Investors could see fewer opportunities in the venture capital trust (VCT) and Enterprise Investment Scheme (EIS) space in the 2018/19 tax year following changes introduced in the Autumn Budget.

Schemes could also become riskier, meaning you will need to take even greater care when deciding which vehicles to back with your money.

What has changed?

The Chancellor announced in November that in order for VCT and EIS funds to continue to benefit from tax relief after April 2018, they will have to invest in companies seeking genuine long-term growth and where there is a risk to the investor’s capital.

Schemes that look for defined returns and that intend to provide ‘capital preservation’ for investors will be excluded.

This essentially means providers will no longer be able to make investments in asset-based businesses, for example schools, hospitals, self-storage and restaurants where property is a key part of such businesses’ operations.

The Chancellor also said the Government will double the amount of money individuals can invest through EIS each tax year from £1m to £2m. But this is only if the amount over £1m is invested in ‘knowledge intensive’ companies.

How will it affect investments?

The shift away from asset-based businesses will impact several providers in the EIS and VCT industries.

Mark Brownridge, chief executive of the EIS Association, says around £400m was invested by EIS providers into capital preservation assets last tax year. This will now need to be deployed to growth assets.

Brownridge claims this will actually result in more exciting opportunities for individual investors because they will be backing high growth companies. But he warns that investors will need to be mindful of the greater risks they are taking on.

‘Following the changes EIS will be more about the investments than the tax reliefs,’ Brownridge adds.

Paul Jourdan, chief executive of VCT provider Amati, believes the new risk to capital condition will remove any remaining capital preservation-type strategies.

The Association of Investment Companies (AIC) says the VCT industry will face ‘significant challenges’ in complying with these rule changes.

How is the industry responding?

The clampdown on safer schemes is not a complete surprise. In August, a Treasury consultation paper said capital preservation was the central focus of too many VCT investments, leading some providers to halt fundraising.

Albion Capital suspended fundraising for one of its six VCTs, the Albion VCT, in September because it thought the rules for investment in asset-based businesses would be changed in the Budget.

Will Fraser-Allen, deputy managing partner at Albion Capital, says the board is currently reflecting on the measures announced in the Budget and what changes are required to Albion VCT’s asset-based investment policy.

Other providers who have had a leaning towards asset-backed investments in the past include Puma and Downing.

Downing’s chief executive Tony McGing claims it won’t need to alter its investment focus.

‘We continue to expand our growth investment team, and have invested some £30m in early-stage growth and ventures businesses over the year to September 2017,’ he says.

Will there be fewer opportunities?

In addition to the ‘risk to capital’ test, VCTs face other challenges.

The Chancellor announced that for accounting periods after 6 April 2019, VCTs must hold at least 80% of their assets in qualifying investments – up from the current requirement of 70%. This reduces the proportion of assets VCTs can hold in cash, bonds, unit trusts and OEIC funds.

What’s more, at least 30% of all new funds raised from 6 April 2018 will have to be invested in qualifying investments within
12 months.

Jason Hollands, managing director of business development and communications at Tilney, believes the new rules, plus the fact that there was a surge in fundraising this year, will result in lower levels of VCT fundraising in the 2018/19 tax year.

This means there won’t be as many opportunities for individual investors.

‘I also think this may ultimately prompt some VCTs to return cash to shareholders as tax-free dividends where they feel they can’t put it to work in businesses of sufficient quality and at a sensible price within the time constraints,’ Hollands adds.

Is this a repeat of the 2015 clampdown?

Providers say the changes are far less significant than the rules that came into effect in November 2015. They prohibited managers from investing in management buyouts (MBOs) – something which several VCTs had been doing up until that date.

It resulted in several VCTs lowering their fundraising levels or not raising any money at all in the year that followed.

Mark Wignall, managing partner at Mobeus Equity Partners, says: ‘The (latest)Budget is far less radical than the clampdown on MBO investments. It is a realignment of the rules and it reaffirms what most VCTs have already been doing and will continue to do – invest to finance the expansion of high growth companies.’

He says the impact will be far worse in the EIS market, where a ‘significant portion’ of investments have been going into capital preservation or ‘artificial’ schemes.

Albion’s Will Fraser-Allen says there may be fewer very large fundraisings next tax year, but he thinks most providers will be able to find enough high growth, innovative companies
to invest in.

‘We live in a world where being an entrepreneur is seen as a good thing and if you add to this the significant technology changes that are taking place, it gives rise to a significant number of investment opportunities,’ he states. (EP)

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