As a firm, we work exclusively with physicians and dentists and have a number of clients from all over the world. Some clients initially come to the US for training but decide to stay for the foreseeable future.
We are often asked questions like:
“How do US investments compare with investments in other countries?”
“What are the tax consequences of having assets in one country while living in another?”
“To what extent am I able to access these accounts if I move, be it from another country to the US or from the US to another country?”
So, we’d like to address a few of these frequently asked questions in an effort to help you better understand the economic opportunities and challenges you should be aware of if you plan to remain in the US and invest the income you earn here.
Comparing US Investments to Investments in Other Countries
One common question is, "Shouldn’t I save my money in a savings account in my native country? Interest rates on savings accounts in (insert country) are far greater than the interest rates on savings accounts in the US."
The interest rate applied may be higher, but the net result could be far worse, and here's why (this will require some critical thinking, but you must consider the variables impacting the return on your money):
Let's use India as an example. You could allocate money to a NRE or NRO account in India and receive a 7% interest rate. If you plan to place that money in an account in India and spend it while visiting or eventually living in India, my concern would be the impact of inflation. A 7% interest rate is good, but the net result will be affected by a higher inflation rate if spending the money in India. With India having an inflation rate of 3.69% and the US inflation rate at 1.9%, a 7% interest rate in India is equal to an inflation-adjusted return of 5.21% in the US. If bringing the funds back to the US, then the exchange rate is the variable that can negatively impact the rate of return.
The Indian Rupee Exchange Rate was 64.7099 on March 26th, 2018. If you had exchanged $10 USD at that time, it would have converted into 647.09 (INR). If that was invested in an NRE gaining 7%, the account would have grown by 45.29 (INR) by year end, and you would have a total account balance of 692.38 (INR). Let's assume the exchange rate at the end of a full year is what it is today (April 25th, 2019), which is 70.17. If you converted the 692.38 (INR) to US dollars, you would have $9.86. So though the NRE account gained 7% tax-free, you actually lost 14 cents due to the exchange rate changes in the last year. I'm not against the idea, but I want clients to be aware of the return risk and exchange risk if they wish to invest or save money overseas.
What Tax Consequences Should I Be Aware Of?
I will not dive into the specifics of The Convention and Protocol between the United States of America and The Republic of India, also known as the Double Tax Avoidance Agreement (DTAA), but the purpose of the treaty was to avoid fiscal evasion as it relates to income taxes and double taxation.
Most countries have an established treaty with the United States, and though the details of each are slightly different, the general intent is the same, which is to avoid tax evasion and double taxation between those with engagements in both countries.
In a nutshell, the answer to questions about how income or capital gains from another country get taxed will depend on a number of factors such as the source of income, type of income, and residential status. Prior to making investments overseas, it would be wise to understand the specific tax treatment tied to future gains and income by reading the DTAA Agreement between the country in which you plan to invest and the US.
What about investments in the US? How will they be taxed if I leave?
Many of our non-resident clients are unsure of their long-term plans in terms of where they will work and live. Many question if investing in their Employer 401k or 403b is a good idea because they worry about having access to the funds at a later point if they decide to leave. Though the account will remain in the US with your Employers plan if you move, you will still be able to withdraw the money from the account and the rules are the same for residents and nonresidents. If you withdraw the money from the account prior to age 59 1/2, you will be required to pay a 10% penalty and income tax on the amount withdrawn. If you leave the money in the plan and withdraw the account balance after age 59 1/2, you avoid the 10% penalty but you still pay income taxes on the amount withdrawn to the US because the income was sourced in the US originally.
Rather than cashing out and taking the penalty, it makes more sense to leave the money invested until it's needed for your later retirement. Plus, it would be wiser to make the withdrawals in a year when you aren't working in the US. By doing so, the amount withdrawn from the 401k or a similar plan, will not be added to the income you earned in the US that year. Instead of adding a 401k withdrawal of $50,000 to an income of $410,000; thereby, resulting in a tax rate of 35%. It would be far better to withdraw the $50,000 in the following year when you do not have any income from other sources in the US, and you'll pay a much lower 10% on the first $19,400 and 12% on the remaining $30,600.
Again, I would wait until after age 59 1/2 regardless, but if you're wondering if it's a good idea to take advantage of the Employer match and ability to lower your taxable income today with pre-tax contributions while you're figuring things out, I would say yes. It's unnecessary to pay additional taxes now on the income you make and to forego additional compensation your employer is willing to give. The only legitimate reason not to do it is if you need more liquidity in your overall financial plan because of the anticipated transition.
Experienced Financial Planning is Key
Unfortunately, the tax laws are all but simple, and the complication is multiplied for those of you with assets or income in multiple countries. It's critical to work with a team of professionals that are familiar with the rules and terms of these agreements. Many are familiar with planning for US Citizens, but very few have a good grasp on what to consider when visiting with a nonresident alien or resident that plans to move or possibly invest overseas. If you are dealing with some of the questions we've addressed here, or you are weighing the advantages of investing overseas in assets you feel are more familiar to your family, our team of advisors can help you think through these decisions.