The Enterprise Investment Scheme (EIS) was introduced in the UK more than 20 years ago, as a series of tax reliefs designed to encourage investment in smaller, private British businesses.
Investment in companies that are not listed on a stock exchange can lead to a higher risk of loss, and it may also be difficult to realise or sell that investment, so EIS was designed to offer incentives to investors to counter those risks.
The scheme, launched in 1994, has always offered significant reliefs for investors – and its sister initiative, the Seed Enterprise Investment Scheme (SEIS), launched in 2012 to attract investment for start-ups, is even more generous –both schemes have proved increasingly popular in recent years. By the end of the 2014/15 tax year, a cumulative total of more than £14billion had been invested under the scheme into 25,000 companies; in that year alone, more than £1.8billion was invested under EIS.
What reliefs are available under the EIS?
- The main tax relief is that 30% of your investment can be immediately claimed back from HMRC against your Income Tax liaiblity (this goes up to 50% under the SEIS scheme). Although there is no minimum amount an investor can invest in any one company, there is a maximum investment of up to £1million per investor, per year (or £100,000 per investor per year for SEIS investments) – potentially leading to a reduction in an investor’s income tax liability of £300,000.
- An investor is able to ‘carry back’ all or part of their investment to the preceding tax year, provided that by doing so they do not exceed the limit for that year. In effect, this would mean that an investor could, for example, invest in £2million of EIS shares in 2016/17, and carry back £1million of that investment to 2015/16.
- There is no Capital Gains Tax (CGT) to pay on any gains made when the investment is eventually realised so long as the shares have been held for at least three years
- CGT can be deferred if capital proceeds realised from any other asset are invested in EIS shares, where disposal of that asset was less than a year before the EIS investment, or less than three years after it. The relief is limited to the amount being invested into the EIS qualifying company
- If an investor disposes of their EIS shares at a loss, that loss can be offset against capital gains in the year of disposal or income in the year of disposal or in the preceding year. This could potentially limit a total loss to 38.5% of any original investment, assuming that the investor pays income tax at 45%.
- EIS shares that have been held for at least two years at the time of death will attract full relief for Inheritance Tax purposes and would therefore not be chargeable to inheritance tax.
- UK resident non-UK domiciled individuals who claim the remittance basis can remit foreign untaxed income or gains to the UK to invest in EIS qualifying companies. This should normally be possible without triggering a UK tax charge on the funds being remitted to the UK.
While these tax reliefs are certainly appealing, investors need to be aware that there are qualifying rules for both individuals looking to invest, and for the sort of company you are allowed to invest in.
What are the qualifying conditions for investors?
- The investor must subscribe for newly issued shares for cash.
- An individual may not be ‘connected’ to the company. This means that, for the period two years before the issue of EIS shares, and for three years after the investment was made (or three years after the company starts trading, if that is later), the individual cannot be a paid company employee, partner, or director (although they may be an unpaid director, or possibly a paid ‘business angel’ investor); nor can they have more than a 30% interest in the company (i.e. 30% of the share capital, or voting rights, or the rights to assets) or any subsidiary.
- No partner or associate of the investor (such as a spouse or relative) may have other interests in the company.
- The investor must hold the shares for at least three years (and possibly up to five years, if the company began trading after the shares were issued). If an individual disposes of their shares within less than three years, any reliefs are likely to be clawed back.
- Investors who invest in small companies through a partnership structure are not eligible for EIS relief.
What are the qualifying conditions for companies?
- The company must be a ‘small company’, and as such cannot have [net] assets of more than £15million before the shares are issued, or £16million immediately after.
- It must have fewer than 250 full-time employees.
- The company cannot be listed on the London Stock Exchange or any other recognised stock exchange – or have any intention of becoming listed – at the time the shares are issued (although the Alternative Investment Market (AIM) is not treated as a recognised market under EIS rules).
- While most trading companies qualify, there are a number of ‘excluded activities’ including property development, farming, coal and steel production, hotel and nursing home operation and management, and many financial activities.
- All capital raised by the issue of shares must be actively engaged in the qualifying business activity within two years of the shares being issued.
- The company must be trading in the qualifying activity for at least four months after the share issue before an investor is eligible for EIS relief.
There are also other, more specific rules relating to companies issuing shares for an SEIS investment.
The rules surrounding the EIS and SEIS initiatives can be quite complex, so it is important that you get expert advice about investing in such schemes as early as possible. But the rewards can be significant; for example, the cost of a £10,000 investment in an EIS could immediately be reduced to £7,000 (thanks to the Income Tax write off of 30% x £10,000) while still receiving £10,000 worth of shares. An SEIS investment of £10,000 could similarly be reduced to just £5,000, while still receiving the full £10,000 share allocation. Add this to the other benefits and reliefs available, and the potential for the investment to increase in value, and it is easy to see why both schemes are increasingly popular.
We always recommend that you seek advice from a suitably qualified adviser before taking any action. The information in this article only serves as a guide and no responsibility for loss occasioned by any person acting or refraining from action as a result of this material can be accepted by the authors or the firm.