Dollars and lempiras, taxes and interest, Part 1

Taking those dollars where they will go farther?

Should I move my money to the US? Should I divide up my money among different banks? How is the new fluctuating lempira exchange rate going to affect me? Should I keep my money in dollars or lempiras? Should I just put it under the mattress? Those are hot topics in Honduras right now.

New Security Tax

The Congress has passed a controversial new security tax law which will impose a 0.3% (.003) tax on all bank debits (withdrawals, transfers, payments, etc. from your accounts) if your average monthly balances in that bank are more than L.120,000 or US $6,000, the rough equivalent in US dollars. I'm greatly simplifying this, but for purposes of a non-business owner expatriate who meets the threshold, basically when your money leaves that particular bank, whether by cash or ATM withdrawal, check, or wire transfer, it will be taxed. Transferring money to another person's or business' account within the same bank will also trigger the tax.

Additionally, there is no threshold balance for checking accounts — all checks will be taxed to the payer. This won't have a significant affect on individuals as no one wants to take a check in Honduras anyway! Cash, intra-bank transfers, debit cards, and ACH transfers are much more commonly used. Businesses will likely be much more affected by this. The law includes 20 specific exonerations, including for churches and international humanitarian organizations. Additionally, payment of taxes is not taxed, nor are transfers between the same person's accounts within one bank, though transfers to one's own account at another bank would be. There is an exception for "transferencias" of less than L.10,000 by persons, which could be interpreted as many types of transactions since the law itself uses that word in describing four of the six taxable transactions.

There is a lot that can be said about the law, about the fairness of it, and about the need for improved security in Honduras, as well as the many serious doubts that the money resulting from this tax will be used effectively. But all that is for another time. The tax is law now and there is nothing we can do about it except to hope and pray that the estimated L. 7.5 billion generated for security funds will show some results and not too much of it will be squandered by corruption and incompetence.

Update September 15, 2011: See "Congress revised the security tax law"

How will this affect me personally?

My personal opinion is that there has been much overreaction with people talking about moving their money outside of the country and/or keeping accounts at different banks with balances less than L.130,000. Nobody likes paying more taxes, but we need to look at the whole picture to realize the effect on your personal finances: interest rates in Honduras are hugely higher than in the US. Hugely!

To use a simple example in dollars, let's say that you are a retiree who receives US $2,000 a month from your pension and that you spend the entire US $2,000 every month. Let's also say that you have a nest egg of your entire lifetime savings of $50,000, which puts your Honduran bank accounts over the tax threshold.

The interest factor

If the retiree keeps an average one month cushion (about $2,000) in his Honduras account, whether it is in dollars or lempiras, the interest earned on his account will be slightly higher in Honduras than it would have been in the US, but not significantly, so we'll ignore that for this example to continue in the conservative vein.

Interest on the $50,000 is a whole different matter.

Example A: If you keep your $50,000 savings in the US, currently you'll earn about $125 annually in interest (at 0.25%), maybe as much as $375 (at 0.75%) if you have it in a long term CD. Let's use $250 for this example.

Example B: If you keep your $50,000 savings in US dollars in Honduras, you'll earn about $500 in interest (at 1.00%).

Example C: If you keep your $50,000 in lempiras, you'll earn the equivalent of about US $2,500 in interest annually (at a conservative estimated 5% interest rate).

Doing the math

In all three examples, the taxpayer is spending $24,000 per year, but in Example A, since his balance in Honduras never exceeds the threshold, he would not pay the security tax.

In Honduras, the banks automatically deduct a 10% income tax on interest. In the US, I believe the minimum tax rate is 10%, but to keep it simple for these examples, let's assume that the retiree's net income after deductions and exemptions doesn't meet the minimum income levels for paying US taxes.

So here is what we would have at the end of the year:

Example	Interest earned	Income Tax	Security Tax on $24k	Net Earnings
A	$250	0	0	$250
B	$500	$50	$72	$378
C	$2,500	$250	$72	$2,178

Pretty striking difference, no?

Now let's assume that the retiree is going to take his nest egg and buy a house, car, or a business, or just spend it on normal living expenses over time. To move that money from the US would probably require one or more wire transfer fees of at least $15, maybe more, plus once he spent the money in Honduras, whether it is in one lump sum or dribbled out monthly over time, it would be subject to the security tax in all three examples until his total average balance drops below $6,000.

Example	Earnings from above	Wire Fees	Security Tax on $50k	Net Earnings
A	$250	$15	$150	$85
B	$378	0	$150	$228
C	$2,178	0	$150	$2,028

My conclusions

Everyone's personal finances are different but it seems very clear to me that the net income earned in Honduras makes it well worth while to keep your money here. And the more money you have, the more significant the difference in your favor is going to be. Shopping around for interest rates can easily result in much better rates than the ones I've used in these examples. Based on rate quotes I recently received, you could earn 7.5% on a 3-month lempira CD compared to 0.25% to 0.75% listed at Charles Schwab right now!

Also, if you split that $50,000 into different banks to avoid the security tax, it will take a minimum of 9 different bank accounts! Dealing with one bank is usually hard enough. The hassle factor of dealing with nine banks is incomprehensible to me. Additionally, the lower balance (under $6,000 or L. 130,000) is going to cost you as much as 1% in lower interest on a lempira account (about $500).

And right about now, you are probably asking yourself, "Can I open a Honduran bank account and earn those great interest rates?". Unfortunately, most Honduran banks will open accounts only for Honduran citizens, legal foreign residents, and legally established businesses in Honduras. There have been exceptions, but money laundering and US pressure after 911 are to thank for the change.

To be continued...

Ah! But now there is a new factor to consider. Not only do we have this new tax but we have the new risk of devaluation of the lempira.

Since this article has become so long, I will continue the discussion in Part 2. Thanks go to Angel for his input on this article and for sending me a copy of the law.

What do you think about this analysis? Have I missed something? Can you add any insight? Can you think of a different example that would give a different bottom line?

~~~~~~~~~~~~~~

Commenting: I have a bug issue with the comments link that I'm trying to resolve. To see the comments or add one, click on the number before the "comments" image with the down arrow. If you are using Internet Explorer and that number link is not appearing, click on 'Go to top' and then click on the article title to go to the comment page. I'm so sorry for the inconvenience.