The Enterprise Investment Scheme (EIS) is a government backed scheme of tax incentives designed to encourage investment by individuals in small and entrepreneurial trading companies.
According to estimates, the scheme helped to raise £500m worth of investment in 2008 and 2009. It works by allowing investors to offset a percentage of their investment in EIS companies against their current or preceding year’s income tax liability. This level currently stands at 20%, but under George Osborne’s new proposals, the figure will be raised to 30%.
Furthermore, the cap on the amount of investment that qualifies for income tax relief for any one individual will also be increased from £500,000 per annum to £1m – starting on April 6, 2012. The minimum investment is £500.
Giving investors more incentive to support small businesses is clearly a good thing, the question is, what constitutes an EIS business?
To be eligible, the company must issue new ordinary shares that are fully paid up in cash. The money raised must then be used for trading purposes within two years. In addition, the company must also comply with other criteria for three years prior to the share issue, including:
• Being based in the UK.
• Being independent and unquoted.
• Carrying on a ‘qualifying trade’ – which basically excludes financial services or asset backed trades such as property development.
• Having fewer than 50 full-time employees.
• Not having gross assets exceeding £7m before the issue and £8m immediately after the issue.
• Having had no connection with the investor for two years before and three years after the share issue (here ‘connected’ means that more than 30% of your company is owned by the investor or their family, or if the investor is an employee).
If any of these conditions cease to be met while the investor owns the shares, the relief can be withdrawn, so caution is advised. Also, if the investor sells their shares within three years, they will lose their income tax deduction. However any profits on the sale of shares after three years are exempt from capital gains tax, and if the investment is unsuccessful, losses can be set against the current or preceding tax liability.
Furthermore, an investor can claim ‘EIS deferral relief’, which means that any capital gains arising from the disposal of assets to invest in the EIS are deferred until the EIS shares are sold. What’s more, EIS shares are exempt from inheritance tax after they’ve been owned for two years.
So for both investors and small businesses, this scheme promises to add value through tax relief incentives. At a time when small business account for over half of the UK’s employment, and are tipped as the future of the UK economy, this can only be a good thing for everyone.
To find out more about the EIS, please contact our Corporate Finance Team.