Social Investment Tax Relief Summary: How does it work and how can it be useful?

Transcription

1 Social Investment Tax Relief Summary: How does it work and how can it be useful? November 2014

2 1. Introduction The UK Government has been keen for several years to encourage and stimulate the social investment market. Specifically it would like to see private individuals investing in social enterprise in a similar way to that encouraged in small and medium sized private sector enterprises by the Enterprise Investment Scheme. EIS is only available for investment in shares in UK registered companies (with some additional restrictions). The company into which the investment is made must be undertaking a qualifying trade (which excludes financial services and property investment amongst others). Whilst special structures can be developed to enable EIS to be claimed, for direct investments into some social enterprises and most charities this scope means that it is not available. In particular charities (and community interest companies limited by guarantee), as well as unincorporated bodies, generally cannot issue shares, and EIS cannot be claimed in respect of debt. With effect from April 2014, a new relief, SITR, in many ways mirroring EIS, is available to these kinds of body, and in respect of debt as well as shares. 2. How does SITR work? In common with its forbear, EIS, it gives income tax, capital gains tax and some other reliefs to the UK-taxpaying individual investor who invests in qualifying shares or securities. These are debt or equity (share) interests in a community interest company, a charity, a non-charity community benefit company, and certain types of special purpose vehicles largely relating to social impact bonds. They must be new securities, and new money invested: a restructuring of money already advanced does not qualify. There must not be pre-established terms for buyback or release of value within three years from investment, and these securities must not enjoy preferential rights to capital on a winding up, interest or dividend when compared to any other class in issue. The income tax relief is at 30% of the amount invested in a tax year, given as a reduction of tax otherwise payable by the individual investor. In certain circumstances the investor may treat some or all of the investment as made in the previous tax year, so enabling more relief to be available, but there is no relief available prior to the 2014/15 tax year. In addition any income or gains from the investment are not taxable on the investor if received more than three years after the investment is made. Where the investor has made a capital gain on other assets (in 2014/15 or later) and is intending to reinvest the proceeds in this social investment, the reinvestment may be made gross. The capital gains tax that would have been paid on the original investment is only payable when released from the social investment into which it was rolled over. If then rolled over into another qualifying social investment it can be further deferred. If the social investment results in a capital loss, after taking into account the tax relief, even if outside the three year period during which gains and income are taxable, relief for the capital loss may be available. SIT Relief for the individual is limited to 1m of investment in any one tax year. The investor must not be an employee, partner, director or trustee of the social enterprise, or an associate (spouse, minor child, partner, for example) of one of these. Neither can the investor have a controlling interest in the investee, nor a 51% subsidiary of it. The investor cannot claim SITR if that investment has already attracted EIS or SEIS: you cannot get more than one relief for the same investment. The investor should not be getting dividends or other benefits from their investment for at least three years. If they do (say by payment of a dividend) then their tax relief for the investment is reduced as if the investment had been lower by the amount of the dividend. Other forms of financial benefit are treated the same way. So if the investor put in 100,000 but then received 30,000 as a dividend within three years, the tax relief would be 30% of the net 70, Bates Wells Braithwaite Social Investment Tax Relief

3 In addition any SITR-qualifying investment is 100% exempt from Inheritance Tax. The investee 1 must not be quoted, nor a large venture, that is it must have no more that 15m of assets before the investment nor 16m after, nor more than 500 full time employees. Nor indeed may it be a subsidiary (51% or more holding) of another company. It cannot have a controlling interest in a non-qualifying subsidiary either. It must be carrying on a trading activity, and certain activities (including property development and management, financial activities including the provision of finance, fisheries, agriculture, electricity generation and export, and road haulage) are excluded. The investee cannot raise under SITR, in any three year period, investments that would generate more than 200,000 of tax relief (both income and capital gains tax). In practice that means a limit of around 344,000 ( 280,000) of funds raised. This limit will be likely to be raised once State Aid clearance for the SITR legislation has been obtained from the European Commission (expected during 2015). The amount of tax relief is further restricted if the investee company has received State Aid in other forms. Generally, if any of the qualifying rules is breached in the three years following investment, the relief can be withdrawn or restricted. An example of this would be an organisation that ceases to operate a qualifying trade. 3. Do Social Impact Bonds (SIB) qualify for SITR? Some SIBs qualify. Broadly a company that would otherwise not qualify for SITR can do so if it is a special purpose vehicle through which a SIB is operated. This means that some structures qualify and some do not at present (and indeed some can qualify for EIS instead). The SIB operating company has to go through a pre-clearance procedure with HMRC. We understand that further change is expected in this arena to reflect the variety of new SIB structures emerging in the market. 4. How does it encourage the investor to invest? Let s look at an example. Devon earns 60,000 in the 2014/15 tax year, and 40,000 in 2015/16, and has a combined income tax bill on the two years of 26,000, of which 9,000 is in the later year. (S)he has realised 40,000 from the disposal of an investment in 2015/16, giving rise to a 20,000 chargeable capital gain, and is due to pay 6,000 of tax on that. In 2015/16 (s)he invests 50,000 (more than the full proceeds of the capital disposal) in a qualifying debt investment, a loan to a charity. Net income for Tax Cash cost of the two years ( ) payable ( ) investment ( ) Income 100,000 26,000 Gains 40,000 6,000 Invested 50,000 Tax relief (30%) (15,000) (15,000) Roll-over relief (6,000) (6,000) Until gross investment released Net tax payable 11,000 Net cost of 50,000 investment 29,000 1 A company or entity in which an investor makes a direct investment The investee gets a 50,000 capital investment, but it only costs the investor a net 29,000, plus a further 6,000 as the asset is realised. Bates Wells Braithwaite Social Investment Tax Relief 3

4 If the investee is offering interest on the debt giving a 4% IRR, that is actually worth nearly 7% on the true cost of investment: the cash foregone of 29,000. Allowing for that return being tax free, it is the equivalent of a pre-tax return of around 11.5% on a normal taxable investment. 5. How does it benefit the investee The fund-raising investee can afford to offer very beneficial effective rates of return without it costing anything like so much as it would without the relief. 6. Interaction with other reliefs: some thoughts When interest or dividends become payable, the investee might approach the investor to ask them to gift aid their interest back to the investee when it becomes payable. This would allow the investee, if a qualifying charity, to claim the additional gift aid payment, effectively as additional income. 7. Overall This has the potential of being a very useful relief, extending the well-understood benefits of EIS into the arena of social investment. Whilst some social investments (such as CICs with a share capital) have been, and continue to be, eligible for EIS, many charities and a number of other similar bodies have not been able to use this relief. Furthermore, with a number of these (and the share-based CICs) raising social investment as debt, the embracing of this as a qualifying investment offers further opportunities. The State Aid limit, which effectively means that a little under 300,000 of SITR qualifying investment can be raised by an investee in any tax year, is restrictive. However that is expected only to be a temporary limit, which, once EU clearance has been obtained, is likely to be removed and replaced with much higher limits later in For further information contact: Jim Clifford OBE FCA ATII FRSA Partner j.clifford@bwbllp.com +44 (0) Luke Fletcher Partner l.fletcher@bwbllp.com +44 (0) Bates Wells Braithwaite Social Investment Tax Relief

5 FAQ s Investor s perspective 1. Is there a limit to how much I can personally invest in SITR opportunities? 2. What happens if the investment into which I roll over a gain becomes a failure? Will I still have to pay the capital gains tax? The limit is 1m in any one tax year, which may be invested in a range of investments, both debt and equity. The rolled over tax is still payable, but capital loss relief will arise on the failure, which should offset a significant proportion of the gain. 3. Can I split my investment as a mixture of debt and equity? Yes, with no restrictions as to proportions. 4. Is the relief based on my income tax rate, or is it a flat rate? The relief is a flat rate of 30% of the sum invested, and is an offset against the investor s income tax bill for that year and the previous one. 5. Is this better than EIS? This is better than EIS because it is available for debt investments as well as equity ones. 6. How does this differ from SEIS? SEIS is at a rate of 50% as against 30% for SITR. However it is limited to 100,000 of investment by a single investor in any tax year, and 150,000 raised by any one investee. It is also not available for debt. Investee s perspective 1. Is there a limit to how much the company can raise from SITR? 2. Can the company raise money under SITR and EIS, and SEIS? Yes around 280,000, until such time as the State Aid limit is removed, which is hoped for during 2015 Yes but only one of the three on each 1 invested 3. Why bother with SITR as opposed to EIS and SEIS? SITR makes reliefs available when EIS and SEIS are not available, principally where the investment is as debt. 4. Can the company raise some money using SITR, some using EIS, and some using SEIS? Yes indeed, for companies and investors that can qualify for all three, raising debt under SITR, and shares under EIS and SEIS may prove a good option. Care needs to be taken, though, with the requirements that the SITR-qualifying instruments are the highest ranking as regards risk, so debt issued in this way would have to rank in line with equity. Furthermore if debt and share issues are associated, care should be taken to ensure that the rights of one do not disqualify the other. Bates Wells Braithwaite Social Investment Tax Relief 5