EIS and SEIS tax incentives are hugely important for angel investors and many venture capital investors in UK startups. Here is a summary of what startup founders need to know.
UK startup founders need to know about EIS and SEIS because these tax incentives can significantly impact investors' willingness to commit their capital.
EIS and SEIS are UK Government schemes that allow eligible angel investors and venture capital funds to claim back a significant portion of their investment through income tax.
The schemes increase an investor's return on investment by reducing their net funding commitment. They also reduce investment risk by offering further loss relief if the business fails. For many years, this improved risk/reward equation has been responsible for underpinning investor demand for UK startups.
Introduction to EIS & SEIS
EIS and SEIS provide a huge tax incentive for investors to invest in your UK startup. If you are eligible, you should apply.
The UK has one of the most attractive tax regimes for early-stage investors in startups, and it has been highly successful. If you are a founder looking to raise investment for your startup, you need to know the basics. Ensuring that your angel or VC investors can benefit from EIS or SEIS relief can make the difference between success and failure in your fundraising. Effectively EIS and SEIS are free money-back vouchers for your investors and significantly reduce the risk of losing their money.
What Are EIS & SEIS?
The Enterprise Investment Scheme (EIS) and Seed Enterprise Investment Scheme (SEIS) are UK government schemes run by HMRC that help smaller higher-risk trading companies raise finance. For an investor, they're a tax-efficient way to invest in small companies.
Both schemes offer generous tax breaks to invest in new ventures. Quite simply, investors invest, your startup gets the funding, and the investor receives a tax break. The EIS and SEIS schemes have raised £23 billion for more than forty thousand companies since 1993.
Quick disclaimer: This is a primer on SEIS and EIS and not a complete guide. You should seek expert guidance from a professional such as your accountant to ensure you get a complete picture of your business.
SEIS & EIS Tax Relief: What's the Difference?
How do I Know if My Startup Qualifies for EIS or SEIS?
A limited number of trading activities disqualify some companies, but most early-stage tech startups will qualify for SEIS or EIS. For more information on the qualification criteria, read on.
Seed Enterprise Investment Scheme (SEIS)
Startups can raise up to £150,000 under SEIS in total over the company's lifetime. There are, however, some rules:
Your startup must be unquoted at the time of issue of the shares.
You have fewer than 25 employees.
You have less than £200,000 in gross assets. If your company is the parent company of a group, that figure applies to the total gross assets of the company and its subsidiaries. Shares in, and loans to subsidiaries, are ignored for this purpose.
You must not have had prior investment from Venture Capital Trusts (VCT) and no share issuance under EIS.
The £150,000 must also include any other State Aid, such as grants, received by the company in the three years preceding.
Must not be trading longer than two years. This condition applies whether the company first began the trade or another person started it and then transferred it to the company. The company must not have carried on any other trade before it began to carry on the new trade.
Your business must not be controlled by another company.
Not conducting a restricted trading activity.
Enterprise Investment Scheme (EIS)
Companies can raise up to £5m in total in any 12 months, and up to £12m in the company's lifetime, under EIS, provided they meet specific criteria including:
Assets of less than either £15m pre-investment or £16m post-investment.
Fewer than 250 full-time employees (or their equivalents) at the time the shares are issued.
Must not control (or have plans to control) another company without that company being a qualifying subsidiary at the time of investment.
Must not be controlled by another company.
If the company does have subsidiaries, they must all be qualifying subsidiaries, (eg the company has more than 50% of the ordinary share capital of the subsidiary, and it is not controlled (by other means) by another company)
Must not be trading for more than seven years (potential exemptions for knowledge-intensive companies)
You are not conducting a restricted trading activity.
There are exemptions to the £12m lifetime limit for knowledge-intensive companies.
What Does the Startup Investor Get?
SEIS and EIS make a massive difference to the risk/reward equation for angel investors and some venture capital funds (EIS funds), which is good for you as a startup as it encourages them to invest in your business.
It's essential to know the critical facts about these schemes to make sure you don't do something that inadvertently disqualifies your company or investors from receiving the relief and so that you can sound informed when you are pitching for investment.
Investors can make a maximum of £100k SEIS investments per year. They can make a maximum of £1m EIS investments per year (or £2m in knowledge-intensive companies). In both cases, they must generally hold the shares for at least three years to retain the relief, and the qualifying conditions laid out above must continue to apply.
SEIS Investor Benefits
Reduces an investor’s tax bill by 50% of the cost of the shares in the year of the investment or the previous tax year;
Protects the investor against loss by providing an additional tax reduction equal to the loss suffered multiplied by the investor’s marginal rate of income tax; and
Any profit is free from capital gains tax.
EIS Investor Benefits
Reduces an investor’s tax bill by 30% of the cost of the shares in the year of the investment or the previous tax year;
Protects the investor against loss by providing an additional tax reduction equal to the loss suffered multiplied by the investor’s marginal rate of income tax: and
Any profit is free from capital gains tax.
How Do I Apply for EIS or SEIS?
To qualify for EIS or SEIS relief, you need to apply for "advance assurance" from HMRC, which is essentially pre-approval from them that your upcoming share fundraise should qualify. This means that you can confidently approach potential investors knowing they will be able to benefit. Although you may want your accountant or lawyer to help you, it's not a complicated application. You need to provide details of your proposed fundraising, including details of one or more investors who plan to invest and a business plan, amongst other things. Get everything ready to make your application, and get it in as soon as you have a potential investor who is happy to be named on the form. Response times can be speedy (48 hours) or can take a couple of weeks.
Once you have completed your fundraise, you need to submit another form to HMRC so that your investors can claim the relief.
In Summary
It's another form to fill in and another item on a long to do list for startup founders, but there are distinct and worthy benefits. Your investors get back through income tax a big slice of their investment, reducing their potential loss and increasing their possible return on investment. And, if it all goes wrong for your business, they can get back another significant slice, meaning that their overall loss could be down to around 40% (EIS) or 30% (SEIS) of their original investment. There is no possible reason for not applying if you meet the criteria.
EIS and SEIS make a massive difference to the risk and reward for investors in early-stage businesses. Founders in qualifying companies need an excellent reason for not applying for advance assurance ahead of their fundraise and should ensure they keep an eye on the relatively short list of items that could disqualify them.
Most angel investors and all EIS funds will require you to be eligible for EIS or SEIS relief to ensure they get the best outcome for their investment. Apply early to avoid delay, and seek professional advice if you are unsure of any details. Take the time to make your startup as attractive as possible to potential investors.
Put yourself in an investor's shoes: would you invest in a non-EIS/SEIS qualifying business when there are plenty of alternative investment opportunities that do qualify?
Getting your advance assurance is one component of ensuring your investor proposition is as attractive as possible. For everything else, there’s Capital Pilot’s investability assessment and rating. CLICK HERE to apply for your rating.
Where Can I Learn More?
Capital Pilot is here to help founders value their startup. For more information, check out all our Startup FAQs here. Or, if you are ready to get your investability assessment and rating, click here.