The Autumn Statement last week had disappointingly little support for savers and investors. But nestled in accompanying documents was one piece of good news.
Chancellor Jeremy Hunt committed to extending the lifespan of two schemes that allow investors to support fledgling UK businesses and entrepreneurs.
Venture Capital Trusts (VCTs) and Enterprise Investment Schemes (EIS) encourage investors to back new businesses that are only just finding their feet.
As they are in their early stages, investing in these companies is high risk. While some may grow into profit-making, larger firms, a sizable number will inevitably fail and investors will lose money.
So, in return for taking a risk, investors receive generous tax breaks, including income tax relief, capital gains tax relief and – in the case of EIS – even inheritance tax relief. You can also enjoy the fact you are supporting British entrepreneurs to find their potential.
In the mix: Design firm Bella Freud, Hackney Gelato and flower deliverer Floom had VCT funding
As they carry risk, these schemes should only be used by people who understand them and have used their other tax allowances – such as Individual Savings Accounts and pensions – first.
However, used in the right way, they can generate huge rewards. And it is not just the ultra-wealthy who are able to benefit from them.
What has changed?
VCT and EIS investments had a sunset clause, which was in place thanks to an EU directive. It meant that investors would no longer be able to use them from April 2025.
In the Autumn Statement, the Government extended this to 2035. It said: ‘To continue supporting thousands of start-ups and small and medium-sized enterprises each year who face the biggest challenges in accessing growth capital, the Government will legislate to extend the EIS and VCT to 2035.’
Nicholas Hyett at Wealth Club, which specialises in tax-efficient investments, says the announcement is great news for the field.
He added: ‘It removes the uncertainty that has been lingering over the sector for some time, potentially putting off new entrants and new investors, and secures a crucial source of funding for the UK’s blossoming start-up scene.’
How the schemes work
VCT and EIS schemes invest in young UK companies that are still privately owned. The hope is that if they are supported by investors they will grow fast and eventually
generate profits. Once they reach scale, they may be bought out by a rival or publicly listed.
VCTs and EIS investments allow investors to get in on the early stages and benefit from that initial growth. Many will fail, in which case investors will lose their capital. But the hope is that some will blossom. Success stories that started out with VCT funding include property portal Zoopla, food brand Pasta Evangelists and clothes retail website Depop.
Historically, VCTs and EISs have been niche products, but they have grown in popularity as ever more investors max out their tax-free limits on Isas, pensions, capital gains and dividends. Funds raised by VCTs exceeded £1 billion for the second year running in the 12 months to April, and EIS schemes raised more than twice this sum.
VCTs are listed on the stock market. A fund manager puts together a portfolio, typically of 30 to 70 firms, and investors buy shares in the VCT, rather than in the individual companies of which it is comprised. The fund managers can only purchase companies that are either not themselves listed, or listed on the London Stock Exchange’s smaller Alternative Investment Market (AIM).
You can claim up to 30 per cent upfront income tax relief on the sum you invest in a new VCT (or new shares issued by an existing VCT) and must keep the shares for at least five years. The maximum investment per year is £200,000.
So if you invest £10,000 in a VCT, £3,000 can be taken off your income tax bill. If you sell your VCT shares and make a profit, the proceeds are not liable for capital gains tax. Dividends are also tax free.
EIS schemes are only available for start-ups, but can hold firms with up to seven years of trading and fewer than 250 employees. The risky nature of EIS means investors must seek professional advice when buying – or prove they are a ‘high net worth individual’ or sophisticated investor.
You can invest up to £2 million a year in new shares in EIS-qualifying firms to benefit from income tax relief at 30 per cent of the sum invested. To retain this tax break, you must hold the shares for at least three years, starting from the date of the investment or, if later, the date the EIS begins trading. After three years, you can benefit from capital gains tax relief on shares disposed of at a profit.
You may also be able to offset any losses on disposal of the shares, either against capital gains tax or in some cases against income tax, net of any income tax relief. You can also defer an existing capital gains tax charge if you reinvest the gain in EIS-qualifying shares. Unlike with VCTs, there is no inheritance tax to pay on shares held for at least two years.
How to start investing
You will need to do good, in-depth research and if in doubt seek independent financial advice. These schemes carry substantial risk and are not easy to sell in a hurry.
There are 18 or so VCT share offers open to new investment. VCTs have a limited capacity and the best offers fill up fast. Jason Hollands, at investment platform Bestinvest, says: ‘Space is filled up on a first-come, first-served basis, so check what is open and how much capacity is still available.’
VCT and EIS schemes vary wildly in terms of what they invest in; some invest in private companies, others in AIM-listed stocks – and some focus on a particular sector. Research is needed to find the one that best fits your objectives.
Of the VCT offers open to invest in, Hollands’ top picks includes the Pembroke VCT ‘B’ Shares, which invests in companies including the design firm Bella Freud, ice-cream maker Hackney Gelato and flower delivery company Floom. He also likes the two British Smaller Companies VCTs, Hargreave Hale AIM VCT, Foresight Enterprise VCT, the three Northern VCTs and the two Octopus AIM VCTs.
More information on VCTs is available from the Association of Investment Companies at theaic.co.uk/vcts; The Wealth Club at wealthclub.co.uk; and Best Invest at bestinvest.co.uk/vcts/current-launches.
