With the end of the tax year looming and pension tax free annual allowance limited to £40,000, high earners should seek alternative ways to invest in a tax-efficient manner; Enterprise Investment Schemes (EIS) are one of the options.
EISs were introduced by the Government in 1994 to encourage investment in small UK unquoted businesses. They are designed to help smaller higher-risk trading companies to raise finance by offering a range of tax reliefs to investors who purchase new shares in those companies. For businesses to qualify for the relief, up to a maximum of £5m per year, they must have gross assets of less than £15m and no more than 250 full-time employees.
The tax breaks are generous and offset the risk. Investment may be made to a portfolio of companies, selected by a fund manager, rather than a specific company. This also reduces risk significantly and is ideal for the inexperienced investor.
You can invest a maximum of £1 million each year through the EIS. Income tax relief of 30 per cent is available when making the initial investment provided the shares are held for at least 3 years. Tax relief can be applied to offset income tax liabilities in the previous tax year.
Share disposal is also free of capital gains tax after holding the shares for 3 years. Losses on disposal can be offset against income tax payable that year. Other capital gains tax liabilities can be deferred whilst holding EIS shares.
EIS investments are also attractive from an estate planning perspective. EIS shares, once held for 2 years, qualify for business property relief, meaning they are exempt from inheritance tax.
According to EISA, the Enterprise Investment Scheme Association, almost 22,900 individual companies have received investment through the scheme since 1994 and over £12.2 billion of funds have been raised. Provisional data for 2013-14 shows that 2,710 companies raised a total of 1,457 million of funds. 62 per cent these investments were in renewable energy companies.
EIS schemes themselves vary in risk. With generous tax relief offered up front, the main purpose of some investment schemes is to preserve the real value of the capital by choosing lower risk companies which are usually asset backed or with strong revenues. Higher returns are possible in companies seeking to secure investments for rapid growth, but these schemes come with added risk.
EIS reforms were announced in the Chancellor’s Budget in July to boost investment into earlier-stage, smaller businesses. The EIS will no longer available to companies that are more than 7 years old and the maximum investment has been reduced from £15m to £12m.
In April 2012 HMRC introduced the Seed Enterprise Investment Scheme (SEIS) to help small, early-stage companies to raise funds through individual investors. To qualify, the company’s assets must be under £200,000 when shares are issued and have fewer than 25 employees. The tax relief on offer is not as extensive as that of an EIS, however income tax relief is 50% of the amount invested. The maximum one can invest in a SEIS is £100,000 per year.
Enterprise Investment Schemes are an excellent vehicle for tax efficient investment, but they are complex and not suitable for everyone. You should seek financial advice before entering into this type of investment.