On the other hand, it’s also clear we’re only in the early stages of a recovery. In the words of the new Bank of England Governor Mark Carney, we’re not at ‘escape velocity’ yet. For that reason, the government wants to keep the momentum going, so it’s continuing to offer valuable tax incentives as a reward for investors who put their money into smaller UK companies. These businesses are the lifeblood of the UK economy and they need finance to help them reach more customers and take on more staff. So, by investing in a Venture Capital Trust (VCT) or an Enterprise Investment Scheme (EIS), you’ll be helping the UK get back on its feet, and earning significant tax advantages in the process.
Nothing ventured...
The key tax benefit of a VCT is that when you invest, you get 30 per cent in upfront tax relief. You can invest up to £200,000 each tax year, so you could claim up to £60,000, although you can’t receive more relief than you pay in tax. The main restriction on this tax relief is that you must keep your money invested for at least five years. There’s also no tax on growth in a VCT and no tax on any dividends you receive.
In recent years VCTs have started to gain popularity with investors who are looking for ways to supplement pension schemes in their retirement plans. With the Lifetime Allowance set to fall once again at the start of the next tax year, more and more people are facing the prospect that they won’t be able to save as much as they were expecting in their pensions. This could even apply to people who aren’t usually thought of as ‘rich’, such as headteachers and doctors. VCTs could be an interesting alternative for anyone is this position. They offer attractive long-term growth potential, particularly as there’s no tax on any gains. Depending on the VCT you choose, you may also have the option of reinvesting your dividends to boost its long-term growth – with the benefit that you can claim more tax relief on each reinvestment.
An enterprising idea
An EIS offers the same 30 per cent tax relief as a VCT, but you can put aside even more each tax year – up to £1m. There’s also a ‘carry back’ facility that allows you to make a retrospective investment for the previous tax year and claim further tax relief. Again, the tax relief can’t be more than the tax you paid in the relevant year.
So, apart from the higher investment limit, what makes an EIS different from VCTs?
For a start, the dividends aren’t tax-free, which is something to keep in mind if you’re looking for an income from your investments. On the other hand, the qualifying period for tax relief is only three years, rather than five. And you can get loss relief on EIS holdings, which means you can set any losses on your EIS investment against either income or capital gains and reduce your overall tax bill. The net effect of these two tax reliefs is that if you invest £100 in an EIS and you pay income tax at the highest rate, the most that is actually at risk (even if the value of your investment falls to £0) is £38.50 as the rest is covered by the tax man.
An EIS can also help if you’re planning ahead for inheritance tax (IHT). Put your money in one of these schemes and it could become exempt from IHT after just two years, as long as you still have the investment when you pass away. This is thanks to Business Property Relief, another government initiative designed to support smaller businesses.
On top of all this, you can use an EIS to defer capital gains tax – a valuable option if you’re selling investments as part of your inheritance planning. Simply move the taxable gain from, say, a share portfolio or a second home into an EIS and it will be protected from capital gains tax for as long as you keep the investment. If you still have the investment when you pass away, the deferred capital gains tax will never have to be paid.
Opportunities to suit your needs
There’s a general perception that both VCTs and EIS are extremely speculative investments that offer the potential for high returns, but also carry a significant risk of losing everything. At one end of the spectrum, this may be true.
However, at Octopus we have realised that a wide range of investors are keen to help the UK economy by investing in tax-efficient vehicles. So alongside our more adventurous products, we’ve developed a number of VCTs and EIS that focus on capital preservation, rather than long-term growth. If you’re interested in a VCT or EIS, the chances are that there is a product to suit you, whatever your appetite for risk.
Founded in 2000, Octopus Investments currently manages £3bn of assets on behalf of 50,000 customers. Octopus’ core products include a range of Venture Capital Trusts, Enterprise Investment Schemes, inheritance tax services and a discretionary fund management solution.