Deep dive into the world of venture capital trusts
Hopefully this article will help clarify all this for you.
A Venture Capital Trust (VCT) is a type of publicly listed closed-end fund found in the UK. It's designed as a way for individual investors to gain access to venture capital investments via the capital markets.
VCTs are companies listed on the London Stock Exchange, which are set up to invest in other companies that are not themselves listed. These smaller companies are often early-stage, higher-risk companies, typically in the technology sector.
VCTs are designed to encourage individuals to invest indirectly in a range of small higher-risk companies whose shares and securities are not listed on a recognized stock exchange. They do this by affording investors who subscribe for new shares in VCTs with certain tax reliefs.
The tax reliefs available to VCT investors in the UK, as of the last update in 2021, include:
Investors can get income tax relief on up to £200,000 invested in new VCT shares. The relief is at a rate of 30% of the amount invested.
Any gain on disposal of the VCT shares is exempt from capital gains tax.
Dividends on VCT shares are exempt from income tax.
It's important to note that VCTs are considered high-risk investments. The tax advantages are there to incentivize investors to take on the high level of risk associated with investing in smaller, unlisted businesses.
Also, it's worth mentioning that these tax reliefs are subject to change, and the most up-to-date information should be obtained from a tax advisor or the HM Revenue & Customs (HMRC) in the UK.
Lastly, it's crucial to understand that while VCTs offer the potential for high returns and tax advantages, the investments they make are in small, high-risk companies, and it's possible for investors to lose a significant portion or even all of the money they invest in a VCT.
A Venture Capital Trust (VCT) operates by raising funds from individual investors who buy shares in the VCT. These funds are then used by the VCT to invest in a portfolio of small, unquoted, high-risk companies. The aim is for the VCT to generate returns from these investments, either through dividends paid by the companies or by selling the companies for a profit.
To illustrate this with numbers, let's say you invest £10,000 in a new share issue of a VCT.
Firstly, you can claim Income Tax relief of 30% on this investment. This means you can reduce your Income Tax liability by £3,000 in the year you made the investment (£10,000 * 30%). This is a form of immediate return on your investment, but it's important to note that to retain this tax relief, the VCT shares must be held for a minimum of five years.
Now, let's say the VCT successfully invests in a range of small companies and, after a few years, some of these companies start to do well and pay dividends. The dividends you receive on your VCT shares are exempt from Income Tax.
So, for instance, if you receive dividends of £500 in a year, you would not pay any tax on this income. This contrasts with dividends received on shares of most other companies, which would be subject to dividend tax if they exceed the dividend allowance.
Additionally, if you decide to sell your VCT shares and you make a profit, this profit is not subject to Capital Gains Tax.
So, for example, if after several years the value of your VCT shares has risen from £10,000 to £15,000 and you decide to sell them, you would not have to pay any Capital Gains Tax on the £5,000 gain.
Inheritance tax (IHT) in the UK applies to the estate (property, money, and possessions) of someone who has died. Inheritance Tax is usually not paid if the value of your estate is below the £325,000 threshold, or everything above the £325,000 threshold is left to your spouse, civil partner, a charity, or a community amateur sports club.
Venture Capital Trusts (VCTs) themselves are not liable to Inheritance Tax. However, shares held in a VCT by an individual are considered part of that person's estate and could be subject to Inheritance Tax upon their death.
VCTs do not qualify for Business Relief (previously called Business Property Relief), a relief from Inheritance Tax that applies to some business assets, including shares held in certain types of businesses. Business Relief can allow shares held in qualifying businesses to be passed on free from Inheritance Tax upon the owner's death. But, as of my last update in September 2021, shares in a VCT do not qualify for this relief because VCTs are not themselves trades but are investment vehicles.
As always, tax law can be complex and changes over time, so it's important to consult with a tax adviser or financial planner for advice tailored to your specific circumstances.
Choosing a Venture Capital Trust (VCT) requires careful consideration of several factors. Here are some things to think about:
Look at the performance history of the VCT and the management team. How have their previous investments performed? A strong track record can be an indication of a skilled and experienced management team.
The expertise, experience, and track record of the management team is one of the most important factors to consider. They are the ones who will be making investment decisions and providing guidance to portfolio companies. You want a team with a deep understanding of the industries they invest in and a proven ability to help companies grow.
Some VCTs specialise in certain sectors (like technology, healthcare, or green energy). Consider whether their areas of focus align with sectors you believe have strong growth potential.
All VCTs are high-risk investments, but some may be more risky than others depending on their investment strategy. Some may invest in very early-stage companies, while others focus on later-stage, more established businesses.
Larger VCTs can have certain advantages, such as the ability to support their portfolio companies with follow-on investments. They may also have more resources for performing due diligence and supporting their portfolio companies.
Look at the fee structure of the VCT. There may be upfront charges, annual management fees, performance fees, and other charges. Be sure you understand all the costs involved.
Some VCTs aim to provide regular dividend payments to their investors, while others focus on achieving capital growth. Look at the VCT's dividend history and policy to understand what you might expect in terms of income.
Consider the VCT's strategy for exiting its investments. This could include selling companies to other businesses, listing them on a stock exchange, or other methods. The exit strategy can affect when and how returns are generated.
Before investing in a VCT, consider getting advice from a financial adviser. They can help you understand the risks involved and whether investing in a VCT is right for you given your financial goals, risk tolerance, and investment timeframe.