Investing surplus cash to build wealth

After all your hard work, there'll hopefully come a time when your business matures and starts to build wealth. When you reach this stage you can actually bank some of your profits and use the excess funds to invest for both the future of your business and your own financial future.

Where do I start with investing?

It's good that you're wondering what to do with surplus cash. This is a great position to be in, but now you'll need to make some decisions about where to move your money.

 

There are many different ways to invest and the options you choose will depend on your individual situation. Some of the things to consider include:

 

• How much you are investing
• To what degree you may need to access your money at short notice
• What your financial goals are, both professionally and personally
• Your attitude to risk versus potential return.

 

These are some of the factors that may inform your investment strategy, which in turn will influence the types and mix of assets you invest in. In addition, you'll need to consider risk and return, liquidity and tax implications – which this article touches on later.

Financial goals and investment strategy

Even for experienced investors, it's a good idea to consult with a financial planner and choose your business investment strategy carefully. Most people have a mixture of short-term (1-3 years), medium-term (3-5 years) and long-term goals (5+ years), which all require different investment solutions and considerations.

Investment options

Some of the most common types of investments used by Australians are shares, property, bonds and cash. These are all called assets. 

 

Your investment strategy will determine which of these asset classes you include in your portfolio, and how much of your investment budget you assign to each. There are also products such as mutual funds, managed funds and wrap platforms, which offer convenience, control and flexibility with your investments.

Diversification to reduce risk

Many investments involve risk, but diversification could be a way of managing the risk associated with investing. It involves spreading your money across different asset classes and investments, so as to limit the impact of negative events on any individual sector. 

 

Diversifying across asset classes could help protect you against underperformance in any one of them. Your asset allocation will reflect how cautious or aggressive your investment strategy is.

Risk versus return

The reason we invest is to seek a return on our money. However, as we have established, investing comes with risk. Choosing your investment strategy should involve research and deciding how much risk you are comfortable with versus what kind of return you'd like to achieve.

 

Investment in the stock market can be risky but may turn out to be very favourable. Whereas investment in a term deposit provides a pre-determined return, but a potentially modest one in some market conditions.

Liquidity

This refers to the ability to convert an investment to cash. The ease and speed of access to your investments will vary by asset classes and individual products, so it's important to factor this in when you put together your investment strategy.

 

Also, be aware of any fees that might be incurred when you exit each investment.

Tax

Benefitting from investments will have tax implications, some of which may be complex. For example, if you are investing in shares that pay dividends you can be liable for tax in two ways:

 

1. Income

 

• Dividends are subject to income tax at the investor's marginal tax rate.
• Some dividends include franking credits, which can offset the income tax payable.

 

2. Capital gains

 

• Net capital gains (i.e., net profits) realised on investments are subject to income tax at the investor's marginal tax rate. This is commonly known as Capital Gains Tax (CGT).
• Individuals are eligible for a 50% discount on gains for investments that are held for 12 months or more; thus only half of the gain is subject to tax.
• Capital losses can reduce the net amount subject to tax, and also affect how much discount you receive. Net capital losses cannot be used to reduce your income tax.

 

With these complexities in mind, it's important to get sound financial advice about your investment costs and liabilities before you choose an investment solution.

Superannuation and your business

Your superannuation is possibly one of the biggest investments you’ll have. Putting extra money in as a salary sacrifice, as well as from after-tax income (non-concessional contributions), will grow your retirement funds. There are limits to respect here, so speak to your financial or tax adviser to choose the best strategy for you.

 

And if you have a family business you might want to consider a family trust structure. Trusts are quite complex, and you'll need to talk to an accountant and lawyer to ensure yours is established properly.

How much cash do I need to start investing?

How much you choose to invest will depend on your own personal circumstances and investment strategy. The important thing is that you only invest the amount of money you can actually spare – which is why it could be a good idea to put together an investment budget and stick to it. 

 

Again, potentially talk to a financial adviser to cover areas such as tax considerations, fees and exit costs before you commit to any investments.

How can I minimise my risk?

Some types of investments carry lower risk than others. 

 

As we've said, a business term deposit¹ linked to your business bank account¹ can be a lower risk investment option. You can put your money away for terms of between one month and five years and the interest rate is fixed. One important consideration when investing money in a business term deposit is that the funds are locked away until the deposit matures. While in some circumstances you may be able to access your money before the term ends, your interest rate and return may be affected.

With terms available from as short as a month, term deposits could be a good way of setting aside money for GST and other taxes. Plus, you can choose to receive interest payments at a frequency that matches your business cycle, at times when you need to boost cash flow.

If you're happy to accept variable interest rates, you may also wish to consider a standard business savings account¹. Compare the rates between this and a term deposit to help you decide if the rate difference is worth the more flexible access.

A tax-efficient investment option for farmers

The Farm Management Deposit scheme is a government initiative that lets farmers build up cash reserves in the good years to help safeguard their future. It works like a term deposit, with a locked-in interest rate over the fixed term chosen, providing the confidence of a regular income.

The extra advantage for primary producers relates to tax deductions. The interest paid on deposits held in a Farm Management Deposit account¹ for a year or more, only becomes taxable income when it’s withdrawn.