As the Government quite rightly cracks down on tax avoidance schemes, there are fewer and fewer opportunities for private individuals to save tax. However, SEIS and EIS relief remain as highly tax efficient ways of investing in shares in smaller companies.
Enterprise Investment Scheme (EIS) Tax Relief
The Enterprise Investment Scheme (EIS) provides a tax efficient way to encourage investment into smaller unlisted companies. EIS is intended to help these small companies raise finance by allowing tax relief on new shares.
- Investor can put in up to £1,000,000 per tax year
- Investor receives 30% income tax relief
- Tax free exit after 3 years
What EIS tax relief is available?
EIS relief is available both when an investment is made, and when it is realised.
On subscribing for shares in an EIS qualifying company, income tax relief is given at 30% of the amount subscribed. The relief is offset against income tax otherwise payable for the tax year in which the investment is made, or for the previous tax year.
To benefit fully from EIS relief, the shares must normally be retained at least until their “termination date”- which in most cases is three years after the shares are subscribed for. After the termination date, and provided there has been no breach of EIS rules in the meantime, any gain on selling the shares is completely tax exempt.
EIS Relief Example 1
In May 2015 Nick subscribes £100,000 for EIS qualifying shares in Electric Bananas Limited, a software development company. Five years later Electric Bananas is taken over and Nick receives £250,000 for his shares.
In the 2014/15 tax year, Nick had paid income tax of £25,000, which he was able to reclaim in full with EIS relief on his investment. And there was a balance of £5,000 available to offset against Nick’s 2015/16 tax. EIS tax relief meant that the net cost of Nick’s investment was £70,000.
Nick’s gain on selling his shares is entirely tax free.
But not all investors are as fortunate as Nick. However, even if an investment fails, EIS relief can help to soften the blow.
Are you looking for specific EIS or SEIS advice or help?
EIS Relief Example 2
Sarah also subscribes £100,000 for shares in a software company, Dynamic Whelks Limited. Sadly though it turns out a very poor investment and, two years later, Sarah loses all her money when Dynamic Whelks goes into liquidation.
Sarah was able to claim income tax relief on her investment, so its net cost is £70,000. Sarah is a 40% taxpayer, and is able to offset her £70,000 loss against taxable income, giving her a £28,000 tax repayment. So in total Sarah has tax relief of £58,000- and although the investment has cost her £42,000, it would have been a great deal worse without EIS relief.
There are other possible tax benefits of an EIS investment. If the investor has realised capital gains on selling other assets, he or she can defer payment of capital gains tax by investing the gain into EIS qualifying shares. This can apply to any gains realised in the three years before the EIS investment is made, or in the one year after. The deferred capital gains tax will become payable when the EIS investment is sold (or if EIS qualifying requirements cease to be met), but it may be possible to defer it again by making a follow on EIS investment.
Strictly speaking it is nothing to do with the Enterprise Investment Scheme, but EIS qualifying shares will almost invariably qualify for inheritance tax business property relief. After the shares have been owned for two years, there will be no inheritance tax on the death of the investor. Many elderly investors have built up an EIS portfolio for this reason.
Seed Enterprise Investment Scheme (SEIS) Tax Relief
Introduced in April 2012, the Seed Enterprise Investment Scheme (SEIS) is an even more generous offshoot of the Enterprise Investment Scheme (EIS). The SEIS aims is to encourage seed investment in early stage companies. The maximum total that can be raised for a company is £150,000.
- Investor (incl. company Directors) can put in up to a £100,000 per tax year
- Investor receives 50% tax relief
- Investor receives Capital Gains Tax (CGT) exemption for any gains on the SEIS shares
- Tax free exit after 3 years
What SEIS tax relief is available?
As in the example below, SEIS is aimed at small early stage companies, which are seen as inherently risky, so greater tax relief is available than under EIS. Income tax relief is available at 50%, and one half of gains realised on other assets can be exempt from capital gains tax.
SEIS Relief Example
In May 2015 Jenny subscribes £50,000 for SEIS qualifying shares in Spaghetti Horse Limited, which is about to open a restaurant. Four years later Spaghetti Horse is taken over and Jenny receives £150,000 for her shares.
In the 2014/15 tax year, Jenny had paid income tax of £30,000, and was able to claim a £25,000 repayment with SEIS relief on her investment. She had also sold an investment property realising a substantial gain taxable at 28%. SEIS relief meant that £25,000 of gain was tax exempt, a further tax saving of £7,000. SEIS tax relief meant that the net cost of Jenny’s investment was £18,000, i.e. she had received 64% tax relief.
Jenny’s gain on selling her shares is entirely tax free. And it is worth noting that, had Spaghetti Horse failed, Jenny could have received tax relief of up to 86.5%.
Which Investments Qualify For EIS And SEIS Tax Relief?
Relief is available to a qualifying investor who subscribes in cash for qualifying shares in a qualifying company. The maximum EIS and SEIS investments in a tax year are £1,000,000 and £100,000 respectively, although it is possible to treat an investment as having been made in the previous tax year.
Qualifying shares are fully paid ordinary shares, not redeemable and generally without preferential rights to dividends or to assets on winding up of the company.
Most independent small and medium trading companies will qualify for EIS relief. But there are a number of trades which are excluded from relief, such as banking, insurance, leasing and property development.
SEIS qualifying companies are very small companies, which have carried on their trade for a maximum of two years.
HM Revenue & Customs offer companies an opportunity to seek “advance assurance” that a proposed issue of shares will qualify for EIS or SEIS relief. A prospective investor is entitled to ask if a company has received advance assurance and, if not, to consider whether the investment is unacceptably risky. Alternatively, there are a number of EIS and SEIS funds, which invest into qualifying companies on behalf of fund investors, and this may be a way of spreading risk through holding an investment portfolio.
Which Investors Qualify For EIS And SEIS Tax Relief?
Any individual with UK income tax liability can qualify for EIS relief, provided that he or she is not “connected” with the company in which an investment is made. There are two main ways in which an individual can be connected.
An investor is connected through owning, or being entitled to acquire, over 30% of the company’s shares, voting power, or rights on winding up. And the interests of the investor’s associates, e.g. close relatives and business partners, are counted in this 30% test.
An investor is also connected if he or she, or an associate, is a director or employee of the company or group being invested in. But note that there are special rules which, in some circumstances, can allow a director to qualify for EIS relief.
The SEIS rules are similar, except that there is no general prohibition on directors qualifying for relief.
How Is EIS And SEIS Tax Relief Claimed?
After a company has issued EIS qualifying shares, it must make an EIS application to HM Revenue & Customs, asking for their authority to issue EIS certificates (forms EIS3) to investors. When authority has been given, the company will complete EIS certificates and issue them to investors. The procedure is the same for SEIS, except that the certificate is a form SEIS3.
Once investors have received certificates, they can claim tax relief through their own tax returns.
Are EIS and SEIS shares a good investment?
This is impossible to answer. Like all shares, the value of EIS and SEIS shares can go up as well as down, and investing into small and medium companies can be particularly risky. But the tax benefits are considerable, and HMRC statistics show annual EIS share issues of around £1.5 billion (£160 million for SEIS)- so very many people consider the risk worthwhile.
Further Reading
Additional information on business investment schemes can be found on the HRMC Website.
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