By: Rex Cowley, Director and Co-Founder of the specialist international pensions and fiduciary business, Overseas Trust and Pension
South Africans looking to diversify their assets or hedge against currency volatility by investing offshore need to be cognisant of the complexity they may inadvertently be creating for themselves and their families when holding assets cross-border.
Whether they are looking to access hard currency in the form of dollars, euros or pounds, buy property or take advantage of investment opportunities in global companies, South Africans need to educate themselves about the various challenges they could encounter in respect to their offshore investments.
Different jurisdictions, different laws
When placing assets offshore, many overlook the reality that those assets are now in a different jurisdiction with its own laws and financial services regulations, which govern those investments, as well as how they should be taxed and how they can be accessed.
These administrative matters are not necessarily top of mind when South African investors focus on what they hope to achieve through currency hedging efforts and harnessing global investment opportunities.
Some of the questions people need to ask themselves when considering offshore investment are: What happens in the worst-case scenario? Can I get my money back? How do I complain? What rights do I have as a non-resident?
The financial services sector in South Africa is well-regulated. If clients feel aggrieved or have a problem with a particular financial product, they have recourse in the form of the ombudsman or other regulatory bodies. However, the minute they leave South African shores, they are no longer protected by this system, especially if they have invested in another country without soliciting the services of a regulated Financial Adviser.
The level of protection and recourse is likely to differ from jurisdiction to jurisdiction and will also be affected by whether the investor is a resident of that country or not. While the country might offer protections, these may not apply to non-residents.
Avoiding double taxation
It is also important to understand that taxes are withheld on the investments in the country where those assets are based or where taxes may be due on income arising from such assets.
Depending on the nature of the investments – stocks and shares, unit-linked life insurance policies, bank accounts or property – it is critical to note that income or gains may be taxed at source, i.e. a withholding tax applied to the foreign investment, and this is not reclaimable from their tax authority.
In addition, the withholding tax may be higher than what would have been applied to a similar investment in South Africa.
Hence, South African investors will not be able to claim credit in South Africa for the difference between the two amounts.
Property income can become particularly complicated. This is because property income generally requires that a foreigner registers as a taxpayer (not a tax resident) in that country and files tax returns. If they fail to do so, they will end up accruing penalties or worse. Being non-compliant in respect of the taxes in another country can become especially problematic in the event of the person’s death, sometimes taking years to finalise the foreign estate and pass assets to beneficiaries.
Ownership of assets: what’s yours is yours, or is it?
The way people own assets in South Africa can differ from other countries. For example, the first step people often take when placing money overseas is to open a bank account. In South Africa, citizens can only have bank accounts in one person’s name, but with the option for someone else to have signing powers.
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Some countries, however, offer joint accounts with equal ownership. This means that all parties to that account have equal rights, a concept that is not often understood in South Africa. So, if someone has a joint account with their two children and spouse, any one of them can withdraw and spend all the money, as they have the right to do so.
This means it is crucial to understand how the account is owned and the legal rights that apply to the different parties, as well as the possible constraints. This can also apply to investment accounts, stocks and shares, portfolios, and, in some instances, insurance policies.
Don’t ignore the laws of succession
Many South Africans’ wills cover their worldwide assets, with instructions on what to do in the event of their death. While the will might be valid in South Africa, this does not necessarily mean it will be valid in another country, and there is likely to be a conflict of laws.
Anyone with investments overseas may need to employ the services of someone – typically a lawyer – who specialises in the winding up of estates to assist with the process. This can be costly and time-consuming.
If there is no valid will to deal with the foreign assets, then that country’s laws of succession come into play. The downside of this is the loss of control over how the money is distributed. So, the firstborn might be entitled to a significantly larger portion than anyone else, which may not have been intended by the deceased, or a spouse’s benefit may be limited or even excluded.
The other issue is the taxation of assets that reside in another country. Like South Africa, which has an estate duty tax, the majority of developed nations operate estate, inheritance, capital acquisition and/or wealth taxes regimes that can apply to assets located in their territory on death… Importantly, these laws generally apply irrespective of where the individual resides.
For example, inheritance tax in the UK is a flat 40% and up to 40% in the USA with duty being applied where the assets in these territories exceed £325K and $60K respectively. Countries such as Spain have highly prescribed laws around inheritance.
If someone holds stocks and shares in Spanish companies and these don’t go to their bloodline, the tax can be as high as 82%.
These duties have to be dealt with before the account provider can relinquish the assets. So, it’s not a case of ‘’this won’t apply to us’’ – the property, investment or funds in a bank account cannot transfer until the tax matters are dealt with.
Reconsider a DIY approach when investing offshore.
While the winding up of estates and paying taxes can add time and cost to the transfer of assets, these are challenges that can be overcome. Investing offshore can present an excellent opportunity for significant growth and currency diversification, as long as investors have their eyes wide open.
When placing assets offshore, there are several steps and vehicles that can help mitigate many challenges. For example, there are international pension schemes and preservation funds that can ease the foreign probate process and foreign taxes, and ensure the seamless accession of those assets.
Trusts are another option. Again, in considering these types of structures, investors must get advice locally and not forget their domestic position before entering into these types of products. It’s also important to ensure that the foreign product provider is regulated, preferably in South Africa.
Protection on home ground
While there is pressure on Financial Advisers to balance risk and return in the face of complex economic uncertainties, several foreign financial services providers (FSPs) are regulated in South Africa. This means they have an obligation to ensure that the Financial Advisers who use their products understand those products and the protections they offer.
The Financial Advisory and Intermediary Services Act (FAIS) and the Financial Services Conduct Act (FSCA) require that Financial Advisers ensure their clients fully understand the products and apply the Treating Customers Fairly (TCF) approach, which is designed to ensure that regulated financial institutions deliver specific, clearly set out fairness outcomes for financial customers.
These checks and balances, combined with the benefits of currency hedging and asset diversification, are good reasons to invest offshore. The issues flagged in this article are not a reason not to invest offshore, but are aspects that need to be carefully considered before doing so.