Expats: Consider The Basics Of Wealth Management
In managing your money you may wish first to consider your residence and tax situation before looking at the principles of investing.
By Iain Yule
First of all – where are you resident? If you are British, make sure you are truly UK non-resident, meaning you do not have to pay UK income tax (and may also avoid capital gains tax). A statutory definition of tax residence was introduced in the UK with effect from 6 April 2013 and expats should check their own circumstances against the test to make sure they remain UK non-resident.
The first step in establishing UK residence is to look at the ‘basic rules’, which will establish whether you are either:
• Conclusively non-resident: ‘the automatic overseas test’, or
• Conclusively resident: ‘the automatic residence test’
• Or whether, if neither of these apply, it will be necessary to consider other connection factors and day counting: ‘the sufficient ties test’.
One of the ‘automatic overseas tests’ will apply when, broadly, you leave the UK to carry out full-time work abroad for at least a complete tax year. Provided you are present in the UK for no more than 90 days in the relevant tax year and no more than 30 days are spent working in the UK in that tax year, you should be treated as non-UK resident. However, the rules have some fine detail and you may inadvertently not pass the test. In that case you would have to pay UK income tax on your earnings or savings returns – no matter where they arose.
You may need specialist tax advice to make sure you pass this crucial test. As a first step, read the guide here.
Take An Interest
Don’t leave all your savings at the bank unless you are happy with little or no return on your money. Official UK base rate is stuck at 0.25% and even the top interest-paying offshore account only gives you a 1.6% return. And remember that this return is before inflation. So if inflation is running at more than 2% you are actually losing money. Looking back just ten years ago, UK base rates were 4.75% – so you could then get a reasonable return from simple savings.
Remember too to keep your savings in an offshore bank if you decide to stick with simple savings accounts. Banks based in the offshore areas of the Channel Islands and the Isle of Man pay interest without automatically deducting UK income tax at source. Savings interest from a UK mainland bank automatically has income tax deducted.
Long-term studies show that savings are best put to use on the stock market. A new stock market index – the FTSE-100 index of leading UK shares – was launched in 1984 at a nominal level of 1,000. It is now standing at around 7,500. So £10,000 invested in the index 33 years ago is now worth £75,000.
Two of the great features of making your money grow on stock markets are regular savings and reinvested dividends.
One of the keys is to invest regularly when you can afford to. One of the advantages of regular saving is known as pound-cost averaging. Buying your shares or units in an investment fund monthly evens out the highs and lows of the share or unit price over time.
The principle applies whether you are buying unit trusts, investment trusts, open-ended investment companies (OEICs) or offshore funds. The latter are also potentially more tax-efficient for expats, as they roll up gains without automatic deduction of tax.
Averaging works because you buy fewer shares or units when the price is high and more when the price is low, taking away some of the risk of market timing that can occur when buying shares or units with a lump sum.
The result is that, in a falling or volatile market, the average price you pay for your units or shares over a given period is lower than the average market price.
Because of pound-cost averaging and market timing advantages, regular savings schemes are a good way of reducing some of the risk of stock market investment directly in shares or through investment funds. They are useful for small investors who want to put away a little each month. They can also be used to feed large sums gradually into the market.
The importance of dividends in terms of total return is reflected in the fact that over the last century US real capital returns were 1.7% a year while US real total returns (including dividends) were 6% a year. This illustrates the importance of dividends in terms of investor demand for shares.
The powerful effect of long-term compounding of reinvested dividends to buy more shares is undeniable. Reinvesting the dividends from investments can make all the difference to lacklustre capital returns. An investment in the FTSE 100 over a recent period of 20 years would have returned 110% without the compounding effect of dividends, but a more considerable 341% with reinvestment. Considering that dividend yields were under 4% for much of that period of time, it is clear that the small additional return from dividends makes a big difference over time.
Over the really long term, the difference dividends can make is spectacular. ‘Triumph of the Optimists’, a study of 101 years of investment returns, reckons that 92% of real returns from an investment made over 101 years is attributable to dividends. When shares are priced relatively cheaply, it is possible to lock in a high yield and the possibility of capital return as well.