By Amal Shah
30 Sep 2022
The Enterprise Investment Scheme (EIS) is a longstanding scheme introduced by the UK government, designed to help smaller higher-risk trading companies raise finance, by offering a range of tax relief to investors who purchase new shares in those companies.
Under the scheme, a maximum of £5 million can be raised each year, reaching up to £12 million in your company’s lifetime. These limits are increased for a knowledge intensive company.
In this article Partner Amal Shah, Sarah Burns and co-author Charlotte Morgan-Townley will be delving into the EIS requirements and tax related queries.
Small and usually privately owned companies are more likely to qualify for the EIS, although they can be listed on AIM. There are a number of conditions that should be met for a company to qualify under the EIS. In brief, the company can use the scheme if it:
In addition, to qualify, the company must not:
Please note, there are limits on the age of the company. You can receive investment under EIS as long as it’s within seven years of the company’s first commercial sale.
Additionally, certain industries in land-backed trades such as hotels, farming, nursing homes, forestry and property development do not quality, nor do shipbuilding, coal mining, steel production, or legal and accounting services.
If a company fails to meet the conditions in the three years following the investment, or an investor sells or otherwise disposes of the shares, the tax reliefs will be lost.
The shares issued to EIS investors must be issued and subscribed genuine commercial reasons and be fully paid-up ordinary shares, subscribed for cash, that do not, at any point within the period of three years following the issue date, carry:
For investors to qualify, they should be resident, for tax purposes, in the UK and should not be ‘connected’ with the company between the period commencing two years before the relevant share issue and ending three years after the relevant share issue.
They cannot:
Business partners, trustees, and relatives are considered an ‘associate’, including spouses, civil partners, parents, children, etc. with the exception of brothers and sisters.
This is a service offered by HMRC to those companies planning to raise money under the EIS, it’s not a requirement. However, investors may prefer to see the company’s advance assurance letter from HMRC, confirming the company’s proposed share issue would qualify for EIS tax relief, based on the information the company provided.
It’s important to apply for AA at least one to two months before you start offering investment opportunities in your company, to give HMRC time to approve your application.
Advance Assurance does not guarantee the company will qualify for EIS tax relief, but it does give a degree of comfort. This can only be confirmed after the company has issued the shares.
Provided the company has been trading for at least four months, they can apply to HMRC for the EIS certification and investors should receive an ‘EIS 3 Certificate’ within a couple of months. This is the certificate needed before a claim for any of the EIS tax reliefs can be made.
The maximum amount you can invest is £1 million per tax year or £2 million in ‘knowledge intensive’ investments.
EIS investments offer a “carry back” facility. Investors can elect for all or part of your EIS shares acquired in one tax year against income tax from the previous year or/ and the current year.
This is only permitted if you have sufficient EIS allowance in the tax year to which you’re carrying back.
An investor can invest up to £1,000,000 each year in any one company and obtain income tax relief of up to 30%. This relief can be claimed either in the tax year the investment is made or carry back to the previous year. EIS allowances are allocated individually, therefore a married couple could separately invest up to £2 million each tax year and both be eligible for Income Tax relief.
Please note that all shares must be held for at least three years from the date of issue or the tax relief will be withdrawn. If, however, the company is liquidated within three years, the income tax relief will not be withdrawn.
Any capital gain is CGT free if an investor holds EIS shares for at least three years and the income tax relief on the shares was claimed and has not been withdrawn. It is possible for shares to be held for a longer timeframe, potentially allowing you to accrue a CGT exemption over a long period of time, which can be a great attraction.
If an investor had made a loss on the disposal of EIS shares at any time, the loss may be claimed against either current year or future capital gains, or, by election, against income from the current or previous tax year. The effect of this, taking an example from a 45% taxpayer, is to reduce the loss as follows:
Investors can claim ‘deferral relief’ providing their capital gains are made up to three years before or one year after an EIS investment. Deferred gains do become taxable in a later tax year, such as when you dispose of the EIS shares. If you obtain Income Tax relief on an acquisition of shares, then you can claim Deferral Relief as well. You do not have to obtain Income Tax relief to claim Deferral Relief.
The £1,000,000 annual limit does not apply for CGT deferral relief purposes – any amount can be deferred.
If an investor has owned shares in an EIS-qualified company for at least two years and certain conditions are met at the time of transfer, inheritance tax business property relief of 100% is available, which will reduce the inheritance tax liability on the transfer to nil.
There is no limit on the amount you can invest in EIS companies for inheritance tax relief purposes.
One potential problematic issue for investors is finding it difficult to find the right company to invest in.
It’s possible for investors to invest in an EIS Fund. It operates similarly to Venture Capital Trusts or Unit Trusts. The investor is the beneficial owner of the underlying investments, rather than owing units in a unit trust. The fund manager selects and monitors the companies invested in.
Investing in a fund enables the investor to spread the risk by diversifying the investment portfolio as a fund will typically invest in at least four different companies.
Investors considering investing in EIS companies should bear in mind that the tax reliefs are only available because investing in such companies can be perceived as high risk. It is therefore advisable to speak to professional tax advisors before making any investments.
We have assisted many businesses in setting up the Enterprise Investment Scheme, including preparing the required documents such as a business plan, financial forecasts as well as applying for Advanced Assurance from HMRC. Any companies who are considering using the Enterprise Investment Scheme to raise funds please speak to our tax team.
Case 1:
An investor holds shares for three year and the company does well and doubles its value.
Investment = £10,000
Income Tax relief = £3,000 (as a reduction in income tax bill)
Share sales = £20,000
Your cash gain = £13,000 (made up of £10,000 capital gain and £3,000 income tax relief when initial investment was made)
Case 2:
The company value stays the same
Income Tax relief = £3,000 (as a reduction in your income tax bill)
Capital Gains Tax = £0
Your cash gain = £3,000 (from the income tax relief when initial investment was made)
Case 3:
The company closes and shares are worth nothing
At risk capital = £7,000
Loss relief on at risk capital @ 45% = £3,150 ( £7,000 *45%)
Your actual loss = £3,850 (£10,000 – [£3,000 + £3,150])
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