Financing Instrument | Unit Investment Trusts | Mutual Funds
The last three methods are usually referred to as accelerated depreciation methods because they provide for a more rapid recapture or write-off of fixed capital investments (Financing Instrument) in the earlier years of their existence. By using the accelerated depreciation methods, income offset is maximized by deprecation, corporate income tax liability is minimized and payback period for the asset is minimized.
Depletion expense is quite similar to depreciation except that it is applied to wasting or natural assets. Depletion gives a tax shelter to a client, is also provides the clients an avenue for an additional source of funds and a tax shelter. It may be based on output or sales or revenues. Depletion helps, to write off the initial investment rapidly and recapture the initial capital outlay. The Federal Government use investment tax credit as a fiscal tool to stimulate. Capital investment in situations where it is needed in or by the country’s economy. The investment tax credit is similar in effect to accelerated depreciation and obviously encourage fixed capital investments.
Amortization is also used to reduce income and taxes. Amortization is the process of writing off other types of assets other than plant, equipment, wasting or natural resources. The items amortized include premiums, discount on securities purchased, underwriting cost on securities issued, intangibles such as goodwill, patents and copyrights etc.
Unit Investment Trusts
Unit investment trust is a method of investment whereby money contributed by several people is pooled in a fund and invested in a portfolio that is fixed for the life of the fund. To form a unit investment trust, a sponsor, usually a brokerage firm, buys a portfolio of securities which are then deposited into a trust. This will now get to the stage where the public shares or units is placed in a trust known as the redeemable trust certificates. Substantial proportion of all unit investment trust funds are invested in fixed income portfolios of which are largely tax exempt debt to ensure liquidity.
A unit trust is not a limited liability company but the liability of each unit- holder is limited to his financial interest. Parties involved in unit trust are the Unit-holders, the Trustee and the trust managers. The unit-holders are the subscribers to the fund. The trustee may be a bank or trust company who has the custody of the trust assets. The trust managers could be a stockbroker or an investment management company that selects and manages the portfolio of investments in accordance with the trust deed. The trust managers are appointed by the Trustees but both should work independent of each other.
The advantages of unit investment trust are the ability to invest through a professionally managed portfolio; diversification of investment not generally available to individual investors, and investment liquidity through convenient purchase and redemption procedure. It also offers investors the spread of risks and services of expert management. Sponsors of unit investment trusts can earn their profits by selling shares in the trust at a premium to the cost of acquiring the underlying assets. Any of the investors who harbors plans to liquidate it’s company holdings in an investment trust, the investor can actually sell the shares they have in the trust to the trustee at a net asset value.
Mutual Funds
Mutual fund is a means of combining or pooling the funds of a large number of investors together for the purposes of buying and selling financial assets by the fund operator or manager who is compensated for the service provided by payment of management fee. Mutual fund is just like a club or cooperative in which individuals themselves team up and pool funds to get the advantages of large scale investments. Mutual fund is attractive because it provides instant diversification, professional asset management at a reasonable cost, automatic reinvestment of dividends and the ability to convert back to cash at any time.
Mutual fund is an open-end investment company owned by its shareholders. The shareholders elect a board of directors. The board will hire a management company to manage the portfolio for an annual management fee that typically ranges from 0.2% to 1.5% of total assets of the fund. In some known situations, management company are the one who organize the needed fund. Mutual funds often belong to a larger family of funds but each fund is separate company owned by its shareholders. Most mutual funds are created by investment advisory firm which specialize in managing mutual funds and perform other financial services. The advisory firm generally handle the record keeping, marketing and much of the research that underlies the fund’ investment decisions.
There is a significant economic incentive to create mutual funds and attract investors to them. An investment company might one day decide that there is demand for a fund that buys stock in companies that are into manufacturing. The company could form a mutual fund that specializes in such companies and call it a name like Elcene Mutual Fund. As shares are sold, the money received is invested. If the fund is a success, a large amount of money will be attracted and the company would benefit from the fees it earns. If the fund is not a success, the board can vote to liquidate it and return shareholders money or merge it with another fund,- Mutual funds are usually divided into two major classes namely, short-term funds and long-term funds. Another name for Short term funds is known as money market mutual funds. These money market mutual funds specialize in money market instruments and are open-end funds. A unique feature of money market funds is that their net asset values are always NI per share.
A money market fund simply sets the number of shares equal to the fund’s assets, in such manner that a fund with N500 million in assets will have 500 million shares. As long as the funds invested earns interest on any investments it was invested in, the investors get to receive more shares as a result of the growth or increase in the fund invested. The fund usually invests in very safe, interest bearing, and short maturity assets. Long-term mutual funds specialize in capital market instruments such as stock or equity funds for capital gains, growth, and income; bonds for fixed incomes; combined stock and bond for balanced. asset. allocation and incomes.
Financing Instrument
Trade Credit – Trade credit is an inter-business credit granted by the supplier who allows the buyer to collect his goods or services on credit based on mutual confidence established between the supplier and the buyer with the implied obligation on the buyer to pay the cost at a later date. The buying firm is not required to pay cash immediately the goods or services are delivered but payment has to be made according to the credit term in the sales invoice. Trade credit is an informal and spontaneous arrangement in the sense that no legal instrument is signed by both parties, and it arises from ordinary business transaction. The seller records trade credit in its book as accounts receivable or sundry debtors or bills receivable (if bills are signed). In the book of the buyer it is recorded as Accounts payable or sundry creditors or bill payable (when the buyer signs a bill). A bill also known as promissory note can be described as the official acknowledgment documented to show obligation and promise to pay on the date specified on the document.
Trade credit is highly demanded when there is general shortage of finance and/or when interest rates are very high. When these situations arise less financially buoyant business operators tend to lean on more financially buoyant suppliers by delaying payment to the suppliers.
If a firm’s accounts payable exceeds its accounts receivable, the firm is said to be receiving net trade credit. If its accounts payable is less than the accounts receivable, it is said to be extending net trade credit.
The credit terms state the price, total amount due, the terms of sales or condition of sales that guide the seller and the buyer. This is usually stated thus: 2/10, net 30. The interpretation of this is that a 2 percent discount will be deducted from the Naira value of the sales if the buyer pays up the credit on the 10th day, he will lose the discount if he pays from the 11th day but must pay up latest on the 30th day. Others include:
COD = Cash on Delivery of goods. That is, payment before taking possession of the goods.
CBD = Cash before Delivery of goods. That is, payment before the goods are handed over to the buyer.
Net/15 EOM = All goods shipped before the end of the month must be paid for by the 15th of the following month.
Trade credit is conducted on open account where the goods seller releases the goods with the invoice to the buyer and the buyer does for sign any formal document to evidence such sale and debts incurred. The transaction is done based on the good credit rating and goodwill of the buyer. Under promissory note the buyer is requested to sign a promissory noted which is a written acknowledgement of the transaction and the date of payment.
Equally the seller who initially sold on open account can call for promissory note when the buyer defaults to pay on the appointed date. For trade acceptance the seller draws a formal document which the buyer accepts to evidence the sale and amount due from him to the seller.