What is a VCT?
A Venture Capital Trust (VCT) is a fully listed, tax advantaged, investment company providing equity and loan finance to unquoted companies, typically small to medium sized private companies in the UK, including those listed on the Alternative Investment Market and PLUS market.
In establishing VCTs and detailed VCT regulations, the government aimed to promote enterprise, growth and job creation in smaller companies by incentivising private individuals to invest in such small and relatively high risk companies through targetted tax reliefs. Shares in VCTs may be traded on the Stock Exchange while dividends generated from income and capital gains realised from investments are paid free of any tax liability.
The investment criteria of a VCT vary depending on the investment objectives of the particular VCT. Many VCTs are generalist investors, while others specialise in particular areas such as AIM listed companies, early stage technologies, media and solar power generation.
Under VCT regulations, VCTs cannot invest in certain specified business activities such as property, farming, leasing and financial services.
What are the main types of VCT?
There are three main types of VCT:
- AIM - investments are made in companies which are either already listed on the Alternative Investment Market or about to become so listed. As these investments are in public companies, information is readily available and valuing the investment portfolio can be done quickly using the latest daily share price for each company
- Generalist - investments are usually made in unquoted companies across a wide range of industry sectors, investment stages (e.g. early stage/seed capital or development capital) and structures (e.g. management buy-outs, management buy-ins and equity release)
- Specialist - Investments are made by a VCT fund manager specialising in a defined investment sector (e.g. healthcare, solar, environmental and media)
What are the rules associated with a VCT?
- Managers will be required to invest at least 30% of funds raised in qualifying holdings within 12 months after the end of the accounting period
- Investment by a VCT in any one company may be up to £5 million, but this investment cannot make up more than 15% of the VCT’s total assets
- A minimum of 80% of the VCT’s assets must be “qualifying” holdings – unquoted companies, or those whose shares are traded on the Alternative Investment Market (AIM) and that are permanent establishments in the UK. The balance can be invested into areas such as government securities, gilts and blue-chip shares*
- The VCT company in which an investor places their money must be listed on the London Stock Exchange (“LSE”)
- A qualifying VCT company must remain within those qualification boundaries for the duration of the investment. A loss of qualifying status by the VCT would result in investors having to repay tax reliefs obtained
- The gross assets of investee companies must not exceed £15 million at the time of investment
- For any new investments there is an investment cap of £12 million (£20 million for ‘knowledge intensive’ businesses who may also have up to 499 employees)
- For any new investment managers are no longer able to finance Management Buy-Outs or Acquisitions
- For all new investment a qualifying company must be no more than 12 years old, unless the fundraise will fundamentally change the business activity and must have made their first commercial sale within the last seven years
- For all new investments (as of April 2018) knowledge intensive companies must have made the first commercial sale or reached turnover of £200,000 in the last 10 years
*As of April 2019
What are the tax benefits of a VCT?
- 30% income tax relief applies for investors subscribing up to a maximum of £200,000 in any tax year (subject to holding the investment for a minimum of 5 years)
- Dividend income paid by the Company is not liable to income tax
- Any capital growth on disposal of shares is free of Capital Gains Tax
What are the risks associated with a VCT?
- The value of shares in a VCT and dividends paid thereon can fluctuate, so investors may realise less than the amount originally subscribed. In addition, there is no certainty that the market price of VCT shares will fully reflect the underlying net asset value or that VCT shares can be sold at that price. Share buy-back schemes are offered by some VCTs, enabling you to sell your shares back to the fund, usually at a 10%/15% discount to the Net Asset Value
- VCT funds will be used to finance small and medium sized businesses with a relatively high risk profile. Such risks are mitigated by creating a portfolio of such investments. Some of the underlying investments will inevitably fail, some will perform adequately but the principal objective of a VCT fund manager is to make a number of investments which will produce excellent returns for shareholders, more than compensating for losses
- Investors should regard an investment into VCTs as a long-term investment, particularly as VCT shares need to be held for a minimum period of five years to retain the initial income tax relief
- The levels and basis of VCT tax reliefs available to investors may change or be withdrawn at a future date
- VCT status is only maintained if a VCT satisfies a number of continuing tests and there can be no guarantee that this can be achieved at all times. In particular, a VCT must satisfy a requirement that, by the end of a period of three years from raising capital, its investments in qualifying companies represent at least 70 per cent of its total investments. A loss of VCT qualifying status within five years would result in investors having to repay tax reliefs obtained
- Realisation of unquoted company investments may be difficult and take considerable time. Constraints may be imposed on the realisation of investments in order to maintain the qualifying status of a VCT which may restrict its ability to obtain maximum value from its investments. Failures within the portfolio tend to occur early in the life of a VCT and will adversly impact the Net Asset Value. As the portfolio matures and the successful investments increase in value, the Net Asset Value should increase enabling dividends to be paid to shareholders
Private investors should always seek advice from an independent financial adviser ('IFA') when considering investing in a VCT. The FCA expects IFAs to provide their clients with sufficient information to explain the particular risks of VCTs and ensure a balanced view of investing in such funds.
Click here to find out further information regarding VCTs from HMRC.
Tax treatment will be specific to the individuals circumstances.
Who should consider investing?
VCTs are particularly suitable for:
- Higher rate taxpayers prepared to allocate a proportion of their investment portfolios to higher risk investments
- Investors prepared to accept a higher than average risk than other collective investments, for potentially higher post tax returns
- Individuals who have used up their annual ISA allowances or are investing the maximum allowed in their pension plans
Investors should only invest in a VCT if they understand the nature and risks inherent in such an investment and, if appropriate, have sought professional advice.
How should I select the most suitable VCT?
Depending on your personal attitude and approach to risk and reward, you may decide to subscribe to one or more VCT in any one tax year.
Generalist VCTs may offer more regular returns through dividends at lower risk whereas Specialist VCTs may offer potentially higher returns but at higher risk. The performance of AIM VCTs will generally track that of the AIM market and benefit from higher levels of public disclosure of the underlying investments.
Several independent websites list existing VCTs and their performance:
What happens once I invest?
- The VCT fund manager has three years in which to invest more than 70% of the funds raised in qualifying investee companies and maintain that level of investment thereafter to retain the VCT's tax status and the tax benefits for investors
- A VCT can invest up to £1 million in any one company in any one tax year
- During this three year period, the uninvested cash is normally held on deposit or in money market funds
- Between 10% and 20% of the funds raised will usually be retained by the VCT fund manager in order to make follow-on investments as appropriate. A VCT may also utilise this cash reserve to offer to buy back shares in the market
Investors should consider VCTs as a long term, tax free dividend yielding investment. Foresight believes that a minimum holding period of five to seven years should be considered when investing in a VCT. Dividends can arise from either net income generated from the portfolio (e.g. interest earned on loans) or from net capital profits arising on a trade sale or listing of an underlying investment.
What happens if I want to sell my VCT shares?
- VCT shares are listed on The Stock Exchange and can be traded on that market
- If shares are bought on the market, no initial income tax relief is obtainable unlike with subscriptions for new shares. In order to retain initial income tax relief, shares must be held for a minimum of five years. Because of these two factors, the markets in VCT shares can be relatively illiquid. To address this, most VCT fund managers operate a buyback policy to enable shareholders to sell their shares back to the VCT, typically at a 10%/15% discount to Net Asset Value
- If an investor sells shares within less than five years of the date of subscription, the initial income relief obtained will have to be repaid
- No capital gains tax is payable on a profit realised from a sale of VCT shares
What happens to my VCT shares if I die?
- Your VCT shares can be passed on to your heirs but like other shares will be included in your estate for inheritance tax purposes
- If you die within five years of subscribing for VCT shares, the initial tax relief obtained will not be withdrawn
- Once the shares are transferred to your heirs, they will continue to receive dividends free of tax
What should I do if I lose my share certificate?
Click here to complete a lost share certificate form.
Glossary of terms
Net Asset Value (NAV)
The value of the fund's assets minus its liabilities, often expressed as Net Asset Value per share.
Dividends are paid by the VCT to shareholders as a result of either (i) the sale of all or part of an investment in a portfolio company (Capital Dividend) or (ii) income generated (such as interest and dividends) from the underlying portfolio companies (Income Dividend), less the VCT's operating costs in both cases.
Management Buyout (MBO)
A transaction whereby a company's management team acquires the business from the existing shareholders, typically funded by an external equity provider, such as a VCT, and bank facilities alongside a significant financial contribution from the management team. The Foresight VCTs actively support such MBOs.
Investment capital required by established companies to finance their growth. The Foresight VCTs actively provide development capital.
Alternative Investment Market (AIM)
The second tier or junior market established by The London Stock Exchange in 1995 to provide trading facilities in the shares of smaller companies.
Important Information: Foresight Group LLP is authorised and regulated by the Financial Conduct Authority (FRN: 198020). As with all investing, capital is at risk.