What should companies do with their Surplus Cash?

 

Corporate Deposits V Corporate Investments

If you’re a company director with company money on deposit, you really need to be reading this.

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 fairly 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 52% (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, with demand deposits currently ranging from as low as 0% to 0.3% across the major Banks. While the inflation rate is quite low at the moment, it might not always be that way. Inflation running at anything higher and you’re into losing money. The long-term inflation rate in Ireland 1976 to 2017 was 4.66%.

There are also other reasons though why this isn’t a good strategy. 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 investments 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 it is not viewed as income. As such, the close company surcharge should 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. As a consequence, these key tax advantages combined should also lead to an accelerated growth and final return.

So, in summary, Corporate Investments offer the following:

  • Potential for higher returns than deposits (that wouldn’t be hard!)
  • Benefits from the gross roll up regime
  • No close company surcharge
  • A range of fund options
  • Easily diversified and accessible with no penalties.

 

If you are a company Director and would like further information on what to do with your deposits, always contact an Independent Financial Adviser before making any Investment Decisions.

 

Barry Kerr BBS QFA CFP® is the owner of Wealthwise Financial Planning, Bridge St, Carrick on Shannon, www.wealthwise.ie. Barry Kerr T/A Wealthwise Financial Planning is Regulated by the central Bank of Ireland. All details and views contained within this article are for informational purposes only and does not constitute advice. Wealthwise Financial Planning makes no representations as to the accuracy, completeness or suitability of any information and will not be liable for any errors, omissions or any losses arising from its use.