Blick Rothenberg

The lowdown on EIS

02.08.2017

In the first in a new series on tax-efficient investing, Blick Rothenberg partner Nimesh Shah explains how companies and investors can benefit from the Enterprise Investment Scheme.

The Enterprise Investment Scheme (“EIS”), and now the Seed Enterprise Investment Scheme (“SEIS”), are a critical source of funding for small private companies. They are considered by many sophisticated investors to be the real success story in the evolution of funding for UK smaller companies due to the reasonable tax reliefs for investors. One great success story is the brand Innocent Drinks, which, with the assistance of some initial EIS funding, sold out a stake in the business to Coca-Cola for a reported £60m in 2010.
 
Introduced in 1981, the EIS evolved from the Business Expansion Scheme into today’s form of investment. The industry sectors qualifying for relief have become more restricted over time, but the qualifying annual investment has increased to £1m per individual. The SEIS was introduced in 2012 for the smallest companies offering higher tax breaks.
 
Both the EIS and SEIS rules allow high-risk investments in small private trading companies to qualify for substantial tax reliefs. These reliefs reduce the net cost to investors and directly encourage investment in some of our riskiest ‘start-up’ companies.
 
They offer a tangible platform for sophisticated investors who are not often able to otherwise participate in and gain access to private equity investment. Tax-free returns are available, but investors should never underestimate that any investment might be totally lost.
 
 
Attractive tax reliefs include:
 
  • Income tax relief – 30 per cent for EIS and 50 per cent for SEIS. The maximum investor limit is £1m per annum for EIS and £100,000 for SEIS.
  • Capital gains tax (“CGT”) relief – up to 28 per cent for EIS investors on a deferred basis and 28 per cent for SEIS investors on a potentially permanent basis. Note that the headline rate of CGT is now 20 per cent for most assets. It remains 28 per cent for gains on residential property, so the amount of relief may vary.
  • CGT exemption on qualifying investment – if the company is successfully sold, for example in a flotation, management buyout or a trade sale, the gains made are tax-free.
  • Inheritance tax – the value of the shares will usually be exempt from inheritance tax within the ‘business property relief’ rules.
     
The annual limit per investor is currently £1m in the case of EIS subscriptions and £100k in the case of SEIS. There is a carry back facility of one year for income tax purposes, subject to not breaching the investment limit for that earlier year. In both cases the subscriber must not breach the requirement to hold no more than 30 per cent of the voting shares, including shares acquired by persons ‘connected’ with them under formal tax rules.
 
For CGT purposes, gains on ‘old assets’ can be deferred so long as they are made three years before or one year after the exact date the EIS shares are subscribed. The deferral will apply even though an investor may breach the 30 per cent voting interest in the company.

Under SEIS, the time limits are different. The capital gain on the ‘old asset’ can be potentially exempted from future CGT if the SEIS shares are subscribed for in the same tax year, or the subsequent tax year if the investment is elected to be carried back.

Example Investment
 
  EIS SEIS
Example: £100,000 in new qualifying shares £ £
Gross share investment 100,000 100,000
Income tax relief:    
£100,000 @ 30% (30,000)  
£100,000 @ 50%   (50,000)
Capital gains tax deferral on 'old assets':    
£100,000 @ 28% (28,000)  
Capital gains tax reinvestment on 'old assets':    
£50,000 @ 28%   (14,000)
Net cost 42,000 36,000


 

If the investment fails, further tax relief is available to cushion the net loss to up to 38.5 per cent in the case of EIS and as low as 13.5 per cent for SEIS. This further tax relief is achieved by offsetting the net loss (i.e. the gross investment less EIS/SEIS income tax relief given) against the individual’s income.
 

 

EIS

SEIS

Example: £100,000 in new qualifying shares

£

£

Gross share investment

100,000

100,000

Income tax relief:

 

 

£100,000 @ 30%

(30,000)

 

£100,000 @ 50%

 

(50,000)

Net cost after income tax relief

70,000

50,000

Write-off of remaining net cost against income @ 45%

(31,500)

(22,500)

Capital gains tax reinvestment relief

-

(14,000)

Net exposure on a failed investment

38,500

13,500

Percentage of gross investment

38.5%

13.5%



A longer version of this article first appeared in Investors Chronicle (issue 24 Feb- 2 Mar 2017) as part of an on-going series of articles by Blick Rothenberg on tax-efficient investing.

To view the full article please click here.

For more information please contact partner Nimesh Shah.