As an expat, saving for retirement isn't the easiest thing in the world — taxation regimes aren't geared up for people who move around the globe. But as Rob Hyde reports, there could be a solution: offshore investment.

Expats who have been paying into a pension fund back home often come in for a shock when they move overseas. Suddenly they have to stop making contributions — or find themselves in the middle of a taxation minefield.

The ideal solution would be to find a pension fund they can take with them.

But hopes of a global pension scheme being established seem slim. The massively varying business procedures, mentalities and uncompromising legislation throughout the world make such a project an enormous task.

Pilot schemes in the Netherlands and Luxembourg operating on the notion of a Europe-based pension scheme have had some limited success. But there is still not an internationally known, trusted and usable model to serve as a prototype for a scheme that would allow country-hopping expats to pool funds into one pension plan.

Why expats face pension problems

The difficulty can be found in the word "expatriate" — someone who has left their country of origin.

While in a foreign country, the expatriate is not automatically officially entitled to the same status or similar benefits as a native. They are, however, still subject to its laws.

This problem gets even worse because many expats live and work in several different countries over a period of time. And often they don't know when they will be going back home.

In this case, it is difficult for expats to continue to keep authorities in their home countries happy by ensuring their papers are in order. After all, it's often unclear just to whom they should pay tax.

Ultimately, it's Hobson's Choice. By not declaring their earnings to the tax authorities of their host country, the expat is then committing the criminal offence of tax evasion. However, by declaring earnings to authorities in each country they have worked in, they run a high risk of being obliged by the law of each country to pay tax on these earnings. They could be left with next to nothing.

There is nothing remotely resembling a global pension fund that would suit the needs of a country-hopping expat who would like to have their pension savings with them as they move country.

So, how can I save for retirement?

Really there are three options. First, silence — tax-evasion, guilt and a fear of getting caught, paying a high fine, possible imprisonment, as well as bureaucratic complications when returning home.

Second — they can subject themselves to taxation on their pension savings as they change country, as well as most likely experiencing severe administrative complications in accessing their money. It will also not be easy to appease each tax authority to ensure that they receive the tax on money earned in that country — many aren't sympathetic to the plight of a country-hopping expat professional.

Third — they realise that if every country levies tax on a pension fund (or indeed any fund which can later be invested as a pension fund) to some degree, then taxation is unavoidable. Therefore, were the expat to pool all funds into one area (which would provide them with a sophisticated international credit or debit card allowing them to access funds from an ATM in any country) then they would avoid multiple taxation and experience no bureaucratic procedures.

Push this concept a stage further and before long it makes perfect sense to suggest that if I, the expat, am going to have to pay tax, I may as well pay the lowest rate going.

And, as I am going to be travelling anyway and therefore not able to be in the same place as my pension savings (as it would risk multiple taxation and an administrative nightmare), it does not really make any difference if my funds are based in my home country or round the other side of the world, especially if these funds are offering low or even tax-free savings schemes.

Why offshore could be the answer

Welcome to the elusive but enticing world of offshore investment — a term most would associate with a James Bond world of sun-tanned gangsters in sharp suits.

The offshore industry developed in the 1970s as UK-based fund management firms established non-domestic fund management subsidiaries, originally aimed at expatriate non-tax paying investors. Within years they became widely used by companies and consumers in Latin America and the Middle East eager to secure their funds in the face of a politically or economically volatile location.

Today, offshore investment has become big business even in Europe, with countries such as Switzerland (famous for its secretive banking practices), Luxembourg (specialising in low-tax schemes for fixed income funds) and the Republic of Ireland (serving as a centre for equity funds) taking part.

Jersey - a case in point Jersey as an example, along with the other Channel Islands, is not part of the UK, and neither is it a sovereign state or colony. Instead it is a British Crown Dependency — a possession of the Crown to whom it owes allegiance as successor to the Dukes of Normandy. Although the British Government has ultimate responsibility for their defence and international relations, the Channel Islands have responsibility for their own internal affairs, which happens to include legislation covering taxation and company law. Jersey is not a member of the European Union, and as such is not necessarily obliged to comply with its various tax initiatives. And despite its close relationship with the UK, the Island remains excluded from most of the effects of Britain's accession to the EU, other than those concerning trade in goods. Moreover, Jersey's constitutional position in relation to Europe cannot be changed without the unanimous agreement of all EU member states. However, it seems unlikely that even this step could be taken, as the UK is of course a member state, and the UK never legislates anything regarding Jersey without prior consultation.

Meanwhile, many of the original "offshore financial centres" are based in locations with historical ties to Britain, such as the Isle of Man, Jersey, Guernsey, the British Virgin Islands, Gibraltar and Hong Kong.

While in practice the schemes are far less sexy than the James Bond image they invoke, they retain a certain mystique because they operate and wholly exploit legal loopholes, ultra-complex local legislation and a sense of independence born from a complicated and unconventional constitution.

Is it legal?

For all the apparent merits of offshore investment, what good is all of this if it is illegal or operating in murky areas of legislation to such an extent that it is impossible to place any confidence in those who are managing your money?

In a recent article on the CNBC online money channel, Jeff Schnepper was eager to stress that while the banks themselves might not quite be breaking the law, by using them and not declaring one's earnings, the investor certainly is.

He wrote: "If the income is earned offshore, how will the Inland Revenue Service ever find out about it?

The answer is that they probably won't.

"The problem with not reporting the income, of course, is that it's illegal. Yes, you can probably get away with it so long as you don't mind being a criminal."

Lyons reported that the IRS will be devoting "an intense and co-ordinated effort" to tracking down and prosecuting a wide range of abusive arrangements structured through illegal tax havens. The IRS is targeting offshore trusts, acknowledging "the majority of such trusts are illegal".

Jersey, for example, is no stranger to such accusations.

In summer 2000, along with neighbouring Guernsey, it was accused by the Organisation for Economic Co-operation and Development of employing "harmful tax competition" because they had refused to sign a letter committing themselves to abiding by the rules laid down on taxation by the organisation.

As a result, many offshore expatriate pension companies are now doing all they can to boost their links with or gain a stamp approval from the various financial monitoring bodies.

Under the watchdog's gaze

UK-based Perkins & Co, which deals among other areas in offshore pension schemes for expatriates, says on its company website it "will only recommend companies based in offshore locations which are subject to formal regulation by the government authorities in that location".

It also refers repeatedly to its approval by various monitoring bodies such as the Investors Compensation Scheme, its offer of protection via the UK Financial Services Act of 1986, and the customer's right to complain against the company via the Ombudsman of the Personal Investment Authority.

However, not all within the financial community share such a view.

Former independent financial adviser Michael Davey is from the quirky UK-based online financial magazine Informed Investor, which specialises in low-tax deals offshore. He also runs Bahamas-based Leadenhall Bank & Trust Company Ltd, and says such schemes should be exploited to the full, and potential investors should not be put off by fears of "shonky" or illegal scams.

"These locations are not 'tax havens' but rather offshore financial centres. You have to remember that the people that label such operations as corrupt tend to be big supposedly monitoring bodies that are themselves self-regulating.

"Therefore a stamp of approval, and things like the Financial Service Act of 1986, is a bit like saying you need a body guard after you have
been shot –it’s really of little value.

"These days people should understand that location is irrelevant in terms of financial trading, and people should be cynical of governments and supposedly legitimate laws.”

Davey refers to a "pensions crisis" in the UK, which he blames on finance minister Gordon Brown.

"This man just tore up the rule book by suddenly doing what he did with the nation’s pension money," he says. "No one expected it, and now everyone suffers.

"People have to be prepared, anything can happen in this life and especially in the world of finance, you should not trust anyone, but then it should not let it stop you making money where you want to.

"Just don't put all your eggs in one basket and that should make sure that if you do lose out, you wont be really stuck."

Some investments to consider

Investment bonds
An investment bond is basically a single premium investment into a contract provided by an assurance company. This contract can be either 'fixed term' or 'open', but the bonds are designed to be 'medium' to 'long-term', ie not made for 'short term' trading.

Bonds can be held by individuals, couples, trusts and incorporated bodies (companies). When combining life insurance and a trust deed, known as inheritance tax mitigation or 'estate planning', offshore investment bonds are often used in the area of inheritance tax mitigation or estate planning.

Via these bonds, investors can access one or several investment funds, which is a collective investment of gilts, shares and other tradable securities, managed by a fund manager and normally denominated in one currency.

A fund can be 'geographical', 'market' or 'risk' and other types include 'trackers' based to follow the performance of an individual stock market index. Also available are 'guaranteed' funds and 'with profits' funds.

Guaranteed income and/or growth bonds
Generally, the more guarantees, the lower the return. These bonds run for a fixed term of normally 1 to 10 years, and are aimed at investors wanting whole-term investment.

With-profits bonds
These are very secure bonds and good for use in time of stock market volatility.

They are somewhere between the security of a building society account and the risk of a direct stock market investments. The investment is entered into a pooled fund which itself invests directly into shares, stocks, property, cash and gilts, meaning that investors are protected from the inevitable varying in the value of these holdings.

The fund achieves a certain return each year, with a proportion of the growth paid as an annual bonus, some set aside as a terminal (loyalty) bonus and the balance paid into a reserve account. If the fund does not perform well then money from the reserve account is then drawn from. Basically this means the invested money only moves upwards as the capital cannot fall in value.

Other investment bonds
A 'managed portfolio bond' allows large investment in many funds, including "external" funds.

The bees-knees of investment bonding is 'personal portfolio' bond, allowing investment into any tradable security such as stocks, funds and shares from almost any country.

Bonds tend to start at around EUR 15,000 (GBP 10,000/USD 15,000). Savings plans start at EUR 150 (GBP 100/USD 150) per month. Depending upon where your home is, you can bring the proceeds home in cash, leave the funds invested or convert the savings/investment plan into a 'qualifying' plan in your own country. Most of the savings plans allow you to reduce or stop contributions after an initial period, and also allow you to make ad hoc lump sum payments as low as EUR1.500 (GBP 1,000/USD 1,500).

Freelance journalist Rob Hyde is a regular contributor to Expatica. A British national who recently returned to the UK, he spent most of his youth living in different parts of England, France, Germany and Austria.