Brexit causes EIS uncertainty

But the UK’s looming departure from the EU prompted debate at the Deepbridge Capital EIS roundtable as to what the future holds for EIS investing. 

With Brexit on the horizon, what should advisers be wary of when looking at these investments?

Brexit

David Craven, ventures managing director at Blackfinch, says: “As we wait for the Brexit outcome, there is a lack of clarity for businesses, including in relation to this area of investment. Alongside UK-focused initiatives, there are currently various European development grants that firms can tap into.”

He adds: “Following any changes made, it will be important that this kind of support continues to be offered to new firms.”

Until we have more clarity on Brexit, we will continue with our regional and UK-centric approach, where we believe better value can be achieved.John Davies

But others are more optimistic about the future prospects of EIS following Brexit. 

John Davies, investment director at Seneca, says: “There could be a number of outcomes from the Brexit debacle, ranging from minimal impact to more general impact that a change of government might bring.

“But the fact remains that there will always be a funding requirement for earlier stage [small and medium-sized enterprises] and any reduction in investor appetite would fuel the flames of economic uncertainty as a whole.”

Paul Munn, a partner at Par Equity, notes: “We haven’t seen any reduction in interest from investors nor a decline in the deal flow quality through the debate.

“In fact, during this past Christmas period – dismal for many mainstream market investors – we had one of our busiest periods ever, closing deals worth £4.85m in just two days.”

James Peer, independent financial adviser at Ascot Lloyd, believes more EIS investments will fail to generate positive returns due to Brexit uncertainty. 

He warns: “When an economy faces a downturn, it is the smallest companies which are hit the hardest, as they lack the necessary cash flow and access to lending which is often crucial in ensuring a business stays afloat in times of hardship.”

He confirms: “It is therefore reasonable to expect a higher failure rate for EIS investments should we experience an economic downturn as a result of Brexit.”

According to Mr Peer, a failure rate of 20 to 40 per cent for EIS investments is normal “even in a robust economy”. 

He says: “We have always adopted a flexible approach to our investment strategy, which is made possible by our strong regional deal flow.

“We will continue to tweak strategy according to the wider economic environment. But until we have more clarity on Brexit, we will continue with our regional and UK-centric approach, where we believe better value can be achieved,” Mr Davies says.

Opportunities

Mr Peer identifies software as a good area for EIS investments as he expects no tariffs to be levied on cross-border software sales following Brexit. 

He proposes: “Software may, therefore, prove to be a robust and defensive sector during the Brexit process, when considering EIS investments.” 

Mr Munn adds: “On a more macro level, there has been some discussion around the fact that EIS was moulded around EU state-aid rules. Some have suggested that post-Brexit, the government could potentially increase the capacity of investee companies and the investment limits for investors.”

The EIS landscape has gone through a period of change in recent months. 

In the November 2017 Budget, chancellor Philip Hammond doubled the maximum investment in EIS funds from £1m to £2m, provided investors put money into “knowledge-intensive companies”, such as the life sciences sector. 

But Mr Hammond also removed the option to invest in lower-risk, asset-backed EIS offerings altogether on the grounds that these investments did not pose sufficient risk to justify the tax breaks. 

“A couple of interesting [EIS] examples are Cloudsense, which is backed by Salesforce – one of the world’s leading cloud-based software companies – and Open Bionics, which has already done work for the Marvel movies and is in partnership with Disney,” Mr Peer points out. 

Is EIS mainstream? 

So have these changes helped or deterred EIS from becoming a mainstream investment? 

Mr Peer says: “An EIS is categorised as a ‘non-mainstream pooled investment’ by the [Financial Conduct Authority] and therefore cannot be actively promoted to ‘retail clients’. However, given the changes to pension legislation over the years, they are becoming more mainstream due to reduced pension allowances for those with high incomes, such as above £150,000 a year.”

Malcolm Snook, senior financial planning manager at MPL Wealth Management, says: “EIS should be mainstream and it should be part and parcel of any conversation.

“But from an adviser’s perspective, it is not mainstream yet. This is because there are too many uncertainties and too many risks.”

Mr Snook adds: “With this marketplace, it is hard to get information to present to clients in a consistent format.”

Dan Rodwell, chief executive of GrowthInvest, says: “Education is important in terms of EIS becoming mainstream, as is clarity on what tax relief is designed to do. If transparency improves that will be the final step in terms of EIS moving towards a mainstream investment.”

Mr Hammond also announced more changes to EIS in the 2018 Budget, namely:

• At least 80 per cent of funds need to be invested in knowledge-intensive companies.
• The time period over which approved funds must make investments will be extended from one to two years.
• Funds will be required to invest at least 50 per cent of each raise within the first 12 months, and to keep monies not yet invested in cash.
• Introduction of a carry-back rule so that investors will be able to set their relief against income tax liabilities in the year before the fund closes.

Deployment 

How else can advisers ensure they are choosing the right managers to run their clients’ EIS investments? 

Some suggest “deployment of funds”, or how quickly a fund manager can use a client’s invested money, is critical to the success of any EIS investment. 

Mr Davies says: “This is a high risk asset class. However, returns can be significant. When choosing a provider the key is always to consider track record and deal flow and deployment capabilities.”

Jack Rose, head of tax efficient products at LightTower Partners, suggests: “Advisers should look at the deployment rates of managers as this will impact their tax planning, especially if it spans multiple tax years.

“They should also talk to any prospective manager about the client journey, how they report to them and how they store documents and EIS3 certificates.”

Advisers need EIS3 certificates to claim tax relief for clients. 

Mr Rose explains that while some EIS fund providers have an online portal where the certificates are stored together for easy access at tax time, others send these certificates in the post when the investments are made by the provider.

This means individuals could receive a number of certificates at different times throughout the year. 

“Depending on the number of investments they are making, there can be quite a lot of certificates. Therefore it’s important to understand where you can find this information,” adds Mr Rose.

Saloni Sardana is a features writer at FTAdviser and Financial Adviser