For business owners, holding excess capital in the shape of cash or bank deposits has always been a nice problem to have. As the value of traditional monetary assets has fallen in recent years, generating a return on cash reserves has become a lot more challenging.
If your company has surplus cash on its balance sheet, what are you doing with this money? Deposits provide little protection against inflation, eroding the future purchasing power of your company’s savings. Such accounts have traditionally been seen as the best solution to meet cash flow and savings needs, however with interest rates only recently moving above zero percent, this may no longer be an attractive option for those funds that are not required for short term cash flow.
Like all investors, it is important for you, as a company director, to consider several factors when deciding what to do with the current surplus that your company holds; 1. Time horizon – How long are you looking to invest the various elements of your company’s portfolio. 2. Risk profile – What level of risk is your company willing to take to achieve a certain level of growth. 3. Access to funds – cash flow planning is critical to understand how much of existing surplus cash and future expected earnings can be invested by your company.
Is there a better solution? If you want to give your company’s surplus money the potential to work harder than deposits, the potential to keep pace with rising inflation, now may be the right time to give this issue some thought. You may wish to consider investing some of your money in an investment bond through a life insurance company.
When you do this, your company’s surplus money will be invested in a fund to match the risk profile that you are comfortable to take, meaning it will have good potential for growth, especially over the long-term.
The potential for better returns - Profit elements of any withdrawals from an investment in a life insurance bond are subject to exit tax of 25% for companies. As the investment growth is only taxed on any withdrawal, any surrender, maturity, assignment, every eight years or on death, the investment growth isn’t reduced each year by tax. This gives your company’s savings the potential to work hard and benefit from compounding.
We have set out below how a life insurance corporate investment plan differs from a corporate deposit account:
Corporate Deposits versus Corporate Investments
Most Irish SME companies are “close companies”. A “close company” is one which is controlled by 5 or fewer participators. For the most part, company directors usually draw a small salary for themselves, and their spouse and they will also get the company to fund a pension for them both. This would be considered a solid and tax efficient financial planning strategy.
However, many company directors choose not to withdraw the remaining company profits, choosing to leave them on deposit instead. They may do so for many reasons. Higher salaries may be taxed at rates of up to 51% (Income Tax, USC & PRSI), so enough of that! Or maybe, they want to build some cash in the company in case it’s needed, or for future expansion or a rainy day. Perhaps it’s just a case of procrastination because they are so busy getting on with the business of running their business. Or, most probably, it’s because they just aren’t aware there are any other options.
Why might this be a problem? Well, deposit rates are at historically low levels and inflation has increased substantially over the past 12 months. Interest rates will increase over the coming months to help combat this higher inflation, notwithstanding this, expectations are for deposit rates to remain relatively low over the coming years.
When a company leaves money on deposit, it is subject to 25% Corporation Tax on this non-trading income. In the case of “close companies” they may also be subject to a “close company surcharge”. This is an additional 20% if it remains undistributed within 18 months of the accounting period in which those profits arose.
The tax treatment for lump sum investments or regular savings in a life company investment bond, is dramatically different. Such investment policies fall within the definition of an asset in Section 532 Taxes Consolidation Act 1997. A point that’s often overlooked is that the returns here are not viewed as income. There is also no provision to charge any realised gain as income, for income tax purposes. All gains in these investment funds accumulate on a gross basis. There is a deemed tax charge on the growth only every 8 years, or when cashed in, if earlier.
The effect of this gross roll up regime is that a company can defer this tax. The tax on the growth can be pushed out until at least the 8th anniversary. This allows the company to compound investment earnings, which can be significant.
Another key advantage of a Corporate Investment Plan is that as profit/growth is not viewed as income, the close company surcharge does not apply. Furthermore, the profits are subject to a reduced rate of just 25% exit tax as opposed to 41% exit tax for a personal investor. Consequently, these key tax advantages combined should also lead to an accelerated growth and final return.
Corporate Investments offer the following:
- Potential for higher returns than deposits
- Benefits from the gross roll up regime
- No close company surcharge
- A range of fund options
- Easily diversified and accessible with no penalties.
Please see our case study here about how we helped one of our corporate clients invest some of their surplus cash. If you are a company Director and would like further information on what to do with your deposits, please contact Invesco and we’ll arrange a meeting with one of our experienced advisors."