Introduction
Many companies hold substantial amounts of cash in deposit accounts. These cash deposits will not give the company any scope for capital growth and to the extent that any interest is earned it will be taxable. Investing in security and bond based financial products gives opportunities to achieve better and more tax efficient medium to long-term investment returns.
Obviously, this investment decision is conditional on the fact that the company will not require any access to the cash in the foreseeable future. If you do, a medium to long term equity-based investment in a collective may not be appropriate.
Taxation
Fund managers of UK authorised collective investments are not subject to tax on capital gains and are transparent in respect of income. Dividends paid from UK collectives are received with no tax payable by a UK corporate investor. This is true whether the dividends are actually received or reinvested.
So, a company investing in an ordinary UK equity-based collective will have no year-on-year tax on dividends and will only pay CGT on real gains. Also, any dividends reinvested will increase the cost or base value of the investment for the purpose of calculating future gains.
Company Investments – Other Considerations
Power to invest
A company will need the power to make the investment in its Articles of Association. These will normally confer wide powers which would give the company sufficient power to invest in collectives investment schemes. If they don’t, you will need to amend them.
The impact on Entrepreneurs’ Relief
There is one other important aspect to bear in mind, which is the impact that the investment can have on the director/shareholder’s entitlement to entrepreneurs’ relief when they eventually sell or dispose of their shares in that company.
Entrepreneurs’ relief is a relief which means that if an employee/director, who owns at least 5% of the shares in a trading company, sells those shares he/she can enjoy up to £1 million of capital gains taxed at the rate of 10%. The relief is cumulative which means the maximum relief an individual can have throughout his lifetime is £1 million and the relief does not apply according to each business
Entrepreneurs’ relief is given to investors in a trading company. It is normally easy to determine whether a company is a trading company but from time to time certain investment decisions can impact on its ability to satisfy the definition. To determine a company’s status HM Revenue and Customs apply the “20% test”. This means that provided an investment is not accounting for more than 20% of the company’s income or does not amount to more than 20% of the company’s asset value, then the investment will not prevent the company being a trading company. It is, therefore, important to be careful when looking at corporate investments to make sure that these rules are not infringed.
Fortunately, there would seem to be a couple of ways in which an investment could be made without having adverse implications from the standpoint of entrepreneurs’ relief.
First, in order to qualify for entrepreneurs’ relief, the shares in the company must satisfy the conditions for a full two years before disposal of the shares takes place. This may mean that provided any “problem” investments are realised at least two years before the sale of the shares they may not affect the director/shareholder’s ability to qualify for entrepreneurs’ relief.
Second, it is accepted practice by HM Revenue & Customs that when undertaking an asset valuation of the company it is possible to take into account non-balance sheet values and this would include goodwill. Frequently when this is taken into account it will drive down the percentage value of any investment meaning that the 20% asset test is not infringed and entrepreneurs’ relief is available.
The impact on inheritance tax business property relief
When calculating the value of business property for inheritance tax purposes (in circumstances of a lifetime transfer or death of a business owner) a reduction of either 100% or 50% can be applied. It is important to note that because the relief applies to ‘relevant business property’ some assets can be excluded. Therefore, if part of the value of the company’s shares can be linked to an ‘excepted asset’ within a business, no business property relief will be available for the share value represented by that asset. Examples of excepted assets would include:
- Investments, eg quoted shares, collectives, gilts, investment bonds etc.
- Large cash balances which are in excess of future business requirements.
- Property rented to third parties.
A summary of Collectives as corporate investments
Collectives offer the following advantages as a company investment.
- No further corporation tax charge arises on accumulated or distributed dividend income.
- For investments into dividend paying collectives capital gains are only taxed when realised and at that time only real gains are taxed. This means only gains above inflation will be taxed. In addition, dividends (received or accumulated) are not subject to tax and increase the base value/cost of the investment.
- A switch between different investment funds would trigger a disposal and so a corporation tax charge could arise at that time.
- If the underlying investments are more than 60% invested in cash/fixed interest-based investment funds, then the loan relationship rules will mean the company suffers a tax charge on any increase in capital value, as well as a tax on income arising.
SRC-Time are one of the South East’s leading accountancy firms in advising on all aspects of business, taxation and corporate finance and we can assist in any issue raised above.
Our expert team is available to provide you with advice and can be contacted on 01273 326 556 or you can drop us an email at info@src-time.co.uk or speak with an account manager to get any process started.
