Tax zone

Any Answers answered: Can an IFA company carry out a qualifying trade for EIS relief? By Nichola Ross Martin

The Enterprise Investment Scheme (EIS) was introduced in 1994 to replace the former Business Expansion Scheme and continues to provide an incentive for individuals to invest in new equity in unquoted trading companies. For 2006/07 up to £400,000 may be invested to obtain income tax relief at 20%, or a deferral of capital gains. Gains on the investment are tax-free providing that the shares are held for three years and there is also inheritance tax exemption for such share holdings.

EIS companies have to carry on what is termed a “qualifying trade”, and must be unquoted when the shares are issued to investors. No investor may hold more than 30% of the company's share capital, and, for a period of at least three years, the company must carry on its qualifying trade, and must not be under the control of any other company.
The money raised under the terms of the EIS on the issue of shares must mainly be employed in the qualifying business activity within certain time limits too. The detailed EIS rules are fairly complicated and care needs to be taken to ensure that all the qualifying conditions are met. Not withstanding these, often the main deterrent against setting up EIS companies is that there are restrictions on the type of trade that can be undertaken.

Qualifying business activities for the purposes of EIS extend to research and development which is intended to lead in to a qualifying trade. This also includes the creation of own intangible assets such as "know how". It is significant that the scheme is designed to encourage investment into areas that may normally be perceived as slightly risky and to this end, any business activity that mainly involves assets such as property does not qualify, as well as a range of other financial and professional services.

It would be impractical for anyone to attempt to create a list of qualifying trades, and so we have a list of excluded activities instead. These are found in s.297 ICTA 1988 and are summarised as follows:

• dealing in land, in commodities or futures in shares, securities or other financial instruments
  
• dealing in goods otherwise than in the course of an ordinary trade of wholesale or retail distribution
  
• banking, insurance, money-lending, debt-factoring, hire-purchase financing or other financial activities;
  
• leasing (including letting ships on charter or other assets on hire)
  
• receiving royalties or licence fees, except in the case of the exploitation of an intangible asset created by the company or its group
  
• providing legal or accountancy services
  
• property development
  
• farming or market gardening
  
• holding, managing or occupying woodlands, any other forestry activities or timber production
  
• operating or managing hotels or comparable establishments or managing property used as an hotel or comparable establishment
  
• operating or managing nursing homes or residential care homes, or managing property used as a nursing home or residential care home
  
• providing services to another company in certain circumstances where the other company's trade consists, to a substantial extent, of excluded activities.
  

Excluded activities carried on a small scale are generally acceptable and here HMRC count less than 20% of trade as insubstantial and acceptable. It is also worth noting that the excluded activities for EIS are also excluded for the Enterprise Management Initiative (EMI). Unlike the EMI, the EIS is covered in HMRC’s manuals (EMI is part of the incomplete employment-related securities manual).

Not all “adventures" in the nature of a trade, are necessarily trades though, and it is advisable to read through HMRC’s Venture Capital Manual from paragraph 17000 to 17320 to get a feel of what’s what. There are not too many reported tax cases on EIS and qualifying trades and this is mainly because HMRC operate an advance clearance procedure for companies to confirm that they qualify. One of the best know tax cases is Castleton Management Services Ltd v Kirkwood (Inspector of Taxes) [2001] STC (SCD) 95 in which a company supplying management services to an accountancy practice was found to be not carrying on a qualifying trade.

The query to which the title of this article refers may be answered at least in part by paragraph VCM17100 of HMRC’s Venture Capital Manual “Qualifying trades: financial activities”. It says:

The ’other' financial activities that are excluded are activities comparable with those listed - in particular, ones involving the lending of money or the bearing of the customer's financial risk. The provision of services, such as advice on financial matters, is not covered by the exclusion.

So the answer to the query will depend upon the IFA company and the extent of its relevant activities; this is one of those cases where the answer may well be "yes", but check up on the details of all the proposed activities first.

This item has been given an average rating of by 1 user(s)

Print Friendly Mail to Friend Post Comment