Maximise your gains - minimise any potential loss
Investors should if possible see if the company they are investing into could take advantage of the government’s EIS (Enterprise Investment Scheme).
There are considerable benefits to be had, both in minimising tax on any gains you make on your shares as the business grows, as well as reducing any potential loss should it not work out.
Businesses looking for investment may already have explored the EIS, but often many others will not have done. This is a summary of what you can get from the EIS and some pointers to further information.
We’ve tried to simplify the scheme here and there will be areas not fully covered, so do make sure that for any investment, including using the EIS you involve a professional advisor – your accountant or solicitor.
The type of shares:
An important condition of EIS and SEIS income tax relief (and the exemption from capital gains tax on sale of the shares) is that the shares issued must be ordinary, 'full risk' shares. No form of preference can be associated with the shares.
Investors subscribing for shares where EIS or SEIS is expected, should therefore check that the shares issued are of a form which qualify.
Do also ensure that the shares are paid for at the exact time of issue. The HMRC say that any time difference between issuing the shares and payment will disqualify the tax relief.
What can you get back from the taxman?
1. Income tax relief:
- This is for an individual's tax, not any company that you may own or were thinking of using to buy shares.
- There is no minimum amount that you have to invest and you’ll be able to claim back 30% of the cost of the shares, off your income tax liability for that same year.
- The maximum investment is £1M.
- Although you generally only get tax relief on the year you invest, there is a way of getting relief on your previous years tax bill by investing in the first 6 tax months of the year. It allows you to claim back half of the shares you have invested in that time, up to a maximum of £50,000 worth of shares. So you could claim back up to £15,000 (ie. 30%) from your previous years tax. You can’t carry forward any claims though into the next tax year.
- You have got to hold on to the shares for 3 years, or you lose the tax benefits.
2. No Capital Gains Tax if the shares you’ve bought increase in value.
You don’t have to pay tax on any gains that you make from selling the shares (after the 3 years). If you’re investing in a business, presumably you expect it to grow and your shares to eventually be worth more. Well if they do increase in value, you don’t pay any tax on it.
3. What if the shares you’ve bought decrease in value?
This is a great help in minimizing risk. If the opportunity doesn’t work out, you can claim any amount that you lose on the shares against your own tax for the year that you sell them in. Or if you prefer, you can set them against tax that you owe for the previous year. Unfortunately you do need to first take off any income tax relief that you had been given (ie the 30%).
4. Use investing with EIS to put off paying other Capital Gains tax.
The EIS can also be useful to help you defer paying any capital gains that you made on any other type of asset. If you invest the capital gains that you made in any other asset into a company using EIS, then you can defer paying that capital gains tax, until you sell the shares you have invested it in.
You can use capital gains from either the year before, or up to 3 years after the gain was made, to invest in an EIS type company. There’s no minimum period you have to hold the shares for. The deferred capital gains tax just becomes payable from when the shares are sold.
Remember, it’s just the deferred capital gains tax being paid eventually; the EIS shares themselves are tax free if you have held them for 3 years.
Who can do this?
You can’t get tax relief for investing in your own company. You have to not be connected with the company for 2 years before and 3 years after the investment.
What does being connected to the company mean?
You can’t be a business partner, or employed by the company as an employee / director and neither can your relatives. These are defined as your spouse, parents, grandparents, children or grandchildren. Brothers or sisters are not counted.
What happens when you do invest in the company?
As long as that investment is under 30% of the shares you are okay, but watch out that you don’t for instance invest in perhaps 20% of the shares one year and then invest a further 15% another year. You have then gone over 30% and any tax relief would be withdrawn.
The position of Business Angels
Business Angels are of course encouraged by the government and so they are not affected by all of the above, as long as their only connection to the company is as a director who receives no remuneration and is not entitled to remuneration, when investing in the shares.
You can even become a paid director afterwards without it affecting anything as long as the remuneration is reasonable.
So how difficult is it to claim back the tax relief?
Simply request from the company that you are investing in, a form called a EIS3 and fill the details in your self assessment tax return. If you are investing in companies, you should have involved your accountant for advice and it may be that you will want to have your accountant check your self-assessment for you.
What companies qualify under the EIS?
There are a set of rules (see summary below) that the company has to satisfy and they can also ask the relevant authority to check that they have everything ready and that they are likely to qualify before they start looking for investors.
When they are ready to issue shares they will fill in a EIS1 form and if that is accepted the authority will issue the company a EIS2 form and supply sufficient EIS3 forms for the company to send to the investors so they can claim tax relief (notice how the form numbers all make sense).
Rules that decide what companies can qualify:
This is just a summary for your information. The detail needs to be checked by the company’s accountant when applying.
- The company has to have been in existence for more than 4 months and its main trade carried on in the UK.
- Must be unquoted on a main stock market. Smaller stock markets like AIM or PLUS are okay.
- Not controlled by another company. It may have subsidiaries itself, but there are rules about this that would need to be checked.
- The Gross Assets of the company must be under £15m and less than 250 employees.
The list of activities that the company can carry out is important and although most companies will qualify, you should note that certain activities are excluded, such as property development, hotels, farming and financial services. Again your accountant can check easily if the company’s activity qualifies.
We've tried to make this guide easy to follow and it's not a area that Investors should shy away from as being complicated, because it's not. However it is essential with any investment to make full use of your professional advisers. Your accountant will look at any subtleties to the EIS that you should be aware of and can maximise the gains from it for you.
Inland Revenue EIS page: www.hmrc.gov.uk/eis/
Information on SEIS: Seed Enterprise Investment Scheme