Penny-wise planning can be pound foolish
Buying “off-the-shelf” plans can be costly, especially where your estate plan is concerned.
WHEN PUTTING TOGETHER AN estate plan, many individuals are tempted to choose “off-the-shelf” products that promise quick and easy solutions in a low-cost package.
While they can seem a bargain at the time, this approach can cause problems down the road. An inexpensive but inferior arrangement can lead to unmet estate planning goals, as well as higher costs incurred when trying to remedy a problem — if it can be corrected at all.
Comprehensive advice is worth it
Cheaper estate planning solutions aren’t likely to take into account all aspects of your finances, family situation and planning goals.
“Good advice costs money,” says Nick Cawley, Managing Director of Royal Bank of Canada Trust Company (International) Limited. “If the estate planning solution isn’t properly thought out, implemented and reviewed by professionals, the whole reason why the assets were placed in a trust could break down, placing them at risk of attack.”
Cawley recently came across the case of an individual who bought property in the U.K. several years ago, which he uses only a few months of the year. Based on the advice of his service provider, the individual set up an offshore company to own the property, with himself as director. He pays his service provider a few hundred pounds a year to maintain the company, but has no other contact with him.
The problem? The individual wasn’t told that if he hires contractors to work on the property during the few months he lives there, the U.K. tax authorities could consider the offshore company owning the property to be an onshore company. That makes it subject to U.K. tax laws, including the 40% inheritance tax. As director of the company, the investor potentially faces personal taxes in the U.K. and criminal penalties if he fails to comply.
"Because he bought the service cheaply, he was not given proper advice,” says Cawley.
Preoccupied with taxes
Low-cost estate planning packages typically focus on potential tax savings. At the same time, however, they may ignore any family issues and business continuity concerns.
“Most of these arrangements are so focused on tax that they let the tax tail wag the investment dog,” says Cawley. “But taxes are only part of the whole picture.”
The most effective way to develop an estate plan is first to approach the family issues. These could include business succession planning, assessing when children should have access to trust funds, or how to provide for heirs.
“These are the really big issues that keep people awake at night,” Cawley explains. “Once you’ve addressed the family concerns, and family law issues for the client or their children, then you look at the assets available and what the most tax-effective structure might be.”
Keeping pace
International laws and regulations are always changing. It’s important for any estate planning provider to stay on top of the latest developments and their effect on its clients.
For example, a planning strategy that was standard for almost 30 years was to hold private property in the U.K. in an offshore company to make it exempt from U.K. inheritance tax. A couple of years ago, however, a landmark court case in the U.K. rendered this strategy virtually ineffective.
But people selling these off-the-shelf products do not have the resources to keep abreast of changes like this. Some are still offering it as a potential estate planning solution. In the years to come, there’s a potentially nasty surprise waiting for high-net-worth individuals who went down this route.
Building in flexibility
“Family issues, personal circumstances and financial objectives — all these can change over the years,” says Cawley. “Overlay that with constantly altering tax rules and laws, and you just cannot predict what will happen in the future.”
A well-thought-out estate planning solution will not only fit your situation today but will be flexible enough to work in the years to come as well. Often, this entails a certain level of detail.
A short-form trust deed, for instance, might use only four or five pages of language to describe what a trust does. While it costs less, the problem is that its brief structure works only in very simple cases.
“The normal trust deed is about 30 pages long,” says Cawley. “You need that level of detail and flexibility to make certain it will work in the future.”
If the structure you have used to set up your trust is too rigid, and there’s a change in your family situation, you may have to hire legal help to parachute in clauses to change the trust. In fact, trying to do so may result in its being considered a whole new trust, subjecting the scheme to newer and possibly less favourable tax laws. “Chances are that a flexible open trust could accommodate family changes without effectively closing down the existing structure,” says Cawley.
The original plan should be reviewed periodically to confirm that to work in the years to come as well. Often, this entails a certain level of detail.
Look beyond cost
Responsible providers of international estate planning services will have the technical expertise necessary to craft and implement a plan customised to meet your goals.
They will help you clarify your objectives and goals, and have the financial resources needed to stay on top of any changes in laws, taxes or regulations that could affect your plans in future years.
Such a process will require both more time and money than a quick- fix solution, but something as important as an estate plan is no place to cut corners.
“Like anything else, the more you put into your estate planning, the more you’ll get back out,” adds Cawley. “If you haven’t thought through all the consequences, now and in the long term, then your offshore solution may not meet your objectives,” he says.
Managing Your Wealth
I’m purchasing a yacht. I’ve heard there are ownership structures that could be beneficial from the viewpoint of estate planning. Can you explain?
One efficient ownership structure is to incorporate a company in an offshore jurisdiction for the specific purpose of owning and operating your boat, and registering the boat in the company’s name.
This offers potential advantages in the employment of the boat’s crew and the management of its operating expenses. It can also be beneficial for estate planning.
Rather than own the yacht directly, you would own shares in the company, which would be subject to the terms of your will or a will designed to pass private corporate shares without the payment of probate fees if such a limited will is permitted by applicable succession law.
Alternatively, your company shares can be put into an offshore trust that’s structured so that the shares would be held for your benefit during your lifetime. This latter structure could help you also plan for inheritance tax in your home country.
Remember, using offshore jurisdictions to structure the ownership of your boat, or indeed any asset, is complex, subject to a wide range of maritime and financial rules and regulations. Professional advice specific to your circumstances is always recommended.
Getting a fix on emerging bond markets
First in a series of articles featuring the money managers from our global network.
Jane Lesslie, Vice President, Global Fixed Income, Emerging Markets, RBC Investments, has been with RBC since 1984 and has close to a decade’s worth of experience dealing with emerging market debt. She currently manages the emerging market debt allocations for a number of mutual funds for the RBC organisation in Canada and runs the bank’s offshore Latin American debt fund. In this interview she offers her expert insight into the current state of emerging market debt investments.
Most of the news that comes out of emerging markets seems negative. Why would an investor be interested in this kind of investment?
Simply put, returns. The average return on the emerging-market U.S.-dollar bond index has been more than 13% since 1993. In 2002, despite a weak global backdrop and volatile politics, the index still returned more than 14%.
A good part of the returns, historically, have been from cash flows from the high coupons attached to these bonds, at a time when dividend yields on equity markets were at historic lows. We’ve seen these returns despite several high-profile crises in emerging markets, from Mexico’s “Tequila Crisis” of 1994 to Argentina’s default in 2001.
How does investing in debt issues of emerging markets differ from investing in bonds of developed countries?
Politics adds to volatility and plays as big a role as economics. Emerging market economies frequently need to import capital because their domestic savings rates are not high enough or developed enough to fuel economic growth. This makes them vulnerable to swings in capital flows from abroad, or capital flight from within, both of which are driven by government policy. You have to know the countries and their history to assess the potential moves they may make. It requires continuous monitoring.
How do you approach investing in emerging markets?
Diversification is my religion and I focus on hard currency (U.S. dollar or euro) denominated bonds rather than local currencies. It’s difficult to talk about this market broadly because you have various economies at different stages of the business cycle or at different stages of development.
In fact, this is the strength of the asset class. In 2002, for example, Russia’s economy grew nearly 4% while Argentina’s was down more than 12%. The many elections in Latin America in 2002 created uncertainty for future policy, chasing capital out of some countries. By contrast, emerging European economies did well because of their moves toward joining the EU. For example, there’s been a huge rally in Turkey’s bonds recently, particularly following the elections there.
What do you see happening to emerging-market fixed-income investments in the short term?
With U.S. and European interest rates low for the foreseeable future, emerging market countries making the right policy choices should find it easier to borrow abroad. As the economies in North America and Europe start to expand again, demand for exports from the emerging markets should pick up. This helps them generate foreign currency to pay the interest costs on their bonds.
With growing signs of an economic recovery, interest rates on U.S. Treasury bonds are likely to rise. As you know, when rates rise, bond prices fall. Ironically, emerging market bonds could help reduce risk in portfolios as this happens. Currently, the spread over U.S. Treasuries is about 800 basis points, but this is likely to decrease as the global economy improves. This fall in the spread can offset the rate increases in U.S. Treasuries. In the meantime, investors receive the high coupons the bonds pay.
What about longer-term trends?
In 1998 about 35% of trading volume in emerging bond markets was hedge funds, which have a shorterterm, more tactical investment horizon. They now account for less than 10%. Instead, more stable, longterm institutional investors like pension funds and life insurance companies have moved into this market. At the same time, many of these countries have improved their economic policies and increased the transparency of their economic reporting.
With the right policies, it’s a virtuous circle. More information means institutional investors feel more comfortable buying these bonds, which helps reduce their volatility. This permits countries to borrow less expensively, leaving them freer to invest in structural reforms, which in turn improve their economies and their ability to pay their interest costs.
For further information, please refer to Global Investment View, which includes an analysis of the stock, bond, and currency markets. This publication is available from your relationship manager.
Don’t be fooled by advance fee fraud
The Internet has brought many benefits to global finance. Unfortunately, it’s also provided unscrupulous individuals with a new tool for defrauding investors.
Spurious bank Web sites have recently added a new twist to an old scam that’s stung many investors.
The set-up
Called the 419 or advance fee fraud, the scheme typically begins with an investor receiving an unsolicited email, fax, or letter, offering a share of a large sum of money that’s supposedly waiting to be moved out of the country. (These solicitations often come from Africa, but are not limited to this region.) To participate, the investor is asked to supply a bank account number.
To effect an air of authenticity, fake banking Web sites are set up to prove that the money exists. In some cases, victims are given a login and password to allow them to see that money has been deposited in their name.
“A phony Web site can be set up on a server anywhere and is almost impossible to close down permanently,” says John Bihet, Senior Manager, Risk Management and Compliance for Royal Bank of Canada Global Private Banking. “And one Web site can be used to convince dozens of victims.”
The sting
Just as the money is to be transferred into the investor’s account, a complication crops up. Forged copies of official government correspondence and letters of reference may even be supplied. The investor is asked for cash to overcome the problem. This is repeated, with larger amounts.
Naturally, the promised money never arrives. Victims have been known to lose tens of thousands of dollars, or even more.
In some cases, victims have been lured to Nigeria for what is supposed to be the final handover of the money. Upon arrival, more money is requested to cover last-minute “exit” or “export” fees. Even kidnapping for ransom is not unknown.
Be careful about unsolicited correspondence offering to make you a fortune. “If it looks too good to be true, it probably is,” says Bihet.
For more information on 419 fraud, check:
www.secretservice.gov/alert419.shtml or
www.met.police.uk/fraudalert/419.htm.
Short-term savings solutions
The persistent slump in the world’s stock markets is a poignant reminder that simple, fixed-term deposits can play a key role in any portfolio. Because they combine preservation of capital with an interest rate that’s higher than most deposit accounts, fixed-term deposits can be an excellent choice for short-term savings goals.
For example, if you are saving for a major purchase like a vacation property or boat, a fixed-term deposit allows you to accumulate capital at a predetermined rate without subjecting it to the short-term risk of the equities markets.
Royal Bank of Canada Global Private Banking offers a wide range of fixed-term deposit accounts in all major currencies, with terms ranging from seven days to one year. Interest is calculated daily and paid at maturity with no tax deducted at source.
For more information, talk to your Royal Bank of Canada Global Private Banking relationship manager.
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