Whilst remaining supportive of the generous tax reliefs offered to investors under the Enterprise Investment Scheme (‘EIS’), the government has now acted to ensure that lower risk, asset-backed companies are no longer qualifying ventures under the scheme.
Investors in EIS-qualifying companies enjoy an array of tax savings. These include 30% initial income tax relief (so a £10,000 investment only costs £7,000 after the tax credit) and tax-free gains on a sale of shares after a minimum three year holding period. If EIS shares have been held for at least two years, the shares can also be passed on free of Inheritance Tax.
Arguably the most generous incentive for an investor to back deserving ventures is the availability of a loss relief cushion. If an EIS investment results in a partial or total loss, the investor can set off 70% of the loss against his or her income in the year of loss. This relief can mean that a 45% top rate income tax player is only actually risking £3,800 when making a £10,000 EIS investment – this being the £10,000 outlay, less £3,000 initial relief and £3,150 of loss relief if the investment turns out to be a write off (that being 45% of the £7,000 initial net cost).
When you take all of these benefits into consideration it’s no wonder then that the government is now unwilling to allow investors to back apparently low risk, low return ventures, where the principal component of an investor’s return is just the initial income tax relief.
The EIS was always designed to support start-up ventures, but also more established, growing companies. It has become a key source of funding for these businesses, particularly so since the 2008 financial crisis which has led to a severe reduction in bank lending to smaller companies. The scheme raised over £1.9bn from private investors in the 2015/16 tax year (Source: HMRC), and although it has been estimated that some £400m of this was invested in ventures which will now not be eligible, it seems that in the region of £1.5bn still went to the companies which are genuine contributors to the UK enterprise economy.
At Growthdeck, we make extensive use of the EIS to improve the attraction of private company investing for our growing base of investors. And whilst we have never focused on unexciting, asset-backed projects, neither do we offer just a flow of high-risk, but potentially high-return, greenfield start-up opportunities.
It is a fallacy, perpetuated by many financial advisors, that EIS investing is all about risking your capital in high risk start-ups. Many completely new businesses do indeed raise EIS funding, but, then again, so do many companies which have been trading for four or five years or even longer, and which have millions of pounds worth of sales and, in many cases, are generating trading profits.
These sort of companies are not without investment risk, but, as an experienced venture capitalist of over 30 years standing, I would certainly contend that they are considerably lower risk propositions than a pre-revenue, unproven start-up concept.
The current four live offers on the Growthdeck platform are all past the pre-revenue stage. Pure Wild Spirits is supplying its ‘Freya’ birch sap spirit to an increasing number of premium bars and restaurants, and iFabrics is achieving rapid sales growth. Pi and Elite Coffee have each been generating revenue for several years and have proven business models. These two companies are embarking on roll-out plans – replicating already successful concepts by opening additional restaurants and coffee shops in new London locations. Whilst there are risks associated with this sort of growth strategy, many investors would regard Pi and Elite Coffee as more attractive propositions than completely new start-up ventures.
So, although EIS reliefs are no longer available to investors in asset-backed ventures, investors can still take advantage of the tax savings by supporting the growth of more established companies.