You may be familiar with entrepreneurs’ relief, but what exactly is investors’ tax relief? Broadly speaking, investors’ relief (IR) is a sort of extension of entrepreneurs’ relief which enables investors to acquire the same reduction in tax under slightly different qualifying conditions. While the latter was introduced in 2008, IR was only introduced under the 2016 Finance Act.
Investors’ relief was introduced to incentivise individual investors to acquire shares in unlisted trading companies, as part of the wider aim to encourage more investment and entrepreneurial activity in the UK. More attractive investment options for angel investors and venture capitalists improve the chances of unquoted companies getting hold of the capital they need to develop. This is particularly helpful for attracting angel investors to small or new businesses.
How does investors’ relief work?
Everyone is liable to pay tax when they make a profit from selling something. For personal possessions, this tax is applied on anything with a value of £6,000 or more, with a few exceptions. This tax is called Capital Gains Tax, commonly referred to as CGT, and can be anywhere from 10% to 28% depending on your taxpayer rate.
In business, any financial gain from selling part or all of a company or any business asset is subject to CGT. This includes the disposal of shares and securities. Entrepreneurs’ relief is a tax relief which, if eligible, reduces the qualifying person’s CGT to a flat rate of 10%.
Just like entrepreneurs’ relief, investors’ relief works by reducing the Capital Gains Tax payable on the gain from the disposal of qualifying shares. Those who satisfy the conditions for investors’ relief are also only liable to pay 10% of CGT on gains they receive from the disposal of shares. The lifetime limit of investors’ relief is £1 million, just the same as entrepreneurs’ relief.
However, although similar, they are treated as separate entities. In other words, investors’ relief is independent of entrepreneurs’ relief, meaning an individual can claim up to £10 million of investors’ relief as well as £1 million entrepreneurs’ relief in their lifetime. Together, these reliefs are some of the most attractive tax benefits available.
Are you eligible for investors’ relief?
Both individuals and trustees can claim investors’ relief. All UK angel investors, venture capitalists and wealthy private individuals may be eligible to claim investors’ relief.
Investors’ relief is renowned for having relatively straightforward qualifying conditions compared to other forms of tax relief. Unlike entrepreneurs’ relief which requires a 5% minimum shareholding in the company, there is no minimum percentage shareholding required to qualify as an investor. To be eligible, the following qualifying conditions must be met:
- Shares must not be listed on a recognised stock exchange at the date of issue
- Shares must have been issued on or after 17 March 2016 and must be fully paid ordinary shares
- Throughout the shareholding period, the company issuing the shares must have been a trading company or holding company of a trading group
- The investor must have held the shares continuously and for at least three years from 6 April 2016, from the date of issue to the date of disposal
- The shares must have been obtained for commercial purposes and not as a way of reducing tax
- The investor cannot have been a ‘relevant employee’ at any time in the period of ownership of the shares
The condition stipulating that investors must have held the shares for three years since 6 April 2016 means that investors’ relief only became available for disposals on or after 6th April 2019. As such, investors have only recently been able to enjoy this tax benefit, making IR still something of a novelty!
What is a ‘relevant employee’?
The term ‘relevant employee’ covers anybody who is an officer of the issuing company, for example, a director or company secretary, or anybody who is an employee of the issuing company. The same applies to officers or employees of any connected company.
Important exemptions to IR
There are two exceptions to the rule which excludes employees from claiming investors’ relief. The first is in the case of certain unremunerated directors, provided that they weren’t previously involved in the issuing company. Secondly, investors may be exempt if they became employees after the first 180 days of ownership and if, at the date of issue of the shares, there was no conceivable prospect of them becoming employees later on.
Special Identification rules
Special identification rules exist which aim to ensure maximum relief is available for future disposals. One example of this rule in operation is treating qualifying shares and excluded shares as disposed of before any potentially qualifying shares which have been held for less than three years. This maximises the potential investors’ relief available by taking account of part disposals of shareholdings before the 6 April 2019. These special identification rules are difficult to adhere to, and it is worth seeking professional advice.
How do I claim investors’ relief?
To claim for IR, the claim must be made to HMRC by the first anniversary of 31 January following the tax year in which the disposal took place. So for a business disposal which took place in the 2018 to 2019 tax year (any disposal made within 6th April 2018 and 5th April 2019), you must submit your claim for investors’ relief by 31 January 2021.
Common pitfalls to avoid when claiming IR
When shares are sold in a private company, part of the deal often includes shares in the acquiring party. If structured in a certain way, these share exchanges can result in no capital gain. Under these circumstances, the new shares are considered to be acquired at the same time as the original shares, and for the same price. In this case, when these new shares are sold, investors’ relief may not be eligible for the share disposal. However, there is an option to elect to treat the share exchange as taxable, therefore meaning investors’ relief is available.
Disposing of qualifying and non-qualifying shares
If the shareholding disposed of by the investor consists of both qualifying and non-qualifying shares, investors’ relief is still available. However, the shareholder may only claim investors’ relief on the proportion of gain earned from the qualifying shares.
Receipt of value restriction
To be eligible for investors’ relief, there is one slightly more complicated requirement. A period of restriction exists which begins from one year prior to the date of issue of the shares, ending three years after this date. In this four-year period, the investor cannot receive value from the company. This is referred to as the ‘receipt of value’ exception.
Receipt of value includes the company repurchasing share capital from or repaying share capital to the investor, repaying a debt owed to the investor (even if the debt was incurred before the shares were issued), waiving the investor’s liability to the company, providing any sort of benefit to the investor, as well as transferring assets to the investor and acquiring them back for more than their market value. The receipt of a dividend, however, is not included in this restriction.
Check carefully before you claim
In summary, investors’ relief is a hugely attractive tax benefit for investors. In particular, it’s fantastic for business angels who are otherwise excluded from other forms of tax relief, such as the Enterprise Investment Scheme (EIS) or the Seed Enterprise Investment Scheme (SEIS).
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IR is one of the simplest and most lucrative tax relief options available to investors. But high rewards don’t come easy, so be sure to triple check you satisfy the qualifying conditions before you claim. Then go ahead and enjoy up to £10 million in tax relief!