Enterprise investment schemes (EIS) were introduced in 1994 to encourage people to invest in higher risk small and medium sized companies. In return, they offer a number of attractive tax benefits.
Janet is a higher rate (40%) taxpayer. She decides to invest £100,000 in a portfolio of ten early-stage, higher-risk companies.
She invests £10,000 in one company with an average return of 5x = £50,000
She invests £50,000 in 5 companies with an average return of 1.5x = £75,000
She also invests £40,000 in 4 companies which fail completely = £0
So the gross proceeds are £125,000
Let’s take a look at what happens to that £125,000 with and without EIS tax reliefs.
Without EIS tax relief
After deducting the cost of the portfolio, the gross return is £25,000.
Capital gains (CGT) tax at 20% is £5,000
So the profit after tax is £20,000 – a return of 20%.
With EIS tax relief
After deducting the cost of the portfolio, the gross return remains at £25,000.
CGT doesn’t apply as capital gains are tax-free with EIS. CGT liability is therefore £0.
Better still, income tax relief at 30% delivers a further £30,000.
And loss relief is offset against income at 40%, representing £11,200.
This adds up to a profit after tax of £66,200, a return of 66% – meaning that with EIS, the profit after tax is 231% higher than without EIS.
EIS tax reliefs at a glance
30% income tax relief on a maximum subscription of £1 million per tax year (so long as shares are held for 3 years and subject to personal circumstances). The level and bases of taxation are subject to change.
IHT relief after two years (so long as shares are held at death).
Tax-free capital gains and unlimited capital gains tax deferral.
Loss relief: Any losses made on the sale of an EIS investment can be offset against income at the investor’s marginal rate of tax, or capital gains. Losses are calculated from the net investment (after 30% income tax relief). Loss relief is available against individual investments, irrespective of the overall performance of the portfolio.