Enterprise Investment Scheme (EIS)
Chris Broome – Chartered Financial Planner
An Enterprise Investment Scheme (EIS) is a tax relief scheme that allows investors to receive tax relief across both income tax, capital gains tax (CGT), and inheritance tax (IHT) in return for investing into early-stage businesses.
The scheme was introduced to help stimulate the UK economy by encouraging entrepreneurs to open start-up companies. Start-up companies that qualify can benefit by attracting investors through offering the incentive of tax relief.
- Income tax relief: Investors receive 30% of the value of their investment back as income tax relief. As an example, were you to provide £30,000 as EIS investment, you would receive £9,000 to offset against your income tax.
- Capital gains tax relief: Investors must hold onto shares for a minimum of 3 years to be eligible to claim CGT relief on the investment. Where investors qualify, once shares are sold, any gain made will be entirely tax-free.
- Capital gains tax deferral: Where an investor makes a disposal of any asset that attracts CGT, they can defer this payment so long as the proceeds are put towards EIS investments. However, once shares are sold, CGT payment will be due. This can still be beneficial where the first asset disposed of is residential property as these attract a higher rate of CGT than other assets such as shares (18% as opposed to 10% for basic rate taxpayers and 28% instead of 20% for higher and additional rate taxpayers).
- Loss relief: If the investment made is not profitable and the company fails, loss relief is available to minimise the amount of loss to the investor. The loss relief amount equates to the rate of income tax the investor pays. The maximum is therefore 45% for additional rate taxpayers. Using the same example of a £30,000 investment in a scenario where the company fails, 30% of this amount would have been received back as income tax relief, leaving £21,000 of capital at risk. Applying a 45% rate for an additional rate taxpayer, the investor would then receive a further £9,450 back in income tax relief. This leave a loss of £11,550 from an initial £30,000 investment.
- Carry-back income tax relief: Although you cannot carry forwards any income tax relief, you can apply the tax relief to a previous year so long as you have not reached the limit of £1,000,000 in EIS shares for that year. If you make a £30,000 EIS investment in the tax year 2020/21 and want to apply the 30% income tax relief to the 2019/20 tax year, you could claim a refund of £9,000 so long as you do not exceed the limit.
- Inheritance tax relief: Where you hold EIS shares for at least two years, you are able to pass this on without the beneficiary suffering inheritance tax on the value of the shares. However, this relief is only available if the shares are not listed on a recognised stock exchange.
How does EIS tax relief work in principle?
- An investor can make a maximum investment of £1 million into a qualifying EIS business per year, or up to £2 million if the qualifying business is considered ‘knowledge intensive’.
- Income tax relief of 30% is available on the investment made. For example, if £100,000 was invested into an EIS fund, the investor would receive £30,000 income tax relief.
- The investment must be kept for a minimum of 3 years before it can be disposed of otherwise any tax relief that has already been received will be clawed back.
- The outcome of how much the investor will receive and what other tax reliefs they can benefit from will be dependent on how successful the business becomes.
What happens if the company grows in value?
- Using an example of a £100,000 investment.
- If the company doubles in value, the investor receives their initial 30% income tax relief (£30,000), but when they go to sell their shares (now valued at £200,000), the gain made would be entirely CGT-free.
- They would therefore have made a total of £130,000 from their initial investment.
What you need to claim EIS relief
When you invest in EIS-approved shares, you will receive an EIS3 certificate for each of the companies you invest in, typically within a few months of the investment.
Sometimes this can take longer as the EIS company must have been trading for at least four months and confirm they have spent at least 70% of the funds raised with HMRC before they are able to request and issue this certificate to investors.
If your investment was made through an approved investment fund, the company will issue the EIS3 form to the fund manager instead, who will then issue you with an EIS5 certificate. Both EIS3 and EIS5 certificates contain the same information that you will need for your claim:
- The Unique Investment Reference (UIR) or name of the HMRC office authorising the issue of the certificate and their reference
- The name of the company invested in
- The amount you have subscribed and are claiming tax relief on
- The date on which the shares are issued (which is often different from the date you invested)
How you claim the tax relief will depend on how you submit your tax return, either submitting it digitally or by post.
Other ways to claim EIS tax relief
There is an alternative way of claiming the tax relief by completing the form on pages 3 & 4 of the EIS3/EIS5 certificate. However, this is only done under certain circumstances, outlined below:
- You want to use the ‘carry back’ option on part or all of the cost of shares acquired. This allows you to apply the tax relief to the previous year’s income tax liability rather than the year in which the shares were bought. You may want to choose this option where you would rather receive a tax rebate.
- You pay tax via PAYE and want to receive the tax relief through an adjustment to your tax code instead of through a self-assessment tax return. It is important to note that this option does not necessarily negate the need for you to complete a self-assessment tax return if you are required to do so, however can be a benefit as it means you receive the tax relief throughout the year as opposed to only after you have completed your self-assessment tax return.
- You want to claim the CGT deferral relief as well as income tax relief.
- You don’t normally need to file a self-assessment tax return as all your tax is paid at source through PAYE, and you do not want to register for self-assessment in order to receive the tax relief benefits from EIS.
Investing in EIS shares is only recommended to higher rate and additional rate taxpayers with sufficient tax liability in order to fully benefit from the tax relief.
Please contact us if you’d like to discuss this further.
Please note: THE VALUE OF INVESTMENTS AND THE INCOME FROM THEM MAY GO DOWN. YOU MAY NOT GET BACK THE ORIGINAL AMOUNT INVESTED.