SEIS Tax Relief for Smart Investors
One of the major incentives for investors to back up-and-coming startups is the alluring prospect of qualifying for the SEIS tax relief programme.
While a multitude of online resources touch on SEIS tax benefits, they tend to zero in on the tax perks exclusive to startup investors.
Fear not, this article will be your ultimate guide to SEIS tax relief, delving into its numerous benefits, potential risks, and the essential rules you should be aware of.
Decoding SEIS: A Brief Overview
The Seed Enterprise Investment Scheme (SEIS) was launched with much fanfare by HM Revenue & Customs (HMRC) in the United Kingdom in April 2012. The objective of this innovative scheme is to assist fledgling companies in securing funds by offering attractive tax relief on investments made by individual investors.
SEIS boasts some of the most enticing tax reliefs worldwide, allowing investors to recoup up to 50% of their investment in the form of income tax relief. Additionally, it significantly slashes capital gains tax.
For startups, SEIS simplifies the process of raising capital during the critical early-growth stage by extending substantial tax reliefs to investors. This makes the prospect of investing in startups considerably more appealing.
In the 2018-2019 period, a staggering 1,985 companies secured SEIS funding, amassing a collective £163 million. Over 1,500 of these companies tapped into SEIS for the first time, raising an impressive £140 million in investment.
On average, companies garnered around £82,000 through SEIS in 2018-2019.
SEIS vs EIS: Battle of the Acronyms
Both SEIS and EIS share a common goal: fuelling the growth of high-potential startups.
However, they differ in some crucial aspects.
SEIS caters to the youngest, most nascent startups, while EIS accommodates older, more established companies (although still small by UK standards).
SEIS zeroes in on the earliest-stage startups and permits individuals to invest up to £100,000 annually in exchange for a 50% tax break.
SEIS investors enjoy a capital gains tax exemption for shares held for 3+ years.
Common ground between SEIS and EIS includes: no inheritance tax on shares held for 2+ years; the capacity to offset capital losses against gains.
In a nutshell, both SEIS and EIS provide tax relief for investing in UK startups, with SEIS tailored to support the earliest and riskiest ventures.
SEIS in Action: The Mechanics
The Seed Enterprise Investment Scheme (SEIS) plays a crucial role in helping small companies raise capital during their initial trading phase. It extends tax relief to individual investors who purchase new shares in eligible companies.
Investors can channel up to £150,000 into SEIS companies, which takes into account:
- Any small amounts of state aid received in the past three years
- Investments that contribute to limits for the Enterprise Investment Scheme (EIS), Social Investment Tax Relief (SITR), and Venture Capital Trusts (VCT)
- To successfully claim and retain SEIS tax relief, companies must adhere to specific rules for a minimum of three years after investment. Failing to do so may result in tax relief being denied or revoked from investors.
SEIS facilitates small companies in obtaining funding during their early trading stages by offering attractive tax incentives to investors.
Companies can raise up to £150,000, while investors can claim tax relief of up to 50% of their investment. However, companies must fulfil certain requirements for at least three years to ensure investors receive and maintain their tax benefits.
The SEIS Advantage: Perks for Startup Investors
‘Tax relief’ embodies the following concepts:
- Reduction in the tax you owe to account for expenses incurred for certain purposes, such as business expenses if you’re self-employed.
- Receiving tax refunds or reimbursement through alternative methods, like contributions to a personal pension.
- While some tax relief is granted automatically, certain types require you to apply.
Tax relief can also be availed for pension contributions, charitable donations, repair costs, and time spent working on a ship outside the UK.
Additionally, tax relief is applicable to work or business expenses. You may be eligible to:
- If you’re self-employed (as a sole trader, limited company, or partnership), claim tax relief on expenses incurred while operating your company.
- Use your own funds for work-related travel and purchasing essential items for your profession.
Capital Gains Tax Relief: A Notable SEIS Perk
Capital Gains Tax is levied on profits made when selling or disposing of assets that have appreciated in value.
It’s important to note that Capital Gains Tax targets profits, not the total amount received.
Capital Gains Tax is not applicable to:
- Individual Savings Accounts (ISAs) or Personal Equity Plans (PEPs)
- UK government bonds and Premium Bonds
- Gambling winnings, such as betting, lottery or pools
- Investors in Seed Enterprise Investment Scheme (SEIS) companies are exempt from Capital Gains Tax on income derived from their investments.
This exemption is a significant benefit of SEIS. By investing in an SEIS-eligible business, you won’t pay Capital Gains Tax on the income.
Capital Gains Tax Reinvestment Relief
Capital Gains Tax Reinvestment Relief waives up to 50% of capital gains tax for the 2019-2020 tax year. This relief applies to gains from selling any asset, provided you reinvest the proceeds in shares that qualify for the Seed Enterprise Investment Scheme (SEIS).
To claim the full 50% relief, you must invest an amount equal to your total capital gain in SEIS shares. If you invest less, your relief will be restricted to half the invested amount.
You can also claim reinvestment relief if you receive SEIS income tax relief for purchasing shares. However, you must claim SEIS income tax relief before claiming reinvestment relief.
For more details, refer to the Capital Gains Tax summary notes.
SEIS Loss Relief: A Silver Lining
Investing in SEIS grants loss relief, allowing you to offset losses against your income tax or capital gains tax.
If you sell SEIS shares at a loss at any time, you can deduct that loss from your taxable gains.
To calculate the loss, subtract any income tax relief you received for the shares that you did not withdraw.
You can claim loss relief in the year of the loss and deduct it from your current or previous year’s tax bill. The loss can be offset against either income tax or capital gains tax.
Moreover, if the loss occurs within three years and the company shuts down for legitimate business reasons, the tax relief will not be revoked.
Deferral Relief: A Consideration for EIS, Not SEIS
Deferral relief postpones capital gains taxes on the sale of an asset when you reinvest the proceeds in the Enterprise Investment Scheme (EIS).
However, this relief does not apply to the Seed Enterprise Investment Scheme (SEIS).
To qualify for deferral relief, you must invest the capital gains in newly issued ordinary shares of an EIS company, paid for with cash.
You can defer capital gains taxes if you sell the asset within three years before or after investing in an EIS company.
Deferral relief is independent of receiving income tax relief for an EIS investment. You can invest over £1 million in an EIS company and still receive deferral relief on the total investment.
Deferral relief is also available even if you do not meet the strict requirements to avoid connections with an EIS company. For instance, you can be the sole shareholder of an EIS company.
Deferred capital gains taxes become payable under the following circumstances:
- An EIS company no longer qualifies for EIS relief within three years of issuing shares or starting trade, whichever is later.
- You sell or dispose of EIS shares within three years of issuing them, unless selling them to your spouse.
- EIS shares no longer qualify as eligible shares within three years of issuing them or starting trade, whichever is later.
UK resident within three years of issuing EIS shares or starting trade, unless going to work full-time overseas for three years or less.
You receive “excessive” benefits such as directors’ fees, rent, loans, or interest payments in the year before investing in an EIS company up to three years after issuing shares or starting trade, whichever is later.
In summary, SEIS offers multiple tax relief benefits, including Capital Gains Tax Relief, Capital Gains Tax Reinvestment Relief, and SEIS Loss Relief. However, it is crucial to remember that Deferral Relief is applicable to EIS investments, not SEIS. By understanding the various forms of relief available and the conditions under which they apply, investors can make informed decisions when investing in eligible startups.
Inheritance Tax Relief: SEIS Investments and Your Estate
Inheritance tax is levied on the estate (the property, possessions and money) of someone who has passed away.
The amount due depends on the estate’s value—calculated based on assets (cash, investments, property, business, vehicles, life insurance payouts) minus any debts.
Typically, no tax is due if either:
- The estate’s value is under £325,000.
- You leave everything over £325,000 to your spouse, civil partner, a charity or a sports club.
- However, the estate will owe 40% tax on anything over £325,000 when you die (or 36% if you leave ≥10% to charity in your will)—excluding the ‘main residence’ allowance.
Notably, if you hold an investment in an SEIS-eligible business for at least two years before death, your SEIS investment is exempt from inheritance tax.
Weighing the Risks of Investing in SEIS Startups
Although investing in SEIS companies offers numerous benefits, it also carries risks.
These risks encompass:
- Investors being restricted to owning no more than 30% of a company.
- Investments being locked in for three years.
- Shares not being easily sold, as companies are not listed on stock exchanges.
- In summary, SEIS investments are illiquid and high-risk. Investors should enter with realistic expectations about the potential for loss. However, for some, the tax relief and growth opportunities may justify the risks involved.
SEIS Rules and Best Practices for Startup Investors
When investing in SEIS, it’s essential to adhere to specific rules:
- Earn UK income (residing in the UK not mandatory)
- To claim SEIS relief, living in the UK is not a requirement.
However, you must have a UK income tax liability against which to set the relief.
Shares must be held for at least three years from their issue date to retain relief.
Relief may be reduced or withdrawn if, within three years, the shares are sold or if any qualifying conditions are not met before the shares terminate (three years from the issue date).
Employment Status and SEIS Investments
You and any close associates should not be an employee of the company for up to three years after the share issue.
Close associates encompass business partners, trustees, and family members (spouses, civil partners, parents, children, etc.).
However, siblings are not deemed close associates.
Despite this, you can still serve as a director and receive reasonable remuneration for this role.
Limited Ownership in the Company
You must not have any ‘significant ownership’ in the issuing company at any time from when the company was established up to three years after the share issue date.
A SEIS ‘significant ownership’ denotes you directly or indirectly owning, or otherwise having the right to obtain, more than 30% of the company. Ownership stakes of associates are also counted towards the 30% limit.
Avoiding Related Investment Arrangements
You would not qualify for SEIS tax relief if you subscribed for shares as part of a reciprocal arrangement involving someone else subscribing for shares in a company where you hold a substantial interest.
Steering Clear of Linked Loans
For three years after issuing shares, the company must not provide loans to you or your associates that are connected to your share subscription.
This encompasses cases where credit is extended or debt owed by you or your associate is transferred.
- No Tax Avoidance Schemes
- To qualify for SEIS relief, you must invest for genuine business purposes, rather than tax avoidance.
- Tax relief is capped at £50,000 for investments up to £100,000. Amounts over £100,000 are not counted towards income tax relief, even though you can invest up to £150,000 total under SEIS.
In short, SEIS income tax relief is limited to £50,000 for investments up to £100,000. You cannot claim relief on amounts over £100,000, even if you invest up to the £150,000 SEIS maximum.
Circumstances for Withdrawal or Reduction of Tax Relief
Tax relief under the Seed Enterprise Investment Scheme (SEIS) may be revoked or diminished if:
- You sell any of the shares within three years of acquiring them (selling to your spouse or civil partner is exempt).
- At any point from the company’s establishment to three years after purchasing shares, you obtain money or benefits from the company or someone connected to the company.
- You receive value from the company in various forms, such as:
- The company repurchases, redeems, or repays any of your shares.
- The company repays a loan you made to them.
- The company provides you with a benefit or service.
- For more details on receiving ‘value’ from the company, consult HMRC guidance.
- There is a call option or put option on the shares before you acquire them.
- Be aware that you will not receive SEIS tax relief if the company fails to meet the necessary requirements or does not spend the money raised on eligible purposes.
Best Practices for Startup Investors
When investing in startups, concentrate on the fundamentals rather than the hype.
Although some startups yield substantial returns, most fail or face challenges for years.
To identify winners, familiarise yourself with a few key practices.
Gain A Thorough Understanding of the Company
For startup investing, opt for pre-vetted companies when possible.
Most platforms enabling individuals to invest in startups conduct due diligence. Investigate each platform’s vetting process and choose one that you find reliable.
However, don’t stop there. Even vetted startups necessitate careful examination to verify growth potential.
Diversification mitigates risk, but indiscriminately investing in numerous startups may not yield favourable results.
Instead, diversify across sectors within a carefully chosen group.
This approach enables you to invest significantly in companies while avoiding the worst effects of market volatility.
Invest Only What You Can Afford to Lose
It is crucial to emphasise that investing in startups carries significant risk.
As such, you should only invest money that you can afford to lose.
Determine this amount by calculating 1-5% of your net worth. Then assess how much you could bear to lose within that range, based on your current financial circumstances.
Eligibility for SEIS Tax Relief
Investors, including directors, may claim initial tax relief of 50% on investments up to £100,000 through the Seed Enterprise Investment Scheme (SEIS) and a Capital Gains Tax (CGT) exemption on any gains from SEIS shares.
You can claim SEIS Tax Relief if:
- You are not an employee of the company (although you can be a director)
- Your stake in the company is 30% or less
- SEIS tax relief only applies to recently incorporated companies
- The company has 25 or fewer employees and gross assets of £200,000 or less
Exclusively for 2012-2013, a CGT exemption will be provided for gains realised from disposing of assets invested in SEIS that same year.
Requirements for SEIS Tax Relief
To qualify for SEIS tax relief, your shares must be newly issued ordinary shares. Ordinary shares cannot be redeemed and do not have special rights.
Shares must also be fully paid in cash to qualify for Income Tax relief. You cannot use a loan to purchase the shares unless it is specifically approved for acquiring the shares.
How to Claim SEIS Tax Relief?
To claim SEIS tax relief, you must obtain an SEIS3 form from the company you invested in.
This verifies your investment amount and confirms that it qualifies for tax relief.
A company can issue SEIS3 forms if:
- It has traded for a minimum of four months
- It has invested 70% of the total funds raised
- The Small Companies Enterprise Centre (SCEC), part of HMRC, authorises companies to issue SEIS3 forms.
The company then provides each investor with an SEIS3 form to complete and submit alongside their tax return.
Timing for Claiming SEIS Tax Relief
You can claim SEIS tax relief up to five years after January 31 of the year in which you made the SEIS investment.
Submitting Your SEIS Claim Form
Once you receive your SEIS3 certificate, you have two options to claim your SEIS tax relief:
If you are filing your tax return, you do not need to send the SEIS3 certificate with your return. Only supply it if HMRC requests it.
If you are not filing a tax return, complete pages 3 and 4 of the SEIS3 certificate and send them to the HMRC office that manages your PAYE. You can find this information in previous correspondence from HMRC or your employer.
If you remain unsure about where to send your SEIS3 certificate, contact HMRC directly. They can provide the necessary information.
Bear in mind that HMRC may ask for your SEIS3 certificate even after you have filed your taxes. Ensure you keep it safe.