If you need to know how to claim EIS income tax relief and enjoy what is...
The various Venture Capital Schemes available in the UK are designed to encourage investment in start-ups and other relatively small businesses.
In return for investing in small, higher-risk companies or social enterprises, investors can gain access to significant tax reliefs.
It is important to note that these schemes are generally designed for experienced investors. These investors should understand the risks involved including the fact that the potential value of their investment could go up as well as down and the illiquidity of their investment.
There are four main types of Venture Capital Schemes:
- Seed Enterprise Investment Scheme (SEIS)
- Enterprise Investment Scheme (EIS)
- Venture Capital Trusts (VCT) scheme
- Social Investment Tax Relief (SITR) Scheme
We have set out below some of the main features of the schemes.
Seed Enterprise Investment Scheme
The SEIS is designed to encourage direct investment in the early development of fledgling companies. The scheme complements the EIS and VCT but focuses on smaller, early-stage companies that are starting to trade. SEIS investments carry the highest risk and conversely offer the highest potential tax reliefs for investors. The scheme is not available to businesses that have already raised funds through either the EIS or VCT schemes.
For investors the main benefits of the scheme are as follows:
- Income Tax relief worth 50% of the amount invested to qualifying individual investors on a maximum annual investment of £100,000.
- A 50% exemption from CGT on gains reinvested within the scope of the SEIS. The maximum gain to be relieved is capped at £100,000 and the relief will be withdrawn if the SEIS relief is ultimately withdrawn.
- Individuals who have claimed Income Tax relief on an SEIS investment, and the shares are kept for at least three years, will be exempt from CGT on any gain on disposal.
- An SEIS investment will normally qualify for 100% relief from Inheritance Tax where the usual conditions are met.
This kind of tax relief should make the scheme very popular, but investors must remember the importance of picking a good company to invest in and carry out proper due diligence. There are a number of conditions which must be met in order to invest in the scheme.
For its investors to be able to claim and keep the SEIS tax reliefs relating to their shares, the company which issues the shares has to meet a number of requirements. Some of these apply only at the time the relevant shares are issued. Others must be met continuously, either for the whole of the period from date of incorporation to the third anniversary of the date of issue of the shares, or in some cases, from date of issue of the shares to the third anniversary of their issue. If the company ceases to meet one or more of those conditions, investors may have their tax relief withdrawn.
The SEIS (as well as the EIS and VCT schemes) must also meet the risk-to-capital condition. This requires companies seeking investment to have objectives to grow and develop over the long term and that the investment must carry a significant risk of loss of capital.
Enterprise Investment Scheme
The EIS was launched in 1994 (replacing the popular Business Expansion Scheme) in order to promote direct investment in small higher-risk trading companies.
The EIS encourages investors to purchase new shares in these companies by offering a wide range of tax reliefs. In order for investors to be able to claim EIS tax reliefs, the company which issues the shares has to meet a number of rules regarding the kind of company it is, the amount of money it can raise, how and when that money must be employed for the purposes of the trade, and the trading activities carried on.
The amount of Income Tax relief for individual investors in the EIS is 30% and the maximum annual amount that an individual can invest through the EIS is £1 million. The limit is further increased to £2 million if at least £1 million of that is invested in knowledge-intensive companies. Tax relief is limited to the amount which reduces the individual’s Income Tax liability for the year to nil. For example, a qualifying investment of £1 million would result in a maximum tax reduction in any one tax year of £300,000 providing the investor has sufficient Income Tax liability to cover the deduction.
There is a 'carry back' facility which allows all or part of the cost of shares acquired in one tax year, to be treated as though those shares had been acquired in the preceding tax year. Relief is then given against the Income Tax liability of that preceding year rather than against the tax year in which those shares were acquired. This is subject to the overriding limit for relief for each year. You must be a UK taxpayer to qualify since it relates only to UK income tax relief.
The tax advantages of the EIS also includes the following:
- A CGT exemption on qualifying gains earned on shares held for a minimum of three years.
- 100% CGT deferral relief on qualifying gains from the sale of any asset to make any amount of investment in a company that qualifies for EIS.
- Should the investment be unsuccessful, EIS loss relief can generally be claimed for any losses made on the shares bought. The loss relief available is at the taxpayers’ highest rate of Income Tax.
- Most EIS investments attract 100% Inheritance Tax (IHT) relief after two years.
- Under certain circumstances, small business owners can also benefit from the EIS rules to invest in their own businesses.
A company looking to raise finance using both the SEIS and EIS must raise investment first using the SEIS before moving on to the EIS. However, it is possible to apply for both the SEIS and EIS at the same time. This means that once the company passes the £150,000 SEIS limit they will almost immediately be able to move on and raise additional funds of up to £5,000,000 or more using the EIS.
Companies seeking EIS investment are typically more developed than those looking for funding using the SEIS and the investment limits and tax reliefs available reflect this. It is important to remember that it is not just a matter of meeting the eligibility requirements of raising finance but also ensuring that your business can attract investors.
Venture Capital Trusts
The Venture Capital Trust (VCT) scheme encourages indirect investment by individuals to invest in small, usually high-risk trading companies through a corporate vehicle similar to an investment trust. The VCT scheme is similar to the EIS which also offers excellent tax breaks for investors but with significant risks attached.
The VCT scheme offers investor’s Income Tax relief of 30% on new subscriptions for ordinary shares in VCTs. The maximum amount qualifying for relief is £200,000 in each tax year. Dividends received from VCTs are exempt from Income Tax, provided the shares acquired (by subscription or purchase) are within the annual limit of £200,000 and held for 5 years. Shares in VCTs acquired within the annual limit are also exempt from CGT on disposal at any time, but losses on disposal are not allowable as capital losses.
There are a number of rules that determine whether a VCT can invest in a company.
- A company must have a permanent establishment in the UK and must carry out what HMRC calls a ‘qualifying trade’ to receive VCT funds. If more than 20% of the trade relates to excluded activities, a VCT will be unable to invest in the company.
- VCTs can only invest in a business that had gross assets of less than £15m at the time of the investment or gross of assets of less than £16m immediately after an investment. The company must also have fewer than 250 employees.
- The maximum amount a VCT can invest in any one company is £5m. There is also a limit of 15% of the amount of a VCTs funds that can be invested in any single company.
Social Investment Tax Relief
The Social Investment Tax Relief (SITR) scheme was launched in 2014 and is a tax relief scheme to encourage individuals to support social enterprises and to assist social enterprises access new sources of finance.
Individuals making an eligible investment in an SITR can deduct 30% of the cost of their investment from their Income Tax liability for the relevant later year in which the investment is made or the previous tax year. Individuals can also defer their CGT liability and benefit from capital gains disposal relief.
A Social enterprise must be a community interest company, a community benefit society, with an asset lock or a charity. In order for their investors to claim SITR, eligible social impact bond contractors need to be accredited by the Cabinet Office.
The SITR is currently due to come to an end on 5 April 2021.