The Government created the Enterprise Investment Scheme (EIS) as a way of encouraging investors to back relatively early-stage, private companies via equity finance. Here we review how companies and investors can qualify: and what tax reliefs are available.
1. Qualifying company rules
The idea of EIS is to overcome the natural resistance of investors towards backing high-risk businesses, rather than investing in just any company. As you might expect, there are many restrictions on the types of firms that can qualify – the following categories are excluded
- land, shares, futures, other financial instrument
- goods (except in the normal course of retail or wholesale trades)
- financial sector (including banking, insurance, money lending
- leasing or receiving royalties or license fees (unless the company created the intangible asset itself)
- legal & accountancy sectors
- agriculture (farming, market gardening, woodlands, timber)
- property development
- nursing homes
- power generation or export of electricity, heat, gas, fuel
- coal & steel production
- services to connected parties in one of the above-listed trades
2. Qualifying investor rules
The idea is to draw in external finance and not to be a tax benefit for currently connected parties. Thus these types of potential investor cannot apply for EIS (although there are rules whereby business angels are able to qualify and be appointed as directors):
- the company’s employees and directors of the company
- current investors or associates who own >30% of the share capital
- relatives (but not siblings) of connected people
- people who are business partners of connected persons
- shareholders whose shares do not qualify for SEIS or EIS, or are subscriber shares
3. How investors can benefit
Investors who support EIS Companies gain these tax reliefs:
- Income Tax relief of up to 30% of their investment
- Capital Gains Tax exemption
- Deferral Relief on Capital Gains Tax
- Inheritance Tax exemption
- Loss Relief
Note that it is the venture capital investor or ‘angel’ who stands to benefit from tax advantages – the company does not – but of course it is made much more attractive to high net worth individuals who are seeking a mixture of investments to add to their portfolio. Thus it has a much better chance of raising fresh capital.
4. Maximum Investment Levels
Maximum £5m in any 12-month period and £12m lifetime total, from:
- EIS & Seed SIS investors
- Venture Capital Trusts
- Any other State-aided risk capital
- Maximum £1m p.a. if claiming combined Income Tax relief and CGT exemption
- Unlimited if only claiming CGT deferral & Inheritance Tax exemption
5. Latest EIS Rules
Because young developing companies are the target for EIS, if your firm has traded for 7 years or more (and has not already raised money through issuing EIS, SEIS or VCT shares) you do not qualify.
The exception is if you raise EIS or VCT money totalling 50% or more of your 5-year average turnover: and you must use that money to launch a new product or enter into a new market in geographic terms.
At Share Issue:
Your company must:
- Have gross assets of < £15m (and not more than £16m immediately afterwards)
- Have < 250 ‘full time equivalent’ employees
- Be unquoted and have no plans set up to be quoted on a stock exchange (other than AIM or ISDX Growth).
- ‘Knowledge Intensive Companies’ (KICs) are a new class that are specially favoured – they can raise as much as £20m and may have up to 499 employees (talk to us about the detailed regulations)
At Share Issue and then for a 3-year period:
- Your company must:
- Be independent, not controlled by any other firm
- Conduct a ‘qualifying trade’ (see 1. above)
- Possess a UK permanent establishment (you can be trading anywhere, a relaxation on earlier rules)
Use of Funds:
- You must use all EIS and VCT shares issue proceeds to build your own business, not to acquire other businesses (either their shares, trade or most types of assets)
- Pre-arranged investor exit plans, or schemes aimed at lessening investor risks, are prohibited
6. How a company can comply
The company must issue EIS shares as ordinary or non-cumulative fixed preference shares with full risk.
There must be no loans tied to the issue.
No specific protections can be afforded to the new investors.
Investors in such schemes are regarded as being sophisticated and being aware of the risks. Nevertheless, there are unknowns and HMRC does offer what it terms as ‘advance assurance’ on a given scheme, which can provide some assistance to hesitant venture capitalists.
Four months after the share issue (assuming that it is trading all of that time) the Company completes declaration form EIS1 for HMRC to declare investor details.
When HMRC approves the details, the Company is permitted to issue certificate EIS3 to the new investors. This is essential for the claiming of the individuals’ tax relief.
As a specialist company accountant, Odiri Tax Consultants and accountants is a firm that understands your financing needs and can guide you through the maze of EIS and other investment incentives that can help you to grow successfully.