Avoid first time EIS pitfalls

EIS is a valuable venture tax relief available to angel investors (with slightly different rules available to early stage companies (SEIS) and also to VCTs). Due to its attractiveness to investors, many investors will seek Advance Approval from HMRC that the relief will be available (although advance assurance is not a qualifying criteria and it can be advantageous to seek approval at a later stage of the fundraise). As tax advisors to high growth companies, we support many businesses obtain HMRC approval to apply EIS relief for their investors and some of the common pitfalls for first time applicants include not presenting evidence to support the following:

1. The so-called gateway Test: Risk to Capital Condition, where the company must demonstrate that the company has a long-term objective to grow and develop and there must be a significant risk that the investor will lose more capital than they gain as a net return (including tax relief). You may be at risk if you have a pre-sale agreement, or a property-backed SPV, it will fail this test.
2. The independence test, where an issuing company must be controlled by another company (which can rule our joint ventures) and cannot be a 51% subsidiary of another company at any time during “Period A” (usually from share issue to 3 years later). 
3. Watch out for excluded activities for trades in land, financial activities, legal/accounting/consulting services, farming, certain types of royalty, hotels/nursing homes, and energy generation. This includes borderline cases where the excluded activity is a ‘substantial’ part of the business.
4. The employment test means that investors will be ineligible if they are an employee of the group (or becomes an employee within three years of the investment).
5. To obtain Advance Assurance you must have at least one potential investor and provide a credible business plan. HMRC will reject blanket applications.
6. There are restrictions on the type of shares and the rights and obligations (including timing) associated with the shares being issued.
7. There are restrictions on how the funds can be used. 

While some of these considerations can be anticipated in an application for advance assurance, more practical measures relating to financial practices can help companies navigate the potential pitfalls to appropriately evidence compliance as well as manage other risks for subsequent raises (see more information here) and ongoing requirements (see more here).
Our work is delivered by combining professional standards of the Institute of Chartered Accountants of England and Wales with lived experience. If you want to expect more from your advisors, contact us.