DIRECTORS’ TAX - 31.03.2011

Can directors claim EIS?

Company funding

Investing in a new company, even if it’s with a colleague you know and trust, can be a risky business. So any help to protect at least some of your money would be welcome, even where it comes from the Taxman.

Investment options

There are several different forms an investment into your friend’s company might take, but these essentially fall into two main categories for tax purposes: loans or share purchases. A loan has some advantages over shares; you can charge interest on it as soon as you lend it, and while you’ll have to pay tax on this, there’s no NI. Plus, the company will get a tax deduction for the interest it pays you. With shares, the company has to be making a profit before it can pay you dividends. The company doesn’t get a tax deduction for paying dividends and it’s more difficult to take your money out. But shares do offer one big advantage over loans.

Shares - up-front tax refund

Where you buy “ordinary shares”, i.e. those which have voting rights in the company, you can claim tax relief under the Enterprise Investment Scheme (EIS). You’ll get a tax credit equal to 30% of the amount you invest. To qualify there are two main conditions: it must be a trading company and you mustn’t be connected to it (see The next step). There’s a common misunderstanding that this last condition means that because a director is obviously connected with their company they can’t qualify for EIS relief. This is wrong; you can qualify, but you need to be careful over the timing of your share purchase.

Tip 1. Whereyousubscribefor shares, i.e. buy them direct from the company, before you’re appointed director you can claim EIS relief. But there are conditions; you must not own more than 30% of the company’s ordinary shares, or be paid a salary which is unreasonable for the amount of work you do for the business (see The next step).

Tip 2. You can also claim EIS relief on share purchases where you have been appointed director but haven’t been paid or have a right to be paid. Once the shares have been issued and subject to the conditions in Tip 1, you can be paid a salary without losing the EIS relief.

Tip 3. To keep your ordinary shareholding below the 30% mark, the company could issue you with a different class of shares instead, e.g. non-voting preference shares.

Income tax loss incentive

There’s a second tax advantage to buying shares over making a loan to a company. Where you lose some or all of your money because the business goes bust, or you have to sell your shares at a loss, you can claim a deduction for this from your tax bill on your other income or capital gains. In the case of a loan you can only claim the loss of your money against your capital gains and, let’s face it, these days not everyone is lucky enough to make capital gains.

For a definition of trading (CD 12.13.04A) and for what counts as unreasonable remuneration (CD 12.13.04B), visithttp://companydirector.indicator.co.uk.