An investment company is a business that helps people invest their money in different opportunities with the goal of making more money. There are different types of investment companies, but they all have the same goal: to help their clients make more money. Investment companies make money by charging fees for their services and, through the company profits, they make money from investing and managing their clients’ money.
What Is an Investment Company and What Do They Do?
An investment company is a business that provides services to help people invest their money in various securities; such as stocks, bonds, and exchange-traded funds (EFTs). Investment companies can be structured in a variety of ways and can operate from a brick-and-mortar outlet or an online presence. Investment companies help their clients invest their money in different opportunities with the primary goal of making more money for their clients.
Legal Structures for Investment Companies
There are a variety of legal entities that can be utilized and formed as the basis of an investment company. However, the three most common structures are those of a Limited Liability Corporation, a C Corporation and an S Corporation.
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Limited Liability Corporation
A Limited Liability Corporation (LLC) is a legal structure that protects individual shareholders from liability while offering some flexibility in the legal structure. An LLC structure requires shareholders to pay taxes as does a partnership, with a shareholder tax schedule issued yearly.
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C Corporation
A C corporation is a legal entity that offers personal protection to shareholders from liability. It is designed to accommodate shareholders with a future plan of going public. A C corporation is taxed in two ways: first, through the corporation itself; second, through the shareholders of the corporation. Although it is doubly taxed, the C corporation is the most common form of corporate ownership and is considered especially useful if a large company is the intent of the initial shareholders.
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S Corporation
An S Corporation is a subset of a C corporation, initially founded by the IRS as a way to accommodate small business structures. The legal structure of an S Corporation also protects shareholders from personal liability. While there are limits on the number of shareholders allowed, the S corporation is taxed in one way only; through shareholders. At the end of each fiscal year, any revenue remaining is passed directly through to shareholders to be taxed accordingly. This corporate structure is excellent for those who want a small, privately-held investment company.
How Investment Companies Make Money
Investment companies make money by charging maintenance or monthly fees for their services and by taking a percentage of profits made on behalf of their clients.
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Fees
Investment companies charge fees for the services they provide. The fees can be charged on a per-transaction basis, a monthly basis, or a yearly basis. Investment companies also charge fees for managing the investments made for their clients. The management fees are typically a percentage of the assets under management.
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Profits
Investment companies make money through the profits they make from investing the money invested on behalf of their clients. Investment brokers may choose to invest money on behalf of a client into a variety of opportunities, such as stocks, bonds, and real estate. When the investment companies make a profit from those investments, the profit is returned to that client.
Types of Investment Companies
There are three main types of investment companies: mutual funds (open-end funds), closed-end companies (closed-end funds) and unit investment funds (UITs). Each of these types of companies has unique features.
- Mutual Funds
A mutual fund is an investment company that pools money from many investors and invests the money in a variety of securities. Shares in a mutual fund are “open-ende and considered “redeemable,” meaning that they can be sold back at the net asset value to the mutual fund if an investor wants to be removed as a shareholder. This offers some flexibility for shareholders who want to invest in the profitability of mutual funds, but may want to move through other trading channels, as well. Mutual funds are regulated by the Securities and Exchange Commission (SEC).
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Closed-End Funds
Closed-end funds share some similarities with mutual funds; however, shares are not redeemable if an investor chooses to withdraw funds. Funds can be sold on a secondary market at current market value. Closed-End Funds are also regulated by the SEC.
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Unit Investment Funds
A UIT company operates under a very different structure than that of open-end or closed-end funds. Investors buy into a “one-time offer” containing a mix of stocks, bonds, or other securities. The one-time offer establishes the entire pool of shareholders and no other buyers may enter the pool. Shares are redeemable at net asset value (NAV) if a shareholder desires to sell shares back to the UIT.
Conclusion
An investment company is a business that provides services to help people invest their money. Investment companies make money in two ways; first, by charging management or maintenance fees for their services, and, second, through the profits made on behalf of their client investments. Although there are several types of corporations that may be formed for investment companies, most are legal entities based on either a C corporation or an S corporation. Investment companies typically focus on one type of investment options: mutual funds, closed-end funds, or unit investment trusts. Knowing how an investment company can be structured and will create profits can help in your decision to start an investment company.