The Enterprise Investment Scheme ("EIS") is designed to help smaller, higher-risk trading companies to raise finance by offering a range of tax reliefs to investors who purchase new shares in such companies. The Venture Capital Trust ("VCT") regime is designed to encourage individuals to invest indirectly in a range of small higher-risk trading companies whose shares and securities are not listed on a recognised stock exchange.

With a view to further encouraging investment on higher risk activities and helping small, higher-risk UK companies, the Government, in its draft Finance Bill 2012, sets out plans to:

  • increase the relief available under the EIS and VCT regime; and
  • relax a number of investee company qualifying conditions. Most of the changes should take effect from April for the tax year 2012/2013 and thereafter.

BENEFICIAL CHANGES

The following changes, some of which may be subject to state aid approval, increase the value of the tax relief schemes and enlarge the range of companies which will be able to offer EIS and VCT qualifying investment options.

Thresholds

Applicable to both EIS and VCT

  • The gross assets threshold, which is currently capped at £7 million gross assets pre-investment, will increase to a limit of £15 million gross assets pre-investment.
  • The current level of gross assets post-investment will increase from £8 million to £16 million.
  • The maximum number of full-time employees that a company may have will increase to under 250 from under 50.
  • The aggregate annual amount which can be invested in a company under the venture capital tax schemes will increase from £2 million to £10 million.

Applicable to EIS only

  • The annual threshold for qualifying EIS investment under the scheme will be increased to £1 million from £500,000.

Applicable to VCT only

  • The annual threshold of £1 million for investment by an individual VCT in a single company will be removed (currently, sums larger than this have to be contributed by more than one VCT). However, a £1 million restriction will continue to apply where the company is a member of a partnership or joint venture and it is that body which carries on the VCT qualifying trade.

Definitions of "connected person" – applicable to EIS only

Rules relating to "connected persons" are to be amended such that loan capital held in the investee company by an investor is not to be taken into consideration when calculating whether that person holds more than a 30% interest in the company.

Definitions of "eligible shares" – applicable to EIS only

The new definition of "eligible shares" will be broader than the current definition and will , in line with the equivalent definition for VCT purposes, allow for certain preferential rights to dividends to attach to shares. However, it is noted that shares will continue to be ineligible if (a) the amount and timing of dividends are dependent on a decision of the company or another person (b) there are preferential rights to assets on winding up; or (c) if dividend rights are cumulative.

OTHER CHANGES

Definitions of "qualifying business activity" and "qualifying trade" - applicable to both EIS and VCT

  • Subject to certain grandfathering provisions, from 23 March 2011, the EIS and VCT definition of "qualifying trade" is to be amended such that any trade which consists substantially of the generation or export of electricity in respect of which a feed-in tariff (or similar overseas scheme) is received will be excluded from the definition of "qualifying trade". The rational for this amendment is so that there is no "double benefit" of EIS or VCT tax relief in addition to tariff incentives offered.
  • Further, the definition of "qualifying business activity" will also be amended to exclude (with a limited 90% qualifying subsidiary exception) the acquisition of shares by the company. This is a measure which is intended to prevent access through certain structures to EIS and VCT tax benefits for investments into businesses which would not otherwise qualify.

"Disqualifying arrangements" test - applicable to both EIS and VCT

A new 'disqualifying purpose' test is to be introduced, whereby arrangements will be excluded from qualifying for relief if those arrangements are entered into with the purpose of ensuring that the relevant tax relief is available and either:

  • all or most of the monies raised are to be paid for the benefit of a party to that arrangement; or
  • in the absence of the arrangements, it would be reasonable to expect that the business would be carried on as part of another business: for example, a restructuring which separates part of an existing business (that would not qualify) so that investment into the separated part can qualify for relief, will not be effective.

CONCLUSION

Many of these changes have been long-awaited – in particular the increasing of the various thresholds and the fact that certain preferential rights to dividends will not prevent a share from qualifying for EIS eligibility.

However, as can be noted, the changes are not all for the benefit of the investee company or investors and general commentary from the investment market indicates that enthusiasm for the positive measures is tempered by the effect of other changes. For example, whilst the regime already includes provisions which require that investments be for commercial reasons and not with a main purpose of avoiding tax, it could be argued that the "disqualifying purpose test" removes arrangements which could otherwise have been seen to be acceptable procedures.

Nevertheless, taken as a whole, the changes do increase the value of the tax relief schemes and are greatly welcomed amongst the investment community.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.