Investing while living in Germany, Yes you can!
Germany has a strong investment culture, with products ranging from the excellent to the downright dubious; so much so that an investment here should be seen as an entrepreneurial exercise with 'investor beware' as a constant and very serious watchword.
It is often useful to use a 'platform' to administer German investments. Investors always retain the ownership of their assets, but the collection of dividends and payments from stocks, bonds and funds is automated and efficient. Above all, the annual costs of using a platform are low.
US citizens can invest in stocks, bonds and funds as long as they do so via a platform that is willing to make the necessary income reports to the IRS. Most German organisations refuse to do this, being wary of the penalties for making an error or omission. There are however enough professional platforms available to US investors residing in Germany to be able to make a considered selection.
Seeking advice on investments
The tradition in Germany has long been to buy financial products from one of the very many banks here. An investor must be aware of the risks involved in using this source of advice and product. The German commercial and savings banking system is an efficient sales machine, lacking the strong controls or serious supervision from central authorities and happily unencumbered by any but the most minimal consumer protection laws.
Those bank employees with direct customer contact are often judged for the furtherance of their careers by their ability to sell their employers' financial products. Banks have mainly their own and a small selection of other products available for sale to customers; in our experience of unwinding unsuitable investments, these products are placed with clients with scant regard paid to their suitability. It should also be remembered that banks can afford better and more expensive attorneys than most of their customers and the enforcement of investors' rights could be a long drawn out and expensive process.
Very often, depending on an individual's credit worthiness, a bank will suggest extending a loan to allow an increase in the investment in that bank's fund products. Unless a desire for risk lies prominently in mind of an investor, such leveraging should be resisted, as any losses are directly for the client's account and a leveraged position loses money at a much faster rate than simply using available funds.
Some investment advisors are biased, whether legally or emotionally, to the products of a single fund company (or KAG). The emotion all too often has a direct correlation with the level of front end fees paid to the agent. This is fine if an investor knows precisely which stocks, bonds or funds they want to invest in, but is less useful when seeking independent advice. Investor and consumer protection legislation is less advanced in Germany than in many other countries; the result is that an investor can receive assurances that stand little or no chance of becoming reality.
Independent advisors undertake their own analyses of an investor's ability and willingness to take risks, as well as using quantitative and qualitative methods to find the most suitable investments. They will provide an investment concept based on matching the clients' needs with suitable investment products and will give this report in writing for the investor to consider. We strongly recommend that if an investment advisor is unwilling to commit their thoughts to paper by providing such a written concept, a potential investor should look elsewhere.
Beware of popular products with names such as Riester, Rürup or Basis-Rente, which are all too often sold as tax saving vehicles, but are in reality long-term pension products, offering no access to invested funds until you reach the age of 60. If a foreign investor leaves Germany, the funds have to be left behind to accumulate until they mature and will then be paid out only as a life-time annuity.
Investment products to consider
There is a risk ladder which offers broad guidance on investment products for investors of different temperaments; the investment markets should only be used by longer term investors and a time horizon of less than 3 years runs the risk of falling between adverse market cycles. There is no good reason to risk capital losses within a short investment time horizon.
From the least risky to the most adventurous:
- Cash savings plan / Bank deposit with a bank covered by the government guarantee scheme
- Guaranteed pension plan or deposit with an insurance company
- Investment or mutual funds - ranging from Risk Category 1 (the least risky) to 5 (potentially a wild ride)
- Closed-ended funds, (Geschlossene Fonds) with a finite maturity date and all too often a distinct entrepreneurial risk*
- Direct investments in Government subsidised long-term projects
- Investment in residential property
- Zertifikate - certificates or instruments using derivatives to reflect movements in indices or markets
- Hedge funds / Private Equity investments
*Recent changes in German law require an investor to receive an up to date prospectus, which sets out the risks and opportunities of the fund; the potential investor should normally be asked to sign a declaration that the prospectus has been received, read and the risks understood. All prospectuses have to be approved by the German authorities (BaFin) as far as the structure of their contents is concerned. This has ABSOLUTELY NO reflection on the viability of the fund or the chances of it meeting any of its financial goals.
Successive governments have worked hard to close the loop-holes that their predecessors might have thought a good idea. Sometimes the volte-face can be retroactive, which causes consternation, but normally there is fair warning of impending changes. Many tax laws have not been as carefully drafted as one might have hoped, with the result that the courts rather than the government end up as the final arbiter of what was intended, and tax laws being newly interpreted.
On 01 January 2009, Germany introduced a 25% investment tax which encompasses all capital gains and income from investments entered into after that date. The change was preceded by a fanfare of new products, but in the end came at the same time as the worst economic crisis in living memory, resulting in a muted response from investors whose portfolio values had fallen so far that it would be some time before a capital gain could become a meaningful prospect. All new investments will however be subject to the new tax structure.
There is an annual 801 Euro (1602 Euros for a married couple) tax allowance on income stemming from interest and investments; this can be divided up between institutions, but the tax authorities seriously object to any attempt at exceeding the overall allowance and the punishments can be painful and are well worth avoiding.
There are some, though very few, exceptions to the general dearth of tax sparing schemes. For instance double taxation agreements between Germany and several other countries, resulting in potentially useful tax allowances or an investment in property. It is important that all foreign investors considering an investment in any German investment market should consult a tax specialist before making a decision.
A tax consultant in Germany, ever mindful of their potential professional liability, will not normally give an opinion on the economic viability of a project, but will give a confirmation (or denial if necessary), of the stated tax implications of an investment.
Basic principles of investing in Germany
- Treat all complex schemes using multiple products with suspicion; they are rarely designed to be in the best interests of the investor.
- There are no rules governing the promise of abnormally high returns to potential investors; if an investment scheme sounds too good to be true, it probably is.
- Beware of imprecise claims regarding the returns from an investment. The magic words 'Chance auf', all too often followed by a very high percentage yield, are almost always based on an improbable combination of events; if the goals are indeed ever achieved, it is probably due more to accident than design.
- Without regard to your own political views, it pays to be financially conservative.
- Always consult an independent advisor and insist on receiving a copy of all documentation, including a record and risk analysis of your needs and wishes, an up to date prospectus and any application forms. You will need these in case of a dispute.
- Investors have a two week cooling-off period after the signing of an application form. This is your right, you should be aware of it and use it if you feel even remotely uncomfortable with a suggested investment.
- Always spread your investment risks, ideally never having more than 10% of your portfolio with any one fund or strategy, irrespective of the product.
- Guarantees are only as good as the company that issues them.
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John Townsend advises clients on their investment portfolios for Matz-Townsend Finanzplanung. He is a Fellow of the Chartered Institute for Securities and Investment in London.