Changes to the EIS scheme that encourages private investment in promising UK start-up and growth companies announced in last year’s autumn budget were largely considered at the time as a positive development. Phillip Hammond, the incumbent Chancellor of the Exchequer raised the investment allowance eligible to benefit from the scheme’s tax breaks to £2 million a year from £1 million. EIS investors gain tax relief of 30% of their initial investment into companies raising capital through the scheme. In the event of the investment proving unsuccessful and a loss having to be subsequently written off, much of that is also subsequently tax deductible, significantly reducing the risk profile of EIS investments.
However, as a result of the attractive tax benefits attached to the EIS scheme, there have been suspicions for years that it is being abused. Business ventures that could be categorised as low risk were often accepted into EIS, and investors subsequently able to claim their 30% tax deduction with very little real risk to their invested capital. As such, while announcing the allowance increase to £2 million, it was also announced that much stricter criteria would be applied to qualifying companies. Those classed as ‘low risk’ are to be excluded with at least £1 million of a £2 million investment being required to be made into a company classified as ‘knowledge intensive’ and, therefore, deemed high risk.
The EIS Association, the scheme’s official trade body, fears that an unwanted consequence of the tightened criteria is likely to be a withdrawal of funds unhappy with the changes over the coming year. That, the Association fears, could lead to fall in overall investment figures of as much as £400 million. With the reasoning behind raising the allowance an effort to make up for the withdrawal of EU funding for UK start-ups and growth companies, a drop being the actual outcome won’t be welcomed.
Since its launch in 1994, the EIS scheme has led to more than 26,000 UK companies succeeding in raising around £16 billion in investment capital. Sister scheme SEIS focuses on early stage start-ups and, while the maximum annual investment is much smaller, up to £100,000, the increased risk profile means tax relief is an even more generous 50%. Both schemes also allow investors exemption or relief on Capital Gains Tax in the case of investments realizing returns on exit.
The good news is the EIS Association believes the £400 million investment shortfall expected over the coming year will be temporary and funds will either return to the scheme or be replaced by new investors.