Social Security under Tax Treaty

[gciriani]

I receive social security benefits from both the US and Italy, and I would like to share something that is not obvious, and that can improve one's tax liability.

The monthly payments received from the other country (in my case Italy) depending on the treaty, can be regarded as social security and receive a more favorable treatment. In the past I had entered the amount I received from my Italian social security as if it were a pension item  even though I do not receive a 1099-R; because of that, TurboTax made me fill out form 4852, using payer number 99-0999999 as somebody suggested in this forum.

However, the more I thought about this, treating my Italian social security, as something different from the US Social Security, the more it seemed incorrect. I pored over tax treaty between Italy and the US, both in English and in Italian, and became convinced that the amount received from Italy has to be treated exactly as social security, which offers some breaks both at the federal and at the state level.* 

To do this in TT, in the section where I enter Social Security benefits from form SSA-1099, I entered in box 5 the sum of both box 5 from the US, and of my Italian social security. Then I entered the Medicare premium deducted from my benefits.

Note:
* - 

From IRS Pub.915

Introduction page 2

This publication also doesn’t cover the tax rules for foreign social security benefits. These benefits are taxable as annuities, unless they are exempt from U.S. tax or treated as a U.S. social security benefit under a tax treaty. 

This publication 915 clearly states the case that there are instances in which according to tax treaties those foreign benefits could be treated  as a US social security benefit.

All tax treaties can be browsed starting from this page. In my specific case, I then can access 

US-Italy Tax Treaty (html)

https://home.treasury.gov/system/files/131/Treaty-Italy-8-24-1999.pdf

Article 18, para.2 - 

1. Payments made by a Contracting State under provisions of the social security or similar legislation of that State to a resident of the other Contracting State shall be taxable only in the other State.

Although the above wording doesn't say anything in addition, it keeps making the case that social security of Italy and of the US are the same type of item from a taxation point of view. There is also an additional document that goes into technical explanation of the various paragraphs and what they mean.

Technical explanation

ARTICLE 3 (GENERAL DEFINITIONS)

Paragraph 2 provides that in the application of the Convention, any term used but not defined in the Convention will have the meaning that it has under the law of the Contracting State whose tax is being applied, unless the context requires otherwise.

paragraph 2 of Article 1 of the Protocol provides that the saving clause does not override the exemption from tax of social security benefits provided in paragraph 2 of Article 18 of the Convention for individuals who are citizens of the residence State even if they are citizens of both States

payments made by one of the Contracting States under the provisions of its social security or similar legislation to a resident of the other Contracting State will be taxable only in the other Contracting State. This paragraph applies to social security beneficiaries whether they have contributed to the system as private sector or Government employees.

This language reinforces my interpretation that the Italian social security since it is referred to as social security in the treaty, it should have the same meaning and should be treated as the US Social Security. All of the above sentences treat social security from the other country as if it were social security in the country that taxes it. This may be one area that is overlooked by taxation professional, but I feel that my interpretation is fair.

I hope this helps.

[pk]

@gciriani  while I applaud your effort in  researching  this subject  ( whether foreign social security / equivalent   needs to be treated as a pension/annuity and reported on 1099-R equivalent ), I disagree with your conclusions.

 Here are my  reasons :   I am just  quoting from US-Italy Tax treaty and pub 915 . I have highlighted some portions:

US-Italy Tax Treaty of 1999

Article 18

2. Payments made by a Contracting State under provisions of the social security or similar legislation of that State to a resident of the other Contracting State shall be taxable only in

the other State.

Technical Explanation –US-Italy Tax Treaty 1999

Article 18

Paragraph 2 The treatment of social security benefits is dealt with in paragraph 2. As in the prior Convention, but unlike the U.S. Model, this paragraph provides that payments made by one of the Contracting States under the provisions of its social security or similar legislation to a resident of the other Contracting State will be taxable only in the other Contracting State. This paragraph applies to social security beneficiaries whether they have contributed to the system as private sector or Government employees. The phrase "similar legislation" is intended to refer to United States tier 1 Railroad Retirement benefits

Pub 915

Page 5

U.S. citizens residing abroad. U.S. citizens who are residents of the following countries are exempt from U.S. tax on their benefits. • Canada. • Egypt. • Germany. • Ireland. • Israel. • Italy. (You must also be a citizen of Italy for the exemption to apply.) • Romania. • United Kingdom

Page 6

Canadian or German social security benefits paid to U.S. residents.

Under income tax treaties with Canada and Germany, social security benefits paid by those countries to U.S. residents are treated for U.S. income tax purposes as if they were paid under the social security legislation of the United States. If you receive social security benefits from Canada or Germany, include them on line 1 of Worksheet 1

Note that except  for pub 915  ( which deals with Social Security and RRB ), the treaties  themselves deal    ONLY  with taxability and NOT how to treat the income  ( i.e. whether under Social Security rules or under  "pension" rules).

I definitely   enjoy this discussion.  What I don't know is whether this is right forum  or we should do this  as PM

pk

[gciriani]

I guess we'll agree to disagree. Although there is no passage that specifically instructs the taxpayer (me) where to enter the social security from the other country (Italy), there is no instruction anywhere directing one to enter those payments into a box different than the box for social security. And since the tax treaty refers to those payments as social security from the other country, that's what I'm going to do.

Thank you for digging up further material though, it helped me clarify my rationale. For instance it occurred to me that another rule contained by the Italy-US tax treaty, that real estate property rentals in the other country should not be taxed by the US, is well known among international tax accountants, but is not expressly directed in IRS Pub.527 I used to add rental income from Italy to my 1040 until I was alerted by a tax accountant in Italy that it was exempt thanks to the tax treaty. Now I pay that tax in Italy.

[jtax]

Re: Italy rental. I think you are wrong. Treaty Article 1(2)(b) says that no matter what the treaty says elsewhere (with a few exceptions) the US can tax its citizens on their worldwide income. So, while the treaty lets Italy tax your rental income, so can the US. So even if the Treaty says only Italy can tax the income because of the location of the property, 1(2)(b) says that doesn't matter. The US can also tax it.

23(2) is what prevents double taxation. It allows the IRC 904 foreign tax credit for US taxed income that is from "without the US." 

Your Italian rental income is from without the US because of I.R.C. 862(4). This is true even without any treaty provision.

So you must pay whatever tax Italy requires and you must report the income on your 1040 (Schedule E). You might recover some or all of the Italian tax via the FTC on form 1116.