The EIS seeks to help unquoted trading companies raise equity finance by offering a range of tax incentives to their investors.
The tax reliefs in brief
The tax reliefs available to investors in EIS Qualifying Companies are:
- Income tax relief of up to 30% of the sum invested
- Exemption from Capital Gains Tax
- Capital Gains Tax Deferral Relief
- Exemption from Inheritance Tax
- Loss Relief.
Although the tax reliefs are available only to the investors, and not the company itself, the intention is that an EIS Company will be attractive to potential investors, thus helping it raise finance.
A Company can raise up to £12m from a combination of EIS & Seed SIS investors, Venture Capital Trusts and other forms of State Aid risk capital, over their lifetime, but not more than £5m in any one 12 month period.
Individuals can invest up to £1,000,000 a year in total for income tax relief and capital gains tax exemption, but there is no limit to the amount an individual can invest if they only wish to claim Capital Gains Tax Deferral and Inheritance Tax Exemption.
The new 7 year rule
A company which has been trading for more than 7 years old (measured from its first commercial sale), and did not issue EIS, SEIS or VCT shares in its first 7 years, is excluded unless it raises EIS/VCT money amounting to at least 50% of its 5 year average turnover, and spends that money on entering a new product or geographic market.
EIS Qualifying Companies have to satisfy a number of requirements at the time of the share issue and for the following three years. When the shares are issued the company must:
- Have gross assets of less than £15m, and no more than £16m immediately after the share issue
- Have fewer than 250 ‘full time equivalent’ employees
- Be unquoted or on AIM or ISDX Growth, and have no arrangements in place to become quoted on a recognised stock exchange.
At the time of the share issue AND for three years after the share issue the company must:
- Be independent, ie not under the control of another company
- Conduct a qualifying trade
- Have a UK “permanent establishment”, though trading mainly in the UK is no longer a requirement.
There are also anti-avoidance rules to counter pre- arranged exits and any arrangements designed to reduce an investor’s risk. Additionally, all money raised from the issue of EIS and VCT shares must be used to grow and develop the business, and must not be used to make acquisitions of either another company’s shares, trade or certain types of trading asset.
Qualifying company rules
The EIS is intended to encourage investment in higher risk, trading companies, so a number of types of trade are excluded. These are:
- Dealing in land, shares, futures and other financial instruments.
- Dealing in goods other than in the normal course of a retail or wholesale trade.
- Banking, insurance, money lending or other financial activities.
- Leasing or receiving royalties or license fees, unless the company has created the intangible asset itself.
- Providing legal or accountancy services.
- Farming, market gardening, woodlands and timber production.
- Property development.
- Hotels and nursing homes.
- The subsidised generation or export of electricity, power, gas or fuel.
- Coal and steel production, shipbuilding.
- Providing services to a connected party conducting one of the above trades.
- The generation of heat, electricity, power or gas.
A stated aim of the EIS is to attract outside investors to companies. As a result, the scheme denies EIS relief to investors who are ‘connected’ with the company. This includes:
- Employees or directors of the company.
- Investors who (together with their “associates”) hold more than 30 per cent of the company’s share capital.
- Relatives of connected persons, though not siblings.
- Business partners of connected persons.
- Existing shareholders whose shares are not SEIS or EIS qualifying, or subscriber shares.
- There are provisions for ‘Business Angels’, enabling certain investors to become directors.
Knowledge Intensive Companies (KICs)
KICs are a new concept in the EIS, and will benefit from an employee limit of 499, and can raise up to £20m in total.
The qualification rules are complex – please speak to us if you would like to discuss this.
The shares issued must be full risk, ordinary shares or non-cumulative fixed preference shares. No linked loans are allowed, and there must be no protection offered to shield investors from risk.
How does the Company obtain EIS Qualifying Status?
Many potential investors will want some form of comfort that their investment will qualify for the EIS tax reliefs. No guarantees can be given, particularly as the company has to satisfy certain requirements for three years after the share issue.
However, it is possible to obtain ‘advance assurance’ from HM Revenue and Customs before offering shares to investors, and many potential investors will insist on this. Advance assurance is not a requirement of the EIS, and does not guarantee that a share issue will qualify, but it is useful, both in attracting investors and in ironing out any problems before it is too late.
After the shares have been issued, and the Company has traded for four months, the Company makes a declaration on a form EIS1, and provides details of the investors to HMRC. All being well, the Company will be authorised to issue the EIS3 certificate to investors, enabling them to claim their tax reliefs.
How can we help?
BDO can help with all aspects of the EIS, including preparing the advance assurance application, advising on any shareholders’ agreement or fundraising documents and completion and filing of the EIS1 declaration.
If you would like more information about the EIS or other issues surrounding equity investment in your business, please contact your usual BDO contact or David Brookes, Tax Partner, on 0118 925 4445 or email firstname.lastname@example.org.