The Enterprise Investment Scheme (EIS) was created by the UK government to boost investment in smaller, early-stage businesses and improve the opportunity for innovative organisations to attract capital.
While the scheme offers a range of tax reliefs and deferral options for investors, there are also several requirements and conditions. These apply equally to investors and the companies requesting EIS status and cover areas such as links between the investor and the enterprise and thresholds that limit the size of the company.
Today, we’ll recap the rules for both parties and run through the criteria for EIS approval that investors must comply with to extract the full benefit of the tax treatments on offer.
Understanding EIS Conditions for Individual Investors
The first area to note is that any EIS company or fund you invest in must be eligible and remain compliant with the scheme requirements for at least the initial three-year period. Companies applying for EIS status, which is granted by HMRC, must:
- Be based in the UK.
- Employ less than 250 staff.
- Hold no more than £15 million in assets prior to the share issue.
- Have a maximum asset value of £16 million post-share issue.
- Have a trading history of up to seven years.
These thresholds vary for knowledge-intensive companies (or KICs). Companies that are engaged primarily in research or innovation operations may have up to 500 employees and can have been trading for up to ten years and retain eligibility.
Additional requirements apply, with companies trading in specific sectors, such as property development firms or accountancy practices, excluded from the EIS.
Businesses can raise a maximum of £12 million through the scheme, with an annual limit of £5 million. KICs can raise up to £10 million a year through the EIS, with a total fundraising cap of £20 million.
Assessing Your Eligibility Status as an EIS Investor
Aside from the requirements applicable to the company, you must also meet several conditions to be able to claim tax relief. While you do not necessarily need to be a UK resident to be able to invest in an EIS business, you cannot claim tax relief if you do not have a British tax liability to pay. Therefore, almost every EIS investor is a UK taxpayer.
Your income tax obligations may potentially limit the value of tax relief available. For example, if you invest a maximum of £2 million in one tax year into a KIC, you are entitled to income tax relief of 30%, or £600,000.
However, if your income tax liability is £400,000, this is the maximum amount of tax relief you can claim. There are options to carry back tax relief depending on your circumstances and tax position.
Prohibited Links Between EIS Investors and Companies
If you have a substantial interest within the company you’d like to invest in, you may be ineligible for EIS tax reliefs. Substantial interest is defined as:
- Anybody who owns 30% or more of the company shares.
- An investor who indirectly owns or is entitled to the same shareholding.
Note that this 30% threshold does not include associate shareholdings.
Investors cannot be employed by the companies they invest in. They can, though, potentially act as a director and claim full tax relief if this is an unpaid position. Directors who earn a salary or other form of payment from a company are eligible for EIS tax reliefs in some circumstances, such as when acting as a Business Angel.
This type of investor is appointed as a director following the investment, but if they are in post beforehand and receive a salary, they will not be able to access tax reliefs. Any remuneration means a directorship is treated as a paid role, including reimbursements of expenses, loan interest or payments for services.
EIS Investment Conditions and Associates
We mentioned associates – these are third parties with some connection to the investor. The HMRC regulations treat the following as associates:
- Business partners
- Spouses and civil partners
- Parents and children
Siblings are not categorised as associates. If the investor or an associate has made a loan to the EIS company, this will prevent them from claiming tax relief if the loan has been made at any point from the company’s incorporation date and up to three years following the share issue.
If the company issues shares over two years since its incorporation, the same condition applies but begins at the date two years before the share issue and then for the subsequent three years.
Further EIS Conditions for Investors
Any investor taking advantage of EIS tax reliefs must be making the investment primarily for commercial reasons rather than as an exercise in tax avoidance. HMRC does not allow investors to claim tax relief if there is evidence that their investment has been made solely to avoid tax or as part of a tax avoidance scheme.
The three-year rule applies and means that investors must retain EIS-eligible shares for at least three years. If you were to sell, dispose of or transfer your shares before this point, your tax relief may be withdrawn or could be reduced by a proportion.
Shares transferred to a spouse or civil partner are excluded – this transaction is not considered a share disposal for EIS tax relief purposes.
Investors must pay for EIS shares in full and upfront; the shares must be classified as ordinary shares and cannot include a call or put option at any time within three years of the share issue.
Extracting Value From an EIS Investment
Finally, an EIS investor cannot receive any value from the company they invest in for the same three-year period. Value could mean:
- Receiving a return when a company redeems, buys back or repays any share capital.
- Receiving a repayment of a debt owed.
- Receiving any type of benefit or service from the company that constitutes a non-cash payment.
If an investor breaches any of these conditions, they may lose their access to EIS tax relief and can potentially be instructed to repay tax relief already claimed through an HMRC clawback.
For further information about any of the EIS conditions explained here or to assess whether they apply to your circumstances, please get in touch.