Tax favoured investments: Your options explained

There are numerous ways to invest money tax efficiently. In this article we review some of the main options available including ISAs, Enterprise Investment Schemes, Venture Capital Trusts and Family Investment Companies.

Utilise Individual Savings Accounts (ISAs)

ISAs are wrappers within which a wide range of savings and investment products can be held, free of UK income and capital gains tax by anyone aged 18 or over (16 or over for cash ISAs).

ISAs serve as a ‘wrapper’ to fully protect savings from tax, allowing individuals to invest monies up to maximum limits each tax year in a range of savings and investments and pay no personal tax on the income and/or profits received.

We set out below different ISAs for consideration.

Stocks and Shares ISA

These are in the form of either individual shares or bonds, or pooled investments such as open-ended investment funds, investment trusts or life assurance investments.

Cash ISA

These are usually contained in a bank or building society savings account.

Innovative finance ISA

These are in the form of loans made through peer-to-peer platforms or companies via crowdfunding websites.

Lifetime ISA (LISA)

UK residents aged between 18-39 can contribute to a LISA to save towards their first home or retirement. 

The Government will add a 25% bonus at the end of each tax year in respect of the contributions paid.

Help to buy ISA

First-time buyers get a 25% cash bonus from the Government on savings made into a help to buy ISA. The help to buy ISA closed to new accounts on 30 November 2019. 

For individuals with an existing help to buy ISA, you will be able to continue saving into your account until November 2029.

Junior ISA (JISA)

The JISA became available from 1 November 2011 and is available to all UK resident children under the age of 18 who do not already have a Child Trust Fund (CTF). 

Anyone with parental responsibility for an eligible child can open a JISA for that child. 

Eligible children can open JISAs for themselves from age 16 (or a person with parental responsibility can still open the account(s) for them). The maximum annual allowance is £9,000 per tax year and this can be split between cash and stocks and shares in any proportion.

ISA Allowances

All your annual allowance can be invested in either stocks & shares, cash (including Help to Buy if applicable), innovative finance ISAs or lifetime ISAs, or you can split it between more than one type, up to the overall annual limit of £20,000 with either the same or a different provider. However, the maximum annual amount you can save in a lifetime ISA is £4,000 (and up to £200 per calendar month for the Help to Buy for those who hold one).

You must save or invest by 5 April for it to count for that year and if you don’t use the allowance, it is lost.

You will also be able to transfer money saved in previous years' cash ISA holdings to stocks & shares ISAs and vice versa without affecting your current year's annual allowance.

Consider investing in Enterprise Investment Scheme and Seed EIS Shares

Tax relief is available where you subscribe for shares qualifying for relief under the Enterprise Investment Scheme (EIS) or Seed EIS (SEIS).

Under the EIS, your Income Tax liability for the tax year in which you make your investment, or the previous tax year, may be reduced by up to 30% of the sum invested. You can invest up to £1m under the EIS in a tax year or up to £2m if you invest in knowledge-intensive companies (broadly these are early-stage businesses engaged in scientific or technological innovation).

If you sell your EIS shares at a profit after three years and the Income Tax relief claimed when they were acquired is not withdrawn, there is a Capital Gains Tax (CGT) exemption on the disposal of the EIS shares.

Losses on EIS shares (restricted by Income Tax relief given and not withdrawn) can be offset against gains or, alternatively, against general income in the tax year of disposal or the preceding year.

Inheritance Tax relief (via Business Property Relief) should be available for EIS shares provided they are held for two years.

In addition, capital gains arising on disposals of other assets may be deferred by reinvesting those gains in a subscription for qualifying EIS shares. The investment in EIS shares must be made in the period beginning one year before and ending three years after the disposal.

The government announced at the 2023 Autumn Statement its continuing commitment to the EIS and that it will legislate to extend the sunset date for EIS income tax relief for shares issued before 6 April 2035.

The Seed EIS offers relief for investors who subscribe for shares in small start-up companies. Currently, the maximum qualifying investment is £200,000 per tax year (£100,000 prior to 6 April 2023). Income tax relief is given at the rate of 50% of the sum invested, and relief may be given against tax in the tax year the investment is made or the prior tax year.

SEIS shares are exempt from CGT if they are held for three years and the Income Tax relief claimed when they were acquired is not withdrawn. A loss on disposal of SEIS shares can be set against other gains and eligible for income tax share loss relief.

They can also benefit from Inheritance Tax relief if held for two years.

If you dispose of another asset at a gain and re-invest all or part of that gain in shares which qualify for SEIS relief, half of the gain re-invested may be exempted from CGT.

A number of professionally managed EIS and SEIS investment funds exist, which invest in a broad range of EIS and SEIS companies on behalf of investors. Whilst such funds should allow for risk management through the spreading of your investment between different companies, it must be remembered that EIS and SEIS investments will, more likely than not, be viewed as carrying with them a high degree of risk.

Prudent utilisation of the reliefs associated with tax-favoured investments as part of a balanced portfolio can make a big difference to future investment returns, but it is important to consider the risks associated with them and it is essential that professional advice is sought.

Family investment companies (FICs)

FICs can be a useful way to protect family wealth across generations, but the most appropriate structure will depend on the family’s circumstances and objectives.

An FIC enables parents and grandparents to retain control over assets whilst also protecting and enhancing wealth in a tax-efficient manner.  Care should be taken with the structuring and funding of an FIC to ensure that the directors can invest tax efficiently and ensure future growth is protected.  

Profits and gains made by an FIC will be subject to corporation tax at 25%, where these exceed £250,000.  A lower rate of 19% will apply where profits are not more than £50,000.  Therefore, in many cases, this will still be lower than if the investments had been held directly or via trust, and suffered income tax at 40%/45%, and capital gains tax at a maximum of 28%.

If the company receives UK dividend income from investments in shares, this will be exempt from tax. However, other income, such as bank interest or rents from investment properties, will be taxable. Losses from an FIC’s rental business can be offset against other income in the company.

An FIC should be considered for long-term asset protection planning, as well in terms of the income needs of the family. Shareholders only pay tax personally when the FIC distributes income, or if it is wound up. There is merit in using an FIC to allow profits to be retained in the company until required and drawn when the individual’s personal tax rate may be lower.

Any investment gains and income could be paid into a pension plan for the benefit of the shareholders; therefore, it is recommended that parties to an FIC receive independent financial advice.

If you are seeking to preserve family wealth within a controlled family environment and/or wish to consider introducing the next generation into the decision-making about investments, please speak to a member of the MHA tax team about how an FIC could benefit you.

Risk Warnings

MHA Caves Wealth is authorised and regulated by the Financial Conduct Authority (FCA), Financial Services Register number 143715.

This communication is for general information only, is a marketing communication, and is not intended to be individual investment advice, a recommendation, tax, or legal advice. The views expressed in this article are those of MHA Caves Wealth or its staff and should not be considered as advice or a recommendation to buy, sell or hold a particular investment or product. In particular, the information provided will not address your personal circumstances, objectives, and attitude towards risk.

This information represents our understanding of current law and HM Revenue & Customs practice as at November 2023. Tax assumptions and reliefs depend upon an investor’s particular circumstances and may change if those circumstances or the law change.

You are therefore recommended to seek professional regulated advice before taking any action.

Key Risks: Capital at risk. Past performance is not a guide to future performance. The value of an investment and the income generated from it can go down as well as up, and is not guaranteed, therefore you may not get back the amount originally invested.

Investment markets and conditions can change rapidly. Investments should always be considered long term.