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WHERE CAN YOU AFFORD TO RETIRE TAX FREE?           WHY ARE SO MANY OF THE MIDDLE CLASS LEAVING THE US & EUROPE?

Our December 15, 2005 Newsletter:
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Readers write in with questions and comments about Social Security  - Dual Citizenship for Americans, China,  The Economy,  Tax Reporting Matters:
John Schroder - Author of The Ascot Advisory News Letter Bulletin and Numerous Expatriate  Articles
READERS WRITE IN:
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Hi John - As you noted, the US likes to tax worldwide income.  Therefore, unless you relinquish your US passport you are liable to pay taxes on worldwide income.  A second passport will not solve this problem.  You are proposing not reporting income, which is related to the second passport, and assuming it will not be discovered.  It sounds like you would be liable to run into trouble in this scenario.  What is your opinion?
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EDITORS REPLY:  Thank you for your letter and in fact this touches a number of other related issues as well.  Better explained, before I go into answering your question, the assumption among many people (politicians especially) is that expatriation or the idea of living in another country (or even seeking dual citizenship) is strictly about taxes.  One gentleman affiliated with the government in Washington, D.C. made the comment to me that expatriation was merely a political statement.  While it may true that some people have these motivations in mind, I find it goes much broader and much deeper than that.  Also, no one is moving to another country in order to make a political statement (or as an act of political protest), at least this is not my experience.  Instead, it is about survival (economic and otherwise), and what kind of life you want to possibly have going forward for yourself and your family.  Socialism, economics, debt, jobs (or lack of), poverty and the racial anger that goes with it, guns in the schools that graduate children who cannot read, crime, housing costs, inflation, medical care costs, education costs, bankrupt government social insurance programs, state government officials that take your children away because a neighbor watched you spank your own kids AND politicians that now tell you it is forbidden to mention the word Christmas in public - make up a long laundry list of issues.  If you think this is just or only about taxes, then you are kidding yourself and really that is the problem.  Taxes are not the entire problem, but rather the least of it all.
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In regards to the topic of obtaining a second citizenship and the comment concerning IF that in and of itself will automatically relinquish any tax liability to the previous or first country of citizenship - - you are 100-percent correct in your comments (that simply because you have a new second citizenship, that this does NOT alone relinquish all tax issues automatically as it relates to the first or previous citizenship).  Also, you are certainly correct in that the United States is one of the very few governments in the world that attempts or claims the right to tax its citizens (and now residents) to death regarding where they might be living or earning income.  There is an exemption in the case of a US citizen living abroad and earning salaried income, but even so only up to about US$86,000.  The US does claim the right to tax passive (investment) income worldwide regardless, which is NOT the case for other governments.  Europeans and Canadians have it a bit easier whereby these governments often will allow for a citizen to declare themselves non-resident (not living in the home country and with proof of legal residency elsewhere) for taxation purposes, which in my mind is much fairer.  However, do keep in mind that there are very legal and legitimate strategies for reducing or perhaps even eliminating taxable income regardless.  Having another passport simply makes it easier or less likely you will be turned away at the door (if you are a US citizen) when trying to set up banking or investment accounts abroad (as the both the IRS and State Department has done everything they can to make it difficult at the back end, meaning pressuring investment firms and banks to refuse US citizens). 
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On the issue of renouncing US citizenship, this of course is one option some clients have taken, but even so, the US (or the IRS more correctly) says that they claim the right to tax any citizen that they think might be renouncing for tax benefits for up to ten years after the date of renouncement.  In fact, this has been expanded to also NOW include legal residents of the US (Green Card Holders) who elect to discontinue residency in the US as well in terms of how they too are treated for tax issues.  Which is to say, if you are a citizen or simply a legal resident (someone that has NOT become a naturalized US citizen) then they are claiming the right to chase you for ten years for taxes after the fact, regardless.  A bit of lunacy if you ask me, and I have a number of clients who were US residents in the past that went back to the US State Department after two or three years of living and working in the US - and decided to tell them, thanks - but No Thanks.  Of course the people at the State Department flipped out, and wanted to know why anyone in their right mind would want to give up residency in the US (such a person must be mentally un-balanced - No?).  They just do not get it, and part of the reason why the worlds best and brightest no longer want to be bothered immigrating to the US anymore (when they have so many other more favorable options) but so be it (of course the Mexicans are still coming in droves, but not too many with advanced university degrees unfortunately).  On a side note, I have nothing against Mexicans, but it boggles the mind how a country such as the US with the supposed technology and resources cannot secure its own border, unless of course there is another agenda at work. 
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In any event, regardless of what your actual intent or motivations might be, they (IRS) have a litmus test in terms of net worth (among other things) that they claim to use in order to determine if they believe this is the case (that you are renouncing for tax issues and in turn that they have the right to chase you for ten more years).  Of course, the question of all this comes down if they really have any success with this (or not) regarding cooperation of other nations in this quest.  I mean, think about this for one moment.  A German Citizen, living and working in Boston for the last three years with legal residency status in the US decides to move back to Germany (or where ever) and formally declares this to the US State Department (that he or she is now giving up US residency, voluntarily).  The IRS in turn says, OK, but we have the right to NOW tax you on your income and investments for the next ten years simply because you were a resident for a period of time.  Come on - Do you honestly think the German Government is going to allow the collection of taxes for another foreign government in such a case (in regards to one its own citizens)?  Also, let us take the example of a US citizen that has acquired say dual British Citizenship as an example.  As a British Citizen, should this person decide to retire to Panama, Dominican Republic, Thailand or where ever, then in such a case the British Citizen can declare themselves non-resident in the UK for tax purposes.  As a US citizen, they cannot do this in regards to the US government and tax issues, which baits the question: Which citizenship of the two would you prefer to keep (should you decide to make the decision of getting rid of one and holding on to the other)?  When does having citizenship (and a passport) from one country become more of a financial (and other kinds of) burden than it is worth?  Does membership really have its privileges, or is it more of a negative than a positive?     
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However, let me be very clear about my previous comments and what I am about to repeat once again.  I have not and am not proposing that clients in any way violate the law either neither in their previous or first country of citizenship, nor in the new or second one as well.  In fact, if a client is entertaining expatriation, I have suggested that they leave on good terms.  In addition, I have NOT proposed nor suggested that clients willfully do anything to put themselves into conflict with their previous country of citizenship either.  Please be very, very clear about this subject or topic.
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However, it certainly is an interesting issue to note that there can be conflicts in both taxation and other matters as well between the two nations, and not only that, but possibly the case that one is laying claim to tax whereas the other is not.  The US State department publicly states that while dual citizenship is of course recognized and that obtaining a second citizenship does not in and of itself necessarily jeopardize the US citizenship status (of a US citizen), they also state they discourage the idea of dual citizenship because of the potential conflicts it can create.  Of course, what they do not state or elaborate on is the conflicts it can create for THEM, whereas they instead prefer to highlight other kinds of conflicts they claim might arise, which they say could be negative for the citizen.
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Expanding upon or once again explaining what I have said or stated in the past, it is certainly very true that bank account interest (and perhaps other kinds of income) may be tax-free in other countries.  In some cases, it may only be tax-free for foreigners with accounts in that particular country, and in other cases it may be tax-free for both foreigners and local citizens (or residents) as well.  Because bank account interest is tax-free, it is often enough the case that such interest earned and such accounts are not even reported to the local government where the account is domiciled (never mind any other outside or foreign government).  Why should it be - if there are no local taxation issues involved?  So, moving this thought process along, I have said it is also often enough the case that individual US citizens would need to voluntarily report such accounts on their own because their bank in the other country will not.  What has happened over the years is a great deal of frustration on the part of US tax authorities simply because they have had difficulty gleaning this information on their own.  Meaning, they have gone to many governments and financial institutions ASKING them to turn over account information regarding any accounts owned by US citizens and in many cases - the request was refused.  In fact, in some jurisdictions this may actually be illegal to do so with respect to the laws of that particular country in question.  Also in some cases, the fact is that the local government in such countries may NOT even have this kind of information because they do not even collect it for themselves (so, why would they do so for another government?).
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The next tactic they have tried is to serve a john doe warrant to Visa and Master-Card using the logic that if a US citizen has an offshore account, then that same citizen must have a credit card from the offshore bank as a means to access the money, and they can entrap or find out who such persons are by going after the above mentioned card companies accordingly.  However, I also explained previously why this would not work and I went on to explain how the credit card system actually works (in terms of who is responsible for what, and the kinds of information Visa and MC actually have in reality).  My theory and argument about this has proven correct as this idea was somewhat abandoned in favor of chasing individual merchants inside the US instead (who might accept a non US based bank issued credit card as payment for something) who actually might have more specific information about a card holder than Visa or MC (and I also outlined some pitfalls with that as well).  The latest tactic seems to be pressure being placed on US banks that might have branches or divisions in other countries to voluntarily turn over information about accounts owned by US citizens abroad in their respective non-US subsidiaries.  Which is to say, I think the pressure was always there, but it has resurfaced once again and I know for a fact that one US bank in particular has started (in 2004) to print and issue 1099 statements for any US citizens that have accounts in their non US bank branches - EVEN though they may NOT be required to so this inside the country where the account is domiciled because bank account interest is locally tax-free anyway.
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In any event, the final question you really have is - can a US citizen exit without any further tax obligations.  The answer is technically yes, via formal renouncement of US citizenship IF the citizen meets the criteria or parameters they (The US State Department and IRS) have they themselves put into place regarding amount of assets the client has at the time of renouncement, and some other parameters.  Of course this baits the question of whether or not they will honor what is currently in place in terms of definitions and parameters, or if the rules will be changed once again as they already have recently.
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In summary, your comment in your letter is that I propose NOT reporting income (and the implied question of whether or not this is good or even correct advice).  I never said that a client should NOT report taxable income if they are required to do so, nor stated that as advice.  However, in regards to this ten-year taxation theme, the truth is that many people do view this publicly stated policy on the part of the US government as a declaration of state ownership of you as an individual person.  The more common term for this in the past was slavery.  If a slave escaped from a plantation in Georgia, the owner could go up to say Pennsylvania and bring the slave back in chains (in other words, lay claim to their property).  So, is the US government saying or admitting with such a policy that even though you may not be a criminal and possibly have paid any and all tax or other kinds of obligations up until the date you decide to leave (renounce citizenship), that THEY have a financial claim over you for the next ten years as their state-owned property?  Think about it, and also think about what message or mode of thinking this conveys.  Are you a free and sovereign individual or are you the property of a state?  Again, I suggest to clients that they do NOT act illegally in what they do, that they do make sure they are in compliance with all things, and also that they do not commit any other acts that might be immoral either.  But, it is interesting to note that when one talks about doing something that might lead to trouble, many would say - You are already in trouble (but you just do not know it).  For a very interesting and enlightening read, I can suggest a book titled: SPEAKING OF LIBERTY, By Llewellyn H. Rockwell, Jr. Von Mises Institute - 2003 (you can buy it on Amazon).
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ANOTHER READER WRITES:
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Hi John - Love reading your email and the letters from your readers. Just had a quick chat session with my Lawyer in Panama regarding residency in panama. Here is the excerpt from my chat:  The short answer is (but no one will put this in writing) - officially you have to state, before the Panamanian authorities that you renounce your US citizenship.  However, you are not required to do this before the US consulate or anything like that - so the US does not consider that you have renounced your citizenship and does not require that you hand in your passport - so - yes - officially you do renounce US citizenship - unofficially - you keep both.  I would just please ask that if you decide to use the information that you paraphrase the information above and not post an entire letter (no names). 
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On another note, I am one of the investors of the Bocas Del Toro investments involving San Cristobal Land Development.  I did get title to my land and my corporation is secured in my name via my lawyer.  The principal of the land development company was deported to Atlanta, GA and his sentencing was put off until it could be deemed true as to weather or not he was a mental case. I am sure it was a last minute ploy by his lawyer to keep him out of prison. The bad news is that now they consider this region to be too wet for commercially grown Teak and the market is flooded with Noni unless one has the funds and inclination to process and export to another country. I am as yet undecided on this path. Not sure I want to risk the venture, as I have no experience in this sort of business (not to mention exporting an agricultural product). Earlier this year the Panamanian Government (current powers that be) revoked the previous Tax incentives for reforestation and the only thing still left on the table is protection from the Feds (ANAM) regarding your land and entry into the 'Reforestation Law' and of course, the tax break for building a house. Construction on your house must begin before the end of 2006 and the construction must be completed before end of 2007. My personal plans are still to move to Panama and gain residency under the agricultural provisions. I think now I just need to figure a way to make an income from outside of Panama, since technically I won't be able to work unless I produce something on my land. What is it they say about Hind-Sight being 20/20?  I contacted you regarding this investment nearly 4 years ago and you had little if anything good to say at the time. Now I wish I had headed your cautionary words. Next time I write I will let you know how the lemonade is turning out (from my lemons that is)
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One question: Do you put any stock into any of these investment groups like Sovereign Society and the like? Do you use any of these groups that cater to offshore investing to keep a positive cash flow?  I wish you and yours the very best going into the holiday season and I will definitely look forward to your next edition of Ascot Advisory!
Keep up the great work!
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EDITORS REPLY:  Thank you for writing in and providing the information.  However, it is interesting to note that what you mention regarding Panamanian Citizenship is NOT the case in the Dominican Republic (no one is asking you to renounce previous citizenship be it verbally or otherwise).  On the issue of these so-called schemes or programs whereby you would become a teak or Noni millionaire and qualify for residency at the same time - you are very correct in that I urged caution in the past.  However, I did not urge caution with the knowledge or belief that any of these programs were scams, but rather that from a strictly logical and cost perspective were a bit questionable.  Keep in mind that there was more than one of these kind of things floating around in recent years, and in some cases, investors did not get direct and individual title to the properties they were supposedly investing in, which was of concern to me at the time.  Also, you had a case as well whereby these firms were asking for outrageous sums of money for the property and management fees as well.  I argued in the past that one could accomplish the same thing for much lower expense by purchasing say ten acres of land up in Boquete (or where ever) and plant the property with trees on your own.  Aside from all that, the projections of profits for teak or Noni were quite questionable as well.  It is both foolish and impossible to predict what profits might be ten or twenty years down the road for such produce (not to mention Noni grows wild in the Dominican Republic like weeds in certain places, and you can stop the cr and fill up your trunk with the stuff - for free).  In any event, I am sorry to hear that circumstances have panned out that some of the people involved in these projects were not on the up and up, but I am glad to hear that you do at least have title.  Also, the only advice I can offer going forward is to use some common sense and clear thinking with any of these ventures or ideas.
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On the subject of the Sovereign Society, I do not have any formal relationship with them and we are not involved in any way with the investments they promote, but I am aware of some of the information they put out (and they offer some interesting and valuable things).  Also, the Sovereign Society is tied in to International Living, Agora and Bill Bonner, who also put out some very interesting and valuable articles (plus books) as well. From time to time they might have put out some things I disagree with, just as I am sure there are things I have written that they disagree with (such as teak and Noni plantations, and I am just using this as an example as I really have no idea if this was something they were touting in the past or not).  There is a ton of good information out there and you should read as much as you can, and investigate as much as you can.
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ANOTHER READER WRITES:
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If a US citizen on Social Security and Medicare repatriates to Panama, e.g., wouldn't they lose their Social Security and Medicare Benefits?
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EDITORS REPLY:  Well, first of all, it depends upon what you mean by expatriation (you said repatriate but I will assume you meant expatriate).  The definition can include simply relocating and living in another country (while maintaining previous citizenship) all the way to actually renouncing previous citizenship as well.  On the idea of relocating or retiring as a legal resident in another country (and putting aside the topic of formal citizenship renouncement for just one moment), it is very possible to have direct deposit of your Social Security check to your local US Dollar non-US based bank account and we have counseled clients how to do this.  On the other hand, the easiest thing to do is to probably set up one of these asset management accounts with Schwab, Fidelity, Waterhouse, and so on whereby you have a VISA card and check writing capabilities attached to the account (and have your pension check direct deposited to that account).  You can then simply write a check and deposit it to your US dollar bank account in the other country where you are living, or simply spend it using the VISA card.  The issue of Medicare benefits however is another matter altogether.
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There are a number of different situations with Medicare, and whether or not you pay a monthly premium will depend upon your income.  However, let us say you are at the level whereby you are paying the current US$80 per month for Part B (physician visit coverage, etc.).  It is most likely the case that very few if any private clinics or doctors abroad are signed up or affiliated to accept US Medicare Health Insurance, and if they are, I am sure the paperwork and wait for payment a nightmare.  My advice is to CANCEL the Medicare Insurance altogether (which will mean US$80 less taken out of your Social Security check each month) and instead sign-up for some of the excellent and very reasonable private health plans where you are living.  Of course this all does depend upon where you are living, but in the case of Panama and the Dominican Republic, private hospital, doctor and other health care costs are dirt cheap and the private medical insurance premiums are as well in comparison to what you would pay for the same thing in the US.  In short, it will not be too difficult to find decent private health insurance in Panama or the DR for that very same US$80 - US$100 per month in premium payments.  In fact, my guess is you will find the coverage to be far superior to what Medicare offers you.  In regards this new prescription drug plan fiasco, you may or may not come out ahead, so it would be a case of doing a calculation regarding what kinds of medications you take (if any) and the monthly expenditures you currently have.  Keep in mind that while there are a grand variety of medications available in other countries, it may also be the case that your specific medicine may not be.  Not only that, some prescription drugs can be more expensive in other countries than what they are in the US (mainly because they are imported).
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In any event, let us now get to the topic of renouncing US citizenship.  The only thing I can tell you about this subject is, that I have asked the question on a few occasions myself and never did get a straight answer on the matter (in regards to the effect on Social Security benefits and formal renouncement of citizenship).  My gut instinct and personal opinion is they would probably justify cutting you off.  In other words, if you currently are getting a pension check from the public social security system, might as well take it while you can.  Many people my own age and younger are convinced we will never see a dime of it, so are not counting on it as a result.  If you have paid into it your entire life, and you now have the chance to get your money back, take it.  If you are concerned about the issues of inheritance taxes and related matters, then you may want to consider setting up a trust, foundation or other kinds of planning mechanisms to address this.  In addition, the same comment applies to perhaps other investments as well.
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Remember that applying for residency in another country, and simply living in another country, certainly does NOT jeopardize your US citizenship status, and also there are many American retirees collecting Social Security benefits living in other countries at the moment.  In addition, all depending upon the country, gaining a second citizenship without renouncing your current US citizenship does NOT place you in any difficulty either (in regards to your US citizenship).  So, it is very important to understand that living or retiring abroad does not mean you loose American Citizenship, nor does it mean giving up any benefits from the public pension system either necessarily (if you are living abroad as a legal resident in that country while maintaining your current citizenship, or even obtaining dual citizenship).  In fact, I can say that a pension of US$1,500 per month or more buys you quite a bit in terms of purchasing power in other countries, which is why so many older people do indeed considering relocating.  Plus, if you have an average middle-class home in Massachusetts, New York, California and so on that maybe you can sell for US$300,000 (if not more), you can certainly buy the same home (if not more) for your money in other places for HALF of that amount, and put the difference in the bank to generate an additional monthly income for yourself.  This is exactly why many retirees are moving to the Dominican Republic, Panama, Ecuador, and slew of other places.  Plus a monthly pension income which would barely allow you to get by in many US states might even allow you to afford a full-time maid (that cooks and does windows), a chauffer and so on.  Just try to afford a maid in Massachusetts, it cannot be done, at least not if you are living off a typical pension.                   
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ANOTHER READER WRITES (Follow up to last newsletter issue):
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Thank you for answering some of my question in your newsletter (gun ownership). I will be honest, some people should have guns and some people are too stupid to have them. I live at the point end of nowhere with no door on my house, and I sleep that way, soundly. But yeah, I have a gun, and I guess most of my neighbors do too.  But I moved from Luquillo PR to Vieques PR (you're very sharp so I'm betting you know the difference) and the need to keep an eye cast behind me vanished. So there are places where idiots have guns and use them, and places where they may have them, but they don't dare to, because after they commit their petty little crime, there is no way to get away or go undetected by the barrio's inhabitants. At night you can't get off of Vieques, and in the day, it's a very limited transport system.
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My question about crime and guns in the RD is more oriented to statistics (tell me where to look on line, I read Spanish) about certain areas. I and my clients (I'm North American and most of them are too) are the alternative type gringo that is not really all that interested in moving to a Golden American Ghetto, but at the same time, we would rather avoid the pitfalls of unbridled lawlessness and police corruption. We're grownups, my friend. This is my 26th year here in PR. Some places are much better than others. Just saying - I am just trying to save time and crime.  I love your newsletter, and I'm thoroughly addicted after reading only two of them. Your newsletter is one of the few places (maybe the only place) I can go and read something that reflects my world. The blogs and the online papers just don't speak to me. I read them, but they don't allow me to identify.  Good thing the newsletter is free, unlike crack.
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EDITORS REPLY:  Well, once again thank you for taking the time to write in.  On the issue of gun ownership once again, I probably should have clarified or pointed out, that in the case of the Dominican Republic, gun ownership is permitted or regulated by license.  Which is to say, you cannot simply walk into a gun shop and buy a gun as if you were buying a box of cornflakes in the supermarket.  You will NOT be granted a gun permit if you have a criminal background, and of course the national police does regulate the issuance of gun permits.  However, I also agree that owning a gun does carry a great deal of personal responsibility and there certainly may be people out there that do not always fit this bill.  In regards to specific statistics regarding neighborhoods, there are no statistics on-line that I am aware of, and I would wager to say the same is somewhat true for Puerto Rico either.  There are of course country statistics from a number of different sources, and as you insinuated as well, there are of course safer places to consider in Puerto Rico whereby these higher murder and crime statistics do not apply.  In terms of the Dominican Republic as well, there are obviously more upscale middle-class areas you may want to consider living in and there are other areas that certainly you probably would not want to live in.  I would say the best thing to do is come and visit, look around, visit a number of different areas and make a decision based upon what you see (and maybe even talk to some of the people that live there).  You have an advantage over many other foreigners in that you speak fluent Spanish, so this will be much easier for you to do.  But, I can confirm that there are quite a number of safe and quiet middle-class neighborhoods, and the real estate prices are generally quite reasonable as well.
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ANOTHER READER WRITES:
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John - Thank you for the information on the DR passport. It was very helpful as I have seen that with what is happening in the world, I do not like traveling with that blue US passport, and I am trying to get me and my family an out if necessary as soon as possible, but I digress.  From reading your website and the newsletters I understand that you are quite knowledgeable about banking and finance. I am hoping that you can help me understand what is really happening.  Many of the politicians on the right and the talk radio types are touting how great the US economy is. However, the price of gold keeps rising, and the euro-dollar futures contract has been in a downward trend in terms of prices.  This to me, would indicate that the dollar is becoming less valuable in terms of gold and in terms of what foreign markets are willing to pay for dollars would it not?
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My question is this - is this booming US economy really a facade?  After all, one can see from the local Walmart that much of the US dollar is going to China. Am I complaining?  No, if another jurisdiction can provide the goods and services at good quality and a lower price, then I am all for that.  This is why I am saving my money to give me and my family an out to leave this high tax country the US for lower tax jurisdiction in the Caribbean or South America.
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EDITORS REPLY:  An interesting question.  Why are the world financial markets bidding up the price of gold and are negative regarding the US Dollar?  Well, think about a few things.  The current national debt (US Federal Government debt alone) is well over 8 Trillion Dollars and marching towards 9 Trillion quickly.  If you divide the current debt by every man, woman and child living in the United States (not counting illegal Mexicans) it comes out to about US$27,000 per person.  In theory, if you have no mortgage or credit card bills and no other type of personal debt - the US Federal Government has indebted you personally, as a citizen supposedly part of the collective body of inhabitants, for US$27,000, and that number is going up, not down.  These figures do NOT even include the looming social security, Medicare and Medicaid liabilities, which would certainly push these numbers exponentially much, much higher.  Where is the money going to come from?  Let us look at the private sector of the economy.  General Motors just announced a lay-off of 30,000 people.  Granted, this is just one company, but an important one.  What has gone on and is going on in the electronics industry, steel, clothing manufacture, consumer appliances, and even some other areas such as architecture (that are now being outsourced to China also, if you can believe it)?  Even American fertilizer manufacturing has moved outside of the US in order to be closer to more dependable natural gas supplies, which are an important component in this industry.  In short, the US manufactures very little these days inside its own borders and as a result exports very little.  In addition, where are US corporate profits reported in recent years coming from?  Are US companies really selling more television sets, more steel, more refrigerators - OR - is the only reason these companies are able to report profits is because they moved manufacturing to low labor cost jurisdictions, and in effect cut labor costs?  If you believe the latter idea, which I do, then you realize that this is a short-term one off thing.  In other words, you can cut costs, but if your sales are stagnant or declining in the long-term, you are slowly but surely going out of business. You cannot grow a company or an economy on declining sales.  Also, the US economy is now predominantly a service economy and 70 percent of economic activity is derived from consumer spending (and not other things such as exports).  If the American consumer stops spending, the whole thing goes down the drain, and fast (which is why in my opinion, banks are encouraged and motivated to expand consumer credit by the Federal Reserve, and not curtail it in order to keep the dog and pony show pumped up).  Much of what spending has occurred, be it consumer spending via borrowed money with credit cards or no money down interest only mortgages - is built upon debt and NOT cash or savings of the consumer (American consumers have almost no savings at all, which is yet another problem).  This cannot go on forever.  No one private citizen, nor a government, can continue to borrow and spend without repercussions.  As well, you cannot spend tomorrow's dividends today and expect a positive outcome.
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Let us get back to taxes and how all this current debt, plus the future social security obligations (and Medicare expenses) will be paid for.  Many Americans initially focus on taxes, but the truth is that income taxes are really at a low when you look back at income tax rates over the last 40 years (and corporate income taxes even lower).  What did increase were payroll deduction taxes for social security, which was initiated by Bill Clinton as a way to shore up Social Security.  However, Social Security tax payments (they are called contributions, but they are taxes no matter how you slice it) effect the middle class the hardest because only the first US$85,000 or so is taxed and most middle class people fall into this category in terms of salary.  The problem is then, let us say you roughly are in a 30 percent federal income tax bracket, but when we add on social security tax payments which could in effect translate to 15 percent of lost income just for that, we are talking about tax deductions from your income that start approaching 50 percent (never mind state and local taxes).  Of course I am using round figures for simplicity sake, but the concept and problem is the same.  In any event, what will the US Government do?  Well, it would seem they are not going to increase income or other kinds of taxes, as this is politically distasteful and the voters would not stand for it.  At the same time, they continue to borrow, continue to spend more money than they take in and cutting governments costs are not even on the table for discussion.  So, what option to do have left?  Well, you run the printing presses and this is exactly what Ben Bernancke said he would do two-years ago.  Low and behold, now they put this guy in charge of the Federal Reserve.  So, what does that tell you about what the plans are going forward?  They have already over-extended the money supply in the past few years to ward off deflation (which they were scared to death about and what indeed happened during the so-called Great Depression).  The American consumer and average American citizen does not have a clue, and does not understand what it means in terms of his or her personal finances until 5 or 10 years down the road, so there is no immediate political backlash when choosing inflation of the money supply over other kinds of policies (such as cutting spending, raising taxes, etc.).  This is what foreign markets see and this is what foreign governments understand is happening also.  Why do you think the South Koreans and the Chinese are trying to dump their US Dollar foreign reserves?  The Chinese especially are trying to spend it and convert it into other assets before it devalues even further.
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What can you do about it?  Not much really, other than to understand what is going on so you can make some decisions as to what you want to do in order to protect your assets, and maybe even profit from it.  Indeed, many people close to retirement age are electing to move to Panama, Ecuador, Thailand, and the Dominican Republic among other places because despite the devaluation of the Dollar (inflation), considering they still have more purchasing power with their money in these other countries.  Gold, real estate and other hard assets also have a tendency to act as a hedge against inflation as well, although especially in terms of real estate, the key is to know when the market is overpriced.  The US real estate market has gone up more than 30 percent in some places in just the last 18 months.  Have average salaries gone up 30 percent?  Has the economy grown by 30 percent?  Of course not, and based on this we know the US real estate market is way over-priced in regards to the rest of the economy and what the average person can afford.  So, expect a stagnant real estate market going forward until this works itself out.  In short, why is gold going up?  This is another signal or crystal ball reading, just as the run up in real estate prices prior were a signal that was telling you something as well.  Inflation would seem to be the new official policy, so watch out.  Forget about what the mainstream news tells you, forget about what the politicians tell you - watch the numbers and figure it out for yourself.
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ANOTHER READER WRITES:
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Greetings John: As always, I continue to get much enjoyment from your newsletter.  I always find myself in agreement with much of what you say.  I have a lot of problems with socialism, high taxes and the welfare state.  For this reason, I am strongly considering relocating to a place like the DR at some point.  I believe that the one advantage countries like the DR will have in coming years is that not having made welfare commitments to its citizens, it will not be saddled with humongous debts stemming from unwise and unreasonable commitments to social programs.  Nations like the U.S., Canada and Western Europe, on the other hand, will have to deal with the consequences of such folly.  However, I would like to expand a bit on this issue and possibly present another side of this problem and how it is relates to the United States and its place in the world.  I am not quite ready to call China the new economic superpower.  It is definitely blossoming as an emerging economic powerhouse.  I think that trend is clearly in place and China, together with India, is likely to continue to blossom into full fledge economic superpower status.  However, I don't think it is likely to supplant the United States as the world's premier economic power during our lifetime or even that of my 12-year old daughter.  The Chinese economy is roughly 1/10 the size of the American economy.  Even 8 - 12% annual growth will not erase this deficit for them anytime in the near future.  While I agree with your observations about the disastrous consequences of socialism and the welfare state, I don't believe you can lump the United States and Western Europe into the same category.  The U.S. does indeed have budgetary problems that are compounded with runaway spending on pork, welfare and other constitutionally questionable redistribution policies.  However, most of the Western European countries have significantly more developed welfare states and higher taxes than the U.S.  With the exception of Ireland, the Western European countries are stuck in an economic rut where they're lucky to get growth of 1.5%.  The U.S. economy by contrast is growing at a very respectable rate of 3.5 to 4% per year.  In the process, it continues to create jobs and opportunities for its citizens.  Now, that may not compare to the kind of growth rates China is experiencing.  However, as China's economy matures, industrializes and develops, the point will come when their economy will also cease to grow at the 8 - 10% annual rate.  Another point is that although much has been said about the demise of American manufacturing and nothing being left other that a service economy, the reality is a bit more involved.
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Its natural evolution has indeed brought the U.S. economy to a point where today it is primarily service based.  However, it is a gross inaccuracy to say that the U.S. has no manufacturing left.  The fact is that the U.S. economy retains significant manufacturing sectors: food, chemicals, paper, lumber, high tech medical devices, technology hardware, semiconductors and aerospace to name a few.  If these sectors of the American economy were taken alone and segregated from the rest, the U.S. gross domestic product would still be very significant, in fact larger than that of most major countries.  Another point to bear in mind is that America has historically shown an impressive capacity to adapt and change when necessary.  As examples we can see the civil rights movement, the Brown V. Board of Education U.S. Supreme Court decision which put on display a development that is all too rare in human history: one where a nation repudiated its own history and set about changing it.  This happened without the threat of guns but with the force of right and the pen. To be certain' the U.S. has problems that will be coming home to roost in coming years.  These problems will become ever more significant and difficult to deal with.  What I'm saying is: do not bet against the U.S.  It has a dynamic, resilient economy and a flexible political system to compliment it.  Even if I choose not to live in the U.S. in the future, actually betting against it has been a bad call in the past and I think it will continue to be a bad call in the future.
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EDITORS REPLY: Thank you for your letter, and I would like to say you make some very valid points.  On the subject of welfare state problems as we are seeing in the US and Europe not effecting countries like the Dominican Republic, Thailand and other places whereby the socialist welfare state does not exist (or certainly not the same extent) - - I agree in that such countries will be far better off going forward.
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In regards to China, we were told and time again that Communist China has a repressive totalitarian regime that violated human rights, and yet time and time again the US politicians voted China most favored nation trading status with reduced tariffs and all the rest.  Where did China get all the money they now have?  You, we, the American people gave it to them, all with the help and coaxing of the US Government policies put in place by the politicians.  The question is why?  Globalization is a socialist idea, yet it is being sold as a free market expansion of capitalism and unfortunately many people do not understand this (what they finally do understand however, are all the domestic factory closings, lost purchasing power of their money, the downward pressure on US wages that are not keeping up with inflation and price increases, etc. - In short, they do understand the economic pressures on the middle-class but they do not understand why this is happening).  Globalization however is nothing more than forced attempts at wealth redistribution from the so-called wealthier industrialized nations (read democratic social welfare states) to the so-called third world.  What happens when you forcibly redistribute wealth?  It is taken away from someone that has it (you?) and given to someone that does not.  While the goals of Globalization might be noble, the method of it (forced wealth distribution via centralized government planning) is not.  If we already can bear witness to the fact that this does not work in the long-term on a domestic level (inside one country) why is it going to work on a global level?  It is the case that misery loves company and that the goal is to export the social welfare state to those nations where it does not currently exist?  Why?  Nations that do not have extensive welfare states in place, strict privacy and private property laws, tax-free banking, liberal and low tax policies are all coming under attack.  Why?  What is so terrible and detrimental about a country that has such things in place?  Such countries are neither involved in war mongering nor involved in any sort injustice towards other nations, and certainly do not pose any threat in this regard.  So, what is it about these countries that make them such a threat to the social welfare state governments?  Think about it.  Why are the socialists so perturbed that another country has lower taxes than they do, or tax-free banking?  Are they afraid of something and thus need to invent tall tales of rampant money laundering, and such?  What does all this ranting and raving have to do with the US and China?  Well, just a point that these issues are part of a larger picture to consider.  It is a more complex and global issue that involves more than just a narrow debate about China.
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In any event, the Chinese are using the wealth they have gained in order to try and buy American and European companies (they are trying to get rid of their US dollars really, which has meant they are buying gold as well).  They just launched their first aircraft carrier, and believe me, China will butt heads with the US and Europe over the increased world competition for oil supplies.  Why did the US suddenly back off from Iran, after Iran already told them they will go forward with nuclear facilities regardless?  The answer in my opinion, are the Chinese, and the fact that they have long term oil and natural gas contracts with Iran and they are NOT going to let anything or any nation, including the US, stand in the way of the gasoline.  China desperately needs oil and do not be surprised to see a Chinese naval battle group in the Persian Gulf within the next decade, maybe sooner.  I am not praising the Chinese by the way, but simply pointing out that US hegemony is over, and that the US gave them the money to accomplish this, or better said the politicians allowed this to unfold.
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Why did China turn to capitalism in the first place?  To save the disastrous centrally planned economy that existed before.  But make no mistake about it.  China is still a totalitarian centrally planned government that has now adopted a convoluted version of capitalism in its economy, JUST as the US was a pure free market capitalistic economy previously that adopted the social welfare state.  Two mirror image sides of the same coin - yet the welfare state could be the undoing of the western democracies whereas capitalism has energized China, at least for now, temporarily.  I agree that China has a number of problems, not the least of which is oil to continue fueling this track they are on.  Oil, which is becoming less available, more expensive and will continue to do so going forward.  Not only that, I agree with your assessment regarding the other economic difficulties the Chinese face as well.  Noted financial writer Marc Faber postulates that China really does not need the US or Europe as a place to sell its wares in the future, as the number of consumers in the Far and Middle East would be enough.  However, while I agree with Mr. Faber in theory, I do not think many of these nations are there just yet in terms of purchasing power (but they are on their way).
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Aside from that, it is also true that one of the great strengths of the American culture has been invention and perseverance.  However, I also think things will get worse before they get better, at least for the vast majority of middle-class people anyway.  Europe has many of the same problems as the US and even more welfare benefits to dole out (as you correctly indicated).  On the other hand, the amount of both government and personal debt propping up the economy is far worse in the US than is the case in Europe.  European consumers are enamored with debit cards whereas as Americans are enamored with credit.  The difference being, on a personal consumer level, spending your own money as opposed to spending other people's money that you have borrowed.  In addition, if we look at banking practices in terms of mortgages in Europe, again you will often see far stricter requirements for solvency than what exists in the US (some banks in Europe require anywhere from 25-percent up to even 50-percent as a down payment in terms of the consumer purchasing a property).  Aside from this, I will say you should take a closer look at the economic growth figures being reported in the US because they are somewhat skewed.  It is reported that the US economy has grown at times by 4 percent annually - but is this really so?  Could it be the numbers are distorted by outrageous state spending in military and construction contracts for things like new prisons that inaccurately reflect the REAL rates of growth in the truly private free market sector?  What would the true numbers be if we backed out the welfare state government spending?  What really are the true reflections of the private economy in the US?
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Remember that things change.  500 years ago, Spain was a dominant political and economic world power.  2,000 years ago Rome controlled vast territories and was the superpower of their day.  Prior to that, the Greeks via Alexander the Great were a world economic and political power.  Things change.  Did these nations simply disappear off the map?  No, they are still there, but albeit with diminished economic and military might than what existed before (and they went through discomfort in the change process to be sure, or at least many citizens and many industries did so).  So, I offer the possibility that things are changing for the American Empire, and this too is a natural progression.  Many Americans are going to have a very difficult time with this psychologically as they are taught to believe that there is some sort of God given destiny that they are entitled to.  But change is inevitable, but how that change is managed and embraced will determine the extent of pain and displacement this may inflict on the population.  Is government doing everything it can to prepare itself and its citizens for these changes, or are they resorting to draconian measures to attack the symptoms rather than the disease (less liberty, more restrictions on money transfers, increased censorship, etc)?
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Some people confuse patriotism with common sense or reason.  However, patriotism is an emotion.  You can refuse to sell your General Motors stock out of patriotism if you wish, but that may not be the best course of action for your own personal financial well being (and that of your family).  In addition, you touched upon the service economy as a natural progression.  However, if you follow this idea through, the economists that have developed the theories of national economic development state that economies start off as being based in AGRICULTURE primarily (the US fits this pattern).  Next, industrialization takes place and the growth of large cities in tandem with this (the US fits this pattern also).  After that, the service sector gains prominence and much of the economy transforms itself to the service sector.  But, do you now what they say comes next?  The whole thing makes a full circle and reverts back to agriculture once again.  So, does this mean the US and European economies are in for a rude awaking and reversion to an agrarian society?  I do not know and this does seem like an extreme prediction.  I do know that if IT is true that the days of cheap domestic and now foreign oil (and cheap energy, which really fueled the industrial revolution) are over - that oil will become drastically more expensive and harder to find (in other words that it is really running out) then this will surely change the economy, the way we live, and could force some aspects of this final phase into reality. The question then is what are we doing about it today to minimize the impact?  Are we hoping and praying the cheap oil will last forever?  Are we working feverishly really to expand and utilize renewable sources of energy to make sure we will still have enough reasonably priced energy to run our economy, light our homes, run our air-conditioners?  Or are we using the military option to invade other countries where there still is some oil left, even though it is running out there as well?  Is this really the best thing to do, and the best use of our current resources?  Are the politicians simply trying to hold onto power or do they know what is going on and instead prefer lying to us because they think we cannot handle the truth?  Are they afraid they will loose their captive audience if citizens had a clear view?  If you were a citizen of Rome 2,000 years ago and you knew the Barbarian hordes recently crossed the Alps into modern day Italy - are you a fool for selling your home and taking your family to Cyprus or Turkey for safety or would you be a genius?  Would your neighbors have mocked you, insisting the Roman army is the best in the world (and insisting you must be insane to think otherwise)?  Hard to say and it certainly is easier to look back in history than to predict what is coming up ahead.  However, things do change and economies change for a variety of reasons.  What do you want to do in order to minimize the negative impacts of these changes on your own lifestyle and future of your children?  Is it true patriotism to ignore the changes or is it pure stupidity?  I do not know, but I simply pose the questions.  I do not think the US is going to disappear and it is very difficult for anyone to say with exact certainty how some of these issues will pan out over the next 15 years or so (problems with social security, oil and other forms of energy, the Chinese as perhaps the new super bad guys to replace the Soviet Union as the former super bad guys, etc.).  But, I do think there are some severe economic and social problems that are very possible if nothing positive is done.  I suppose if one were to rate countries the same as one rates stocks, the US would be a neutral to sell rating in my opinion.  Not a short sale rating mind you, but certainly not an aggressive buy rating either - at least not until all these issues are sorted out (and the economics of it work itself out as well).  On the same token, I can say the same about Europe and even China really (cheap oil or the lack thereof being the wild card in Chinas future, not to mention if the western consumers will keep on buying their stuff, or not).  Where would the buy ratings be?  Countries with more liberal and libertarian forms of government and economic policy, plus nations with valued commodities to possibly benefit from the next long-term bull market in commodities as offered by the work and analysis of Marc Faber:
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http://www.ameinfo.com/news/Dr__Marc_Faber/
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http://www.financialsense.com/transcriptions/Faber2005.html
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