What Is The EIS Scheme?

The Enterprise Investment Scheme or EIS as it is commonly known is a tax incentive in the UK introduced to encourage investment into early stage and SME companies. There are a number of tax breaks available to investors, and the benefits to the companies are well documented.

Here we will discuss the £1.5bn+ EIS marketplace, how the tax relief works, when you can expect to receive the tax relief and the different investment options available to you.

The EIS Marketplace

EIS Funds Raised 2017/18 (£2bn)
Number of companies that received investment in 2017/19: 3,920
Media Research - 8 years
Marketing Data - 7 years

A WORD ABOUT EIS

The Enterprise Investment Scheme is a fantastic tax break encouraging investment into early stage businesses. Many thousands of companies have now benefitted from investment into the EIS, and this has created a clear infrastructure of start-ups in the UK.

These tax breaks enable businesses to secure capital which otherwise may not be available, therefore it is an extremely important tax incentive which must continue if the UK is to continue to grow tech, ideas and general entrepreneurialism.

Matt Lenzie

Еntrepreneur / EnterpriseInvestmentSchemes Founder

Tax Reliefs Available Under The Enterprise Investment Scheme

There are a number of tax reliefs available under the Enterprise Investment Scheme, these are broadly broken down into the following:

  • Income tax relief – Investors receive 30% income tax relief on the value of their shares that they purchase in EIS qualifying companies.
  • Capital Gains tax relief – Investors into EIS qualifying companies defer capital gains up to the value of their investment.
  • Inheritance tax relief – EIS companies are typically Business Relief qualifying, this means that they fall outside of the estate for business relief purposes, once they have been held for 2 years.

Income Tax Relief for Enterprise Investment Scheme – The Details

Investors into qualifying Enterprise Investment Scheme companies should receive income tax relief at 30% of their investment amount. Each investor has an annual allowance of £1,000,000 per annum, or £2,000,000 per annum for knowledge intensive companies from 2018.

There are various conditions that both the EIS qualifying company and the investor are required to meet, including:

  • The investor must hold the shares for a minimum period of 3 years from the date of issue.
  • The investor cannot be considered to be a “connected party” to the company at the time of the issue of shares.

 Eligibility for income tax relief is restricted to companies with which you are not ‘connected’. This is considered in ‘How to qualify for income tax relief’ below.

Capital Gains Tax Exemption

EIS shares are exempt from capital gains tax, unless the income tax relief is withdrawn. This means that if an investor purchases shares for a £1, then sells them at £10, the gains will not be taxable.

Furthermore, losses on the disposal of EIS shares are allowable. The amount of the capital loss is limited to the amount of the EIS income tax relief still attributable to the shares disposed of.

A capital loss arising on the disposal of EIS shares can be set against income.

EIS Qualifying business activities

HMRC have established a clearly defined list of qualifying trades, these include most businesses which have a genuine commercial activity, however there are some exclusions, these include:

  • dealing in land, in commodities or futures or in shares, securities or other financial instruments
  • financial activities
  • dealing in goods other than in an ordinary trade of retail or wholesale distribution
  • leasing or letting assets on hire
  • receiving royalties or licence fees
  • providing legal or accountancy services
  • property development
  • farming or market gardening
  • holding, managing, or occupying woodlands
  • operating or managing hotels, guest houses or hostels
  • operating or managing nursing homes or residential care homes
  • ship building
  • coal and steel production.

EIS Qualifying Companies

There are a range of qualifying criteria that compaies must meet to qualify to become EIS qualifying, these include:

  • The company must be unquoted when the shares are issued and there must be no arrangement in existence at that time for it to cease to be unquoted.
  • All the shares comprised in the issue must be issued to raise money for the purpose of a qualifying business activity.
  • The money raised by the share issue must be employed within a specified period by the company, normally 2 years, i.e. the money must be spent
  • The receipt of investment must be made within seven years of the company’s first commercial sale.
  • The company or group must have fewer than 250 full time employees.
  • The size of the company is limited to £15 million (gross assets).
  • The amount of capital raised in any 12 month period is limited to £5 million (£10 million for knowledge-intensive companies from April 2018)
  • The company must not be regarded as an ‘enterprise in difficulty’ under EC guidance.
  • The investee company is required to have a permanent establishment in the UK.

Time period in which the money is invested

The time limit for the employment of money invested is to two years from the issue of the shares or, if later, two years from the commencement of the qualifying activity.

Changes to the rules for qualifying companies

Over recent years, the government has made significant changes to the qualifying criteria for EIS companies, therefore it is imperative that each company receive advance assurance from HMRC in advance of investment being made.

How to qualify for income tax relief

Most EIS investors will automatically receive Income Tax Relief for their investment into EIS qualifying companies. Where some challenges arise if there is an existing relationship, this is defined by HMRC as you are not ‘connected’ at any time during a period beginning two years before the issue of the shares and ending three years after that date, or three years from the commencement of the trade if later.

HMRC’s definition of connected is in two key ways:

  • stake in the company (shareholding), or options or warrants for a shareholding
  • by an existing working relationship either as an employee or a director
  • There is an exception to this rule if you become a paid director of the company after you were issued with the shares

How to qualify for CGT deferral relief

It is possible to defer a chargeable gain into an EIS qualifying company, in addition you can defer revived gains arising to you in respect of earlier EIS, Venture Capital Trust (VCT) or CGT reinvestment relief investments.

It is important to note that there are some restrictions on investments against which gains can be deferred. These are designed to prevent relief being obtained in circumstances where there is a disposal and acquisition of shares in the same company

What’s the difference between an EIS Fund and An EIS Company?

An EIS Fund is normally managed by an FCA regulated EIS Fund manager, who’s job is to identify and invest capital on behalf of its clients. The Information Memorandum (IM) for the fund will normally explain the EIS Fund Managers mandate and provide details regarding the types of companies that the Fund will seek to invest into.

An EIS Company is a single company which will normally have received HMRC Advance Assurance in advance of investment being concluded.

Types of EIS Funds

There are two broad types of EIS Funds: approved, and unapproved.

To be classed as HMRC approved the EIS prospectus must be reviewed and furthermore approved by HMRC.

If the approved fund invests at least 90 per cent of its assets in EIS approved investments within the 12 months following fund closing, investors in the fund will be treated as having made the EIS investments as at the date the fund closes, this provides a slight advantage over the unapproved route where the underlying investments will not be considered to have concluded until the underlying investments are made by the fund manager, which can take up to 12-18 months.

The benefit for an investor or advisor is that this defines which tax year that the investment is made, and therefore when income tax relief can be obtained.

There are several other requirements for an approved fund, with the fund being required to invest at least 90 per cent of the capital being invested within 12 months and the fund must also invest in at least four underlying companies and must not make any investments until it is officially closed.

Each of the Companies that an EIS Fund will invest into will need to be EIS qualifying.

Unapproved EIS Funds

The majority of fund managers tend to use the unapproved route as it provides more flexibility and will allow the fund manager slightly more time to make the right investments, as opposed to being under pressure to deploy funds quickly so that the tax reliefs can be granted quickly. For an unapproved EIS Fund the Fund manager has up to 2 years to invest funds, albeit the tax relief is only granted at the point that the underlaying investment is made.

Types of EIS Companies

By their very nature, EIS Companies tend to be relatively early stage, and often will have limited trading history. Historically, investors were able to invest into asset backed investment opportunities such as pubs and other businesses which had underlying assets.

However, in 2018 the HMRC changed the legislation which disallowed investment into these types of companies and intentionally focused investment into businesses which had “real risk”, and accordingly high growth potential.

This has resulted in a drop in the level of investment which is being made as lots of fund managers built up their books of business by effectively recycling clients money, giving lower risk investment strategies with accordingly lower returns.

Following the Patient Capital Review HM Treasury and HMRC amended the legislation for EIS to encourage investment to be made under what they call the “spirit of the legislation”, i.e. into companies which really need the money and are high risk, and accordingly high reward. This has resulted in a new landscape, and one where most Wealth Managers and Advisors will normally advise their clients to build a portfolio of investments as opposed to investing all of ones capital into a single company.

EIS Investment Sectors

Key sectors in the EIS marketplace at the time of writing include:

  • Technology
  • Pharma
  • Digital/Online businesses
  • Manufacturing
  • Production
  • TV/Media
  • Plus many more….

As described above there are a number of sector which are non-qualifying for EIS purposes, these include property development, financial services etc.