In Part 1 of this series, I explained and showed that Irish Domiciled ETFs are more tax-efficient for Singapore investors.
However, dividend withholding tax is not the only cost in investing.
In part 2, I will explore the other costs associated with investing and compare between US-domiciled ETFs and Irish domiciled ETFs to find out which is the most cost-efficient option.
Costs Involved In ETF Investing
There are two types of costs:
- Recurring costs
- TER of ETF
- Withholding Taxes
- Custodial Fee
- One-time cost
- Trade commission
- Bid-ask spread
- Estate taxes
For a long term investor, recurring costs will matter a lot more because of the more extended period the investor holds the portfolio. Those fees are charged monthly or annually and can add up over long periods.
For the short-term investor, trader or speculator, one-time costs matter much more because they generally tend to perform more trades and move in and out of the market frequently. The commission fees, bid-ask spreads matter much more in this case.
For the sake of estimating real-world costs, here are the online brokerages which I have decided to use:
- TD Ameritrade for trading US ETFs
- Saxo for trading London listed Irish ETFs
I try to use the most cost-efficient platform for each market that we would want to compare.
I am currently using this broker to trade US stocks. Not only does it offer $0 commissions for trading ETFs, but it also does not charge any custodial fees or platform fees.
It just recently offered $0 commissions making it more cost-efficient than using SAXO.
However, it can only trade in US markets.
If you need a referral, you can email me at firstname.lastname@example.org, and I will send you the instructions.
The trade commission fee for LSE is 0.10% with a minimum of USD 20.
It also charges a custodial fee of 0.12% annually. The amount is calculated daily and billed monthly.
Saxo offers access to a large variety of markets; hence it may be more convenient to consolidate on their platform if you trade in multiple markets.
Comparison of Recurring Costs Between S&P 500 ETFs
I will be comparing the iShares Core S&P 500 ETF (IVV) and iShares S&P 500 UCITS ETF USD (Dist) (IUSA.L) for my first example.
Assuming that the yield of the S%P 500 is roughly 2%, I can calculate the TWR with the following formula:
|Portfolio Level Tax||0%||2% x 15% = 0.30%|
|Fund Level Tax||(2%-0.03%) x 30% = 0.59%||0%|
|Investor Level Tax||0%||0%|
Estimation of total cost of both ETFs:
|IVV (For US investors)||IVV (For SG investors)||IUSA.L|
|Effective Yield (2% – total cost)||1.97%||1.38%||1.51%|
Clearly, for non-US investors, holding IUSA will give you a better yield of 1.51%, which is 0.13% more than holding IVV.
Using historical data from Jul 31, 2019, to Jul 31 2020, here are the distributions for IVV:
|Date||Distribution||Distribution after withholding tax (30%)|
|Sep 30, 2019||1.482701||1.03789|
|Dec 20, 2019||2.039089||1.42736|
|Mar 31, 2020||1.531356||1.07195|
|Jun 19, 2020||1.260874||0.88261|
The NAV of IVV on Jul 31, 2020, is $327.74 hence the effective yield before and after withholding tax are:
- Effective yield = 6.31402/327.74 = 1.93%
- Effective yield after withholding tax = 4.41981/327.74 = 1.35%
Pretty close to our calculated estimates.
Let us look at the historical distribution data for IUSA.L:
|Sep 20, 2019||0.1209|
|Dec 13, 2019||0.1223|
|Mar 16, 2020||0.1355|
|Jun 12, 2020||0.1217|
For the custodian fee, I just took the average of the closing price on Jul 23, 2020, and the closing price on Jul 23 2020: (32.60 + 29.79) / 2 = $31.195. Multiplying that by 0.0012, I get a total of $0.037434. In reality, the fee is calculated daily and charged monthly. I was just too lazy to do the calculation daily.
The NAV of IUSA.L on Jul 31, 2020, is $32.59; hence the effective yield is:
- Effective yield = (0.5004)/32.59 = 1.54%
- Effective yield subtracting custodial fee = (0.5004-0.037434)/32.59 = 1.42%
The actual historical data showed that the yield for IUSA.L is lower than what we had calculated.
- Actual effective yield of IUSA.L = 1.42%
- What we had calculated for IUSA.L = 1.51%
It might be due to additional costs involved with taxes or in managing the Irish ETF than what we had anticipated.
The difference in terms of dividends received is quite small – ~0.07% difference. The Irish domiciled ETF gave a slightly higher rate after taking into account custodial fees.
Comparison of Recurring Costs Between two MSCI World ETFs
Next, let us quickly look at the MSCI World ETFs offered by iShares:
- iShares MSCI World ETF (URTH)
- iShares MSCI World UCITS ETF (Dist) (IWRD)
Let us quickly look at the historical distributions for URTH first:
|Date||Distribution||Distribution After Withholding Tax (30%)|
|Dec 20, 2019||0.915214||0.64065|
|Jun 19, 2020||0.919222||0.64346|
The NAV of URTH on July 31, 2020, is $96.60; hence the effective yield before and after withholding tax are:
- Effective yield = 1.834436/96.60= 1.90%
- Effective yield after withholding tax = 1.28411/96.60 = 1.33%
Distributions of IWRD:
|Sep 13, 2019||0.1577|
|Dec 13, 2019||0.1684|
|Mar 13, 2020||0.1462|
|Jun 12, 2020||0.2204|
The NAV of IWRD on July 31, 2020, is $49.05; hence the effective yield is:
- Effective yield = 0.6927/49.05 = 1.31%
It seems that for IWRD and URTH, the difference is negligible. And in fact, the US-domiciled ETF after withholding taxes is about the same or slightly more than the Irish domiciled ETF counterpart which did not include custodial fees.
Comparing One-Time Costs
The bid-ask spreads for US ETFs are just slightly better than the ETFs listed on the LSE. The 30-day median bid-ask spreads for the ETFs are:
- IVV – 0.01%
- IUSA – 0.04%
- URTH – 0.08%
- IWRD – 0.10%
The commissions for US markets are much lower as now you could trade for $0 commission in the US market.
- $0 commissions for US ETFs on TD Ameritrade
- 0.10% commission for LSE listed ETFs on Saxo with a minimum of GBP 8 (~USD 10.46)
The difference between the commissions and spreads are tiny. It will only be significant if you trade large amounts or very frequently.
Comparison Between IVV, IUSA and CSPX
Using the same example but this time I will buy $100,000 worth of iShares Core S&P 500 ETF (IVV) and iShares S&P 500 UCITS ETF USD (Dist) (IUSA.L), and iShares Core S&P 500 UCITS ETF USD (Acc) (CSPX). I will hold these three ETFs for one year from 23 July 2019 to 23 July 2020.
For the price, I will just take the average of the highest and lowest price traded on that day. So on 23 July 2019 I would have bought these ETFs
|Ticker||Price||Units||Commission||Total Amount Paid for ETFs (including Commission)|
Using the same method, I use the average of the highest and lowest price traded to fix the price sold on 23 July 2020.
|Ticker||Price||Units||Commission||Total Amount Sold for ETFs (including commission)|
After calculating the capital gains, dividends paid, and fees, the results are:
|Ticker||Capital Gains||Dividends (After Withholding Tax)||Custodial Fees|
The dividends for IVV are dividends after withholding tax – I had deducted 30%. The difference between the dividends for IVV and IUSA.L are small ~$200. After deducting the custodial fees, the dividends received from IUSA.L reduces further to $1,549.35.
If you look at the total gains, CSPX.L did better than IUSA.L and IUSA.L did better than IVV. CSPX.L and IUSA.L should be identical. The difference in profits is because all the dividends from CSPX.L are reinvested.
The difference between the three is not significant. However, over long periods, the slightly better gains from the Irish ETFs add up.
However, If I were to do a monthly RSP into all three ETFs, IVV might do slightly better because of the zero trading commissions.
Estate Tax – A Significant Cost
One high one-time cost that you will need to take note of is the estate tax. It is 40% taxed for investments above 60k USD when you pass away.
That is the main problem with holding US-domiciled ETFs as almost half of your investments will go back to the US government.
The event of your death, in a small developed country, for the next few months, is small compared to in the next 30 years. So at least for short term investing, you can take this gamble.
However, if you plan to hold your investments for more extended periods, do note that you will also have a higher chance of passing away unexpectedly within that time frame. So for long term investments, it might be better to invest in Irish domiciled ETFs.
This simple illustration is by no means comprehensive. A small sample set of one year out of a handful of ETFs does not prove anything statistically.
The main reason is for me to find out to what extend is the difference in terms of costs between Irish ETFs and US ETFs. And I found out that the difference is minimal – it is quite competitive.
There is also no straight answer to which ETFs are more cost-efficient – US or Irish. It depends on what kind of investing.
US ETFs: More Cost-Effective For Short Term, Frequent Investing or Trading
It is just a simple exercise to show the difference between Irish domiciled ETFs and their US-domiciled ETFs counterparts are not significant – at least in the short term.
So, for short term investors, they might favour US-domiciled ETFs due to the trade commissions and bid-ask spreads. That is probably why most of the Roboadvisors here in Singapore still prefer US ETFs because they need to perform more trades.
One more critical point is the diversity and number of US ETFs available. The most liquid, the newest, the most cutting edge, and the most exotic ETFs are mostly found in US markets. You can get almost anything there. That could be another reason for favouring US-domiciled ETFs over Irish domiciled ETFs
Irish ETFs: More Cost-Effective For Buy and Hold Long Term Investing
If you only plan to make a few trades in a year, buy and hold for the long term. Irish domiciled ETFs are more cost-effective. They are more tax-efficient and are not subject to estate taxes.
These two factors give Irish ETFs slightly better total returns compared to US ETFs. However, as shown in my illustration, the difference is not huge.
After deducting other fees (such as custodial fees), the net dividends are almost similar (slightly better) than the US ETFs.