Making The Business’s Money Work Harder

3 minute read

Cash is essential for working capital, future projects, and holding against contingencies.

However, we often meet businesses where cash has accumulated above these needs. Held on deposit, it loses its value against inflation.

Boosting the returns you receive on excess cash can provide a major boost to your overall wealth. It can also be part of your exit plan, especially if you’re considering a Family Investment Company to fund life after a business sale, and to support children.

Three problems with bank deposits:

Poor tax efficiency
Poor returns
The cost of inflation

The trouble with bank deposits 1 – poor tax efficiency

While an easy and obvious place to put excess cash, bank deposits are a poor investment. Interest rates are typically low and completely subject to corporation tax. The impact of taxation is illustrated below:

Forecasts are not a reliable indicator of future performance.

This difference is purely due to preferential tax treatment on the invested portfolio. Returns on a 5% bank deposit are subject to 25% corporation tax, meaning an annual after-tax return of 3.75%. The £500,000 would grow to £722,522 after 10 years. The same 5% return from an investment portfolio (assuming 3% from dividends which pay no corporation tax and 2% from interest which pays 25% corporation tax) would deliver an annual after-tax return of 4.5%. The £500,000 grows to £776,485 after 10 years, an additional £53,965, or 11%, more than a comparable bank deposit.

When invested, interest is taxed at corporate tax rates like cash, but dividends are received net of corporate tax at source. This means no further corporation tax. The result is much better tax efficiency.

The trouble with bank deposits 2 – Poor returns

The above example assumes the same return from cash and investment. In practice, they’re not comparable.

Forecasts are not a reliable indicator of future performance.

The returns on an initial £500,000 investment are still notably larger for an invested portfolio than a bank deposit, even after management fees. As seen in the previous graph, a £500,000 investment would return £722,522 after 10 years if placed in a bank deposit yielding 5%. At Quilter Cheviot, the Balanced Strategy has an estimated annual return of 6.5% over the longer term. For example, if the composition of this 6.5% is 3% from dividends (no corporation tax), 1.5% capital return (25% corporation tax) and 2% interest (25% corporation tax) then the after tax return is 5.625%. This would mean after 10 years the initial £500,000 would grow to £864,246, an additional 141,724, or 28%, compared to a bank deposit.

The trouble with bank deposits 3 – The cost of inflation

Investment carries risk, most notably to capital in the short term. In the medium and longer term, however, it significantly reduces the risk of inflation reducing the value of capital.

More than that, historically equity and bond investments have comfortably outperformed returns on cash and inflation.

Figures refer to the past and past performance is not a reliable indicator of future results.

Investing via a bond ladder

Access to bank deposits is usually determined by cash maturity dates, restricting flexibility.

We can help. For clients like you we invest business cash in a series of bonds that mature at appropriate future dates. This allows you to plan when the business needs access to liquidity. These investments will be in government or investment grade bonds, meaning a low risk of default.

The benefits of a diversified portfolio

Including stocks in your investments offers the chance of greater returns over the medium- to long-term. Not only have equities traditionally outperformed bonds and cash over longer timeframes, but they benefit from preferential tax treatment too.