Emma Wall, head of platform investments, Hargreaves Lansdown: “With the tax year end fast approaching, you may be wondering how to optimise your finances. If you are in the fortunate position of having already used all your ISA and pension allowances for this tax year, VCTs could just be for you!
A Venture Capital Trust (VCT) is similar to an investment trust. They’re for UK investors looking to add diversification to their portfolio with smaller UK companies. Introduced three decades ago, VCTs are designed to encourage investment that is both tax efficient for the investor and at the same time funnels capital to drive innovation and stimulate economic growth by funding young and fast-growing UK companies. Since 1995, VCTs have generated over £41bn of investment. After the commitment made by the Government to extend VCTs to 2035 and given the tax changes announced in the last Budget, VCTs are a great way for people to invest their money in a tax-efficient way, over the longer term, as part of a diverse investment portfolio.
VCTs are listed on the London Stock Exchange and typically invest in small, young and innovative companies that are unlisted and often privately owned. Smaller companies are a vital area of the UK economy. They help provide jobs, prosperity and economic growth. Examples of former VCT investments include the snack company Graze, property website Zoopla and clothing marketplace Depop. VCTs are an exciting and dynamic area to invest in, with the potential opportunity to outperform the wider stock market. But these investments are by nature higher risk as they invest in smaller new companies that are more likely to fail, and their shares can be harder to sell.
How VCTs can save you tax
To encourage investors who are taking on more risk by investing in smaller growing companies, the Government offers generous tax incentives:
• 30% income tax relief on what you put in VCTs as part of new share issues, up to £60,000, as long as you invest for at least five years.
• No tax on dividends from VCTs
• No capital gains tax (CGT) on your holding, if held for at least five years.
• £200,000 limit per tax year
While you can buy VCT shares on the stock exchange like a normal share, you only get the tax relief if you invest in new issues. The VCT managers offer these in tranches at different times of the year. You can apply via the VCT manager directly, but you can get discounts by applying using a stockbroker like Hargreaves Lansdown.
Only investments made in new issues of VCTs qualify for the tax relief, not shares bought on the London Stock Exchange. You also can’t claim tax relief if you reinvest into a VCT you’ve sold within the last six months. You’ll need to claim the tax relief on your self-assessment, but you don’t need to declare any dividends. VCTs also need to maintain their qualifying status in order to keep all these tax benefits for their investors.
Should you consider investing in VCTs?
VCTs are typically used by those investors who may have used their ISA and pension allowances and have larger portfolios, and the appetite for higher-risk investments. As the companies VCTs invest in are often new, very small companies which have a higher likelihood of failure, they are higher-risk investments. They’re therefore aimed at more experienced investors with a detailed understanding of investments, who can afford to take a long-term view. If that sounds like you, VCTs could be an opportunity for you to invest and save tax. At HL, we recommend that VCTs be held as a smaller part (under 10% of the portfolio) of a large (over £100,000), diversified portfolio. Typically, higher or additional rate taxpayers are more likely to benefit from the tax benefits than basic rate taxpayers. We would recommend that investors have used other tax efficient investments like ISAs or pensions before looking at VCTs. Investors should also have already built-up cash savings for emergencies.
Three types of VCT
• Generalist VCTs - invest in a broad range of companies in different sectors and at different stages of development.
• AIM VCTs - invest predominantly in companies listed on AIM, or those which are about to list on AIM.
• Specialist VCTs - focus on a specific sector like infrastructure or biotechnology, which can make them higher risk as they are less diverse.
Where do VCTs invest?
There are strict rules on where VCTs can invest. This is because the companies they invest in must, in most cases, be less than seven years old when the VCT first invests in them. They have to invest at least 80% of their value in qualifying investments in order to maintain their VCT status and their tax benefits for investors. Investments can be in unlisted private companies or those traded on AIM or the AQSE Growth Market – both stock exchanges for smaller companies. A share listed on AIM or AQSE is regarded as an unlisted company. They must have a place of business in the UK, typically have fewer than 250 employees, with assets worth less than £15mn before investment and £16mn after. There are some exceptions for knowledge-intensive companies. They also can’t carry out certain activities, for example, banking, dealing in land or energy generation.
How are VCTs valued?
Like investment trusts, VCTs have a net asset value which is provided by the VCT’s board of directors, usually twice a year. The net asset value represents the value of the underlying investments. As the investments are not always listed on a stock exchange, this means that the value may be estimated using set valuation methods. These are, however, estimates and the price you get for selling VCTs could be higher or lower than the net asset value.
How can I invest in VCTs?
VCTs are traded on the London Stock Exchange, so can be purchased like a normal share. But as even the largest VCTs are quite small, they can be illiquid as there are not many buyers and sellers. This means it’s often difficult to buy and sell shares on the stock exchange and the price to buy and sell may be higher or lower than the value of the underlying investments. It may even be difficult to find a price at all in some cases. Also, you won’t get the income tax relief if you buy shares on the stock exchange, which makes it far less appealing to most investors. Though you’ll still benefit from tax-free dividends and no tax on capital gains and can sell without any minimum holding period. So, it’s less common to invest in VCTs this way.
VCT managers will typically provide windows for new investment to investors where they issue new shares in the VCT. If you apply during one of these windows, the income tax relief will be available on those new shares. You should read the prospectus for any new offer carefully as this will contain the specific risks for that VCT. VCT managers may also from time to time provide buybacks, where they buy shares from existing investors. This is often at a small discount to the value of the shares.
The VCT market has been a vital tool for entrepreneurial UK businesses to get the seed funding they need to kick-start their enterprise for 30 years, which has helped the UK to be one of the best places in the world to start a business. Using HL’s market leading position and scale, our VCT online service plays a crucial role in helping the VCT market grow, delivering favourable tax efficient returns for investors, and supporting more businesses at the start of their growth journey.”
Why invest in VCTs using HL?
• We make it easy: Clients can apply online and hold shares for free in their Fund and Share Account. Our new service doesn’t require paper forms, cheques or share certificates and everything is done online.
• Great discounts: We provide a discount on the initial charge so it’s cheaper than applying directly with the VCT provider.
• No commission: Any commission received is given to the client.
• Investment amounts: Clients can invest from £10,000 up to a maximum of £200,000.
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