A staggering £76,000 an hour is, recent figures show, being poured into Venture Capital Trust (VCT) investment vehicles by higher net worth investors. The main motivation for the rapid increase in capital flows into VCTs is believed to be investors seeking tax-efficient alternatives to standard pension products. And it would appear that many are settling upon VCTs as part of the answer.
VCTs are listed companies that investors can buy into like a listed fund. However, while mainstream funds generally invest in highly liquid products such as equities and exchange-traded bonds, VCTs invest in unlisted, private companies. The kind of companies that VCTs invest in are usually similar to those that the recently shut down Woodford Equity Income fund invested in. It was the illiquidity of this kind of investment that led the fund into trouble and was eventually its demise when things started to go wrong and major investors started to take their money out. The fund was unable to liquidise assets quickly enough to pay back those who wanted to exit the fund, leading first to its suspension and subsequently it being closed down.
The big difference is the Woodford fund was marketed as a mainstream liquid fund and seriously bent the rules around the percentage of its holdings it should have had in liquid assets. When investing in a VCT, investors are very well aware from the start that their investment is a longer term, illiquid and risky one. They sign up on that understanding.
Because VCTs offer very attractive tax mitigating terms, they are quickly growing in popularity with investors who have already maxed out their annual pension allowance. For investors willing to take higher risk in the pursuit of higher returns, the tax breaks offered by VCTs are proving to be an attractive option for higher risk investments than their standard pension investments, once they’ve already invested as much as they can under government tax rules on deductibles.
VCTs investments come with income tax relief of up to 30% on newly-issued shares up to a maximum investment of £200,000 a year. Shares have to be held for at least five years to keep the income tax relief.
The way VCTs work is to launch fundraising rounds that have set investment targets. They sell enough shares to meet the target capital raise and then invest it in private companies – usually high growth start-ups considered to have significant potential.
The figures quoted at the outset of this article come from VCT provider Wealth Club. The provider, offering shares in new investment rounds launched by Albion and Mobeus, two of the UK’s biggest VCT firms, for £34 million and £58 million respectively, reported investor orders worth £3.6 million in just 48 hours – the equivalent of £76,00 an hour. Both VCTs have a strong record and have in the past invested in successful start-ups including Virgin Wines and Koru Kids, the nanny-matching platform.
The newfound popularity of VCTs has coincided with cuts to pension tax relief. Last year’s total of £731 million invested through the vehicles was the second highest on record and 2019’s total is on track to smash that.
Wealth Club chief executive Alex Davies commented for The Times newspaper:
“With pension restrictions hitting more and more people each year, and with fewer tax-efficient investment options left, we expect demand for VCTs this year to outstrip last year.”
VCTs are, it should be kept in mind, risky investments. The tax efficiencies offered by the government recognise that and are there to stimulate investment in promising UK start-ups by mitigating some of the risk involved by reducing the percentage of the capital invested that is exposed. They are only suitable for sophisticated and high net worth investors.