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TaxationWeb by Bob Fraser MBA MA FSFA

Bob Fraser, Associate Investment Director of Rensburg Investment Management Limited, outlines the potential tax incentives offered to enterprise Investment Scheme investors.Up to £200,000 (for 2004/05) can be invested in a qualifying Enterprise Investment Scheme (EIS) in any one tax year (with a minimum of £500) and will qualify for income tax relief and capital gains tax exemption.

Tax advantages

The tax advantages are:

1. 20% relief on the initial investment against income tax, provided the EIS shares are held for a minimum of 3 years. Employees obtain this income tax relief by a reduction in their PAYE code. The self employed can obtain a reduction in the payment on account if the contribution is made prior to 31/1/05 (or 31/1/06 in respect of subsequent contributions). As this is half the level of income tax relief that is available from a VCT, investors seeking only income tax benefits should consider VCTs instead (to be covered in a separate article).

2. For investments made between 6 April and 5 October up to half of the investment, subject to an overall maximum of £25,000, can be treated as being made in the previous tax year.

3. Provided that the shares are held for at least 3 years, there will be no capital gains tax payable on their subsequent disposal. If a loss is made on disposal, then this can be claimed either as a capital loss or as a loss for income tax purposes (but this loss will be adjusted for the income tax relief previously granted).

4. Once the shares are owned for 2 years, they will attract business property relief for inheritance tax, meaning that if the owner dies whilst holding them the shares will be 100% relievable against IHT.

5. CGT (to an unlimited amount) payable on the disposal of any asset can be deferred by the purchase of EIS shares. This deferred tax will only become payable on the subsequent disposal of the shares or in the case of non-UK residency within 3 years of purchase. To qualify for roll-over relief the investment must be made during the period one year before the crystallisation of the gain to three years after.

This is, however, a limit to the Inland Revenue’s generosity, and that is that the amount of tax relief is given at the lower rate, currently 20%, of the sum invested subject to the restriction that the amount of tax relief cannot exceed the income tax payable in the year of investment. Thus the maximum tax credit available to an individual is £40,000 in each tax year.

The following caveats must also be noted:

• Shares in an EIS are longer-term investments, and should not be contemplated for periods of less than 5 years. In any case, the shares must be held for 3 years to maintain the tax relief.

• Shares in an EIS must be regarded as high risk investments, and are only suitable for individuals with the capacity for risk for such investments. These can fall in value, as well as rise.

• The shares in an EIS may not be liquid – shares can only be sold if there is a buyer for them.

• Contributions into an EIS must be as a lump sum, and there is normally a lower limit.

• The are restrictions on the purchase of EIS shares by individuals connected to the company.

• EIS relief may be withdrawn if the company ceases to be a qualifying company during the three year period from the date of issue of the shares or the start of trading if later.

The choice of which EIS to use for the investment is critical as this will determine such issues as performance and liquidity. Independent financial advice must always be taken by a prudent investor.

January 2005

Bob Fraser, MBA, MA, FSFA
Associate Investment Director
Rensburg Investment Management Limited

Contact Bob Fraser

Bob Fraser is an associate investment director and has achieved the highest level of professional advisory qualifications in the financial services industry. He is a Fellow by examination of Personal Finance Society, which is a specialist faculty of the Chartered Insurance Institute. He also holds a Masters of Business Administration degree.

Rensburg Investment Management is the largest company in the Rensburg group and a subsidiary of Rensburg plc, a public company whose shares are quoted on the London Stock Exchange. Its core business is investment management and it currently looks after around £3.0bn of funds for private investors, trustees, charities and pension funds. It provides independent financial planning advice and investment management services to both individuals and businesses in order to meet their financial objectives. Financial planning is the process by which resources and risks are firstly identified and then used or provided for in a way which best achieves financial goals and lifestyle. It provides detailed advice to clients across the whole range of financial planning issues from the provision of straightforward life assurance, to savings and retirement planning, to complex inheritance tax planning arrangements.

Rensburg is authorised and regulated by the Financial Services Authority (FSA) whose function is to provide investor protection through the regulation of financial product providers in securities and derivatives business.

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