What are Enterprise Investment Schemes and how can they help your tax planning?

Article written by Kellands Hale our preferred independent advice firm.

This article is not intended to be financial advice to any individual. The views expressed are those of the author and Moneyfactscompare.co.uk does not endorse the content.

At the start of the new tax year, many people’s thoughts will naturally turn towards tax-efficient investments and ensuring that pension contributions and ISA pots are maximised. But with limits on ISAs and increased restrictions on pensions, once these options are maxed out the next question should be ‘what’s next?’

The answer could be Enterprise Investment Schemes or EISs as they are also known.*
EISs are a decades-old tax planning tool regularly used by investors for a multitude of purposes. An incentive created and driven by the UK Government, this well-established scheme encourages investment in early-stage growth-centred companies focused on innovation.

For those who have heard of EISs, they may know of them as high-risk investments. And it’s true, they are long-term investments in unquoted and illiquid stock. But with high risk can potentially come high reward – provided by both the significant target returns on such schemes and the generous tax incentives offered by the UK Government to investors.

• 30% Income Tax Relief – claimed against either your income tax liability for the current tax year or ‘carried-back’ to the previous tax year. This can be claimed against a maximum of £1 million per year per investor (or £2 million per year in ‘Knowledge Intensive’ companies that specialise in areas such as life sciences). But take note, you can’t claim back more than you’ve paid!
• Tax-free growth – any profits in an EIS are not liable to Capital Gains Tax (CGT).
• Inheritance Tax (IHT) Relief – for those more ‘seasoned’ clients who are starting to look at their IHT liability, if shares in these companies are held for a minimum of two years (and on death), the shares could potentially be IHT-free.
• Loss Relief – an incredibly useful relief that is only available in an EIS. You would be investing in early-stage companies with the ability for some fast growth, however, as they are new companies there is also the possibility that some could tank! With loss relief, if any companies in your investment portfolio do fail, you can potentially claim up to 45% back on this proportion of your investment.**
• Unlimited CGT Deferral – the payment of tax on a capital gain can be deferred when the gain is invested in an EIS.*** So if, for instance, you’ve sold something valuable such as a property, share portfolio, a wine collection or similar, and realised a gain in the last three years, you may be able to claw this CGT payment back and defer this payment for the life of the EIS investment. (Then we have some nifty tricks to chip away at this liability, potentially whittling it down to zero – speak to one of our advisers!)

And what’s in it for the Government you may ask? There are some very impressive tax reliefs on offer and some will be suspicious as to why HMRC are being so generous. Investors will rightly feel uncomfortable with the thought of tax ‘evasion’ or tax ‘avoidance’ – this is neither – it is tax incentivised investing fully supported by the Government and doing good for the British economy. Britain boasts an incredible variety of entrepreneurs, and EIS investment encourages and supports such innovation.

The EIS scheme was launched in the mid-90s by the Government to encourage investment in early-stage companies that help to support the backbone of the UK economy. These fledging start-ups often struggle for investment and funding due to the high-risk nature of investing in a new company. However, that is precisely why the UK Government offers generous tax advantages on such investments, as this reduces the financial risk for investors.

Investment in an EIS supports job creation, increases productivity and innovation, and boosts growth. So basically, for the Government and HMRC, encouraging EIS investment is good business sense!

We have described the substantial returns and touched on the generous tax reliefs on offer via EIS investments, but there are specific nuances and very stringent rules that must be applied. EIS investing is a complex area and detailed knowledge is required to avoid the potential pitfalls of investing in this space. But there are many benefits, so if you think that this could be a useful tool for your situation and want to learn more, then Kellands Hale (the preferred independent financial advice firm for Moneyfactscompare.co.uk can be contacted for more information.

_{*There are two other useful schemes that can be used for similar purposes - VCTs and SEIS - but in this blog we are focusing on EISs due to the varied and generous tax reliefs that are offered.
**Relief varies according to tax bracket. 45% applies to additional rate taxpayers.
***And if you have claimed income tax relief also.}

Risk warning: Tax relief depends on an individual's circumstances and may change in the future. In addition, the availability of tax relief depends on the company invested in maintaining its qualifying status. Always seek advice from a qualified financial or tax adviser.

There are a few potential pitfalls, some of which are outlined below.

• Not claiming Income Tax Relief. Unfortunately, not claiming income tax will mean that the gains on the EIS are then subject to CGT.
• Timing of the deployment of capital. Some EIS companies may take a year or more to deploy the capital into EIS-qualifying companies, and this could be an issue if income tax relief is to be carried back to the previous tax year.
• Investors can only claim back income tax they have paid! It may sound obvious but if you haven’t paid say £10,000 in income tax in the current tax year, you won’t be able to claim back more than £10,000 (but you carry back of course!).
• Exit too soon. If a company say floats on the market within the three years the client invested into the company, then tax relief will be lost. Not always a bad thing but will depend on how much the investor will make to compensate for any lost tax relief.
• Loss of HMRC EIS approval, the companies must continue to participate in a qualifying trade for the three years following the share issue in order to maintain their EIS status.

Kellands (Hale) Limited is authorised and regulated by the Financial Conduct Authority. The information contained therein should not be regarded as an offer or solicitation to conduct investment business and should not be viewed as personal financial advice, but instead it is intended to provide information only as an overview of possible considerations or options. Formal financial recommendations will be made in writing to you once the decision has been taken by you to formally appoint Kellands as your advisers and we have gained a clear understanding of your personal circumstances, needs and objectives.