This month we take a look at tax efficient investments. As a firm we do not hold authorisation to advise on investments but we are able to provide details of the tax advantages of investments and to make general comments on them. To determine if an investment is right for you, you should consult your independent financial advisor, if you have one, or if you are interested in any of the investments we refer to we can put you in contact with an Independent Financial Advisor for further advice.
An Enterprise Investment Scheme is a risk investment and applies to unquoted investments. As a risk investment there are beneficial tax breaks providing the various conditions are met.
This is available where the total capital raised is to be substantial (see SEIS below).
Perhaps the most important condition from the investor’s point of view is that the shares must be new shares and the subscription is paid for in cash. Also subject to exceptions, the investor must not be connected to the company and can receive no benefit from the investment.
From the company perspective the trade carried on will be what could be regarded as a “risk” trade. Basically this will mean the company can carry on any activity other than any activity on a prescribed list barred activities. This includes any form of activity which has a safe asset backing such as land and property development or the provision of professional services and finance.
The rate of relief is very generous at 30%. Thus for a £10,000 investment your tax liability is reduced by £3,000. You do of course need to have a tax bill in the first instance to benefit from the reduction. Furthermore once the EIS relief is given and not withdrawn, then any gain made on the sale of EIS shares will be exempt from capital gains tax.
In addition a taxpayer with a chargeable gain on the disposal of (any) other assets can defer the gain on they have by investing in shares eligible for relief (whether or not they obtain the income tax relief referred to).
As the shares in question are new shares in the company concerned, the payment made is a share subscription and as such if the company should fail then the loss will be eligible to be offset against income rather than being only eligible for relief against any other capital gains. Based on the £10,000 figure referred to above, a higher rate taxpayer can receive a further £4,000 reduction in their tax bill.
The upshot of this is that for a successful investment the a £10,000 investment only cost £7,000 with no tax payable on any profit made whilst for a £10,000 failed investment, a reduction of £7,000 in tax is available and so the investment has only cost £3,000.
As we said at the outset this is risk investment and hence the potential rewards.
This scheme is the little brother of EIS and broadly has the same conditions applying. However, this is only available where the total capital raised is under £150,000 in total.
The income tax relief on investment is more generous at 50%. The capital gains relief on the ultimate disposal is also available
Clearly being smaller the risk of failure is greater and hence the more generous income tax relief.
The two share schemes that we have considered above (EIS & SEIS) both have income tax advantages but they also have investment limitations as regards the amounts you can subscribe for.
One further category we would wish to consider are unquoted shares in general. Whilst unquoted shares do tend to be a risk investment, the Alternative Investment Market (AIM) although a junior stock market is nevertheless regarded as unquoted for tax purposes. There are in fact some companies quoted on the AIM which have substantial capitalisation and as such are comparatively sound financially.
The benefit of this type of investment is that providing the shares are held for more than 2 years they are eligible for Business Property Relief (BPR) from an Inheritance Tax (IHT) perspective and as such no IHT would be payable on them on death.
Any competent stockbroker would be in a position to devise such a portfolio of shares or any competent Independent Financial Advisor would be able to identify a fund manager with such a portfolio of investments.
As the investment is in shares there is always the risk of a loss in value. However, this must be weighed up against the potential loss from IHT that could be paid over to HMRC. For example if we consider two wealthy taxpayers both with substantial estates which are subject to IHT and they each have £100,000 to invest. One invests in a quoted portfolio and the other in an unquoted AIM portfolio. If we assume the unquoted portfolio falls by 10% to £90,000 compared with a quoted portfolio which grows by 10% to £110,000. If both then die just over 2 years later, how much is left to pass on to their beneficiaries?
In the case of the investor in the quoted portfolio, there will be a loss £44,000 arising from Inheritance tax and so there is £66,000 left. In the case of the unquoted portfolio investor, a claim for BPR is made and as such there is £90,000 left despite having suffered a loss on the investments.
This type of investment is probably the most simple to understand. Any income which arises on an ISA investment will be free from income tax. This will apply not only to a cash ISA (invested with usually a building society or bank) but also a stocks and shares when dividends are paid. Also with a stocks and shares ISA, there is the possibility of capital gains arising and these too would be free from tax.
It is suggested that the benefits of this type of investment would only apply to taxpayers who already receive interest and dividends as under current regulations, the first £1,000 of interest is tax free in any event for a basic rate taxpayer (this is only £500 for a higher rate taxpayer) and also the first £2,000 of dividend is taxed at 0% (although it does use up part of the basic rate band entitlement to a higher rate taxpayer).
In addition to the basic ISA product there are also Lifetime ISA’s for younger people as well as junior ISA’s for the under 18’s and help to buy ISA’s. All of these have the same tax benefits of the general ISAa referred to above but clearly there are conditions attached. It is suggested that your Independent Financial Advisor is consulted to determine if any of these variants are of any benefit to you.
Naturally investments carry an element of risk and each individual should consider any such investment based on their own circumstances and should most definitely use the services of an Independent Financial Advisor.
Hopefully this article has provided some food for thought for your next financial review.Last modified on