Does a German employer pension qualify for Illinois's income tax subtraction for retirement income?

Plain-English summary

An Illinois resident who had worked as an expatriate for a German subsidiary of an Illinois-based company asked the Illinois Department of Revenue whether the pension he was drawing from his former German employer could be subtracted from his Illinois taxable income, the way certain other retirement income can be. He pointed to a provision of the U.S.-Germany income tax treaty that he believed put his German pension on equal footing with a U.S. pension.

The Department said no. Illinois's subtraction for retirement income (35 ILCS 5/203(a)(2)(F)) only covers amounts included in specific sections of the Internal Revenue Code — IRC §§ 402(a), 402(c), 403(a), 403(b), 406(a), 407(a), and 408 — plus certain government and retired-partner payments. A pension from a private German employer, paid under Germany's Betriebsrentengesetz (a German law on employment-related pensions), doesn't fall under any of those IRC sections, so it doesn't qualify on its face.

The Department also rejected the taxpayer's treaty argument. The taxpayer had cited Article VIII of the Protocol amending the U.S.-Germany treaty (which added a "social security benefit" clause to Article 18). But the Department concluded the taxpayer's pension is actually governed by a different provision — Article IX of the Protocol, which added new Article 18A. Article 18A doesn't recharacterize a foreign pension as one of the IRC-listed plan types; it just says the taxpayer's country of residence won't tax the pension plan's income until a distribution is actually made. Since the treaty doesn't cause the German pension to be treated as income under IRC §§ 402(a), 402(c), 403(a), 403(b), 406(a), 407(a), 408, or § 86, the Illinois subtraction still doesn't apply.

This letter is a General Information Letter (GIL), not a binding Private Letter Ruling — the taxpayer had actually asked for a PLR, but the Department determined a GIL was the appropriate response given the letter and information provided. A GIL is general guidance only and is not a statement of Department policy and not binding on the Department.

What this means for you

Expatriate employees and retirees with foreign pensions

If you're an Illinois resident receiving a pension from a private employer abroad (this letter specifically involved a German employer pension under Betriebsrentengesetz), don't assume it automatically qualifies for Illinois's retirement-income subtraction just because a similar U.S. pension would. The subtraction is tied to specific Internal Revenue Code sections, and a foreign private-employer pension generally won't fit those categories unless it independently qualifies as one of the IRC-listed plan types.

Taxpayers relying on a tax treaty

Don't assume a treaty clause about "equal treatment" or "social security benefits" automatically extends a state tax subtraction to your situation. Here, the taxpayer read one treaty article (Article VIII/Article 18) as supporting the subtraction, but the Department found a different, more specific article (Article IX/Article 18A) actually governed, and that article only addresses timing of taxation (deferring tax until distribution), not whether the income counts as a subtractable IRC-listed pension.

Accountants and tax professionals

When advising clients with foreign-employer pensions, work through the mechanics of 35 ILCS 5/203(a)(2)(F) section by section: none of IRC §§ 402(a), 403(a), 403(b), 406(a), 407(a), or 408 apply to foreign private-employer plans on their face. Also verify which specific treaty article actually applies to the client's plan type — in U.S.-Germany treaty terms, the Betriebsrentengesetz plan fell under Article 18A (added by Protocol Article IX), not the social-security clause the taxpayer cited (added by Protocol Article VIII).

Anyone who wants a binding answer

Because this is only a GIL, it doesn't bind the Department in future cases, even involving the same taxpayer. The letter notes that if the taxpayer isn't under audit and wants a binding ruling, they can request a formal Private Letter Ruling under 86 Ill. Adm. Code 1200.110(b) by submitting the required information.

Common questions

Q: Does a foreign employer pension ever qualify for the Illinois retirement-income subtraction?
A: It can, but only if the income is actually includable under one of the specific Internal Revenue Code provisions listed in 35 ILCS 5/203(a)(2)(F) — IRC §§ 402(a), 402(c), 403(a), 403(b), 406(a), 407(a), or 408 — or is a government retirement/disability payment or an excluded retired-partner payment. In this case, the Department found none of those provisions applied to the taxpayer's German employer pension.

Q: Why didn't the U.S.-Germany tax treaty help the taxpayer?
A: The taxpayer relied on the treaty's social-security-benefit language (Article VIII of the Protocol, amending Article 18). The Department determined the pension was actually covered by a different provision, Article 18A (added by Article IX of the Protocol), which only says the taxpayer's resident country won't tax pension plan income until it's distributed — it doesn't convert the pension into one of the IRC-listed categories the Illinois subtraction requires.

Q: Is this letter binding on the Illinois Department of Revenue?
A: No. It is a General Information Letter, issued under 86 Ill. Adm. Code 1200.120(b) and (c). It is general guidance, not a statement of Department policy, and it is not binding on the Department — even though the taxpayer had originally requested a private letter ruling.

Q: What should someone do if they want a binding answer to the same question?
A: The letter states that if the taxpayer is not under audit, they can request a binding Private Letter Ruling by submitting the information required under 86 Ill. Adm. Code 1200.110(b), items 1 through 8.

Citations and references

• 35 ILCS 5/203(a)(2)(F) (Illinois subtraction modification for certain retirement income)
• 86 Ill. Adm. Code 1200.120(b) and (c) (General Information Letters are non-binding)
• 86 Ill. Adm. Code 1200.110(b) (procedure to request a binding Private Letter Ruling)
• IRC §§ 402(a), 402(c), 403(a), 403(b), 406(a), 407(a), 408 (federal retirement plan provisions referenced by the Illinois subtraction)
• IRC § 1402 (net earnings from self-employment, referenced for retired-partner payments)
• IRC § 86 (taxation of Social Security benefits, referenced in the treaty analysis)
• U.S.-Germany Income Tax Treaty, as amended by the 2006 Protocol, Article VIII/Article 18 and Article IX/Article 18A (treatment of pensions and pension plans)

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2017.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2017/it-17-0008-gil.pdf

Original ruling text

IT 17-0008-GIL 03/01/2017 Subtraction Modifications(Pensions)
Subtraction Not Applicable to Retirement Plan of a Private Employer in Foreign Country
(This is a GIL.)

March 1, 2017

Re:

Illinois income tax

Dear Xxxxx:
This is in response to your letter dated January 6, 2016, in which you request a private letter ruling.
The nature of your letter and the information provided require that we respond with a General
Information Letter (GIL). A GIL is designed to provide general information, is not a statement of
Department policy and is not binding on the Department. See 86 Ill. Adm. Code 1200.120(b) and (c),
which may be accessed from the Department’s web site at www.tax.illinois.gov.
Your letter states as follows:
I have been working for the Illinois – based publicly traded COMPANY, including several of its
subsidiaries as an expatriate employee in several jurisdictions since April 1, 1985. My initial
employment started in Germany. As of September 1st, 2016 I have retired from my
employment with the German subsidiary of COMPANY and transferred to a U.S. employment
with COMPANY 1, a U.S. subsidiary of COMPANY.
As a resident of Illinois, I am subject to paying taxes in the State of Illinois and have complied
with this obligation ever since I was a resident in this State.
With my retirement from my German employment, I am entitled to a monthly pension from my
former German employer at the amount of $$$$.
This letter requests a private ruling concerning the taxability for Illinois tax purposes of the
pension paid by my former German employer, specifically for the exclusion of this income for
Illinois State Tax purposes. The pension is includable – and will be included in my federal tax
return.
The Illinois Income Tax Act provides for an individual to subtract certain amounts from the
adjusted gross income that is subject to taxation in the State of Illinois, including pensions, i.e.
essentially those which are included in Sections 401(a), 402(c), 403(b), 406(a), 407(a) or 408
of the Internal Revenue Code. It appears that none of these provisions apply directly to a
pension received from a foreign employer.
However, according to the “PROTOCOL, AMENDING THE CONVENTION BETWEEN THE
UNITED STATES OF AMERICA AND THE FEDERAL REPUBLIC OF GERMANY FOR THE
AVOIDANCE OF DOUBLE TAXATION AND THE PREVENTION OF FISCAL EVASION WITH
RESPECT TO TAXES ON INCOME AND CAPITAL AND TO CERTAIN OTHER TAXES,
SIGNED ON AUGUST 29, 1989 (the “U.S. – Germany Income Tax Treaty’)
Article VIII of the U.S.-Germany Income Tax Treaty added under (b) a new paragraph as
follows: “Social security benefits paid under the social security legislation of a Contracting
State …paid … to a resident of another Contracting State shall be taxable only in that other
Contracting State. In applying the precedent sentence, that other Contracting State shall treat
such …or pension as though it were a social security benefit paid under the social security
legislation of that other Contracting State.” Illinois follows that bi-lateral treaty.

IT 17-0001-PLR
The German pension I receive is based on an arrangement under Section 1 of the German law
on employment-related pensions (Betriebsrentengesetz), i.e. a social security benefit paid
under the social security legislation of Germany and therefore qualifies for being treated equal
to U.S. pension plans arranged under the Sections of the Internal Revenue Code cited earlier.
Plans under the German “Betriebsrentengesetz” are ‘generally corresponding’ to social
security benefits paid under U.S. laws that are eligible for a deduction for Illinois tax purposes.
As such, with the pension payments treated equal to a U.S. pension payments, they should
qualify as subtractable from my Illinois Tax Return.
This result is also in line with the spirit of the U.S.-Germany Income Tax Treaty which bilaterally addresses the issue that there should be no discrimination between tax payers in
either country and provides for social security benefits paid under the social security legislation
of either country to be treated as if it were a social security benefit of that other
country/contracting state.
I kindly ask you for a private letter ruling on that matter that supports the deductibility of this
pension income for Illinois tax purposes.

RULING
Section 203(a)(2)(F) provides the following deduction in the computation of an individual’s Illinois
base income:
An amount equal to all amounts included in such total pursuant to the provisions of Sections
402(a), 402(c), 403(a), 403(b), 406(a), 407(a), and 408 of the Internal Revenue Code, or
included in such total as distributions under the provisions of any retirement or disability plan
for employees of any governmental agency or unit, or retirement payments to retired partners,
which payments are excluded in computing net earnings from self employment by Section
1402 of the Internal Revenue Code and regulations adopted pursuant thereto. (Emphasis
added)
Section 402 of the Internal Revenue Code deals with distributions from employee trusts exempt under
Section 401(a) of the Internal Revenue Code, which provides an exemption for certain employee
trusts “created or organized in the United States.”
Section 403(a) of the Internal Revenue Code deals with annuities described in Section 402(a)(2) of
the Internal Revenue Code, which describes certain annuities purchased by employee trusts exempt
under Section 401(a) of the Internal Revenue Code.
Section 403(b) of the Internal Revenue Code deals with annuities for employees of exempt
organizations.
Sections 406 and 407 of the Internal Revenue Code deal with employee benefit plans under Section
401 that cover overseas employees of affiliates of the employer that created the plan.
Section 408 of the Internal Revenue Code deals with individual retirement accounts.
None of these provisions appear to apply to a retirement plan of a private employer in Germany, and
the pension income would therefore not qualify for subtraction under IITA Section 203(a)(2)(F).
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IT 17-0001-PLR
Your letter indicates that your pension income is covered under Article VIII of the Protocol Amending
the Convention between the United States of America and the Federal Republic of Germany. Article
VIII of the Protocol amends Article 18 of the Convention as described in your letter. However, it
appears that your pension income is actually governed under Article IX of the Protocol, which added
new Article 18A to the Convention. The Department of the Treasury Technical Explanation of the
Protocol Signed at Berlin on June 1, 2006 Amending the Convention between United States of
America and the Federal Republic of Germany, states, in part:
Paragraph 4 defines the term “pension plan” for purposes of Article 18A to mean an
arrangement established in a Contracting State which is operated principally to administer or
provide pension or retirement benefits or to earn income for the benefit of one or more such
arrangements. … In the case of the Federal Republic of Germany, clause (a)(bb) of paragraph
16 of Article XVI of the Protocol provides that the term “pension plan” shall include
arrangements under section 1 of the German law on employment related pensions
(Betriebsrentengesetz) and any identical or substantially similar plans established pursuant to
legislation enacted after the date of signature of this Protocol.
Pension plans under Betriebsrentengesetz are subject to Section 18A of the Convention. Paragraph 1
of Section 18A of the Convention states that if a resident of a Contracting State participates in a
pension plan established in the other Contracting State, the State of residence will not tax the income
of the pension plan with respect to that resident until a distribution is made from the pension plan.
Assuming, arguendo, that treaty language may determine application of the subtraction modification
under IITA Sections 203(a)(2)(F) or 203(a)(2)(L), the Convention does not treat your pension income
as included in gross income under Internal Revenue Code Sections 402(a), 402(c), 403(a), 403(b),
406(a), 407(a), or 408, or under Internal Revenue Code Section 86.
As stated above, this is a general information letter which does not constitute a statement of policy
that applies, interprets or prescribes the tax laws, and it is not binding on the Department. If you are
not under audit and you wish to obtain a binding Private Letter Ruling regarding your factual situation,
please submit all of the information set out in items 1 through 8 of Section 1200.110(b). If you have
any further questions regarding this letter, you may contact me at (217) 782-2844.
Sincerely,

Brian L. Stocker
Associate Counsel (Income Tax)

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