Enterprise Investment Scheme

The pur­pose of the Enter­prise Invest­ment Scheme (EIS) is to help cer­tain types of small high­er-risk unquot­ed trad­ing com­pa­nies to raise cap­i­tal. It does so by pro­vid­ing income tax and CGT reliefs for investors in qual­i­fy­ing shares in these com­pa­nies.

There are real­ly two sep­a­rate schemes with­in the EIS:

• a scheme giv­ing income tax relief on the invest­ment and a CGT exemp­tion on gains made when the shares are dis­posed of; and/or
• a scheme aimed at pro­vid­ing a CGT defer­ral.

An indi­vid­ual may be able to take advan­tage of either or both of these schemes as long as they meet the rel­e­vant con­di­tions which are con­sid­ered below.

EIS reliefs available

Income tax relief

• Investors may be giv­en income tax relief at 30% on their invest­ments of up to £1,000,000 a year (£2 mil­lion a year for knowl­edge-inten­sive com­pa­nies from 6 April 2018).
• The income tax relief is with­drawn if the shares are dis­posed of with­in three years.

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.

CGT exemption

• Gains on the dis­pos­al of EIS shares are exempt unless the income tax relief is with­drawn.
• The CGT exemp­tion may be restrict­ed if an investor does not get full income tax relief on the sub­scrip­tion for EIS shares.
• Loss­es on the dis­pos­al of EIS shares are allow­able. The amount of the cap­i­tal loss is restrict­ed by 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.

CGT deferral

• Gains aris­ing on dis­pos­als of any assets can be deferred against sub­scrip­tions for shares in any EIS com­pa­ny.
• Shares do not have to have income tax relief attrib­ut­able to them in order to qual­i­fy for defer­ral relief.
• The gain will become charge­able in the tax year when the sub­scrip­tion shares are dis­posed of.
• There is no upper lim­it on the amount of defer­ral relief avail­able to an indi­vid­ual although there is a lim­it on invest­ment in a sin­gle com­pa­ny or group of com­pa­nies.

Qualifying companies

Com­pa­nies must meet cer­tain con­di­tions for any of the reliefs to be avail­able for the investor.

• 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 whol­ly employed with­in a spec­i­fied peri­od by the com­pa­ny.
• The invest­ment must gen­er­al­ly be made with­in sev­en years of the company’s first com­mer­cial sale.
• The com­pa­ny or group must gen­er­al­ly 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 6 April 2018).
• The com­pa­ny must not be regard­ed as an ‘enter­prise in dif­fi­cul­ty’ under EC guid­ance.
• The com­pa­ny need only have a per­ma­nent estab­lish­ment in the UK rather than car­ry­ing on a qual­i­fy­ing trade whol­ly or main­ly in the UK.

Qualifying business activities

A trade will not qual­i­fy if exclud­ed activ­i­ties amount to a sub­stan­tial part of the trade. The main exclud­ed activ­i­ties are:

• 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, oth­er than, in cer­tain cas­es, such pay­ments aris­ing from film pro­duc­tion, or from research and devel­op­ment
• 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.

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 the years, gov­ern­ments make amend­ments to what are regard­ed as qual­i­fy­ing com­pa­nies for EIS. The thrust of the changes is to ensure well-tar­get­ed sup­port for invest­ment into small and grow­ing com­pa­nies, with a par­tic­u­lar focus on inno­v­a­tive com­pa­nies. For exam­ple the con­di­tions for knowl­edge-inten­sive com­pa­nies vary from some of those men­tioned above.

How to qualify for income tax relief

Eli­gi­bil­i­ty for income tax relief is restrict­ed to com­pa­nies with which 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.

You can be con­nect­ed with a com­pa­ny in two broad ways:

• by virtue of the size of your stake in the com­pa­ny; or
• by virtue of a work­ing rela­tion­ship between you and the com­pa­ny.

In both cas­es the posi­tion of your ‘asso­ciates’ is also tak­en into account.

Size of stake

You will be con­nect­ed with the com­pa­ny at any time when you con­trol direct­ly or indi­rect­ly pos­sess, or are enti­tled to acquire, more than 30% of the ordi­nary share cap­i­tal of the com­pa­ny.

Working relationship

You will be con­nect­ed with the com­pa­ny if you have been an employ­ee or a paid direc­tor of the com­pa­ny.

There is an excep­tion to this rule if you become a paid direc­tor of the com­pa­ny after you were issued with the shares.

You must nev­er pre­vi­ous­ly have been con­nect­ed with the com­pa­ny and must not become con­nect­ed with it in any oth­er way. Also, you must nev­er have been involved in car­ry­ing on the whole or any part of the trade or busi­ness car­ried on by the com­pa­ny.

How to qualify for CGT deferral relief

You can defer a charge­able gain which accrues to you on the dis­pos­al by you of any asset. In addi­tion, you can defer revived gains aris­ing to you in respect of ear­li­er EIS, Ven­ture Cap­i­tal Trust (VCT) or CGT rein­vest­ment relief invest­ments.

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

Receiving value from a company

The EIS is sub­ject to a num­ber of rules which are designed to ensure that investors are not able to obtain the full ben­e­fit of EIS reliefs if they receive val­ue from the com­pa­ny dur­ing a spec­i­fied peri­od. If relief has already been giv­en, it may be with­drawn.

Exam­ples of the cir­cum­stances in which you would be treat­ed as receiv­ing val­ue from the com­pa­ny are where the com­pa­ny:

• buys any of its shares or secu­ri­ties which belong to you
• makes a pay­ment to you for giv­ing up the right to pay­ment of a debt (oth­er than an ordi­nary trade debt)
• repays a debt owed to you that was incurred before you sub­scribed for the shares
• pro­vides you with cer­tain ben­e­fits or facil­i­ties
• waives any lia­bil­i­ty of yours or an asso­ci­ate’s to the com­pa­ny
• under­takes to dis­charge, any such lia­bil­i­ty to a third par­ty
• lends you mon­ey which has not been repaid before the shares are issued.

Receipts of ‘insignif­i­cant’ val­ue will not cause the with­draw­al of relief.