Enterprise Investment Scheme

By Raindance


The Enterprise Investment Scheme ("EIS") is a government scheme that provides a range of tax reliefs for investors who subscribe for qualifying shares in qualifying companies.

There are 5 key tax benefits to EIS:

1. Income tax relief on contributions of 30% ,

Example
 
Initial investment                              £50,000
Less income tax relief at 20%       £(15,000)
Net cost of investment                     £35,000

2. CGT Deferral Relief

Tax on gains realised on a different asset can be deffered indefinately, where disposal was less than 36 months prior to the EIS investment or 12 months after it.
 
Example (assuming income tax relief also claimed)
 
Example (assuming income tax relief also claimed)
Initial investment                                      £50,000
Less income tax relief at 30%                  £(15,000)
Capital gains Deferral at 28%                  £(14,000)  
Net cost of investment                               £21,000

Shares sold in 3 years no gain          
Proceeds                                                 £50,000
Deferred gain chargeable on                   £50,000
Deferred CGT at 28%                              £(14,000)
Net proceeds                                            £36,000 

A profit on a £21,000 net investment of £15,000 or 71.42%         

3. CGT Freedom – No Capital Gains Tax payable on disposal of shares after three years.

Example (assuming income tax relief and deferral as above.)
 
Example (assuming income tax relief and deferral as on previous slide.)
Initial Investment                               £50,000
Less income tax relief                      £(15,000)
Capital gains Deferral at 28%            £(14,000) 
Net cost of investment                        £21,000

Shares sold in 3 years with 25% growth        
Proceeds                                                £62,500
Tax on £12,500 gain                                 £0.00
Deferred gains chargeable on                 £50,000
Deferred CGT at 28%                            £(14,000)
Net proceeds                                           £48,500     

A profit on £21,000 net investment of £27,500 a profit return of 130%.

4. Loss Relief 

Loss Relief– If EIS shares are disposed of at any time at a loss (after taking account of income tax relief), any loss can be offset against an investors capital gains or his income tax in the year of the disposal or the previous year.

For gains offset against income tax, the net effect is to limit exposure to 35p in the £1 for 50% tax payer and 42p in the pound for a 40% tax payer if the shares were to become totally worthless. Alternatively the losses can be offset against CGT at the prevailing rate which is up to 28%.

Example of loss relief against income
Initial Investment                                    £50,000
Less income tax relief                            £(15,000)
Net cost of investment                           £35,000
Shares value after 3 years £0        
Proceeds                                                £    0.00
Net loss                                                  £(35,000)

Loss relief at 50% (40%) on £35,000    £17,500   (£14,000)
Net loss                                                £(17,500) (£(21,000))

Percentage of initial investment 35% (42%)

Example Of Loss Relief Against CGT
Initial Investment                        £50,000
Less income tax relief                £(15,000)
Net cost of investment               £35,000
Shares valued at £0        
Proceeds                                    £0.00
Net loss                                      £(35,000)

Loss relief at 28% on £35,000   £9,800
Net loss                                      £(25,200)

Percentage of original outlay 50.4%

5. Inheritance Tax Exemption

EIS investments are generally exempt from IHT after they have been held for two years. An are 50% exempt after 1 year.
 
Combined with the other tax benefits of an EIS after two years taking account of IHT the effective cost of the investment may be reduced to Zero.
 
Example of IHT relief
 
If the investment has been held for two years before death, the shares are disposed of at any time at a loss (after taking account of income tax relief), any loss can be offset against an investors capital gains or his income tax in the year of the disposal or the previous year. For gains offset against income tax, the net effect is to limit exposure to 48p in the £1 for 40% tax payers if the shares were to become totally worthless. Alternatively the losses can be offset against CGT at the prevailing rate-18% from 2008/9
 
Initial Investment                               £50,000
Less income tax relief                      £(15,000)
Capital gains Deferral                      £(35,000) April 2007-gain £50,000 (taper relief variable not applied)
IHT relief @40%                                £(20,000)
Net cost of investment                      £0
 
IHT relief assumes value of investment is £50,000 at death if it is more then the IHT relief is 40% of the larger amount.
 
This is about as simple as I can keep it, there are added bits like carry back etc etc but these can be explained if needs be in specific cases. I hope you can see that an EIS is a fantastic vehicle and very tax efficient.

There are more details at the EIS scheme from the Inland Revenue website  here
The Enterpise Investment Scheme Association website has some great info here

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Enterprise Investment Scheme