EIS: The Current Landscape and Future Trends

The Enterprise Investment Scheme (EIS) has seen a lot of changes in recent years with the main focus of concentrating the scheme on high-growth companies, thereby re-positioning the market towards greater risk. The move from capital preservation to more organic high-growth companies has been driven by the new risk to capital condition. This has seen investment lean heavily towards the technology sector, whereas previously more investments were made in the infrastructure sector, which is traditionally more asset-backed, and the media and entertainment industry, using special purpose vehicles.

Although these changes may be realigning EIS with that of its intended purpose (focused on high-growth companies), their overall impact and therefore the number of businesses supported may be difficult to realise with the ever-looming issue of Brexit. Furthermore, it is expected that the changes will result in a drop in the number EIS investments made, however, we will need to wait until Spring 2020 when HMRC publishes its annual statistics for these effects to be quantified.

In summary, the volume of EIS investments completed has been steadily increasing for several years, and the figures published for the 2017/18 tax year show no divergence from this trend. As mentioned previously, these results are expected to drop significantly in response to the introduction of the risk to capital condition introduced last year.

EIS Investments HMRC 2019
Source: Alternative Investment Report 19/20: Enterprise Investment Scheme – Industry Report (Intelligent Partnership)

 

Although EIS is a hugely lucrative and popular scheme, there still seems to be an abnormally low level of utilisation in Scotland. Of the 3,920 EIS investments made in 2017/18, only 185 (5%) of them were made in Scottish companies, and a large number of the investments were in London based companies (1,860).[1]

The knowledge-intensive companies rules have seen several changes since their introduction in the 2015 Finance Act, the most recent of which sees the annual investment limits doubled to £2m and

10m for individuals and companies, respectively. HMRC have also been granted powers to approve knowledge-intensive funds, which should increase their use in the industry.[1]

HMRC’s Advance Assurance application process has also seen significant changes recently with the rejection of speculative applications and the introduction of a compulsory checklist. The change in HMRC’s position towards speculative applications (i.e. now refusing to consider them) has seen a reduction in the number of applications submitted, this is thought to have been done to ease the load on HMRC. However, it has caused some frustration in the industry, as investment opportunities were previously assessed by investors after Advance Assurance had been acquired. The figures also show that the percentage of submitted applications being accepted has dropped significantly, this may be in response to the new risk to capital condition that gives HMRC inspectors added discretion when it comes to accepting or rejecting applications.

ASA requests
Source: Alternative Investment Report 19/20: Enterprise Investment Scheme – Industry Report (Intelligent Partnership)

It seems as though the Government is attempting to direct EIS investment back towards high-growth, entrepreneurial companies and that can only be good for the economy. Although the investors in the market may be frustrated by these changes, it is unlikely that the level of investment made using EIS will change substantially due to how rewarding the scheme is in terms of tax breaks. With Brexit looming on the horizon, EIS may be subject to further changes as the EU state aid rules will no longer be enforced.[1] This may free the UK Governments hand to determine how they wish the tax relief to be structured.

As the EIS legislation becomes increasingly complex, and HMRC flex their muscles regarding the risk to capital condition, the need for experienced EIS advisors continues to grow. If you have a query about EIS investment or generally investing in a company, please contact Ryan today at ryan.lewis@chiene.co.uk.

Quick investment required? Could ASA save the day?

If you are looking to plug a funding gap quickly and easily, whilst ensuring EIS tax relief for your investors, there are few options available. A funding round from new or existing investors can be a lengthy process, requiring due diligence, valuation agreement and long-form legal documents.

A convertible loan note sometimes causes problems under the ‘Receipt of Value’ rules or the ‘Independent Investor’ requirement, and often remains on the company’s balance sheet until the company stops looking for EIS investors and all EIS investments have been held for three years. Potentially a long wait!

Advance Subscription Agreements (ASA) are a useful option. A valuation doesn’t need to be immediately agreed, the legal process is quite straightforward, and the company doesn’t need to worry about finding the funds to repay a loan or interest. Best of all, if implemented correctly, investors can get EIS relief on the investment! It seems like a win-win situation.

Advance assurance is strongly recommended by HMRC to companies looking for EIS investment. However, with no official parameters or guidance there has always been a large element of the unknown.

Until now…

HMRC released guidance on 30 December 2019 which sets out the key points to consider when using or drafting an ASA for EIS investors. A couple of important points are as follows:

  • Simplicity will help the qualifying status!
  • It cannot permit refunds under any circumstances.
  • No variation, cancellation or assignment.
  • No interest payable.
  • A longstop date (the date the shares must be issued if no funding round occurs) no more than 6 months later.
  • Advance assurance must be sought BEFORE an ASA is entered into if it is being sought.

An interesting point to note is that the EIS compliance forms will need to be completed once the shares have been issued. So, it must be shown that all the EIS requirements are met at the date of that issue. One thing to highlight is the ‘Use of funds’ requirement; can the company show that the funds from the ASA are being used to develop and grow the trade, at the date of conversion into shares? The company needs to show why it needs those funds at the date of conversion, and the purpose cannot simply be to meet existing day-to-day expenditure.

The HMRC guidance is helpful but by no means gives companies, advisors or investors a guarantee that an investment under an ASA will qualify for relief. Advance assurance is always the feather in any company’s cap when seeking any investment under EIS, and when using an ASA it is even more important. HMRC’s new guidance can be found here.

 

If you have a query about EIS or using an Advance Subscription Agreement, contact Kirsty Paton today at entrepreneur@chiene.co.uk.