EIS errors can be costly

14 May 2024

The recent case of Kalay v HMRC highlights an issue that investors into companies which qualify for the Enterprise Investment Scheme (EIS) need to be alive to if they are to benefit from the generous tax reliefs associated with it.

Mr Kalay had made an investment into a company in 2013. The level of investment isn’t reported in the case but the maximum qualifying amount that could have been invested by each investor at that time was £1m. It is clear however that this investment did very well as the shares in the company were subsequently sold for over £8.2m in November 2019.

There are a number of tax reliefs associated with investments into companies that qualify for EIS. Two of most important ones are that the initial investment can qualify for 30% relief from income tax and that the subsequent sale of the shares acquired can be free from capital gains tax (CGT), the latter known as EIS disposal relief.

Given the sizeable capital gain that arose on the shares sold, a claim for EIS disposal relief was made on Mr Kalay’s tax return for the year to 5 April 2020. HMRC later opened an enquiry into the return which uncovered a fatal error for being able to claim EIS disposal relief. As a result, instead of benefiting from tax-free proceeds on the sale of his shares, he was subject to an additional CGT bill of around £1.6m.

Previous case law has confirmed that for a claim for EIS disposal relief in relation to CGT to be valid, it is necessary that a valid claim for EIS income tax relief has been made and given effect to in relation to the investment.

In this case, a claim was made for EIS income tax relief to apply but it was made outside of the necessary time limits. The First-tier Tribunal found that it had no authority to allow an EIS income tax relief claim to be made outside of the normal time limit, which is the fifth anniversary of the normal 31 January deadline following the tax year in which the investment is made. 

Whilst the decision in this case may not come as a surprise to those familiar with the EIS rules, it highlights the danger to taxpayers of making such investments and not fully understanding all the tax rules. EIS investments benefit from tax reliefs that incentivise taxpayers to make what might otherwise be considered high-risk investments. What isn’t always appreciated is that the complexity of the tax rules themselves and getting things wrong could also be considered high risk.