This means a VCT investment has a value as a pension’s companion, particularly for clients close to or in retirement.
What distinguishes VCT from EIS is that any dividends paid are completely tax-free therefore many advisers use them in retirement planning to provide investors with a regular tax-free yield.
VCT investments come with increased risk, which means they should be only part of an investment mix.
Clients who draw from a combination of Isas, pensions, VCT income and unwrapped savings can make use of basic personal allowance, savings allowance, CGT annual exemption, VCT tax-free allowance and the 25 per cent tax-free pension allowance to significantly reduce and even eliminate any tax payments in retirement.
VCT benefits in short
Allowance: up to £200,000 can be invested each year. Investments must be held for at least five years.
- Upfront income tax relief at 30 per cent
- Tax-free capital gains on the sale of shares
- No income tax payable on dividends.
EIS – additional tax reliefs, a capital growth play
Clients can invest up to £1m per tax year in EIS. This is five times more than the annual maximum for VCT investments.
If they invest in “knowledge-intensive” companies that fulfil a set of government-approved guidelines, then the allowance doubles to £2m.
This may be a factor in deciding which route to take. Remember, though, that it is possible to invest in VCT and EIS in the same year.
EIS investors enjoy the same 30 per cent income tax relief on their investments.
Some – or all – of that relief can also be carried back to apply to earnings in the previous tax year (which is not the case with VCT investments). EIS investors have the additional ability to defer a capital gains tax (CGT) liability. As with VCTs, all EIS gains are tax-free.
These benefits mean EIS can be especially helpful if a client has just sold a business or received a generous bonus and is being hit with a big capital gains or income tax bill (or was hit during the previous year). Alternatively, a client may be disposing of some long-held assets and facing a CGT bill.
In retirement planning EIS tends to be more useful in the accumulation phase, when clients are probably less focussed on income. Clients may be at risk of breaching a lifetime allowance or might have been affected by the tapering effect on pension contributions, restricting how much they can save.
EIS money has to be invested for only three years to qualify for these benefits (compared with five years for VCT), but clients should expect to be invested longer.
Many prefer to invest in a professionally managed EIS fund that itself will invest in a portfolio of perhaps six to eight qualifying companies.