VCT vs EIS - the comparison debate.

When comparing the tax advantages of a Venture Capital Trust (VCT) with an Enterprise Investment Scheme (EIS), both are viable options in financial tax planning and it will be dependent on the nature of an individual’s circumstances as to which is used.

VCT doesn’t offer Business Property Relief on inheritance tax or Capital Gains Tax (CGT) deferral on other gains. However, there are two areas where it is better from a purely tax perspective:

1. A higher rate tax payer requires an income

> Only the VCT is designed to produce an income which is via the payment of dividends
> Stuart is a higher rate taxpayer and wants to maximise his income
> If he invests in a normal share costing 100p and paying a 5p dividend, which is equivalent to a 5% yield, after paying higher rate tax this will drop to a yield of just 3% (5 x (100-40%) = 3)
> However, if he invested in a VCT the dividends are tax-free
> Also, the 100p share only costs 70p because of the 30% income tax relief. Therefore the dividend yield becomes 7.14% (100/70 x5).

This is much better than the 3% return outside of the VCT.

2. A fast growing asset for potential sale within 3 years

CGT exemption is available immediately with a VCT but with an EIS it is only available after 3 years. However, it should be borne in mind that if income tax relief is required as well, then this strategy won’t work as the VCT will lose its income tax relief if held for less than 5 years.

Shona invested £200,000 in a specialist VCT which bought unquoted shares in healthcare companies. She purchased the VCT in April 2011 and by June 2013 the shares were valued at £300,000. Shona decided to sell them and was able to find a buyer relatively quickly. The £100,000 gain was free of CGT due to it being invested in a VCT. Had the money been invested in an EIS the sale would not have qualified for CGT relief as it had not been held for 3 years.

Venture Capital Trust (VCTs)

These are listed on the London Stock Exchange and provide finance for small, expanding companies with the aim of generating returns for investors. They’re a tax-efficient way to invest in smaller companies.

You can benefit from:
> Up to 30% income tax relief, if you invest between £5,000 and £200,000 in any tax year (to retain this relief you have to keep your VCT shares for at least five years)
> Tax-free dividends
> No capital gains tax.

Enterprise Investment Schemes (EIS)

These were introduced by the government to encourage investment in small unquoted companies. Typically they involve a higher degree of risk than investments in larger companies, such as those traded on the London Stock Exchange.

The following tax reliefs may apply:
> 30% upfront income tax relief on investments up to a £1 million for the current tax year and/or £1 million carried back to the previous tax year, as long as you keep the EIS shares for at least three years
> 100% inheritance tax relief after two years, provided you still have your EIS shares at the time of your death
> Capital gains tax deferral for the life of your investment
> Tax-free growth, provided you qualify for income tax relief
> EIS shares have to be held for a minimum of three years.