Why do the roboadvisors not invest in tax efficient ETFs domiciled in Ireland, UK? - Seedly

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Asked by Anonymous

Asked on 07 May 2019

Why do the roboadvisors not invest in tax efficient ETFs domiciled in Ireland, UK?

Investing in low cost S&P500 or global ETFs is a great idea, but why do the roboadvisors invest in the ETFs domiciled in the US, which is not tax efficient for Singapore investors.

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Samuel Rhee
Samuel Rhee, Chief Investment Officer at Endowus
Level 4. Prodigy
Updated on 24 May 2019

Dear Anonymous,

This is a great question and Endowus has reviewed the pros and cons of accessing various products and we believe that the most efficient way to access certain asset classes or funds is through a third option - Irish UCITS Funds(Unit trusts). I have seen many comparisons but nobody has really delved into the key issues in detail. Because they normally compare the US ETFs vs Irish UCITS ETFs or UCITS ETFs vs UCITS funds. I will review the pros and cons of the respective fund vehicles below;

  1. US ETFs on the surface look good as they have lower fees and have narrow bid-ask spreads but this is more than offset by the huge witholding tax that it is subject to (For example, if dividends are 3% then you will be charged 1% which dwarfs any benefits of lower fees/narrow bid ask spreads). Recouping taxes is notoriously difficult as the money is co-mingled (meaning the dollar invested is not in your name and the tax refund is not specific to you) - you only get partial refund and you have to wait a long time after the money has been deducted to get a refund and God forbid you take your money out from the platform before the refund comes through as you may never get it back.
  2. Irish UCITS ETFs simply solves the tax issue but on the other hand you have less choice in terms of ETFs, the bid-ask spread is quite wide as liquidity is poor, and finally the fees are higher as they tend to be smaller in scale and scale vs cost is directly and inversely correlated. However, you can bypass the bid-ask spread issue by accessing them through market makers at a small fee at NAV (this is the actual price/value of the fund = and please remember ETFs are funds as well but they are just listed to provide intraday liquidity and readily tradeable. This is a key point I elaborate on later).
  3. UCITS Funds. Apart from the fact that these funds are tax-efficient like the UCITS ETFs, they also have no bid-ask spread. NONE AT ALL. This is because you can buy/sell it at the actual NAV. Even US ETFs have bid-ask spreads and some US ETFs are very wide at times. The whole point of ETFs and the reason they have bid-ask spreads is because it is exchange traded. If we trade US or UCITS ETFs from Singapore then we normally trade only once a day so it defeats the whole purpose of using ETFs which is supposed to provide live intraday liquidity. They trade once a day and provide liquidity once a day. So there is no benefit to ETFs other than the other factors focused on cost, which on balance including tax and FX risk, they lose out on. We are not taking advantage of the most important aspect of why ETFs exist.

Furthermore, for UCITS funds, because you are buying at NAV at daily liquidity there is no additional cost of transaction and no need to inefficiently fractionalize shares(llike ETFs) as you can invest to the cent at NAV price. Finally, these funds have a broader choice than UCITS ETFs and they tend to be at scale much cheaper in terms of total costs.

There is also another important factor that many people don't discuss as much as taxes, and that is the impact of FX on risk and returns. We pursposefully build and access UCITS funds denominated in SGD or Singapore dollar hedged products in the case of fixed income products. Whereas you are taking FX risk with US or other ETFs, which involves additional costs. This is a big additional benefit to accessing the products through Irish UCITS fund structures.

So if you combine all of that, UCITS Funds from the likes of PIMCO and Dimensional that Endowus uses, are in fact the most cost-efficient, tax-efficient vehicles and removes completely any FX risk. Thereby allowing you to invest your Singapore dollar savings as a Singapore based investors with peace of mind. Thank you!

Yours Sincerely,

Sam

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Amanda Ong
Amanda Ong, Head Of Client Engagement & Pr at Stashaway
Level 3. Wonderkid
Updated on 17 May 2019

Hi there,

That is a really good question!

All dividends of US-listed securities are subject to 30% dividend withholding tax (WHT). They apply to US listed assets whether they were bought through StashAway or via a broker. The WHT is held at source and the rest of the dividends are redistributed back to your portfolio(s) and reinvested automatically.

Under the QII (Qualified Interest Income) rule, some of the dividend WHT from US domiciled funds can be claimed back. At StashAway, our broker Saxo will do this on your behalf. We will do this once a year, and will notify you via email if you have any claimable WHT, which would be redistributed to your portfolio and automatically reinvested. We reimbursed clients their WHT refund for the year 2017 in October of 2018 and will do so again this year. The process is simple, we (Saxo and us) do the processing, you get the email. Every client will get the refund that they are entitled to. This is the case even if you closed your account. We will still send you an email (and if your account is not closed a push notification as well) to inform you of the refund. You can contact our support team via WhatsApp, email, Facebook or by calling us and we will manully withdraw it for you.

For more details, you may like to view the Dec 2017 iShares report on QII ETFs. Some examples of QII ETFs that StashAway invests in are 20+ Year Treasury Bond (TLT) and 10-20 Year Treasury Bond (TLH).

Our investment team has given serious consideration to the 30% WHT and have considered other exchanges that have lower or no withholding tax. However, at the end of the day, we have decided to stay with US-listed securities despite the tax implications due to the its deep liquidity, reputable fund management and most importantly, the lower tracking error. If you'd interested to see a comparison between US-listed securities and foreign securities, here is an article that presents its case.

I have also shared our returns here, and I think it illustrates our point that despite the withholding tax, the pros do outweigh.

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Tai Zhi
Tai Zhi
Level 4. Prodigy
Updated on 07 Jun 2019

Dividends and bond coupons will be subject to a 30% U.S. federal withholding tax in line with tax regulations of the U.S. Internal Revenue Service. Nevertheless, ETFs listed in the U.S. are still preferred over ETFs listed in other countries like the U.K. after taking into consideration factors including liquidity, bid-ask spread, expense ratio, ETF fund size amongst other factors.

AutoWealth works with our partnering custodian to seek partial reimbursement of the withholding taxes from the U.S. Internal Revenue Service, where applicable.

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Wilson Nid A Break
Wilson Nid A Break

09 May 2019

Hi mate, "if applicable" usually refer to what kind of specific scenarios? Has the partial reimbursement of withholding taxes happened before since the inception of Autowealth? many thanks
Tai Zhi
Tai Zhi

11 May 2019

Hi Wilson, coupons from government bonds are applicable for this reimbursement. We have reimbursed clients in Sep 2018 for FY2017. We will continue to work with the custodian to claim this reimbursement for the FY2018 period.