Enterprise Investment Scheme

ENTERPRISE INVESTMENT SCHEME

The purpose of the Enterprise Investment Scheme (EIS) is to help certain types of small higher-risk unquoted trading companies to raise capital. It does so by providing income tax and CGT reliefs for investors in qualifying shares in these companies.

There are really two separate schemes within EIS

a scheme giving income tax relief on the investment and a CGT exemption on gains made when the shares are disposed; and/or
a scheme aimed at providing a CGT deferral.

An individual can take advantage of either or both of these schemes.

THE RELIEFS AVAILABLE

Income tax relief

Investors may be given Income Tax relief at 20% on their investments of up to Ł150,000 a year.
For share issues after 5 April 2000, the Income Tax relief is not withdrawn provided that the shares are not disposed of within three years (five years for share issues prior to 6 April 2000)

CGT exemption

Gains on the disposal of EIS shares are exempt unless the Income Tax relief is withdrawn.
Capital Gains Tax exemption may be restricted if an investor does not get full Income Tax relief on the subscription for EIS shares.
Losses on the disposal of EIS shares are allowable. The amount of the capital loss is restricted by the amount of the EIS Income Tax relief still attributable to the shares disposed of.
A capital loss arising on the disposal of EIS shares can be set against income.

CGT deferral

Gains arising on disposals of any assets can be deferred against subscriptions for shares in any EIS company.
Shares do not have to have Income Tax relief attributable to them in order to qualify for deferral relief.
The gain will become chargeable in the tax year when the subscription shares are disposed of.
There is no upper limit on the amount of deferral relief available to an individual although there is a limit on investment in a single company or group of companies.

QUALIFYING COMPANIES

Companies must meet certain conditions for any of the reliefs to be available for the investor

the company must be unquoted
all the shares comprised in the issue must be issued to raise money for the purpose of a qualifying business activity
the money raised by the share issue must be wholly employed within a specified period by the company.

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Qualifying business activities

A trade will not qualify if excluded activities amount to a substantial part of the trade. The main excluded activities are

dealing in land, in commodities or futures or in shares, securities or other financial instruments
financial activities
dealing in goods other than in an ordinary trade of retail or wholesale distribution
leasing or letting assets on hire
receiving royalties or licence fees, other than, in certain cases, such payments arising from film production, or from research and development
providing legal or accountancy services
property development
farming or market gardening
holding, managing, or occupying woodlands
operating or managing hotels, guest houses or hostels
operating or managing nursing homes or residential care homes.

Time period in which the money is invested

In most cases the money must be used within 12 months after the date on which the shares were issued. Where the qualifying business activity has not started

the company must begin to carry on the trade within two years after the date of issue of the shares and the deadline is extended to 12 months after the date on which trading commences.

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HOW TO QUALIFY FOR INCOME TAX RELIEF

Eligibility for Income Tax relief is restricted to companies with which you are not ‘connected’. at any time during a ‘five year period’. The five year period begins two years before the date of issue of the shares and ends three years after that date.

You can be connected with a company in two broad ways:

by virtue of the size of your stake in the company, or
by virtue of a working relationship between you and the company
In both cases the position of your ‘associates’ is also taken into account.

Size of stake

You will be connected with the company at any time when you control directly or indirectly possess, or are entitled to acquire, more than 30% of the ordinary share capital of the company.

Working relationship

You will be connected with the company if you have been an employee or a paid director of the company.

There is an exception to this rule if you become a paid director of the company after you were issued with the shares.

You must never previously have been connected with the company and must not become connected with it in any other way. Also, you must never have been involved in carrying on the whole or any part of the trade or business carried on by the company.

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HOW TO QUALIFY FOR CGT DEFERRAL RELIEF

You can defer a chargeable gain which accrues to you on the disposal by you of any asset. In addition, you can defer revived gains arising to you in respect of earlier EIS, Venture Capital Trust (VCT) or capital gains tax reinvestment relief investments.

There are some restrictions on investments against which gains can be deferred. These are designed, broadly, to prevent relief being obtained in circumstances where there is a disposal and acquisition of shares in the same company.

RECEIVING VALUE FROM A COMPANY

The EIS is subject to a number of rules which are designed to ensure that investors are not able to obtain the full benefit of EIS reliefs if they receive value from the company during the ‘five year period’. If relief has already been given, it may be withdrawn.

Examples of the circumstances you would be treated as receiving value from the company are where the company:

buys any of its shares or securities which belong to you
makes a payment to you for giving up the right to payment of a debt (other than an ordinary trade debt)
repays a debt owed to you that was incurred before you subscribed for the shares
provides you with certain benefits or facilities
waives any liability of yours or an associate’s to the company
undertakes to discharge, any such liability to a third party
lends you money which has not been repaid before the shares are issued.

HOW WE CAN HELP

It is not possible to cover all the detailed rules of the scheme in a fact sheet of this kind. If you interested in using the EIS please contact us if you need further information about the scheme.

We can advise you as to whether your company has a qualifying trade.

We can also help to guide you through the implementation of a scheme which is suitable for your circumstances.

For information of users: This material is published for the information of clients. It provides only an overview of the regulations in force at the date of publication, and no action should be taken without consulting the detailed legislation or seeking professional advice. Therefore no responsibility for loss occasioned by any person acting or refraining from action as a result of the material can be accepted by the authors or the firm.

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