Venture Capital Trusts (VCTs) are investment companies listed on the London Stock Exchange. They were first launched in 1995 as a collaboration venture between HM Government and the trade association of the UK private equity industry, the British Venture Capital Association (BVCA).
VCTs are designed to attract UK private investors to invest in a diversified portfolio of unquoted and AIM-traded growth companies whose activities are predominately based in the UK. VCTs are normally managed by specialist investment managers under the governance of an independent Board of Directors.
Tax benefits vs. Investment risk
Several tax incentives are available to UK income tax payers who invest in VCTs.
Investors must weigh these tax benefits against the withdrawal of such benefits and the risks inherent to investing in smaller companies.
VCT investment is only suitable for investors who can evaluate the risks and merits of such investment, and who have sufficient resources to bear any loss that might occur. Most investors invest in VCTs on the advice of professional advisers who are more aware of the risks and returns possible from VCTs.
Advantages of investing in VCTs
Venture Capital Trusts are particularly attractive to tax paying individual investors who invest in new VCT shares and hold them for at least five years. Furthermore, VCTs allow investors to invest in a portfolio of unquoted companies, as well as AIM quoted companies, while benefiting from the liquidity provided by the listing of the VCT’s shares. Many VCT providers have a policy of buying back their own shares in the market, subject to certain criteria and the LSE’s regulations, to ensure liquidity.
Following the Finance Act 2007, the following tax benefits are available to UK residents aged 18 or over investing after 6 April 2007:
(i) Tax-paying investors receive an income tax rebate at 30% on the amount invested, thus reducing the effective net cost of the investment to 70 pence for each £1 invested, provided the shares are held for at least five years and the investor has paid the tax;
(ii) Dividends paid by a venture capital trust are free of income tax;
(iii) There is no tax on capital gains made upon disposal of shares in a VCT; and
(iv) Capital gains made by the venture capital trust on its underlying investments are free of corporation tax and, unlike an ordinary investment trust, these gains may be distributed by way of dividends to investors.
Investment in VCTs is limited to £200,000 per person per tax year. For more information, contact your Client Director at Cantab Asset Management on 01223 52 2000.
Risks of investing in VCTs
Shareholders need to be aware of any changes in the VCT legislation regarding not only tax, but also the restrictions on how the capital raised can be invested in a smaller population of companies than for funds without the taxation benefits.
For example, after 6 April 2006, the HM Government made the policy decision to focus investment into companies with less than £7m gross assets and £8m after investment. However, capital raised prior to this date can still be invested in companies with less than £15m gross assets (£16m after investment).
In the 2011 Budget, the Chancellor announced that effective April 2012, for both VCTs and EISs, the size limit on companies eligible for investment will be increased from 50 to 250 employees and from £7million to £15 million in gross assets.
Taxation risk
1. If a VCT fails to meet the qualifying requirements for a VCT, this could result in:
(i) investors in that VCT being required to repay the 30%. income tax relief received on subscription for new shares;
(ii) loss of income tax relief on dividends paid (or subsequently payable);
(ii) a potential liability to tax on capital gains on a disposal of shares in a VCT;
(iii) loss of tax relief previously obtained in relation to corporation tax on capital gains by the VCT;
(iv) loss of the listing of the VCT’s shares.
2. The levels and bases of taxation may change and such changes may be retrospective.
3. The definition of a VCT qualifying investment may change, and the conditions relating to the maintenance of that qualifying status may also be subject to alteration, which could impact on the level of the VCT’s qualifying holdings.
4. The sale of new issue shares within 5 years of their subscription will result in some or all of the 30%. income tax relief available upon acquisition of those new issue shares becoming repayable. On this basis, investing in new issue shares should be considered a long-term investment.
5. Any realised losses on the disposal of shares cannot be used to create an allowable loss for capital gains tax purposes.
Investment risk
1. The value of the shares may go down as well as up and an investor may not receive back the full amount invested.
2. No guarantee is given or implied that the investment objectives or the realisation strategies set by the VCT will be achieved. Furthermore, the VCT’s ability to obtain maximum value from its investments (for example through sale) may be limited by the requirements imposed to maintain the VCT status of the VCT (such as the obligation to have at least 70% of its investments in Qualifying Investments).
3. The VCT’s investments are and will be in companies whose securities are not publicly traded or freely marketable and may, therefore, be difficult to realise and more volatile than the securities of larger, longer established businesses.
4. Investee companies include younger, fast-growing, unquoted companies undergoing significant change. Such businesses are usually exposed to greater risks than older businesses and therefore involve a higher degree of investment risk as they are more fragile and may not produce the hoped-for returns.
5. The success of some investments may be based on the ability of investee companies to establish, protect and enforce intellectual property rights, rights being broad enough to protect proprietary interests and the rights not infringing third party patents.
6. A charge given to the VCT over an asset by a portfolio company may not provide full capital protection for an investment.
7. A number of the VCT’s investments may be sensitive to any downturn in the economic environment.
8. The restriction on investment to companies having less than 250 full time employees and the £5m cap on the amount of funds which a company can raise from VCTs and Enterprise Investment Schemes within a 12 month period may limit the ability to invest in new qualifying opportunities.
Risk warnings
This document has been prepared based on our understanding of current UK law and HM Revenue and Customs practice, both of which may be the subject of change in the future. The opinions expressed herein are those of Cantab Asset Management Ltd and should not be construed as investment advice. Cantab Asset Management Ltd is authorised and regulated by the Financial Conduct Authority. As with all equity-based and bond-based investments, the value and the income therefrom can fall as well as rise and you may not get back all the money that you invested. The value of overseas securities will be influenced by the exchange rate used to convert these to sterling. Investments in stocks and shares should therefore be viewed as a medium to long-term investment. Past performance is not a guide to the future. It is important to note that in selecting ESG investments, a screening out process has taken place which eliminates many investments potentially providing good financial returns. By reducing the universe of possible investments, the investment performance of ESG portfolios might be less than that potentially produced by selecting from the larger unscreened universe.
