A Whole New World
You’ve become an expat or you’ve taken a job overseas and moved away from your home country. You’re experiencing lots of change, new things, new places, doing things differently and a new culture. Unfortunately, you still need to deal with the mundane stuff and this list may have only got longer. This is because some things some we take for granted such as pension and healthcare now become our responsibility.
The additional financial responsibility is mundane for most people, it is more complex and there are new things to learn. As an expat new tax-free offshore jurisdictions are now more available (not US citizens) which can complicate matters further. Tax efficient domestic investments such as ISA, personal/company pensions or superannuation, may now provide us with limited or no access.
These changes plus a possible increase in disposable income make you feel like it’s time to do something. Whilst you know that you need to take action you have no idea what you should do. So you may decide to say yes to a few meetings the financial advisers that always call you.
Unfortunately, this is where your issues can start. Please don’t misunderstand us there are good financial advisers out there as there are bad ones. The real problem is the products that they have available to them.
After an adviser conducts their review they will make recommendations for you. If you have regular savings requirements such as pension provision or education fee savings there’s a 95% chance they’ll offer you an offshore life policy.
During the mid to late 80s, UK regulators chose to make these products effectively illegal. In fact, it is difficult to find them available in any place that has serious financial regulation. Yet the offshore life policy investment is still the staple of most expatriate financial advisers. The reason they’ve become extinct in developed markets is because they are expensive and offer very little value to investors.
Life insurance companies like these plans because they are highly profitable due to the layers of charges. Advisers like the offshore life policy because they pay 4.5% of every premium that you should make (whether you make them or not) as soon as you pay the first one. In addition, there is a further 1-2% renewal commission on every premium that you pay after the Initial Contribution Period (ICP) is complete.
It All adds Up
Next, we have the life companies’ charges, the policy fee a flat monthly charge of between $4.50 and $8. Then there is the admin charge which will range between 0.75%-1.5%per annum based on the value of the investment. This does not include the fees to recoup the commissions they pay to the advisers. Everything you pay in the ICP covers the adviser’s commission. In fact, the only reason for the ICP is to recover the commission expense paid after the initial premium receipt. On top of this, there are the fund charges which range from 0.5%-3% per annum based on fund value. Also, the insurance company often negotiates a trail commission from the fund managers which they keep. They say that it goes to offset charges on the offshore life policy, though we find this claim a little dubious.
Tricks of The Trade
Advisers make more money if they write a longer term offshore life policy so 20-25 years is the aim of the unscrupulous adviser. They will point out that this timeframe falls in line with your retirement or savings objectives. The big problem is you won’t make any more money, you’ll be lucky to make any at all. They justify this by saying that investors need discipline and the threat of surrender charges prevent them from stopping saving. This isn’t true and what it fails to address is the uncertainty of expat life. How circumstances along with disposable income can fluctuate. Also, if you can’t afford to make contributions to your offshore life policy then you don’t want to incur a penalty. Which makes this kind of discipline most unwelcome.
You Need Some Discipline
Both the adviser and life company go to great lengths to explain how an offshore life policy is completely flexible. Once you’ve completed the ICP you can reduce or stop contributions at any time without penalty. To a certain extent, this is true, generally, there are no additional fees (some plans charge). Though remember you are going to pay 4.5% on every premium whether you make them or not! So, if you don’t make contributions or reduce the amount, what happens is that 4.5% goes up because it is based on what you were supposed to pay not what you actually pay. This means that to offset these fees you would need more growth.
For all the talk of the all-important discipline that we get from these plans. What you never hear is that the persistency rate for a 20-year savings plan is less than 5%. This means that for every 100 policies that are set up over 20-years less than five will reach maturity. Furthermore, the number of policies that pay all the premiums is significantly less.
Time For Change
Unfortunately, the life insurance companies don’t have a great record when it comes to driving change. I once had a conversation with a representative from a life company, who were looking to make changes to their product line. As a result, they had ended an extra allocation incentive that had been running for 10-years. It was a move to reduce demand for this particular type of policy. They were thinking of moving away from contractual regular savings plans and possibly introducing something a little more flexible. His comment was “Let’s be honest they should be illegal”. Six months later when they realised they weren’t going to meet their targets they reintroduced the promotion which is still running today 8 years later.
Regulators are starting to force change onto the life companies. For example, in Singapore life companies can only pay 50% of the commission upfront they pay the rest as premiums are paid. Hong Kong has moved to ban upfront commissions completely with payments being made to the adviser on an ongoing basis. Also, Dubai plans to do the same from 2017. Whilst this is a step in the right direction and will go some way to improve the flexibility for investors, the plans haven’t become any cheaper. Policyholders pay the same fees and advisers will receive the same commissions just not all upfront.
What’s Our Problem With The Offshore Life Policy
Don’t misunderstand us we’re not against life insurance (we think protection is a cornerstone of financial planning), just the investment accounts they offer. The sheer weight of ongoing charges levied on them mean that they significantly underperform other forms of investment. Investors become disenchanted with the lack of performance. Consequently, they stop making contributions to their plan even though there’s still 10+ years to maturity. This aggravates the situation as there are no ongoing contributions to offset the fees, Eventually, they decide to cash it in taking a big surrender penalty and a big loss. Unfortunately, this is an all too familiar story. A common complaint from the expatriate community one that regulators recognise from the number of complaints. Ultimately, they will reach the same conclusion that every other regulator has which is they should ban these products.
For more information on flexible & equitable solutions to your medium/long-term saving requirements whether it’s for retirement, education fees or wealth creation then please take a look at our Hallmark Account.