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Investors’ Relief – What Qualifies?

Shared from Tax Insider: Investors’ Relief – What Qualifies?
By Lindsey Wicks, February 2016
At Budget 2016, the government announced an ‘extension’ of entrepreneurs’ relief to long term investors in unlisted companies. This article looks at the evolution of this announcement into a relief more akin to the enterprise investment scheme (EIS) than entrepreneurs’ relief.

Investors’ relief in brief
Investors’ relief is a capital gains tax (CGT) relief that reduces the CGT rate to 10% on qualifying shares and is subject to a £10 million lifetime cap (separate to the entrepreneurs’ relief lifetime cap). Those are the main similarities to entrepreneurs’ relief.

Where the relief is more akin to the EIS is that the shares must be held for a minimum of three years; the shares must be subscribed for in cash; no value must be received by the investor (and their associates); and the investor and people connected to the investor should not be relevant employees.

What are qualifying shares?
The following conditions must be met:
  • the shares must be subscribed for (rather than purchased) by the investor and the subscription must meet various other conditions stipulated in TCGA 1992, s 169VU (such as being subscribed for wholly in cash and at an arm’s length price);
  • the investor must have held the shares continuously;
  • the shares must have been issued on or after 17 March 2016;
  • at the time of issue, none of the shares must have been listed on a recognised stock exchange (AIM shares are not listed on a recognised stock exchange for this purpose);
  • the share must be an ordinary share at issue and at disposal;
  • the company must be a trading company or the holding company of a trading group (defined in TCGA 1992, s 169VV) at the time of the share issue and throughout the holding period;
  • at no time during the holding period can the investor or a person connected with the investor be a relevant employee (defined in TCGA 1992, s 169VW); and
  • the period between the date of issue of the shares and ending with the date of disposal must be at least three years (this period is extended if the shares were issued on or after 17 March 2016 and before 6 April 2016, so that the first qualifying disposals take place on or after 6 April 2019).
Where a couple are living together and are either married or civil partners, they can transfer shares between them and have their period of ownership aggregated (TCGA 1992, s 169VU).

There are also tax avoidance tests to pass. The shares must be subscribed for and issued for genuine commercial reasons and not as part of arrangements where the main purpose or one of the main purpose is to secure a tax advantage to any person (i.e. the tests are not limited to the investor).

Trap: 
Receipt of value
The shares can disqualify for relief where value is received from the company or a connected company by the investor or their associates. The rules concerning the receipt of value can be found in TCGA 1992, Sch 7ZB and apply one year prior to the share subscription being made as well as afterwards, so care should be taken.

More flexible than the enterprise investment scheme?
The EIS will remain attractive to those that qualify as it offers a 0% rate of CGT compared to the 10% investors’ relief rate, as well as income tax relief and CGT deferral relief. However, the EIS has become increasingly limited. Not only does the company need to be a trading company or the holding company of a trading group, it is also subject to restrictions on:
  • the types of trade that qualify;
  • the size of the company;
  • the number of employees; and
  • the amount of time that the company has been trading (i.e. the company must be relatively young).
The EIS also stipulates how the funds raised from investment must be used.

By contrast, the ‘trading company’ requirement for qualification for investors’ relief seems far more achievable, and investors’ relief could prove a valuable way of bridging the funding gap by attracting investors for those companies’ ineligible for the EIS.

Investors that can benefit from investors’ relief
When the legislation first appeared in the Finance Bill 2016, there were a number of concerns expressed over who could qualify for the relief. Sensible changes were made during the progress of the Finance Bill 2016 that have helped clarify the type of investors who can qualify for relief.

Partnerships
The joint investor provisions (TCGA 1992, s 169VJ) mean that disposals of shares held by a partnership could potentially qualify for relief upon a claim by the individual partner in respect of their interest.

Trustees
Similar to the entrepreneurs’ relief rules, trustees can claim investors’ relief if there is an eligible beneficiary. For the purposes of investors’ relief, the eligible beneficiary must have an interest in possession throughout the three-year period ending with the disposal, and must not be a relevant employee in that period. Like entrepreneurs’ relief, the eligible beneficiary effectively gives up part of their £10 million lifetime investors’ relief cap to the trustees.

Employees
Relevant employees have been mentioned a number of times during this article, and you may consider that the exclusion of relevant employees from qualifying could prove problematic. Recognising this, the definition of a relevant employee was relaxed during the passage of the Finance Bill. Unremunerated directors (defined in TCGA 1992, s 169VW and s 169VX) are not relevant employees, allowing for the involvement of business angels on the board in a professional capacity.

Another relaxation allows for the employment of an investor or a person connected with them:
  • where 180 days have elapsed since the shares were subscribed for, provided there was no reasonable prospect of the person becoming an employee at the time that the shares were subscribed for; and
  • where the person does not become a director while the shares are held. 
This relaxation is designed to prevent investors from being unwittingly denied relief by a family member or trust beneficiary becoming an employee.

Trap: 
Employees not meeting the 5% holding requirement for entrepreneurs’ relief
Unfortunately, given that existing employees cannot qualify for investors’ relief, investors’ relief is not the panacea for employees that do not meet the 5% shareholding requirement for entrepreneurs’ relief.

Claiming the relief
The relief is not automatic, and a claim for investors’ relief must be made on or before the first anniversary of 31 January following the tax year in which the disposal is made.

Trading company definition
As alluded to above, the definition of a trading company is not interchangeable between the EIS, investors’ relief and entrepreneurs’ relief, and care must be taken to review that the company meets the definition for the relief being claimed.

For example, one difference compared to entrepreneurs’ relief is that there is no mirroring of the three-year grace period for disposals where a company ceases to trade. Instead, for the purposes of investors’ relief, a company is not regarded as ceasing to trade because it (or any of its subsidiaries) has gone into liquidation, administration or receivership for genuine commercial reasons.

Practical Tip:
Where there are perceived choices between reliefs, it is important to remember that there are some big differences in definitions and qualifying conditions, which could mean that those choices may not be available.

When looking at CGT reliefs, in addition to considering entrepreneurs’ relief, EIS and investors’ relief, it is also worth bearing in mind seed EIS and enterprise management incentives, although since the Autumn Statement 2016, not new employee shareholder shares.

At Budget 2016, the government announced an ‘extension’ of entrepreneurs’ relief to long term investors in unlisted companies. This article looks at the evolution of this announcement into a relief more akin to the enterprise investment scheme (EIS) than entrepreneurs’ relief.

Investors’ relief in brief
Investors’ relief is a capital gains tax (CGT) relief that reduces the CGT rate to 10% on qualifying shares and is subject to a £10 million lifetime cap (separate to the entrepreneurs’ relief lifetime cap). Those are the main similarities to entrepreneurs’ relief.

Where the relief is more akin to the EIS is that the shares must be held for a minimum of three years; the shares must be subscribed for in cash; no value must be received by the investor (and their associates); and the investor and people connected to the investor should not be relevant employees.<
... Shared from Tax Insider: Investors’ Relief – What Qualifies?
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