Introduction
The Enterprise Investment Scheme (EIS) is a UK government initiative designed to encourage investment in small, high-growth businesses by offering tax relief to individual investors. Launched in 1994, EIS aims to help small companies raise capital while offering investors the potential for significant tax benefits. It’s a mutually beneficial scheme that fosters innovation and business growth, particularly in sectors where accessing traditional funding might be challenging.
How the EIS Works
Under the EIS, individuals can invest up to £1 million per tax year (or up to £2 million if at least £1 million is invested in knowledge-intensive companies). In return, they can receive income tax relief of 30% on their investment, meaning an investment of £100,000 could result in a tax reduction of £30,000.
To qualify, investors must hold shares in the EIS-eligible company for a minimum of three years. These shares must be new and not traded on the stock market, and the company itself must meet certain conditions, such as having fewer than 250 employees and gross assets not exceeding £15 million.
Tax Relief Benefits
The EIS offers various tax incentives to investors, making it a popular option for those looking to reduce their tax liabilities while supporting small businesses:
- Income Tax Relief: As mentioned, 30% tax relief is available on the amount invested, up to £1 million (or £2 million for knowledge-intensive companies).
- Capital Gains Tax Deferral: Any capital gains made from selling other assets can be deferred if they are reinvested into an EIS-eligible company.
- Capital Gains Tax Exemption: If EIS shares are held for at least three years and the company continues to meet the scheme’s requirements, any gains made from the sale of these shares will be exempt from Capital Gains Tax.
- Loss Relief: If the EIS investment doesn’t go as planned and results in a loss, investors can offset that loss against their income tax.
Risk Considerations
While the EIS offers attractive tax reliefs, it is important to be aware of the risks associated with investing in early-stage companies:
- High Risk of Failure: Start-ups and small businesses, particularly those in their early stages, have a higher chance of failure. Investors could lose the entire amount of their investment.
- Illiquid Investments: EIS shares cannot be traded on the stock market, meaning your investment will be illiquid for at least three years. Exiting the investment prematurely may result in a loss of tax relief benefits.
- Potential for Delayed Returns: Even if the company succeeds, returns on investment may take years to materialize, as growth in small businesses can be slow and unpredictable.
- Complex Eligibility Rules: Both the investor and the company must meet certain criteria to qualify for EIS benefits. If these rules are not followed, tax reliefs could be clawed back by HMRC.
Who Can Benefit?
The EIS primarily targets individuals with a high net worth looking to support early-stage businesses, but it’s also attractive to those wanting to diversify their investment portfolio. It’s especially popular with investors seeking tax-efficient ways to grow their wealth, as the generous tax reliefs offered can significantly reduce overall liability.
For entrepreneurs, the scheme is a lifeline for securing funding. It allows small businesses to attract investment more easily, offering a tangible incentive to investors who might otherwise be wary of the risks associated with early-stage ventures.
Conclusion
The Enterprise Investment Scheme is a robust tool for both investors and small businesses in the UK. By offering substantial tax relief, the government encourages investment in innovation and growth, making it a win-win for both parties. However, the risks associated with early-stage ventures should not be overlooked, and potential investors should carefully consider whether this scheme aligns with their risk tolerance.
Assessing risks in private markets opportunities is a highly specialised skill as well as time consuming. Kingsbury & Partners ensures peace of mind by assessing opportunities through Product & Risk Committee. To find out more, contact us at hello@kingsburyandpartners.ae
