Spain remains one of the most popular retirement destinations for British retirees and it is estimated that close to one million Britons currently live in Spain. Bearing this fact in mind, it is fundamental to understand something of how British pensions are obtained and taxed in Spain.
A British ex pat can still receive his or her UK state pension providing he or she informs the Department for Work and Pensions and has paid appropriate national insurance contributions, and it will increase in line with pensions paid in the UK. If he or she has ever worked in Spain, it will be necessary to apply to the Instituto Nacional de la Seguridad Social (INSS). However, in any other case, the application is made through the UK.
However, another issue to consider is how to receive a UK pension. Some opt to have their state pension paid directly into their Spanish bank account, while other prefer to have it paid into a UK bank. This choice is important, as having the payments paid directly into a Spanish bank may result in having an unfavorable exchange rate applied on the particular day of the exchange. It is more and more frequent for British permanent residents in Spain to employ companies like Smart Currency Exchange to capitalize on a favorable exchange rate for large sums of money.
With regards to the different classes of pension, it is worth bearing in mind the following:
1. Pension Lump Sums: Note that pension lump sums are tax-free in the UK, but are taxable in Spain if received whilst Spanish tax resident. That is why it is far more tax-efficient to take the lump sum prior to becoming Spanish tax resident.
2. Occupational and State Pensions – Occupational and State pensions are only taxable in Spain if you are resident here, and are taxed as a part of your general income. A deduction of between €2,652 and €4,080 is available against such income (the higher the income, the lower the deduction, although it cannot be reduced below €2,652) in calculating the taxable income. This income is then taxed at the progressive scale rates from 24% to 43%.
3. Government Service Pensions: Government service pensions (e.g. civil service, local authority, fire service, police, armed forces, and certain teachers, but not NHS pensions) remain liable only to UK tax and are not taxable in Spain.