I ended last week's article with a brief consideration of the often-stated phrase: “My business is my pension”. In particular, I looked at the possible detriments of relying solely on this strategy for fut ure financial security, likening such a focus to investment in a single unquoted equity.
While the IFA may not see this as an area on which he should advise, it is well worth remembering the qualities in a business that a buyer would value. These include:
End uring management team.
Position in a high-interest industry.
Pipeline of business.
Expanding client base.
Potential synergies to be exploited.
Good client relationships yielding predictable profits.
High sales margins.
Strong brand and reputation.
Low-risk business area.
Scope for securing benefits of scale and leverage.
The more of these qualities that exist in a business, the greater the value to a buyer.
The IFA also has a role to play in establising the asset value of the business and eff ec tive planning to acq uire assets.
Changes enacted in this year's Finance Act mean there is a reasonable amount of int erest in capital equipment purchases. Of course, the purch ase of capital equipment should be driven by the commercial needs of the business.
It is highly unlikely that capital equipment in the shape of plant and machinery will inc rease in value over the years. The opposite is almost always the case. However, if it is to satisfy the commercial test, the purchase of capital equipment ought to be the facilitator of improved revenue which, in turn, will feed an increase in the company's capital value, especially where this is based on a multiple of profits.
So, the determinant for making a capital equipment purchase – or not – ought to be exclusively commercial. However, when a purchase is made attractive from a tax point of view, the case may be easier to make.
The first change to note in this year's Finance Act is emb odied in section 70. For small or medium-sized enterprises, this section extends indefini tely the 40 per cent first-year allowance for purchases of plant and machinery. This is definitely to be welcomed although the first-year allow ance has now been with us for some time, albeit extended on a year-by-year basis.
Perhaps of greater import ance is section 71, which int ro duces a 100 per cent first-year allowance for investment in information and communications technology by small enterprises. Small enterprises are those regarded as “small” by section 249 of the Companies Act 1985 or the Northern Ireland equivalent. An unincorporated business will be regarded as small if it would satisfy the section 249 test were it a company.
A small enterprise must satisfy at least two of the following criteria:
Turnover not more than £2.8m.
Assets not more than £1.4m.
Not more than 50 employees.
In addition, an enterprise will be treated as small if it was small in the previous year. To qualify, a company must not be part of a group which is not small, applying the criteria above.
Investments that qualify for this new allowance are, broadly speaking, computers and associated equipment, including cabling and dedicated electrical systems, wireless application telephones and thirdgeneration mobile telephones, devices designed to be connec ted to television sets to access data networks such as the internet and associated software.
It is important for the IFA to know about these reliefs since a blank expression when capital equipment and purchase is mentioned by the client will not be conducive to gaining or enhancing the trust so important to a long-term effective business relationship.
Is there anything the IFA can do to help facilitate capital equipment purchase? Well, if finance is available, it may well be that this can be arranged.
In some cases, if funds are to be used in capital equipment purchase, there will be no or reduced funds available for pension funding. It may be that, in some circumstances, a tax-effective combination of a pension fund and capital equ ipment purchase is possible.
Before considering an example showing how this can work with a pension loan, it is worth revising the provisions for borrowing from pension funds. The most obvious sou rce of pension-related borrowing will be small self-administered schemes. Loans from such schemes to the emp loyer are possible provided they are made on an arm's-length commercial basis and interest is charged at a commercial rate.
Interest would normally be at 3 per cent above the clearing bank base rate. It is not necessary for the loan to be sec ured but, given that the only pot ential loser if an unsecured loan is not repaid is the director's pension fund, security ought to be at least considered.
The amount that can be borrowed is a maximum of 50 per cent of the value of the fund, including any assigned or trans ferred policies. However, this is subject to the proviso that the fund has been established for at least two years. Within the first two years, the maximum that can be borro wed is 25 per cent of the value.
It is important that a speci fic business purpose for the loan is stated. Buying capital equipment would be an acc eptable purpose in most cases. However, a general statement that reads “cash flow” or “wor king capital” is unlikely to be acceptable.