5 Important Strategies for U.S. Citizens Living Abroad
For U.S. expats, the process of establishing and growing an investment portfolio isn’t quite as simple as it is for those living stateside. Not only do you have the normal concerns, such as establishing a diversified portfolio, managing risk and planning for taxes, but you must also contend with currency challenges and the complex interaction between U.S. and foreign tax regimes.
Despite these challenges, Americans living abroad can still successfully save and invest for the future. The following tips can help you navigate the complexities of investing as a U.S. expat.
#1 – Understand the interaction of U.S. and local tax obligations.
Regardless of where you live, as a U.S. citizen you’re required to file a U.S. tax return. Fortunately, if a tax treaty exists between your current country of residence and the United States, you may be able to reduce or eliminate certain tax liabilities.
A key to successfully reducing your tax exposure is to manage your investment accounts in a tax-efficient manner. Be sure to work with a qualified international wealth manager who can help you navigate the complexities of cross-border investing.
#2 – Maintain a U.S.-based investment account.
One of the first investing challenges faced by many U.S. expats is maintaining a U.S. investment account while living overseas. Yet there are many advantages to doing so.
- The U.S. financial markets are the largest and most liquid in the world and offer a wide range of investment products.
- By investing in U.S. markets rather than foreign markets, you can avoid multiple reporting requirements.
- It’s incredibly important for U.S. citizens to avoid investing in passive foreign investment companies (PFICs), as these products can lead to significant tax penalties (see tip #3 below). By investing through a U.S. brokerage account, you avoid the risk of accidentally buying into a PFIC.
Many U.S. banks and brokerage firms have stopped working with non-U.S. residents due to concerns about complying with foreign countries’ tax laws. Fortunately, there are still a handful of U.S. brokers that continue to support Americans living overseas. Some of these brokers won’t work directly with individuals but will work with an advisory firm, such as Creative Planning, to open and maintain accounts on clients’ behalves.
#3 – Avoid passive foreign investment companies (PFICs).
As mentioned above, one of the most common and significant investment mistakes made by U.S. expats is purchasing a foreign mutual fund. The U.S. tax code categorizes non-U.S. registered mutual funds as passive foreign investment companies (PFICs), and these investments are taxed very punitively by the United States. In addition, each PFIC must be reported annually on U.S. Tax Form 8621, which requires complex accounting and is very time consuming to complete.
Foreign brokerages rarely offer U.S.-domiciled investment funds, so it can be very easy to inadvertently invest in a PFIC in an overseas account. Generally the best course of action is to avoid these investments entirely by investing in a U.S.-based brokerage account.
#4 – Understand the challenges surrounding foreign pension funds.
As a U.S. expat, you may gain access to a foreign pension fund through an overseas employer, government or trust. Participation in a pension plan may be mandatory, and employers often make valuable pension contributions (in addition to employee contributions) on behalf of their employees.
However, U.S. tax laws aren’t friendly to most foreign pension plans, and the IRS typically views all types of pensions as “nonqualified” — even those considered “qualified” under local tax rules. Only a few countries have special tax provisions with the United States that allow foreign pensions to be viewed as qualified for U.S. tax purposes. Without such tax provisions in place, U.S. expats can’t deduct pension contributions from their U.S. gross income. If not properly planned for, this issue can lead to significant tax exposure.
An experienced international wealth manager can help you determine the best course of action for your foreign pension plan. If participation is optional and you live in a low-tax country, it may make more sense to save for retirement in a variety of individual accounts, such as a taxable brokerage, IRA, Roth IRA, etc.
#5 – Properly manage currency risk.
When you establish a balanced portfolio of long-term investments, you expect to benefit from those investments over the long term. However, fluctuations in exchange rates and currency can significantly diminish your returns if not properly planned for.
The key to managing currency risk is by matching “life assets” to “life liabilities.” Life assets are assets you accumulate through saving and investing, with the expectation you’ll use them later in life. Life liabilities are the big expenses you incur throughout your lifetime, such as buying a house, paying for a child’s education, and retiring. Ultimately, you sell the life assets to pay for the life liabilities. Both assets are tied to a currency, and currency fluctuations can significantly impact their value.
One effective strategy for managing currency risk is the use of exchange-traded funds (ETFs). When properly employed, these funds are an inexpensive way to build a fully diversified, multi-currency portfolio within your U.S. brokerage account.
Could you use some help investing as a U.S. expat? Creative Planning International is here for you. We work with Americans abroad and cross-border families to help maximize their wealth and avoid costly mistakes, especially when it comes to U.S. expat investments. We understand the complex interaction of multi-jurisdiction tax and regulatory regimes and take into account currency, diversification, tax and other portfolio considerations as we help you plan and invest for the future. If you’re an American living abroad who could use some help establishing a U.S. expat investment strategy, schedule a call with a member of our team