Does the name “sinking fund” conjure a picture of an old-fashioned metal bathtub floating on a dam, ready to sink?
A sinking fund is a rather strange name for a financial solution. The term was coined in the eighteenth century in England, and such a fund was used to reduce the national debt or to prevent the country from “sinking”. Luckily, today it is mostly a lifeboat for businesses.
There is hardly a better savings vehicle for an upcoming capital outlay. Good examples are when a new plant will become necessary, or you will need to invest in a lot of stock subject to the exchange rate sometime in future. You can use it to save for a fat bonus to keep a key person loyal. In fact, it’s a terrific way of accumulating a future income for yourself without pushing your salary into a higher tax bracket. Some people call this “deferred compensation”.
A sinking fund can also double as an emergency fund for a business. One never knows what legal surprises may come, or what infrastructure challenges are waiting. Saving upfront for solar solutions is so much cheaper than using debt to finance such a need.
One can contribute monthly, or a lump sum to this kind of investment. A sinking fund enables you to save for the middle to long term, say at least five years, and outlives the investor. This means the investment doesn’t stop when you die, but you can nominate a new owner who will get the proceeds – a person or a trust with natural persons as beneficiaries. This means it can be a major partner in the business, or your children.
The income tax payable on the growth is a flat company tax of 27%. This is paid in the product, which means you don’t have to budget for it separately or do extra submissions. The capital gains tax payable depends on whether you take it out in your personal capacity, or as the business.
Great advantages are that you can take out one interest-free loan against the investment, and you can also cede it as security or an outright cession to a bank. One can also withdraw once, up to 80% of the value of the investment.
If you want to increase your contributions to your investment, the increase can’t be more than 20% of the contributions paid the previous year, according to the product rules.
Most financial institutions iterate the importance of saving for a goal. It’s the same for your business – setting a goal is a great tool in shaping your mind towards being disciplined and organised. It’s something to look forward to. It will also give you a sense of comfort that you are saving for expected expenses or getting prepared for unexpected surprises. Best of all will be if you can afford a future bonus to reward yourself and other senior staff for what you are sacrificing to keep the business healthy and thriving.