19 February 2022
The enterprise investment scheme (EIS), and seed EIS (SEIS) for the earliest stage companies, are tax incentives aimed at high-risk investments in the shares of qualifying companies, and therefore have a number of tax breaks to make them attractive to investors. One of the main reasons to make EIS and SEIS investments is the exemption from capital gains tax (CGT) on any gains arising when the shares are sold. With significant exit multiples, particularly in the tech and other fast-growth sectors, this effective zero per cent tax rate can represent a valuable saving compared to the standard CGT rate of 20 per cent.
There are many tripwires within the EIS and SEIS legislation, particularly around the investee company’s activities, gross assets and number of employees, and the investors connections to the company. Whilst entirely unintentional, investments can inadvertently fall foul of the detailed rules, resulting in gains being subject CGT at 20 per cent.
Significant tax savings are available
External investors who do not qualify for EIS and/or SEIS CGT relief may also not qualify for business asset disposal relief (BADR, previously known as entrepreneurs’ relief), so how else could a lower CGT rate be accessed? The little-known investors’ relief could help save the day. Whilst statistics show that investors’ relief is not widely claimed, with fewer than a thousand taxpayers claiming it in the 2019/20 tax year, it should not be overlooked as a CGT rate of 10 per cent on chargeable gains up to a lifetime limit of £10m, is extremely valuable. It could provide up to a maximum of £1m of tax relief for an individual investor.
What are the conditions?
As with all tax reliefs, various conditions must be met but, importantly, they are not as onerous as the EIS and SEIS requirements. Investors’ relief applies to the disposal of shares in a trading company or the holding company of a trading group:
- that are unlisted ordinary shares issued on or after 17 March 2016;
- that the investor subscribed for in cash, which was fully paid up at the time of issue;
- that have been held by the investor continuously for at least three years; and
- in which neither the investor, nor a person connected with them, is a relevant employee.
If the investor has been an employee or officer of the issuing company or a company connected with it at any time during the shareholding period, they are a relevant employee except:
- where the investor becomes an employee (but not a director) more than 180 days after the shares were issued, provided there was no reasonable prospect of them becoming an employee when the shares were issued; or
- where the investor’s only connection is as an unremunerated director.
Anti-avoidance rules also require that the original subscription is ‘for genuine commercial reasons’ and ‘by way of a bargain at arm’s length’. In addition, if one of the main purposes of the share issue is to secure a tax advantage, investors’ relief is denied.
Do you qualify?
Whilst investors’ relief may not be quite as valuable as EIS or SEIS relief, it can represent a significant saving where the conditions are met.
It is clear that investors’ relief is not widely claimed, so if you have a failed EIS or SEIS investment or have made a disposal that may qualify for investors’ relief, make sure you consider it further when reporting gains.
For more information, please get in touch with Simon Browning, or your usual RSM contact.