Picture: Investors Monthly
Picture: Investors Monthly

The array of investment options available to South Africans today can be intimidating; finding a good tax structure and the most suitable vehicle is a good starting point

It’s been 20 years since South Africans were first allowed to invest some of their savings overseas.

By now we’re used to the usual reasons: it diversifies your portfolio, limiting risk and maximising exposure; it opens a much wider investment universe with access to sectors you could never find on the mining-heavy JSE.

But there is another increasingly important reason to invest offshore:

it can save you a lot of tax. And with government now promising to attack the tax deductibility of pension savings of  high-income earners, the advantages to saving offshore look set to grow.

Our investigation into structures revealed a few options investors could consider when taking money abroad.

The first is to consider using an offshore pension scheme. Anthony Markham, a partner with Maitland Pension Trustees in the Isle of Man, says there are benefits to using an offshore pension scheme, which

are technically structured as trusts, but can be significantly less costly to set up and administer.

“Employer participation is not an essential feature – individuals can establish one for themselves, and they can take different forms. They can be cost-efficient umbrella schemes with many participants, associated with an

investment programme, or they can be stand-alone, self-invested schemes where the responsibility rests with the member,” says Markham.

The advantage to using an offshore pension scheme is that there is no donation. When establishing a trust, getting the assets into a trust requires that the donor pay a donations tax, which equates to 20% on amounts above R100 000. “With an international pension scheme there is no donations tax (even though the assets are no longer in the estate of the scheme member) and the settlor-charging provisions do not apply.

“As there is no donation, the settlor charging provisions applicable to transfers by donations to trusts are also inapplicable to trusts established as international pensions,” says Markham.

Once in the pension scheme, the funds are in trust so they do not form part of the estate of the member. Accordingly should the member die before he/she has received all the benefits of the scheme as retirement benefits, the assets remaining in the scheme are available for the member’s family, free of estate duty.

But for those with the means and the scale (ideally $1m or more), setting up a trust has its advantages too (see table: Who should use a trust, page 26).

The question of where to set up the trust that will house your offshore investments needs to be considered with a suitable tax adviser. In a paper entitled “From Offshore to Midshore,” Paula Bagraim, a partner at Maitland, describes  the rise of low-tax jurisdictions that include the likes of Mauritius, Malta, Singapore and Cyprus. Some of the benefits are outlined in the table: Growth of mid-shore tax jurisditions on page 24.

Preetam Prayag, CEO of Imara Trust  Company in Mauritius, says setting up an offshore trust in Mauritius allows

you to benefit from its favourable tax dispensations. Where the settlor and beneficiaries of a trust are deemed nonresident throughout an income year, the trust is exempt from income taxes.

There is also no capital gains tax in Mauritius. “Therefore, provided assets are transferred to a discretionary offshore trust in an appropriate manner, the future growth on those assets occurs without attracting South African tax,” says Prayag.

While it has now become easier to administer the vehicle and make plans for an orderly and tax-efficient transfer of  offshore assets in the event of a person’s death, the sheer range of investments to consider can be daunting. Confronted with literally thousands of choices, investors also have to look at their motivation to take money offshore when SA has been such a phenomenal place to be invested over the past decade.

Andrew Brotchie, head of product and investments at Glacier International by Sanlam, says local investors, based on their experiences up until quite recently, have had very low expectations of the returns they can get offshore.

Glacier International has built a platform that, with the help of a vehicle like an endowment, allows investors to invest in offshore unit trust funds and/ or stockbroking accounts – through which they can buy shares or exchangetraded funds anywhere in the world. “The  endowment is suitable for lump-sum savings, and after an initial investment period of five years, becomes openended,” says Brotchie.

With the array of options open to them, he says the biggest challenge investors face is what to invest in. “Individuals and financial advisers aren’t familiar with all the investment managers and fund classifications available internationally.”

Glacier has an online tool which prescreens funds according to risk, “so investors don’t have to trawl through 400 different funds to find what they were looking for”.

Asked about the use of more “exotic” strategies such as alternative investments, Brotchie says South Africans are becoming far more discerning in what they want exposure to. “There are some fund-of-hedge-funds available to more sophisticated investors and advisers but they have struggled to perform in recent times and that, coupled with liquidity constraints, has meant a diminishing level of interest in them. So investors are building core positions in established markets, but are also wanting exposure to some of the big global investing themes.”

One of these global themes relates to the rise of the emerging market consumer.

Henry Boucher, deputy chief investment officer of Sarasin & Partners, a thematic investment manager based in London, describes the opportunities afforded to investors: “Over the next 12 years, it is estimated that the emerging markets will see the greatest increase in consumer demand in history, a rise in consumption of $18-trillion to $30-trillion a year.”

He attributes this remarkable growth to a process he calls the “great convergence of living standards” as billions of consumers experience a change in lifestyle comparable to that experienced by Europeans and Americans in the 19th and 20th centuries.

The emerging consumer is today’s big global investment theme. “Oh, we are very focused on the [emerging market] consumer,” says Mark Mobius, executive chairman of Templeton Emerging Markets Group, speaking in a telephonic interview

with IM while on a recent trip to South Africa. “We have banks as a big part of our portfolio because consumer credit is just beginning to reach these markets, and the idea of having a bank account is coming to the fore.”

Mobius refers to a number of developing “frontier” markets rising “like a wave” behind the well-known BRICS grouping of Brazil, Russia, India, China and SA. He favours taking a 32% exposure to emerging markets (in

line with the MSCI world index), of  which 5% can be in frontier markets   that include such countries as Nigeria, Thailand, Indonesia, Romania and the Ukraine.

So given the variety of reasons South Africans have taken money offshore to invest in the past, what are the right reasons to do it now? According to wealth manager Warren Ingram of Galileo Capital, there are generally three reasons why people (should) consider this option.

“The first is purely to get some currency diversification and exposure to sectors that we don’t have locally,” he says, and points to the global pharmaceutical and IT industries as examples of sectors local investors can’t get exposure to.

“The second reason is to match future expenses to investments, so from a currency perspective, if you want to retire overseas or travel extensively, you have investments to meet the future liability.

This would also apply to children or grandchildren who might want to be educated overseas.

“The third reason, and this is not one I particularly subscribe to, is if you want to hedge yourself against social and political risk (the Zimbabwe scenario), then you need to ensure you have a substantial part  of your wealth invested abroad.”

So with these reasons in mind, what is the optimal allocation of money to an offshore portfolio? While individual requirements may vary, Ingram suggests if investing offshore for reason one, then  “I think you should have between 15% and 30% of your assets invested abroad,” he says. “Rather just be passive, so while you shouldn’t move the target, you should rebalance periodically.”

The next range, for reason two, should be in the region of 30%-50% of an individuals’ net investments, and for the Afropessimists, 50% plus.

“Where people make the mistakes,” he says, “is when they try to guess outcomes of markets and currencies opportunistically in the short term, or in response to an event (like sudden rand depreciation). So I suggest, focus on the strategic allocation and don’t get mixed up in the tactical allocation.”

A look back to 2001 when the rand depreciated to R13/dollar provides ample reason to agree with that statement. Then, investors fleeing the weakening rand endured a “double whammy”: first, the rand reversed its losses, so they took a 50% loss on the currency front, then the money that was invested in established markets like the US saw the bursting of the dot.com bubble.

One analyst said: “It’s taken them a decade to get back to square one. My advice is that offshore investing requires a long-term view, and one that does not contemplate repatriating the funds to its country of origin. In that spirit, do not try to time exchange rates or markets.

Instead perform offshore transfers as may be dictated by your available funds, and achieving your overall target.” The nitty gritty When getting into the nitty gritty of getting your offshore portfolio operational, there are a number of important points to consider. Top of the list is how to go about doing it, and what  vehicles investors should consider using to do it. “Your options will often be determined by the amount of money you

have to invest,” says Ingram, who suggests that people with smaller amounts look at using rand-denominated offshore ETFs and ETNs, like the Deutsche Bank range of products, “as they are certainly the most cost-effective way of achieving this.”

People with larger amounts should be using their offshore investment allowance of R4m per person per year.

This requires a tax clearance certificate. The Finance of Minister also recently allowed a discretionary allowance of R1m per person per year, (previously called the travel allowance) which needs  to be declared, but does not require a tax clearance certificate. So in essence, couples can take as much as R10m abroad a year, which for most people means exchange control is dead.

“One of the most traditional routes for investing offshore is to use foreign currency-denominated unit trusts.

But my concern is always the costs,” says Ingram. That means avoiding using local feeder funds (which locally feed into foreign currencydenominated portfolios offshore).

“Stay away from feeder funds – they are extremely expensive and there is a doubling of costs, so rather go direct or use local randdenominated ETFs.”

Ingram points out that approaching investment managers offshore can also be challenging.

Trying to do FICA is near impossible, and tax compliance – trying to get things like an IT3(b) (a statement of income/interest earned on your investment as required by SARS) is very difficult, so he suggests using an offshore partner that is registered or has a presence locally.

“The whole process becomes a lot easier – from opening the account to managing the tax affairs and winding up an estate.” What happens to a person’s assets in the event of their passing can become a tricky issue when the investments are abroad. It raises questions around what is the best vehicle for offshore investments.

“My concern with direct investments that aren’t registered with the Financial Services Board [FSB – South Africa] is that you will have estate issues. Will they honour a South African will?” asks Ingram.

Learning from pains of the past South African investors have never had it better in terms of choice: they have the best chance in a generation of investing legitimately and successfully offshore. The painful lessons experienced in the early days of democracy – when people rushed money offshore in the face of a currency

seemingly on a one-way street of getting ever-weaker against the dollar, only to see the rand strengthen and decimate their offshore holdings – are a thing of the past.

Lessons learned from that experience should be taken and used to build a portfolio that can be financially rewarding and carefully structured. The biggest enemy is always the one within. Like any sound investment profile, avoid chopping and changing advisers or your investment profile. Stick with the programme.

* This article was first published in Investors Monthly