The Enterprise Investment Scheme is a scheme developed by the government in order to incentivise investment in high-risk companies. Part of a long-term government initiative, EIS Investments encourage investors to buy shares in new or young business.
Benefits of the Enterprise Investment Scheme
The scheme offers benefits to those with Enterprise Investment Scheme investments, one such benefit is income tax relief of 30% on the investment. Another benefit is that the investors won’t have to pay any capital gains tax on any profits made after the sale of those shares, and any previous capital gains can be deferred. A third benefit is that investors are able to offset any losses they may encounter against their earnings. This protects them if the business fails.
These benefits have successfully encouraged investors to buy into EIS investments, but once they have, there are rules they must follow in order to take advantage of them. The rules include stipulations that the company must be established in the UK but not trading on any recognised stock exchange. The company must also not have gross assets worth more than £15 million before the share issue, or more than £16 million immediately afterwards, and must have fewer than 260 full-time equivalent employees.
An EIS qualification also requires that investors must invest for a minimum of three years, and cannot hold more than a 30% share in the company. Alongside this, investors must also be investing in a qualified EIS investment company. This means that if the company does not adhere to EIS investment rules then they are no longer qualified, and in turn the investors are no longer entitled to benefit from the investment.
At the Autumn Budget in November 2017 Philip Hammond, Chancellor of the Exchequer, introduced an additional set of regulations governing how investors can use EIS to invest into SMEs. One of the main aims of the change was to begin eliminating the use of EIS, as well as other tax-efficient vehicles, for tax-motivated investments. A tax-motivated investment is an investment where the returns are mainly generated through the tax-relief, with little risk attached to the original capital.
Aiming instead to target EIS investment into where it was most needed– innovative SMEs across a range of new age sectors – the Chancellor doubled the total amount that can be invested into “knowledge intensive” companies. To qualify as ‘knowledge intensive’ a company must first qualify for EIS and then meet a number of additional criteria, including a desire to raise more than £12 million throughout its lifetime but without having received investment through a different venture capital scheme within seven years of the first commercial sale.
One of the new additional ‘knowledge intensive’ criteria states that at least 10% of the company’s operating costs in the three preceding years must have consisted of research and development or innovation expenditure, with that rising to at least 15% for at least one of those years.
All ‘knowledge intensive’ companies must meet that stipulation, plus either an ‘innovation’ or ‘skilled employee’ condition. The ‘innovation’ condition states that the company must, at the time the shares are issued, be either creating or preparing to create intellectual property that will go on to form the majority of their business. If this is not applicable, a company may instead meet the ‘skilled employee’ condition. This states that at least 20% of the company’s employees must have a higher education and be involved directly in research and development. Once these, and the original EIS conditions, are met then a company will qualify for an additional £1million investment on top of the original £1 million Enterprise Investment Scheme investment. This means that an investor would be eligible for £600,000 tax relief on an investment of £2 million.
Despite the stipulations attached to them, they are a life-line for young and high-risk companies that may otherwise have gone without investment. This is particularly true for companies operating in the Information and Communication and the Professional, Scientific and Technical spaces, which according to HMRC figures received over £500 million in EIS funding in 2015-2016. Energy tech was also a large beneficiary of EIS with 115 companies across the electricity, gas, steam and air conditioning sectors receiving £282 million in the same period. Overall the Enterprise Investment Scheme has raised over £16.2 billion in funds for almost 30,000 companies since it was initiated in 1993. Of that £16.2 billion, almost 60% has been invested into companies raising EIS funds for the first time. This trend continued into 2015-2016 with 53% of EIS-qualifying SMEs, totaling 1645 companies, raising £997 million for the first time.
Enterprise Investment Scheme investments allow these companies to remain in control of their business whilst securing the funding they need to continue. There are significant benefits to those investing and, as such, EIS investments can help both parties to achieve a profit while remaining in control of their capital.
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