Monday, 18 October 2010 00:00
Whether you’re new to the world of international living or have been outside your home country for years, you’ve probably come up against an extra layer of complexity in managing your finances while abroad. As expats, we face a complicated array of financial institutions and investment opportunities, not to mention conflicting tax regimes and aggressively sold financial products. In unfamiliar surroundings, it’s easy to fall into making financial decisions and choices that you may not have made in your home country. To help you navigate the world of expat financial choices, we’ve put together five common mistakes expats make with their money.
1. Currency speculation
For the majority of expats, currencies should be viewed as cash, not investments. Unfortunately, currency movements are extremely volatile and difficult to predict—this is true even for professional forex traders. Unlike stocks or bonds, currencies simply don’t generate the cash flow or positive long-run returns that make for good investments. Their value can collapse quickly and stay down for years, in some cases even decades. Exchange rates are impacted by a number of hard-to-predict fundamental factors such as relative interest rates among countries, monetary policy, variations in economic growth rates, and global trading patterns. Even simple drivers such as market greed and fear can move a currency.
At first, it may seem like little risk to “invest” in a currency such as the Australian Dollar to receive a higher deposit rate. Unfortunately, a move in exchange rates can happen at any time and easily wipe out not just your interest received, but also leave you with substantially less than when you started. Other areas to watch out for are dual currency products offered by some banks, and foreign currency mortgages—while these are marketed as being good deals, the reality is that in using these types of products the cards are stacked against you.
A better approach is to ensure you match your currency exposure with the currencies of your current and future expenditures and leave speculating to those who can afford the likely losses.
2. Buying inappropriate investment products
If you’ve been overseas for any period of time you’ve undoubtedly been hit up by one of the army of salespeople pitching offshore investment schemes in one form or the other. While there are honest salesmen whose intention is to steer you in the right direction, there are a number who are not so honest and are only interested in a quick commission or are engaged in outright fraud. The sales literature may be seductive, but it pays to do your homework.
With most of these investment schemes there’s little transparency, they are laden with excessive fees, and once you’ve bought them, you’re locked in for long periods of time or subject to enormous surrender fees. The British Broadcasting Corporation (BBC) recently produced an exposé on the abusive practices surrounding the sale of these products in the offshore markets. http://www.international-adviser.com/article/offshore-ifas-in-panorama-investigation
Americans need to be particularly aware as investing in non-US incorporated mutual funds and investment products subjects them to the IRS’s punitive tax regime surrounding Passive Foreign Investment Corporations (PFICs). Nearly all offshore mutual funds and investment products are classified as PFICs. The rules are complex, but essentially owners of PFICs are taxed on earnings at their highest marginal rate regardless of whether the earnings have been distributed. There’s no preferential capital gains rate and no tax deferral until sale, and losses from PFICs cannot offset other capital gains. This is just one of a number of reasons Americans are generally better off holding their investments in US brokerages and custodians. (Note that using a
For non-Americans who don’t face PFIC rules, there are now better alternatives to managing your money than purchasing an offshore scheme. Global discount brokers offer a greater range of products, transparency, and significantly reduced fees and greater control over your investments, all while preserving your offshore tax exemption.