The need
The capital requirement for many businesses is provided by the owners in the form of a personal loan to the business. This is especially true for new businesses that are not in a position to provide the required security to banks when attempting to raise capital.
The terms of such loan accounts are often agreed informally with no written contract, no fixed repayment date and no interest payment clause. This means that over time, inflation erodes the value of this asset in the personal estate of the loan account holder.
The need of the business is to be able to repay the loan on demand if called upon to do so at any time, or at least by the retirement date of the loan account holder.
Solution
A Loan Account Redemption Plan is a savings plan that the business establishes to accumulate sufficient funds by an agreed date so as to repay the loan account.
The main advantages of this plan are:
- The loan can be structured to be repaid on a determinable future date.
- It brings financial certainty in the financial planning of both the business as well as the loan account holder.
- At the repayment date, the parties may agree not to repay the loan account, but apply the investment in the business, either by way of a tax-free lump sum cash injection, or by way of tax-free income from the endowment, if that was the investment vehicle.
Structure and implementation
The business owns the investment and makes payments to it from after-tax profits. The agreed repayment date determines the term of the investment. On the agreed repayment date, the business utilises the investment proceeds to repay the loan account.
Under no circumstances should an outright cession of the investment be made, or a beneficiary nomination recorded on it.
It is possible to structure the repayment plan such that the loan account holder owns the investment. The business repays the loan account by means of recurring payments, which the loan account holder then invests in a personally owned investment.
