Are your clients making the most of VCTs?
15 September 2020
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If your firm has clients who are high earners, it makes sense to consider venture capital trusts. VCTs are a powerful planning tool for clients in a variety of different scenarios, and can be a good way to add value to the client relationship.
In a moment, we’ll look at some client scenarios in which a VCT investment could form part of the planning. Before that, let’s take a few moments to remind ourselves what VCTs are and how they work.
A quick refresher on VCTs
VCTs have been around since 1995. They enable investors to claim certain tax reliefs, which act as an incentive to invest in high-risk, high growth potential early-stage businesses. Under the current rules, a VCT investor can claim upfront income tax relief equivalent to 30% of their VCT investment on investments up to £200,000 per tax year. Capital gains and dividends are also tax free.
As you’ll see in a moment, the fact that investors can claim upfront income tax relief makes VCTs a useful planning tool in a variety of scenarios. However, it’s important to be fully aware of the risks, as this type of investment won’t be suitable for everyone.
VCTs invest in smaller, less established companies, and this type investing is high risk. The value of a VCT investment, and any income from it, can fall as well as rise. Investors may not get back the full amount they invest.
As well as the risk of capital loss, clients should be aware that tax treatment depends on individual circumstances, and tax rules could change in the future. Tax reliefs also depend on the VCT maintaining its VCT-qualifying status. Clients will also need to hold a VCT investment for five years, or otherwise pay back any upfront income tax relief claimed.
The share prices of VCTs can go up and down more sharply than those of companies listed on the London Stock Exchange’s main market. They can also be harder to sell.
Client situations in which a VCT may help
Restrictions on pension contributions have left many clients looking for additional tax-efficient ways to invest towards their retirement. While it’s true that fewer clients will be affected by the annual allowance after the threshold and adjusted income limits were raised this year, those that are face a lower tapered annual allowance.
Of relevance to more clients is the lifetime allowance, which has been a motivation behind a lot of VCT cases in recent years. This rose to £1,073,100 this year, the lowest level to which the government could have increased it under current rules. The lifetime allowance remains a material constraint on tax-efficient pension saving for a lot of people. And of course, high earners who take advantage of any increase in their annual allowance can expect to find themselves butting up against the lifetime allowance sooner than they otherwise would have.
Clients will typically be in their accumulation phase for twenty to thirty years. High-earning clients could spend around half of this period making enough in income to use up their pension and ISA allowances, or worried about exceeding the lifetime allowance.
That’s ten to fifteen years during which such clients could benefit from making regular VCT investments, which represent another tax-efficient way to invest for retirement. Multiply that by the growing number of clients affected by the lifetime allowance, and you can see why it’s worth the time researching VCTs so that your firm is in a position to recommend them to clients who could benefit.
VCTs can also be a useful planning tool for clients who own a business. The rules on dividend taxation mean entrepreneurs who pay themselves through dividends could face higher tax bills if they want to increase the amount they take out of the business. Investing in a VCT could be a way to offset these higher tax bills, and therefore help clients extract money from a business tax efficiently.
Clients who are landlords may also benefit from investing in a VCT. Recent rule changes, such as the removal of mortgage interest tax relief, have made it more important for landlords to consider the tax implications of investment properties. For some landlords, a VCT investment may be a good way to offset some of the tax they pay on their rental income.
Octopus, the UK’s largest provider of VCTs*, has some handy resources you should check out if you think your firm has clients who could benefit from making a VCT investment.
Our online ‘Guide to venture capital trusts’ provides a solid grounding in VCTs, and you can get 45 minutes’ CPD by reading it and completing the assessment.
If you want to explore potential VCT planning scenarios in more detail, then you should watch the VCTs and client planning scenarios’, which is also a structured CPD activity.
Finally, if your firm has clients who are business owners, you should definitely tune in to the next episode of the Octopus Online Show. This will look at VCTs and other investments that could be used as part of your planning for your business-owning clients.
* Tax Efficient Review, April 2020. VCTs are not suitable for everyone. Any recommendation should be based on a holistic review of your client’s financial situation, objectives and needs. We do not offer investment or tax advice. Issued by Octopus Investments Limited, which is authorised and regulated by the Financial Conduct Authority. Registered office: 33 Holborn, London, EC1N 2HT. Registered in England and Wales No. 03942880. Issued: September 2020. CAM010121.
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