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Flag Theory

Flags from all around the world behind a box showing the 5 flag diversification theory

Understanding The Flag Theory and 5 Flags Approach

In the face of the kinds of market, economic, and political uncertainties the world is currently presenting, the key to protecting yourself, your family, and your assets is diversification, and the only way to truly diversify yourself is through planting flags.

There are five basic things we recommend you consider accomplishing to safeguard yourself and your assets against inevitable complications. These are traditionally referred to as the Flag Theory or the Five Flags approach.

Perhaps the most important thing to understand about this offshore world for anyone looking to move themselves or their assets offshore is that it’s forever changing. Tax laws and treaties, residency visa requirements, opportunities for obtaining second citizenship, documentation required to open a bank account, as well as the political situations, the values of local currency, and the ease of coming and going from other parts of the world—all these things change all the time

The key to surviving and prospering in the current global climate is to internationalize your life, using the Five Flags strategy to diversify globally.

What Are The 5 Flags?

If you’re new to the idea, the Five Flags are to do with residency, citizenship, banking, assets, and business. Some have recently added a sixth flag—cyberspace, but we leave this off our own list.

Not everyone needs all five flags planted, but the goal should be to plant whichever ones you do need in different jurisdictions. Moving to another country and taking all your cash, investments, and business activities with you to that new country doesn’t achieve the real goal of going offshore.

Fortunately, different countries shine for different reasons. Some are better for banking, others for investing, some for residency, and yet others as places to incorporate your business. No country gets “A” ratings on all fronts, but some get closer than others.

These flags are simply reference points, and several overlap. Residency and citizenship are related, banking and assets are related, business and banking are related, business and cyberspace can be related. But that’s not the point.

The point is that understand the Flag Theory and taking this Five Flags approach allows you to create an outline you can use to simplify the very big-picture concept of internationalizing your life. The process of planting your flags is the process of choosing which country (or countries) works best for you, flag by flag.

Flag #1: Plant Another Banking Flag

Offshore banks are available in dozens of jurisdictions. Most people take the approach of trying to choose the “best” offshore banking jurisdiction, but the reality is that the “best” depends on the person and the goals. More important, you shouldn’t just find one bank in one jurisdiction and call it a day.

The real problem in the current climate is that banks and even whole jurisdictions worldwide are closing accounts owned by Americans. In many cases, the banks are providing no explanation or ridiculous ones for the abrupt closures. We know of several Americans personally who have had accounts closed in different places and been presented with a check from the bank where they had been holding money (in some case, for many years). These people have ended up with a local check, maybe for a considerable amount of money, which may or may not be able to be deposited in a bank in another country.

As recently as a few years ago, we never would have predicted this kind of conundrum, but it’s part of the current reality of banking around the world, especially for the American. And it’s the kind of situation that you need to protect yourself from by internationalizing your life.

One thing to take away from this is that you need to open a bank account when you can. Don’t hesitate or put it off. The window for opening an account at certain banks can close, sometimes overnight. Another thing you must consider is that you need at least two bank accounts offshore in case one bank decides it doesn’t like the color of your passport anymore. Two accounts are particularly essential if you have a company account offshore. You don’t want to be left scrambling to open new company accounts so you can deposit checks before they expire. That’s not a position you ever want to be in.

Places to consider opening a bank account right now depend on your intended use of the account. But, generally, Belize, Andorra, Uruguay, Panama, Singapore, and Hong Kong are the top banking havens in our post-FATCA world.

Learn more about offshore banking.

Flag #2: Organize A Backup Residency

Maybe you’re not ready to move to another country just yet, but you recognize the benefits of planting a residency flag somewhere offshore. Residency rules can and do change as quickly and as often as banking rules, so, as with banking, our strong recommendation is that you take steps toward establishing a backup residency in another country as soon as you are able to. Don’t wait until you think you need it. Getting the documentation together to apply for residency in another country can take weeks or even months. In that time, the rules can change.

It’s not that residency or citizenship rules change often in any single country. However, when they do change, they change quickly, typically within a few months. That leaves you with little time to take action to get in under existing rules, as you may have been intending.

Top residency options right now include Panama, Colombia, Latvia, Uruguay, Ecuador, Malaysia, and the Dominican Republic.

One important thing to consider before establishing residency in another country is the tax consequences.

Example: Colombia taxes residents on their worldwide income after five years of residency and this country imposes a wealth tax (that you may or may not qualify for, as the tax kicks in at around US$1.7 million at current exchange rates). Establishing a backup residency in Colombia may not make sense, therefore, unless you plan to spend a lot of time in Colombia anyway.

Flag #3: Seek Second Citizenship

An offshore plan could (and often should) include plans for a second passport. Many people think that a second passport doesn’t apply to them, that there would be no direct benefit for them. However, we’d say that a second passport is an important part of diversifying your life internationally, no matter who you are.

At the most practical level, a second citizenship is useful for travel. The EU isn’t the only economic community in the world. You also have Mercosur in South America, for example, whose member nations include Argentina, Brazil, Uruguay, Venezuela, and Paraguay. While Mercosur is fundamentally an economic treaty, holding a passport for a Mercosur member country simplifies travel to, from, and among other Mercosur countries.

CARICOM is a group of Caribbean nations where you can travel around more easily if you come from (that is, hold a passport from) a member country. ASEAN is a similar group in Asia, and others exist in other regions of the world. These groups are smaller and less organized than the EU, but so was the EU smaller and less organized at one time. The primary objective for all these groups is to facilitate trade, but, again, holding a passport in one means much easier travel among the others.

It can also mean residency and work options. This is the case and the serious benefit of holding an EU passport. Being a passport-carrying member of any EU nation means you can live or work not only in that nation but in any other EU nation, as well, with no application or permit process required. That’s a big deal.

Again, having the right to live or work in another country is an enormous benefit. Maybe it’s not one you imagine yourself taking advantage of right now…but who knows where life leads you 5 or 7 or 10 years down the road?

Unless you’re eligible for a second passport through ancestry, it takes either a lot of time (a minimum of 3 years and up to 10 or even 20, depending on the country) or a lot of money (typically hundreds of thousands of dollars) to obtain a second passport. You want to start the process when you can so that you’ve got that backup plan in your back pocket when you need it.

Another benefit of holding a second passport is visa-free travel. This is becoming an increasingly big deal for Americans. As the United States continues to make it more difficult for citizens of many other nations to visit that country…those other nations are reciprocating.

The final reason to get a second passport is if you want to give up your current citizenship. You can’t be stateless. If you’re considering formal expatriation, the first step is to acquire a second passport. Without that, Uncle Sam isn’t going to let you renounce.

We recommend connecting your backup residency to this agenda if possible—that is, consider establishing residency in a country where it can lead to naturalization. In that context, pay attention to how long it takes to qualify for citizenship in any country where you’re considering residency, as well as the likelihood of being approved for citizenship. While the tail shouldn’t wag the dog (that is to say, don’t choose a country for residency solely based on its timeline to naturalization), you don’t want to end up in a country where you can’t get naturalized according to an acceptable timeline if that is your goal.

Flag #4: Protect Your Assets

Simply put, asset protection means protecting what is yours. Many people tell you how to increase your wealth. Asset protection is the opposite side of the coin. It is a defense—it is protecting what you already have.

Some people are so focused on making more and more money…and they aren’t focusing on protecting what they already have, so they are like a big sieve—they have stuff running in the top and it is running just as fast out the bottom—so they never really get anywhere.

Asset protection is different for everybody. Some people put all their assets into a home in Florida or Texas, which are good states for protecting your homes. Or asset protection could be a partnership. It could be an international trust. You could get a second citizenship, foreign residency, or generational insurance products… But for some folks, it is as simple as taking your teenage daughter’s credit card away from her.

Asset protection is not a scheme to evade taxes. Many people think that when you are in the international or offshore arena that you can take liberties with the reporting of income and the taxes that you pay, but this is not what it is about, unless you like an orange jump suit.

But if you can legally defer and minimize your taxes, then, certainly, why would you not do that.

An offshore asset protection trust is considered by many experts to be the strongest asset protection vehicle available when done right. When done wrong (that is, for purposes of evading taxes) it’s fraught with risk.

Flag #5: Overseas Business Incorporation

The key to maximizing the tax benefits of incorporating offshore is to retain profits over and above the Foreign Earned Income Exclusion (FEIE) in your offshore corporation. This allows you to accumulate (in effect) unlimited amounts of tax-deferred dollars in your company.

Anyone operating a business outside the United States should be using an offshore corporation.

Anyone operating a business outside the United States should be using an offshore corporation. Operating a small business through an offshore corporation allows you to draw a salary of up to the FEIE amount (which is US$101,300 for 2016). The offshore corporation also eliminates payroll or self-employment taxes, saving about 15% in most cases.

In order for a simple offshore corporation to defter U.S. tax on business profits, you must have a profitable active business offshore and retain profits in the corporate bank account.

If you are an American who might generate significant profits in your international business, you should begin with the proper structure…and that structure should be created by a tax advisor with experience both in the United States and overseas.

The basics are these: You must use a corporation (not an LLC, foundation, partnership, or other pass-through entity) that is incorporated in a country that will not tax your profits. It does not matter where you live or where you operate your business (unless you provide professional services). You should also incorporate in a tax-free jurisdiction such as Belize, Panama, or Nevis.

Good options for incorporating your business include Panama, Singapore, and Nevis.

So, Where Is The Right Place To Plant Your Flags?

As we mentioned, no one place will get a perfect score on all counts. And even if it did, moving yourself and all your assets to a singular overseas jurisdiction does not diversify yourself any more than keeping everything in the United States would. It would defeat the purpose of the strategy to plant more than a couple flags in the same country.

Example: Panama offers good choices related to nearly all the Five Flag agendas, but you still probably don’t want to plant all your flags there. Choose one or maybe two to base in this country and then look to other jurisdictions for the others

If you’re just getting started at this, here’s the most important thing to understand: This doesn’t have to be as complicated as you may fear.

The upsides to spreading your time and your money across multiple borders are more relevant and more important right now than they’ve been in our history. The good news, though, is that going offshore is also more easily managed right now than ever. The Five Flags strategy is not literal. You may not need (or want) five flags. Maybe you need only two or three… or perhaps your circumstances require six or seven.

Each flag is a different piece of your life puzzle.

Of course, conceiving of a personal strategy on which jurisdictions are best for you is more complicated than just picking countries for each flag. Still, this list will get you started.

Furthermore, internationalizing your life as we’re describing isn’t something you can do overnight. The first step is to educate yourself on the options available to you so that you can determine which ones best fit your needs. Your plan will evolve as you learn more and as your needs evolve. The process of internationalizing your life is an ongoing effort.