VCTs suffer in switch to EISs

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The amount of money invested in Venture Capital Trusts (VCTs) fell for the first time since the start of the credit crisis as investors switch to Enterprise Investment Schemes (EIS).

Money raised through VCTs fell 7 per cent in the 2011/12 tax year, to £325m from £350m in 2010/11, according to Rockpool, the private equity investment firm. This is the first fall in investment into these products since 2008/9, when the amount of money plummeted by 35 per cent to £150m.

tax incentives

Martin Churchill, editor of the Tax Efficient Review website, believes the figure for new money going into VCTs could be even lower – nearer to £240m, half the amount that went into EISs.

“About a quarter of the money that went into VCTs in the past tax year was reinvested through enhanced share buyback schemes – where investors are encouraged to recommit to VCTs for another five years,” he said.

VCTs are listed companies, run by a fund manager, which invest in small businesses. EISs allow direct investment in small businesses. To encourage this, the government offers 30 per cent income tax relief on VCTs and EISs. Eventual gains are exempt from capital gains tax and EISs are eligible for business property relief for inheritance tax purposes.

But while the maximum investment into a VCT is £200,000 per tax year and the investment must be held for five years to retain the tax relief, investors can put £1m into an EIS per tax year, with the ability to carry back a £500,000 tax allowance from the previous year, and the investment only has to be held for a minimum of three years.

Nicola Horlick, chairman of Rockpool, said: “There has been a sudden and surprising dip in money raised by VCTs. One possible explanation is that the kinds of investors who previously put their money into VCTs are now opting for EIS qualifying investments instead.”

She added that new rules announced in April mean investors can put more money into bigger companies in EISs than before. “They can also shelter more tax liabilities from Revenue & Customs, while investing in what are probably lower risk companies because they are no longer only able to invest in very small businesses,” she said.

Paul Belsman, head of tax at RSM Tenon, said investors are attracted to EISs in the current economic climate because they can have more direct participation with the company they are investing in. “With an EIS the investor can pick and choose the best individual investments, rather than rely on the VCT fund manager’s selection,” he said.

Gary Robins, partner at Rockpool, agreed: “Many investors have strong opinions on which businesses they want to back. VCTs don’t allow them the flexibility to cherry-pick the companies they think will deliver the highest returns. Instead, they are dependent on the performance of the fund manager, many of whom have delivered poor investment returns.”

Investor demand for EISs has been met with a flurry of launches in recent months. Rockpool Investments is bringing several EIS-qualifying offers to investors this autumn, including a management buy-out of a substantial manufacturing business with sales approaching £20m and profits of more than £1m.

Churchill said EIS offers catching his eye are Calculus and MMC in the generalist arena and Downing Renewables EIS and Foresight Energy Efficiency EIS in the green sector.

However, Jason Hollands at Bestinvest, the broker, said that while there was a dip in new VCT fundraising last year, it is wrong to pin this simply on demand for EISs. “This is partially because accurate data on the size of the EIS market is hard to come by but also because the VCT market was negatively impacted by some legislative changes last year,” he said.

“In particular, the government cut feed-in-tariff subsidies to the solar industry, which forced a number of VCT managers to abandon plans for renewable energy focused VCTs. This in itself could explain much of the shortfall.”