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EIS is OK: Pt 1

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EIS is OK: Pt 1

What is EIS?

The Enterprise Investment Scheme ("EIS") has been aroundsince 1994. It was introduced at a time when small businesses werefinding it difficult to access funding from banks. In the currenteconomic climate it is worth looking again at EIS.

EIS is underutilised because its rules are complex. Therules were re-written in simpler language, but they still span over100 sections of the Income Tax Act 2007.

It is almost impossible for the average businessman to readthe legislation and understand exactly how EIS works. That is agreat pity. There are significant tax savings that can be made byutilising EIS.

The aim of this article is to de-mystify the rules of EIS. Asubsequent article will highlight how Rollits LLP can help securethe benefits of EIS.

Who might be interested in EIS?

1. Companies seeking investment.

2. Individuals looking to make investments in unquotedcompanies.

What are the benefits of EIS?

EIS provides significant tax breaks for the investor. EISactually comprises three reliefs:

1. Income tax relief equal to 20% of the amount invested, soeach £100 of investment only costs the individual £80;

2. Complete exemption from capital gains tax (CGT) on thesale of EIS shares; and

3. The deferral of CGT on a gain made in the periodbeginning one year before and ending three years after theinvestment in EIS shares.

An individual is entitled to EIS relief on investments up to£500,000 per year. That would give an income tax saving of£100,000. When combined with no CGT on the sale of the shares, EISis a relief worth having!

How can you qualify for EIS?

In order to qualify for EIS income tax relief, certainconditions must be satisfied in respect of:

1. the shares;

2. the investor; and

3. the issuing company.

EIS Shares

EIS shares must be subscribed for wholly in cash and fullypaid up at the time they are issued.

The purpose of the issue must be to raise money for thepreparation of a trade or the carrying out of a trade by theissuing company or its subsidiaries.

The money raised must actually be used within two yearsafter the EIS shares have been issued for the purpose of preparingto carry on a trade or actually carrying out a trade.

There can be no pre-arranged exits (like put and calloptions over the shares) at the time the shares areissued.

EIS Investors

The individual investor must have no "connection" with theissuing company to qualify for EIS income tax relief (this rule isrelaxed for EIS CGT deferral relief). This condition must besatisfied (broadly speaking) in the period beginning two yearsbefore the issue of shares and ending three years after the issueof shares.

The investor will be treated as connected with the issuingcompany if:

1. she is an employee of it or any of its subsidiaries;or

2. she is a director of it or any of its subsidiaries (butsee the "business angels" section below for the relaxation of thisrule); or

3. she holds or is entitled to acquire more than 30% of itsordinary share capital or the loan capital and issued share capitalof the company.

The investor cannot sell her shares or enter intoarrangements to sell them before (broadly speaking) three yearsafter she acquires her EIS shares. The investor can receivedividends in that period provided they are no more than a normalreturn on the investment. If the investor has made a loan to theissuing company then reasonable interest can be received in respectof that loan.

Business Angels

An investor can qualify for EIS even if she becomes adirector after acquiring her EIS shares provided that:

1. she was not previously connected with the issuing companyor involved in carrying on its trade; and

2. she only receives remuneration which is reasonable giventhe services rendered to the issuing company or itssubsidiaries.

It might be possible for an executive who is buying into acompany to obtain EIS Relief on her investment. Unfortunately, thebusiness angels rule does not help an incumbent manager in amanagement buy out situation.

Issuing Company

The issuing company must be carrying on a trade or preparingto carry on a trade.

The trade cannot be any of those on a blacklist. The tradeson the blacklist include: dealing in land, leasing, providing legalor accountancy services, property development, farming and marketgardening, the operating or managing of hotels and the operating ormanaging of nursing homes or residential care homes. When thelegislation was drafted the activities on the black list werethought not to be risky enough to merit EIS relief.

The issuing company cannot be quoted or have anyarrangements in place to become quoted.

The company cannot be a subsidiary or under the control ofanother company either at the time of issue or (broadly speaking)at any point in the three years following the date ofissue.

The gross assets of the company cannot exceed £7m (or thatof the parent company and it subsidiaries if it is part of a group)before the EIS or £8m after it.

The company cannot have more than 50 full-time equivalentemployees. This rule was introduced in 2007.

Not so complicated after all?

If you are interested in EIS relief or have any other taxissues, please contact Nasim Sharf on 01482 337336, moc.s1720976889tillo1720976889r@fra1720976889hs.mi1720976889sanli1720976889ame1720976889.

This article is for general guidance only. It provides useful information in a concise form. Action should not be taken without obtaining specific legal advice.

This article is for general guidance only. It provides useful information in a concise form. Action should not be taken without obtaining specific legal advice.
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