WEALTHY investors are rushing to take advantage of tax reliefs worth hundreds of thousands of pounds for backing start-up firms before the end of the tax year.
Envestors, a business angel network that brings together investors and start-up companies looking for funding, has experienced a surge in interest from those seeking to use annual allowances by April 5.
Investments in start-up firms can attract income tax relief of 30% on up to £500,000 of investment via an enterprise investment scheme (EIS) and up to £200,000 invested in venture capital trusts (VCT), each year. These limits are set to rise to £1m for EIS and £500,000 for VCTs in the new tax year.
It comes amid speculation that George Osborne, the chancellor, could make the new seed enterprise investment scheme (SEIS) more attractive. Under the terms of the scheme, which is due to be launched next month, investors can earn 50% tax relief on a £100,000 stake in a small company, as well as a one-off capital gains tax “holiday” worth up to 28% for higher-rate taxpayers.
The chancellor is expected to double the limit for investments to £200,000.
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Investing in start-ups is risky as about 56% of companies that receive funding fail, according to Envestors, an EIS network. However, of the 44% of EIS firms that succeed for three years, the average return is 220%. About 9% see returns of 1,000%, or a 10-fold increase.
EIS
Investors can get 30% income tax relief on investments of up to £500,000, rising to £1m from April. Investments must be held for at least three years or the taxman will claw back the rebate. EISs are also free from inheritance tax after two years, and you can defer paying capital gains tax (CGT) until the shares are sold.
You can benefit from relief by directly investing in EIS qualifying companies, but this is the riskiest way of investing.
Investors can do this through established EIS networks such as Envestors, although you need to make a large minimum payment — typically £10,000-£25,000.
A good alternative is Crowdcube, which was recently invited to meet Treasury officials to discuss ways to increase funding for start-ups. Since it was launched in February 2011, the crowd-funding website has raised more than £2.3m for new companies.
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Firms have 90 days to achieve their target amount and individual investors can contribute as little as £10. If they do not reach the goal, nobody is charged and the deal ends. If the target is reached, the investors’ money is paid to the start-ups in exchange for equity.
For example, the London Distillery Company is looking to raise £250,000. Last week, £219,000 had been pledged. It is offering up to 45% of equity.
A less risky way to benefit is to invest in an EIS qualifying fund that spreads your money between various firms.
Patrick Connolly at AWD Chase de Vere, the financial adviser, likes the Oxford Gateway EIS Portfolio, which invests in up to 12 companies.
Case study: Spicing up the portfolio
Peter Hutton, 59, who runs his own market research firm, has invested £3,000 through the website crowdcube.com in Kamm & Sons, a start-up company that sells ginseng drinks.
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Hutton, pictured above with his wife, Gloria, 54, and their children, Edward, 14, and Beatrice, 11, began investing in start-ups to diversify his overall investment portfolio of funds and blue-chip stocks.
He is also able to take advantage of the EIS tax reliefs available to start-up investors. The family live in Sutton, south London.
VCT
These funds are listed on the stock market, so can be bought and sold more easily. They pay a tax-free dividend and are suited to people who wish to supplement incomes or pensions. Investors get 30% income tax relief on up to £200,000.
Most yield about 5%, equivalent to an 8% return for a higher-rate payer. You must hold a VCT for at least five years and there is no inheritance tax benefit, but any gains are free of CGT. Connolly likes Baronsmead 5, Northern Venture Trust and ProVen Growth & Income.
Smaller companies fund
If you want to benefit from smaller companies, but think start-ups are too risky, consider a smaller companies fund. You do not benefit from EIS or VCT tax reliefs, but can use your Isa allowance to give tax-free status to any income or gains.
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Ben Yearsley at Hargreaves Lansdown, the adviser, said: “Despite an uncertain economic environment, the area offers exciting opportunities.”
He likes the Marlborough Special Situations and Old Mutual UK Select Smaller Companies, up 9% and 7% respectively over 12 months.