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EIS checklist - or why you may not qualify for EIS relief

Posted: 25/06/2018


EIS (Enterprise Investment Scheme) tax reliefs are very generous – investors can claim a repayment of income tax equal to 30% of their investment and any gain on the sale of the shares is exempt from tax. But there are more rules than you can shake a stick at and every year extra ones are added. To help navigate the maze, here is a current checklist. The shaded rows indicate when a requirement is an ongoing one, usually for a three year period from the issue of the shares.

Employees and directors Employees cannot qualify for the relief unless they are directors.  Directors can qualify if they are unpaid (with no entitlement to be paid), or paid reasonably and have never been connected with the company or its trade prior to investing.
Existing shareholders Existing shareholders cannot generally qualify unless all their existing shares attracted relief under the EIS, SEIS (Seed Enterprise Investment Scheme) or Social Investment Tax Relief scheme (although subscriber shares are ignored).
Maximum shareholding Investors cannot qualify if they have more than 30% of the votes of the company, or its ordinary shares, or its issued shares, or if they have an entitlement to more than 30% of its assets available for distribution, or if they can control how the company is run. The holding of an associate is aggregated with the investors holding for these purposes.
Borrowing by investor An investor cannot claim relief if he or she has borrowed money and the lender would not have offered funds on the same terms in the absence of the investment in shares – eg if the investor borrows to fund the investment and charges the shares to the lender, EIS relief will probably not be available.
The shares EIS relief cannot be claimed if the shares are not ordinary shares, or if they have preferential rights, or if they are issued for non-cash consideration, or if they are not fully paid up on issue.
The purpose of the issue The shares must be issued in order to raise money for a qualifying business activity so as to promote business growth and development. Converting a loan into shares will not qualify and advancing funds to the company without an advance subscription agreement may not qualify because the share issue will not raise any new money.    The requirement that the money raised be used for the growth and development of the business means that share issues to raise money to acquire an existing business will not qualify for EIS relief. Neither will issues which raise money to meet existing day to day expenditure. Share issues used to repay existing loan financing are unlikely to qualify.
Qualifying business activity For the purpose of the above requirement, a qualifying business activity is, at the date of issue of the shares, either carrying on a trade, or preparing to carry on a trade which is carried on within two years, or carrying on research and development from which it is intended to carry on a trade. The qualifying business activity must be carried on by the issuing company or a 90% subsidiary.
Long term growth and development Additionally, the company must have objectives to grow and develop over the long term.  HMRC has indicated that ‘the long term’ here means more than the three year minimum EIS holding period – so a plan to trade for three years and then sell the business would not satisfy this requirement. The plan has to be to increase such things as revenues, customer base and number of employees after the initial three year period. This and the immediately following condition are referred to as the ‘risk to capital’ conditions and HMRC will not give any advance assurances if they are not likely to be met.
Risk of loss of capital The investment must carry a significant risk that the investor will lose more capital than they gain as a return (including any tax relief). So, if the funds are used to buy an asset which is likely to retain much of its value regardless of the success of the trade, EIS relief may be unavailable.
Financial difficulty The company must not be in financial difficulty when the investment is made. 
Trading requirement The activities of the company or group must not consist of more than 20% of non-qualifying activities, ie carrying on non-trading activities or non-qualifying trades, eg dealing in land, commodities, futures, shares, etc; banking, insurance or other financial activities; leasing or letting or receiving royalties or licence fees; providing legal or accountancy fees; property development; operating hotels, guest houses, etc or nursing or residential care homes. However, royalties and licence fees from IP created by the company or group itself are treated as arising from a qualifying trade.
UK permanent establishment The company issuing the shares must have a ‘permanent establishment’ in the UK when the shares are issued (and for the next three years) – generally this means the issuing company must have an office in the UK through which business is conducted.  Note that it is not sufficient for another group company to have a UK permanent establishment.
Use of money All of the money raised must generally be used within two years.
Minimum period The trade or research and development must be carried on for at least four months except where the company is wound up for genuine commercial reasons.
Unquoted The company must not, at the issue date, be listed on a recognised stock exchange (other than AIM or most PLUS markets) and no arrangements must exist at that date for such a listing.
Independence The company must not be a 51% (ie >50%) subsidiary or under the control of another company.
Subsidiaries and controlled companies The company must not control another company other than 51% subsidiaries which are not under the control of another person. There must be no arrangements to sell any subsidiary other than for commercial reasons. The company must not have a property managing subsidiary other than a 90% subsidiary.
Gross assets The gross assets of the company or group (ignoring liabilities) must not exceed £15 million before or £16 million after the EIS issue.
Number of employees The company or group must have fewer than 500 full-time employees (or their equivalents) for a ‘knowledge-intensive company’ and fewer than 250 for other companies.
No disqualifying arrangements There must be no arrangements for the company to make payments to the investor or anyone connected with the investor, and no arrangements to split the business artificially in order to fit within the EIS conditions, etc.
No pre-arranged exits, protection, etc There must be no arrangements for sale of the shares or the business, or for the trade to cease. There must be no arrangements to protect the investor against the risk of making a loss on the shares.
No tax avoidance The shares must be subscribed for by the investor and issued by the company for genuine commercial purposes and not for the purpose of tax avoidance.
Maximum amounts The company can only issue £12 million EIS shares in total (£20 million for a ‘knowledge-intensive company’. The company can only issue £5 million of shares in the 12 months up to the date of issue which attract EIS, SEIS, VCT or Social Investment Tax Relief. These limits include investments which qualify as State Aid, including R&D relief under the SME scheme and grant funding.
Maximum age The shares must be issued within seven years of the first commercial sale made by the company or group, though this period is extended in various circumstances.

EIS relief is withdrawn if the shares are sold, or a put or call option is granted, or the investor or an associate of the investor receives value from the company or someone connected with the company, or the company repays any of its non-EIS/SEIS share capital, in all cases generally in the three years following the share issue.


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Penningtons Manches Cooper LLP

Penningtons Manches Cooper LLP is a limited liability partnership registered in England and Wales with registered number OC311575 and is authorised and regulated by the Solicitors Regulation Authority.

Penningtons Manches Cooper LLP