I have been a successful entrepreneur and I am keen to invest in new young businesses that need finance to grow but are struggling to secure this money from banks. I have heard about the Seed Enterprise Investment Scheme and I would like to understand the rules in more detail. Can you explain the key features of this scheme?
The Seed Enterprise Investment Scheme (SEIS) provides tax relief for individuals prepared to invest in new and growing companies. It is the junior version of the Enterprise Investment Scheme (EIS). Investors can obtain generous income tax and capital gains tax (CGT) breaks for their investment and companies can use the relief to attract additional investment to develop their business.
The key features of the relief can be summarised as follows:
- a qualifying investor will be able to invest up to £100,000 into qualifying companies in a tax year;
- they will receive income tax relief of up to 50% of the sum invested;
- unused relief in one tax year can be carried back to the preceding tax year if there is unused relief available for that year;
- the maximum amount that a company can attract in investment qualifying for SEIS is £150,000 in total;
- the company must not have net assets of more than £200,000 before any SEIS investment;
- an individual who makes a capital gain on another asset and uses the amount of the gain in making a SEIS investment will not pay tax on 50% of the liability subject to certain conditions.
The primary requirement for a qualifying investor is that the investor or someone who is associated with them must not be an employee of the company in which the investment is being made. They can however be a director. They must also ensure that they do not have (directly or indirectly) a substantial interest in the company. This is defined by reference to holding more than 30% of any of the following (in either the company itself or a 51% subsidiary of the company):
- ordinary shares
- issued shares
- voting rights
- assets in a winding up.
The shares must be ordinary shares which have been subscribed for wholly in cash and are fully paid up. They must be held for a three year period from the date of issue. The company must have issued the shares for the purpose of raising money to fund a qualifying business activity which either involves the carrying on (or preparations to carry on) a new trade. Using the funds to meet the costs of research and development intended to create or benefit a new qualifying trade will also be acceptable. The money must be spent within three years of the date of issue of the shares. The anti-avoidance requirement is that there must be no pre-arranged exit for the investor involving the purchase of the shares, or the disposal of assets.
The rules are intended to benefit new companies. The basic requirements are that the company must be unquoted. The trade must be a ‘new’ qualifying trade. This is one not carried out by either the company or any other person for longer than two years at the date the shares are issued. The company must exist wholly for the purpose of carrying out one or more qualifying trades throughout the three year period from the date of issue of the shares. If the company goes into receivership or administration or is wound up during this period, this will not prevent the relief being given provided there was a commercial justification for the action.
The other main conditions relating to the company can be summarised as follows:
- the company must have a permanent establishment in the UK
- the company must be effectively solvent at the date of issue of the shares
- the company may have a qualifying subsidiary
- the company must not be a member of a partnership
- immediately before the investment, the gross assets of the company plus the value of any related entity (one that holds more than 25% of the capital or voting power in the issuing company) must not exceed £200,000
- there are less than 25 full-time employee equivalents in the company and any related entity
- the company must not have had EIS or Venture Capital Trust (VCT) investment before the SEIS shares are issued
- the company can seek EIS or VCT investment after it has received SEIS investment but must show that it has spent at least 75% of the money received under SEIS, and
- the total amount of investment made under SEIS in the company must not exceed an aggregate of £150,000.
The primary requirement is that the company must carry on a genuine new trading venture. There may be a problem if the same activities had been carried on as part of another trade. Basically any trading activity will qualify unless it is an excluded activity within the definitions used for EIS. This means that activities such as property development, retail distribution, hotels, nursing homes and farming will not qualify. The trade must be carried out on a commercial basis.
The relief is given as a reduction against the total tax liability for the year but cannot turn a tax liability into a tax repayment. In that situation the individual would be able to carry back the unused relief to the preceding tax year for use if there was any tax unrelieved for that year.
The relief can be withdrawn if certain events happen within three years of the date on which the shares are issued. The most obvious event is the disposal of the shares in that period. There are complex rules that will cause the relief to be withdrawn if the investor receives value from the company during this period.
Where shares are sold more than three years after the date on which they are issued then any resulting gain is free of CGT. Shares sold within three years would be chargeable but may qualify for the 10% rate of CGT under Entrepreneurs’ Relief if the various conditions are met.
Where a disposal is exempt for gains purposes, this would normally mean that a loss would not be allowable for CGT purposes, but an allowable loss is available under the scheme. Where SEIS income tax relief has been obtained and is not withdrawn then the capital loss is reduced so that tax relief is not duplicated.
There is also an additional exemption where assets are disposed of at a gain in a tax year and funds equal to the amount of the gain are invested in SEIS shares. Reinvestment relief is available at 50% of the matched gain where the proceeds are invested in SEIS shares.
Where only part of the gain is invested in such shares then only that part is exempt. The maximum gain to be relieved is capped at £100,000. Further, this relief will only be allowed where the investment also qualifies for income tax relief and a claim is made. If for any reason the SEIS relief is withdrawn on the shares then the gain will be reinstated.
SEIS supplements the long established EIS scheme. Some aspects of both schemes are similar but there are also key differences. These are not considered in detail here, however, consider the position of the individual investor. Under EIS those investing up to £1 million receive income tax relief at up to 30%. From a tax relief perspective on investments up to £100,000, the SEIS is more favourable but it clearly cannot be used for larger investments.
SEIS compliments the EIS and related Venture Capital Trust investment schemes as it may be an alternative way of attracting funds at a time when it is still difficult to obtain finance from traditional sources such as banks. Great care will be required to ensure that all opportunities to use it are obtained for investor and qualifying company alike.
The advice above is specific to the facts surrounding the questions posed. Neither PKF-FPM nor the contributors accept any liability for any direct or indirect loss arising from any reliance placed on replies.