Believe it or not, there are over 91 Unicorns in the UK1. No, I haven’t lost my mind, and I know this bold statement requires some clarification as I am not referring to the mythical mono-horned creatures of myth and legend. The term Unicorn refers to a privately owned start-up company(s) valued at over $1 billion and commonly used in the Venture Capital Trust (VCT) industry.
Why do these investments interest some ‘normal’ investors? In short – Tax! In my experience, I always find this word to be a great motivator.
By investing in VCTs as a private individual you can benefit from 3-fold tax incentives (more on this later). Venture Capital Trusts are not suitable for everyone, however, I encourage you to read on to see if they could be something worth speaking to your adviser about.
The fly in the ointment is they are not available all year round as they have a ‘season’. A majority of providers seem to fundraise during the Autumn and into the New Year – so there may be an appropriate opportunity available now!
But I’m getting ahead of myself.
An alternative investment strategy
Let me refresh your memory about VCTs. The UK is one of the world’s most successful markets for entrepreneurial small companies. You could say it’s the UK’s ‘thing’.
The “Venture Capital Trust Association” trade body figures show that VCT-backed businesses delivered £12.5bn in revenue and generated £3 billion in exports in the 21-22 tax year2.
The golden question is… how do small, start-up “bright ideas” transform into household-name Unicorn companies such as Zoopla, BrewDog, and Sumup?
Answer: Often with the help of Venture Capital Trusts Investment. Growth takes investment, and the initial investment seldom comes from the team with the original bright idea.
So, what is a VCT?
Launched in 1995, a Venture Capital Trust is a collective investment vehicle – investors hold shares directly in the VCT. There are three types of Venture Capital Trusts:
- Generalist VCTs,
- Aim (Alternative Investment Market) VCTs and
- Specialist VCTs.
A Generalist VCT, which is the most commonly used, can hold a high number of different shares, even as much as 140 for instance, which offers a degree of investment diversification.
A VCT is a limited company in its own right that pools money from investors and uses it to buy stakes in privately owned companies that are trying to grow from the ‘bright idea’ stage to the ‘Unicorn’ stage. There has been £1.7billion invested in small companies via VCTs since 2018.
Venture Capital Trust managers aim to find, nurture, develop and increase the number of companies with Unicorn status or show potential to become Unicorns. VCT providers have teams with expert knowledge across a range of different sectors – think along the lines of Dragons Den.
Venture Capital Trust providers receive requests from entrepreneurs for funding to develop their “bright idea”. Thousands of funding requests are submitted annually, but less than 10% will be considered in more detail. Actual investment is just 10-15 companies by each VCT provider.
The VCT invests directly in companies across a broad range of sectors, such as Health, FinTech, Deeptech, Bioscience and Software, to name just a few. Typically, these companies will be less than 7.5 years old and have a valuation of less than £15m
Risks associated with Venture Capital Trusts
While there are attractive tax incentives available, it is important that we first outline the Risk associated with VCT investments.
VCTs should be considered a Speculative Investment. Investing, as they do in small unquoted company shares that might be difficult to sell. Not all start-up companies will become Unicorns, and the failure rate varies from provider to provider but can be as high as 50% with some providers. VCTs are not appropriate for inexperienced faint-hearted investors. As with any investment plan, current legislation related to VCTs could also be subject to adverse rule change, and advice will be very dependent on your own personal circumstances.
It is highly unlikely that many investors will invest anywhere near the maximum permitted contribution of £200,000 per year. Having said this, the popularity of VCTs has increased in recent years as a result of stringent pension contribution limits.
Attractive Tax Incentives
The Government is simply unable to support burgeoning British industry, so it offers significant tax incentives to encourage individual private investors to support these companies via VCTs.
1) You receive income tax relief up to 30% on investment in a VCT of £200,000 or less per tax year.
For example, if you invest £20,000 in Venture Capital Trusts, you can claim £6,000 from your tax bill. Please note you must hold the VCT for a minimum of 5 years, or you will have to repay the tax relief.
2) Any dividends paid during the time you hold your VCT investments are not liable for taxation. Not all VCTs pay dividends.
3) If you hold the VCT for at least five years and you make a profit, then no Capital Gains Tax will be due.
The best providers will also offer a “Buy-Back” option to facilitate the sale of shares after the initial 5-year period.
Not all VCTs are the same. This is why at Legal & Medical, our product committee regularly reviews VCT offers and applies strict filtering criteria, enabling us to make informed, appropriate recommendations for clients. The filtering criteria is reviewed regularly, and advisers are updated routinely.
VCTs are not available for investment all year round as they have a structured investment cycle of Fund Raise, Reporting (accounts prepared) and Dividend Payment issued. There are periods during the year when funds cannot be released or accessed.
Who are the typical investors?
Sorry, that was a trick question! There is no such thing as a typical investor.
Perhaps you are the beneficiary of an inheritance or recently sold a buy-to-let property. You have maximised your ISA investment and are seeking additional options. You may even be considering investment options for tax-free cash released from your pension.
A Venture Capital Trust may be right for you if you have an investment horizon of over 5 years, and you are looking to diversify your investment portfolio.
In summary – VCTs could be appropriate if you are:-
- Looking to reduce your income tax liability from earnings, rental or other income.
- Seeking tax-free income to supplement pension or earnings.
Please note, as previously mentioned, tax reliefs depend on your own personal circumstances.
This brief overview of VCTs serves as an initial guide, but it’s essential to consider various individual factors and plan details for a comprehensive understanding. VCT investments may not be suitable for everyone, as factors such as your risk tolerance, overall financial situation, and the nature of any incurred losses could impact your standard of living. Additionally, your unique circumstances should always be taken into account.
Our team of experienced advisers are on hand to provide in-depth information on the currently approved VCT propositions and evaluate their appropriateness for your specific situation. Feel free to reach out if you are interested in exploring how VCTs could potentially benefit you, or if you have any additional questions.
Collectively, who knows, we might help create another Unicorn!
Please remember your tax burden will be dependent on your personal circumstances and situation, and is subject to changes based on UK legislation and taxation regime. This article is based on our understanding of current legislation at the time of writing. You should not invest or deal in any financial products unless you understand their nature and the extent of your exposure to risk.
You should also be satisfied that it is suitable for you in light of your circumstances and financial position. Please speak to an adviser for guidance.