Budget Update

The budget statement this week regarding EIS and VCT was very straightforward, with little that was new. However, it could have been much worse.

Although CGT has gone up, nearly all other reliefs have been preserved. This is particularly helpful for investors looking to reduce inheritance tax (IHT) liability and to make allocations to venture within their pension.

With the immediate rise in CGT rate to 28%, we anticipate a swift increase in interest in the Enterprise Investment Scheme as the higher CGT rate now enhances the value of investing under EIS. Investors will be keen to know how they can defer their CGT bill, whilst at the same time contributing to driving innovative British companies forward with an investment that will be free of CGT. By combining 20% income tax relief with 28% CGT deferral relief, investors can now make a tax saving of up to 48p for every £1 invested. Furthermore, once the investment has been held for 2 years it qualifies for 100% BPR, effectively delivering a further 40p of tax relief for every £1 invested in IHT relief.

The coalition Government has acknowledged the need to reduce the structural deficits through raising tax rates on individuals. However it has at the same time, determined measures to help stimulate economic growth and reduce the tax burden on businesses. This should act as the main driver to improve the longer term economic prospects of the UK economy.

Advisers are slowly waking up to the realisation that an investment in an EIS scheme is a great way of IHT planning. The investment falls outside their client's estate two years after investment; there's nothing else on the market that can deliver that much relief in such a short time span.

In this, the last part of the Questions and Answers Series, Julian Hickman aims to answer a question recently posed to him by IFAs relating to the EIS scheme and the IHT opportunities associated with it.

Question 5: I understand that an EIS investment can be used as part of IHT planning for a client. How exactly does this work?

Julian's answer: Strictly speaking, it is not EIS that offers IHT relief, but direct investment into unquoted companies that qualifies for 100% Business Property Relief, once they have been held for 2 years. However, as most EIS investments are made into unquoted companies, an EIS investment generally means the investor will be entitled to IHT relief. There is no limit on the amount that can be invested into an EIS Fund and subsequently gain IHT relief. Effectively this means that an investment into an EIS fund qualifies for 100% BPR once they pass the second anniversary of the date of investment. It is worth just pausing here because EIS funds are NOT like Unit Trusts which are usually fully invested at the point at which you invest. An EIS fund starts with no holdings and begins investing the moment it closes/you subscribe. In the case of an Approved EIS fund, it can take up to 10 months to complete the fund's investment. For an investment of 750,000 full IHT relief will be achieved at something between 2 and 3 years from the date the investment is made.

This is the last instalment of Julian's IFA Questions and Answers session for this tax year but Julian will be back again in April answering more questions on the topic of EIS and Venture Capital investment. Watch this space....

If you have any questions relating to EIS and want to be part of future Questions and Answers series' please email them to nrobson@longbow.co.uk or post a comment below.

We are pleased to see that the Chancellor has made no material change to the Enterprise Investment Scheme. This is good news for advisers and their clients as EIS provides a powerful combination of tax reliefs for them as they look to reduce their tax burden.

And, with forthcoming increases in higher rate tax about to hit hard, investors need all the help they can get.

It is a shame that the Chancellor didn't take the opportunity to simplify the EIS structure, which is unnecessarily complicated. That is something we hope the next government might address as the current structure distracts investors from supporting enterprise and innovation.

This year interest in our EIS funds hasn't just been limited to income tax opportunities. A number of advisers have clients with capital gains that they had to pay at 40%. For these people, the opportunity to have this returned to them whilst they are invested in an EIS scheme, and then, when they come to repay it, to only have to do that at 18%, is too attractive to miss.

In this, the second part of the Questions and Answers Series, Julian Hickman aims to answer questions recently posed to him by IFAs relating to the EIS scheme and the CGT opportunities associated with it.

Question 3: An EIS fund offers capital gains tax opportunities too. Can you describe these?

Julian's answer: Subject to the 3 year qualifying rule, an investment in an EIS fund will be free from CGT. Unlike income tax, there is no maximum limit o the size of an investment that can be made and which wiill be 100% free of CGT. An additional element of relief is Deferral Relief. When an investor makes an EIS investment, he may defer an gain crystallised in the 36 months prior to the point of investment - or 12 months into the future - and hold onto this deferred gain until he is finally out of the EIS fund.

Question 4: Can you give an illustrative example of how this deferral could benefit an investor?

Julian's answer: Taking a recent example, a client makes an investment of £150,000 into an EIS fund in April 2010. In June 2007 he sold a share portfolio and paid a CGT bill for 40% of that sales; £25,000. He can claim that payment back from HMRC - in addition to receiving his income tax relief - and hold it until he exits from the EIS fund, at which point he must pay the deferred gain back to HMRC at the prevailing rate, which is currently 18%.

If you have any questions relating to EIS investments and would like to be part of the Questions and Answers series please email nrobson@longbow.co.uk or post a comment below.

A number of advisers have contacted us recently concerned that the budget on the 23rd March could contain changes to the EIS rules that might affect their clients' investment in our funds.

This is particularly relevant to advisers who have clients that have applied to invest in the 2010 Approved EIS Fund.

As soon as we know the detail of the budget we will discuss the changes, if any, to EIS reliefs with each adviser and how that may, or may not, affect their clients.

We can then confirm whether or not their client is invested in the right fund for them to maximise their EIS relief, and if we need to make changes, make sure they are undertaken in time for the tax year end.

We will also provide an update on our website for any changes that are announced to EIS relief in the days following the budget.

I am often amazed at how many misconceptions there are floating around the Financial Services industry regarding EIS (Enterprise Investment Scheme) investment. For many advisors these myths have caused them to avoid EIS, marginalizing it, often in preference for VCTs. Fortunately, over the last few years, with the help of advocates, such as Martin Churchill and the EISA, many of these myths have been dispelled. I have listed below three of the most common that I have heard mentioned over the years along with my own comments on ‘the facts;’ behind the myths.

Myth 1:

The first common myth surrounding the EIS investment is that it only provides investment into a single company, often a pub or similar asset-backed investment, whereas VCTs provide a spread of investments across multiple companies.

The Facts…

You can make an EIS investment into a single qualifying company if you wish, however, there are a number of EIS Funds and Portfolio Services which offer diversified investment portfolios focusing on growth while offering income tax, IHT and CGT relief.

Myth 2:

VCT tax breaks and performance are much better than that of EIS Funds

The Facts…

VCT do offer a better rate of income tax relief at 30%, however, EIS offers CGT deferral and relief, which VCTs do not. Also the holding period of a VCT is longer, at 5 years, in comparison to 3 years with EIS. VCTs can be useful as they usually pay part of their return as tax free income dividend, something not associated with an EIS investment, but with the complete set of tax breaks plus the shorter holding period, alongside a portfolio of strong investments EIS Funds can more than hold their own.

Myth 3:

As a specialist investment EIS funds and services are few in numbers and difficult to access.

The Facts…

There are a reasonable number of EIS Funds available on the market, some specializing in specific sectors

If you have any questions about the EIS scheme or EIS Funds please call me on 020 7332 0320 or email jhickman@longbow.co.uk.

For further information on EIS tax benefits please click here.