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The Daily Reckoning | Friday, May 11, 2012 Has China become the new Japan? Spain the new Greece? Swiss annuities...foreign real estate...international trusts, Plus, Bill Bonner on the failed war on drugs, the biggest rogue agent of them all and plenty more... ------------------------------------------------------ External Advertisement No Calculator Required This powerful branch of mathematics has revolutionized cancer research... earthquake prediction... cosmology... oil exploration... acid rain prevention... military strategy and many other fields. And now it’s showing my readers serious gains in one of the toughest markets on record. Take a look. You could be doing this, too. I’m making it easy — no calculators required. Joel Bowman, with a quick word from Buenos Aires, Argentina... Joel Bowman No time for meandering musings today, Fellow Reckoner. Your editor is off to São Paulo, where he’ll join Jeffrey Tucker and a few other pro-market types at the III Conferência de Escola Austríaca, hosted by Instituto Ludwig von Mises Brasil. We’ll let you know how it goes. In the meantime, Terry Coxen returns today to round out his essay on how to cover your assets...or at least mitigate the extent to which they are plundered by the government. Today’s installment covers Swiss annuities, foreign real estate, international trusts and more. Please enjoy... Dozens of Congressmen have used “inside information” to make a fortune on stocks... But did you know that there’s another way Congressmen pile up personal wealth while they’re in office? Senator John Kerry did this recently and took home at least $92,723. But what’s really surprising is that you and I can use this “trick” as well. Learn about the full story here. The Daily Reckoning Presents Protecting Your Assets from an Out-of-Control Government, Part II Terry Coxon “Stay at home is still the norm for Americans,” I observed in yesterday’sDaily Reckoning. “but it’s a norm that is slowly fading. Every billion-dollar tick of the government debt clock, every expansion of the government’s regulatory apparatus, every overreaching judicial decision made in the name of a compelling public need,...every intellectually tortured discovery of a new meaning in the Constitution’s 4,400 old words leaves a few thousand more people wondering how prudent it is to consign all their eggs to a single national basket. “Most Americans still have yet to stick a single financial toe across the border,” I explained, “but more and more are considering it...Because internationalizing your financial life means dealing with the unfamiliar, the project can seem more complex than it really is, so it’s best to start with the simplest measures, even if by themselves they don’t give you all the safety you’re looking for. Even from a simple beginning, what you learn with each step will make the next step easier to plan. Start with the first rung on the ladder of internationalization. Then climb, at your own speed, to reach the right level of protection.” Yesterday I described the first three rungs of this ladder. Today, I present the rest... Rung 4: A Swiss Annuity A conventional annuity contract is a device for accumulating investment returns and eventually converting the value into a lifetime income. The investment return on an annuity from a US insurance company is tax deferred until it is paid out to you. If you buy an annuity from a foreign company, tax deferral is available only if the annuity’s value is tied to the performance of a pool of investments (a variable annuity). Swiss annuities have long held a special place in personal financial planning. Such an annuity is denominated in Swiss francs, i.e., it’s francs, not dollars, that are owed to you. The Swiss insurance industry has a perfect record; policyholders have never been hurt by a default. And a Swiss annuity comes with an element of protection from would-be lawsuit creditors. The Swiss franc is, like every other modern-day currency, just a piece of paper. It’s not redeemable for anything, not even a piece of chocolate. But the Swiss National Bank has a remarkable record of restraint in issuing new francs, which means that the franc’s prospects for holding its value have long been rated better than for any other currency. I believe that is still the case, despite the Swiss National Bank’s current policy of suppressing any further increase in the price of the franc. In September, in order to save export industries from being crushed by the franc’s rapid appreciation against other currencies, the Swiss National Bank announced that it would purchase euros without limit to enforce a minimum exchange rate of 1.2 francs per euro — which implies printing enough francs to pay for those euros. By itself, it is an inflationary move, but it’s not a suicide pact with the European Central Bank (the issuing authority for euros). If the ECB turns to a policy of rapid inflation, I would expect the Swiss National Bank at some point to decouple the franc from the euro and let the franc’s price rise. So owning some Swiss francs, whether directly or through an annuity, is still a good step toward internationalizing your financial life. Under Swiss law, an annuity is protected from the owner’s creditors if the beneficiaries consist of family members or if the owner has made a beneficiary designation that is irrevocable. For an owner in the US, that protection is not an impenetrable barrier to the winner of a lawsuit, but it is a barrier, and it makes the annuity a less- than-ideal prize for an attacker. Earnings that are accumulating in a Swiss annuity are not eligible for tax deferral for a US taxpayer. The advantages are currency protection, the reliability of Swiss insurance companies and a measure of asset protection. Rung 5: Foreign Real Estate Owning real estate in another country gives you a suite of protections that distinguishes it from other steps toward internationalization. First, the property’s value will depend on economic conditions in the country you’ve chosen, not on what happens in the US. If the economy of the foreign country grows and prospers, there is likely to be a spillover effect on the market value of your house, apartment, farm or patch of land — regardless of what is going on in the US. Second, a foreign real estate investment would be hard to digest for any future capital controls imposed by the US. New rules could compel you to repatriate the cash you have in a foreign bank; rules forcing you to liquidate your foreign real estate and bring the money home would be another matter. Selling real estate isn’t quick or easy. How does the government compel an unwilling citizen to do what an eager seller often finds difficult to accomplish? Third, as a potential prize for a lawsuit attacker, foreign real estate is a stinker. Even if he wins a judgment against you, foreclosing on your foreign property would be difficult to impossible, since it would require the cooperation of the courts in the foreign country, about whose rules and procedures the attacker’s attorney probably knows nothing. But he does know that even if he persuades a court in the US to order you to sell the property, the inherent illiquidity of real estate would give you plenty of opportunities for foot-dragging. Where to buy? The whole world is open to you... which can be a problem. So many possibilities and no obvious place to start. One approach is to think about where you’ve been that you’d like to visit again or about some place you’ve long wanted to see. Plan to spend a few weeks there. Minimize your hotel hours, to maximize your exposure to the rest of the locale. Try to meet Americans, perhaps expatriates, who know their way around the place and who can point you toward a real estate broker who won’t try to treat you as an out-of-town sucker. Buying foreign real estate isn’t for everyone. It requires a big investment in time and effort, but it could repay you with an asset that is low on the list of things anyone might try to take from you. Rung 6: A Foreign LLC for Investments A limited liability company organized under the laws of a foreign country is easy to set up and not too expensive. To bring the company into existence, you (or a service you hire) would file a simple form with a government office in the country you’ve chosen and pay a small fee. Then you as the LLC’s Manager and you as the LLC’s owner would enter into an agreement (the “operating agreement”) that would be the company’s governing instrument. As the LLC’s Manager, you would open a non-US bank account or brokerage account in the name of the LLC and transfer your personal cash and investments to that account. Again as Manager, you would make all the investment decisions. For a US person, a foreign LLC can be a powerful door-opener. It is welcome at many banks and brokerage firms where you personally would be turned away. This enables you to keep a wider range of assets outside the US, which puts more wealth beyond the reach of any arbitrary bureaucratic action. It also gives you investment choices that aren’t available at home. Access to foreign investments and overseas financial services is reason enough to consider using a foreign limited liability company. But it can do much more for you, although at the cost of some complexity. Notice the fundamental difference between a foreign LLC and what is going on at the first four rungs of the ladder of internationalization. With the LLC, you no longer personally own the assets you are trying to protect; the company owns them. This makes the LLC a powerful device for reducing your family’s expose to gift and estate taxes. And with the right provisions in the operating agreement, it can provide strong protection against loss to any malicious lawsuit. If you are the sole owner of a foreign LLC intended for holding investments, you can and almost certainly should file an election for the LLC to be treated as a disregarded entity (indistinguishable from you for income tax purposes). If your spouse or anyone else is going to share in ownership of the LLC, the company can and should elect to be treated as a partnership for income tax purposes. Rung 7: A Foreign LLC for Business A business that operates outside the US does even more than a portfolio of foreign investments to give you the benefits of internationalization. By its nature, a foreign business lives in a different environment than a business in the US. Economic troubles at home might not touch it. If it’s a business that depends on your personal efforts, it’s even less attractive as a lawsuit prize than foreign real estate. Being foreign, it would be outside the range of capital controls in the US. And many of the financial institutions that might turn away an investment-owning LLC because it is owned by an American will welcome an LLC that makes or sells goods or services. If you already have a business in the US that has foreign customers or foreign suppliers, you may be able to relocate the business’s non-US activities to a foreign LLC. Internet-based businesses are especially amenable to internationalization. Locating your business in a low-tax or no-tax jurisdiction, if it is practical to do so, can reduce your overall tax burden. In many cases, a foreign LLC that operates a business should elect to be treated as a foreign corporation for US income tax purposes. That can allow the business to reinvest its earnings while it pays little in current taxes and you personally pay nothing. Rung 8: An International Trust That You Establish Establishing a trust outside the US is the strongest internationalization step you can take for yourself and your family. Doing so costs more than any other measure, but the costs needn’t be prohibitive if your goal is to move $500,000 or more into the safest structure possible. What you achieve is a very high level of protection from aggressive lawsuits, from potential capital controls and from the possibility of a gold seizure. The trust also puts your wealth in a far better environment for income tax planning and for estate planning. To serve the purposes of protection and tax savings, an international trust is irrevocable (you can’t simply call the institution you’ve chosen as trustee and say you’ve changed your mind) and discretionary (meaning that the trustee has a responsibility to decide when to send a check to you or to any of the other beneficiaries you’ve included). Putting assets under the control of a trust company under such an arrangement is a big step. You’re not going to do it unless you’ve done the homework needed to understand how and why you can count on the trustee to handle the assets in the way you intend. Getting the protection and tax savings of an international trust doesn’t require you to give up management control of the assets. The trust can be limited to owning just one thing — an LLC that you manage. The LLC owns all the investments, under your supervision as LLC Manager. If you establish an international trust, it will be tied to you for income tax purposes. But at the end of your lifetime, it will completely disconnect from the US tax system. At that point, for the benefit of your survivors, it becomes... Rung 9: An International Trust Someone Else Established Being a beneficiary of an international trust established by someone other than a living US person is as good as it gets. It’s not linked to you by any transfers you’ve made to it, and you don’t have a determinable percentage interest in it (since it’s a discretionary trust). So until you actually receive a distribution, there is nothing for you to report, nothing for you to pay tax on and nothing a potential lawsuit creditor can hope to take from you. And, having no living connection to the US, the trust is as far beyond the orbit of any conceivable US gold seizure or currency controls as the former planet Pluto. One Toe over the Line It’s a long way from walking into the local coin shop and buying a few one-tenth-ounce gold Eagles to setting up a trust in a foreign country. But the distance isn’t nearly as great as you might imagine, and it will get shorter both in fact and in apprehension with each step you take. As you move up the ladder, you’ll learn about the reporting requirements for US taxpayers. Rung 1 (gold coins in your pocket) entails no reporting, nor does Rung 8 until you actually receive a distribution. Rung 5 (foreign real estate) also is free of reporting requirements, at least for now. But under rules in effect now or soon to come, everything else covered in this article entails filing a form with the US government. The most reliable way to make sure that you stay within the rules, so that internationalization adds to your safety and not to your problems, is to let your accountant know what you are doing. Keep him informed, so that he can see to it that all the reporting requirements are satisfied. Regards, Terry Coxon, for The Daily Reckoning P.S. Every day you delay beginning your internationalization strategy is another day your bank accounts are hemorrhaging. Learn how to protect yourself here. World oil production is about to be shaken to its core... You won’t believe which nation analysts at Wall Street’s biggest banks expect to become the world’s biggest energy producer by 2017 — or the effect it will have on America... our economy... our future... Click here to see who is set to become the new king of oil — and how you can use the news to go for big profits as early as this MAY! And now over to Bill Bonner who has the rest of today’s reckoning from Baltimore, Maryland... Rearranging the New World Order Bill Bonner The new Japan is China. It’s an export economy with too much capacity...like Japan in ’89. The new Greece is Spain. It’s got mortgage debt up the kazoo... The new Ireland is the old Ireland. Yes, Ireland is now exporting people again...at the fastest rate since the 19th century. Our old friend Jim Davidson says the new America is Brazil. But what happened to the old America? It’s the new Argentina. Whoa! What a topsy-turvy world! The US is going broke...and going rogue. Just like Argentina in the ’80s... First, here’s the story on China, from The New York Times: HONG KONG — China announced Thursday that growth in imports had unexpectedly come to a screeching halt in April — rising just 0.3 percent from the same period a year earlier, compared with expectations for an 11 percent increase. Businesses across the country appeared to lose much of their appetite for products as varied as iron ore and computer chips. China has been the largest single contributor to global economic growth in recent years, and a sustained slowdown in its economy could pose problems for many other countries. Particularly exposed are countries that export commodities like iron ore and oil and depend on demand from China’s voracious steel mills and ever-growing ranks of car owners. Exports, a cornerstone of China’s torrid economic growth over the past three decades, grew only 4.9 percent last month — half as fast as economists had expected. And a slump in new orders over the past month at the Canton Fair, China’s main marketplace for exporters and foreign buyers, suggests that overseas shipments by the world’s second-biggest economy, after that of the United States, may not recover quickly. Growth in other sectors appears to be slowing, too, particularly in real estate. Soufun Holdings, a Chinese real estate data provider, released figures Monday showing that residential land sales in the country’s 20 largest cities had fallen 92 percent last week from the week before, as declining prices for apartments have left developers short of cash and reluctant to start further projects. There are early signs of a credit crunch, at least among private sector companies. Many seem to be asking their suppliers for more time to pay debts and complaining of cash flow problems. Zhang Jinmei, the sales manager at Qitele Group, a company that makes playground equipment in the coastal city of Wenzhou, said that local investment and lending pools there were starting to charge higher interest rates for loans, a sign of worries about creditworthiness. “The business environment is getting tougher and tougher,” said Tom Zhang, the sales manager at Hebei Haihao High Pressure Flange and Pipe Fitting Group. “Competition is very intense to get more business — our domestic sales are down from last year, though our export sales are more or less stable.” And here’s the lowdown on the pain in Spain from Bloomberg: Spain is underestimating potential losses by its banks, ignoring the cost of souring residential mortgages, as it seeks to avoid an international rescue like the one Ireland needed to shore up its financial system. The government has asked lenders to increase provisions for bad debt by 54 billion euros ($70 billion) to 166 billion euros. That’s enough to cover losses of about 50 percent on loans to property developers and construction firms, according to the Bank of Spain. There wouldn’t be anything left for defaults on more than 1.4 trillion euros of home loans and corporate debt. The government, which came to power in December, announced yesterday that it will take control of Bankia with a 45 percent stake by converting 4.5 billion euros of preferred shares into ordinary stock. Spain’s home-loan defaults were 2.7 percent in December, according to the Spanish mortgage association. Taking those into account, banks would need to increase provisions by as much as five times what the government says, or 270 billion euros, according to estimates by the Centre for European Policy Studies, a Brussels-based research group. Plugging that hole would increase Spain’s public debt by almost 50 percent or force it to seek a bailout, following in the footsteps of Ireland, Greece and Portugal. Spain... is mired in a double-dip recession that has driven unemployment above 24 percent and government borrowing costs to the highest level since the country adopted the euro. Investors are concerned that the Mediterranean nation, Europe’s fifth-largest economy with a banking system six times bigger than Ireland’s, may be too big to save. In both countries, loans to real estate developers proved most toxic. Ireland funded a so-called bad bank to take much of that debt off lenders’ books, forcing writedowns of 58 percent. The government also required banks to raise capital to cover what was left behind, assuming expected losses of 7 percent for residential mortgages, 15 percent on the debt of small companies and 4 percent on that of larger corporations. And more thoughts... When an organization goes rogue it takes up a new mission, of its own choosing...often in cahoots with the enemy it was supposed to be fighting. You can see this phenomenon in many different places in many different activities. Poor African nations were supposed to be fighting poverty and hunger. But leaders found that losing the battle was more rewarding than winning it. Famine brought aid. And top-end Mercedes sales went up in the capital cities shortly after new aid programs were announced. Likewise, US cities such as Baltimore and Detroit largely destroyed their own middle class tax bases. So, they came to depend on federal aid programs with perverse incentives. The outside world saw city governments as corrupt and dysfunctional, but they were really responding, rationally, to the choices before them. The worse off you are the more money you get. They went rogue...because that’s where the money was. The clearest example of this phenomenon is the War on Drugs. The anti-drug warriors went rogue many years ago. They found common cause with drug dealers, both of them now work against the public’s interest. The drug fighters gain power and money by putting resources to work against the drug dealers. The drug dealers gain power and money thanks to the drug fighters who, like regulators, create high barriers to entry, keep out competition, push up prices, and protect the dealers’ profit margins. The drug dealers should thank the drug fighters. And here, one did: “I couldn’t have gotten so stinking rich without George Bush, George Bush Jr., Ronald Reagan, even El Presidente Obama, none of them have the cojones to stand up to all the big money that wants to keep this stuff illegal. From the bottom of my heart, I want to say, Gracias amigos, I owe my whole empire to you.” — Joaqin “El Chapo” Guzman, head of Mexico’s Sinaloa Cartel, as reported by a close confidant (via The Huffington Post) Colleague Justice Litle explains: The war on drugs — a war that America has lost — is an excellent example of why the world is so hard to change. Bad laws, bad ideas and bad arrangements persist by the will of stakeholders behind the scenes. It’s a “tragedy of the commons:” Costs are shouldered by the oblivious many, while profit concentrates in the hands of the few. There is no way the cartels could have prospered so mightily, for so long, without a symbiotic relationship between criminals, politicians, and the lobbying agents who love them both. If not for the long arm of the law — and the helping hand attached to it — El Chapo and his ilk would have been rubbed out by Fortune 500 corporations (via free competition in a regulated market) quite some time ago. “Whoever came up with this whole War on Drugs,” one of El Chapo’s lieutenants reports he said, “I would like to kiss him on the lips and shake his hand and buy him dinner with caviar and champagne. The War on Drugs is the greatest thing that ever happened to me, and the day they decide to end that war, will be a sad one for me and all of my closest friends. And if you don’t believe me, ask those guys whose heads showed up in the ice chests.” But the biggest rogue of all is the only one that still retains the faith and respect of the people — the US military. That alone is remarkable, considering that the Pentagon has a record of failure that stretches back over the last 60 years. In Korea, it accepted a draw. In Vietnam, it withdrew, shamefully. In Iraq, we replaced one corrupt government with another, probably just as corrupt and incompetent too. In Afghanistan, it is ready to get out...leaving the country in the hands of its enemies. Still, instead of sending military personnel to the back of the bus, the airlines board them along with the first class passengers and even move them up to business class if there are seats available. Mother Teresa can stay in economy! Additional “investments” in security have been arguably the least productive use of capital in American history. From an outsider’s perspective, it looks like the US military was suckered into spectacularly bad outlays in Iraq and Afghanistan. The New York Times reported as follows: Al Qaeda spent roughly half a million dollars to destroy the World Trade Center and cripple the Pentagon. What has been the cost to the US? In a survey of estimates by the New York Times, the answer [is] $3.3 trillion or about $7 million for every dollar Al Qaeda spent planning and executing the attacks. The insiders knew better. The Pentagon has gone rogue. It no longer protects the US from war; it causes wars. It no longer seeks to win wars; it wants them to go on forever. It no longer avoids wasting US resources; it sucks up all it can get. Like drug fighters and poverty fighters, the fighters in the military were happy to have an enemy...especially one that couldn’t do them any real harm. Where does this lead? How does it progress? Stay tuned... Regards, Bill Bonner, for The Daily Reckoning