to compensation for research work primarily for private benefit.

****Applies only to full-time student or trainee.


Totalization Agreement

The United States and the UK have a totalization agreement in place, which is designed to avoid double taxation of their income with respect to social security taxes. It establishes clear rules about which country's social security system covers the employee. As a result, employees and their employers can only be taxed by one country's social security system at a time.


State Taxes and Tax Treaties

Numerous states within the United States impose income taxes on their residents. The adherence to U.S. tax treaty provisions varies by state—some may recognize them, while others may not.

​Expert Insight: Always check with a tax professional about how state tax laws interact with the treaty, as this can vary significantly from state to state.

Need Help Navigating the US UK Tax Treaty?

At CPAs for Expats, we specialize in helping US expats stay compliant with their US taxes. Our low fees and 4.9/5 rating on independent review platforms attests to our commitment to excellence and client satisfaction. Contact us today, and let our tax experts simplify your life and taxes.




Frequently Asked Questions

Does the U.K. have a tax treaty with the US?

Does the U.K. have a totalization agreement with the US?

Do U.K. citizens pay tax on US capital gains?


Article by Lewis Grunfeld, CPA

Lewis is a seasoned expert in international and U.S. expatriate taxation. With over 10 years of international tax experience, he specializes in applying tax treaties to benefit expats, handling complex tax scenarios and ensuring significant tax savings for his clients. Lewis's expertise in international compliance and U.S. expat tax returns has made him a trusted advisor in the expatriate community.

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