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Corporate punishment

The investment of corporate money may not generate a high volume of day-to-day enquiries for most financial advisers but the amounts involved can be significant.

In many cases, advisers find that the available funds have arisen inside the private company’s bank account for the same reason that often significant balances arise on deposit for the individuals who are the owner/managers of these companies, namely, inertia and a general desire for a rainy-day fund. In some cases, however, the rainy day would have to be a monsoon to require the use of the amounts built up.

In many cases, it will be found that these sums are held on treasury reserve with the business’s bankers. In the current volatile and uncertain investment market, the desire to hold such funds in cash would be understandable.

Even before this year’s significant tax changes, corporate investment was often viewed and approached – quite correctly – with caution. The business had to consider the corporation tax implications during the investment term and on encashment. There was also the not inconsiderable issue of the impact on business assets taper relief for capital gains tax.

Collaboration with the business’s other professional advisers, usually accountants and auditors, was – and remains – important.

Well, business assets taper relief is – sadly – no longer with us but taxation during the investment term and on encashment is still an important consideration. In this year’s Budget and Finance Bill, as indicated in the pre-Budget report, we have had the extension of the loan relationship rules to all investment life insurance contracts.

So where does this leave us? Well, the changes to legislation this year do not affect the fundamentals of the internal taxation of life insurance funds and collective investments.

UK life funds are, broadly speaking, taxed at the special life company rate of 20 per cent. As I have reminded readers on many an occasion since last year’s pre-Budget report, UK dividends bear no further tax inside the fund and only “real” capital gains – after the rapidly increasing retail prices index is applied – are subject to tax. We continue to have the deemed annual life fund realisation of collectives and the spreading of tax on the deemed gain over seven years.

Offshore life funds, broadly speaking, bear no internal tax – assuming, as is usual, they are established in a tax haven – and collectives are more transparent in respect of income. This fact in connection with collectives invested in by companies is significant. Dividends paid from UK collectives are received with no further tax payable by a UK corporate investor. This is true whether the dividends are actually received or reinvested.

Companies do not qualify for the 18 per cent flat rate of CGT but they do qualify for indexation allowance. This means that gains realised on a UK or offshore collective will only be taxed to the extent that they are greater than the increase in the RPI, which is the measure used for this relief. As of May 2008, it is running at 4.3 per cent a year.

So, a company investing in an ordinary UK collective will have no year-on-year tax on dividends and will only pay CGT on real gains. Remember, any dividends reinvested will increase the cost or base value of the investment for the purpose of calculating future gains.

On tax grounds, the collective could look quite appealing to a company. The effect of investment on entrepreneurs’ relief would need to be considered, however. The one-year ownership test for trading company interests could be helpful. Care may be necessary – as it was under business assets taper relief – if a trading purpose for the retained/invested funds cannot be substantiated, even in the one-year period.

If a collective qualifies for interest distribution status (more than 60 per cent in debt-based/interest-bearing securities) one would have to consider the application of the loan relationship rules. More on these and an interesting development in connection with investment bonds next week.


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Retirement fund - thumbnail

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George Osborne will make his last Budget speech of the current parliamentary term this week, and the early media briefings suggest that pensions will again feature heavily in that statement. So what are we able to learn from the weekend’s coverage?


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