Tax Relief & Incentives for Start-ups London Tech Week 17 June 2015
Tax Relief & Incentives for Start-ups London Tech Week 17 June 2015 2 www.laytons.com
Introduction The UK offers a highly favourable environment for businesses and those who invest in them. In addition to the growing diversity of sources of finance, such as crowdfunding and peer-to-peer lending, there are schemes and tax incentives devised to help companies of all sizes secure funding and support growth. We summarise below how these tax schemes and incentives can be utilised to support different stages of businesses. The information set out in this section is accurate as at 17 June 2015. 3 www.laytons.com
1. Early Stage Start-ups If you are an early stage start-up, you can benefit from Seed Enterprise Investment Scheme (SEIS) or Enterprise Investment Scheme (EIS) to secure investment. In addition, certain companies with substantial Research and Development (R&D) activities can claim enhanced corporation tax relief on R&D expenditure and reduce the company s tax bill. 1.1 Seed Enterprise Investment Scheme/Enterprise Investment Scheme Provided certain requirements relating to the investors, the issuing company and the issued shares are met, the schemes offer generous tax benefits such as: EIS Relief SEIS Relief Income tax Income tax relief at 30% of the amount invested, up to an annual limit of 1 million. So it gives a maximum tax reduction in any year of 300,000 (providing you have sufficient income tax liability to cover it) Income tax relief at 50% of the amount invested, up to an annual limit of 100,000 Capital gains tax (CGT) relief CGT on any capital gain realised on a disposal of shares that qualified for EIS relief and were held for three years CGT exemption on any capital gain realised on a disposal of shares that qualified for EIS relief and were held for three years CGT deferral/ re-investment relief A deferral relief allowing the investors to defer capital gains realised on disposal of assets to the extent that gains are reinvested in qualifying EIS shares during the period from 1 year before and 3 years after the gain arose CGT exemption for 50% of any gains realised on the disposal of assets where the gain is re-invested in qualifying SEIS shares for income tax relief (up to a maximum exemption of 50,000) 4 www.laytons.com
In addition: Capital losses on EIS shares may be offset against taxable income and EIS investments should qualify for inheritance tax business property relief after two years ownership. The main conditions to qualify for EIS/SEIS relief are set out below: EIS Relief SEIS Relief Income tax Unquoted independent trading company Gross assets less than 15m immediately before, 16m immediately after the issue of shares Fewer than 250 full time employees Cannot raise more than 5m in total over 12 months under the EIS/VCT scheme Unquoted independent trading company Trade must be less than 2 years Gross assets of no more than 200,000 Fewer than 25 full time employees The total amount of all SEIS investment received in the 3 years before must not exceed 150,000 Capital gains tax (CGT) relief Must be paid in full, in cash, when they are issued Must be full-risk ordinary shares (not redeemable or carry preferential rights) Shares must form part of the company s ordinary share capital Must be subscribed for wholly in cash CGT deferral/ re-investment relief Must hold the shares for at least 3 years Individual s stake in the company should not be more than 30% No employee (can be director) Must hold the shares for at least 3 years Individual s stake in the company should not be more than 30% No employee (can be director) Additional SEIS conditions: The company must not have received EIS or venture capital trust investment on or before the issue date The individual must not be an employee (but not directors) of the company or any qualifying subsidiary of that company at any time from the issue date to the third anniversary of issue date 5 www.laytons.com
Tech or digital start-ups are likely to fall within the qualifying criteria thereby allowing investors to reclaim tax relief subject to certain limits. 1.2 Research & Development Relief & Credit Some start-ups with substantial R&D activities may further benefit from an enhanced corporation tax relief in respect of qualifying R&D expenditure thereby reducing the company s tax bill or, in some circumstances, even receiving a cash refund. What R&D projects qualify? R&D relief is available if an R&D project seeks to achieve an advance in overall knowledge or capability in a field of science or technology through the resolution of scientific or technological uncertainty. Which R&D costs? A qualifying company can claim the enhanced relief on revenue expenditure (i.e. day to day running costs) incurred in the qualifying R&D activity rather than capital expenditure on assets. When to claim? You must make any claim for R&D relief in your company tax return within 2 years after the end of the relevant accounting period. Who can claim? Your company can only claim R&D relief if it is liable for corporation tax. There are 2 schemes of claiming relief, depending on the size of the company: The small or medium sized enterprise (SME) scheme The large company scheme Definition Fewer than 500 employees Either or both: Annual turnover less than 100 million or A balance sheet total not exceeding 86m A company that does not meet the definition of a SME Tax relief An enhanced deduction (230% of qualifying expenditure) in computing profits For a loss-making SME, a payable tax credit (14.5% of the surrenderable loss) in cash An enhanced deduction (130% of qualifying expenditure) Optional above the line credit at 11% of the R&D expenditure 6 www.laytons.com
This is only a preferred option if the company is unlikely to be able to use the enhanced relief as part of a loss relief claim, as the rate at which the refund is made is less than the small company rate of corporation tax. 2. Growth Stage As businesses grow, they may need to raise more funding and will want to reduce their running costs, including tax bills, as much as possible (EIS relief and R&D relief are also relevant at this stage). 2.1 Tax relief on your new equipment (Annual Investment Allowance, Capital Allowance) Capital allowance You can plan to maximise tax relief when you buy certain assets for use in your business, such as computer equipment, furniture and other gadgets, by claiming capital allowances, provided the asset in question qualifies as being plant & machinery. Meaning of plant & machinery Plant and machinery means any apparatus with an element of durability that is used for carrying on a business. Plant and machinery does not normally include assets that are part of a building or form a structure, although there are certain exceptions (such as integral features). What can you claim? There are different types of capital allowances and you should ensure that the highest possible rate of relief is claimed first to maximise the tax relief. (i) Annual Investment Allowance (AIA) AIA accelerates the tax relief and allows you to deduct the full value of the asset from your profits before tax on your first 500,000 of capital expenditure (excluding cars) each year. (ii) First year allowances After maximising the claim for the AIA, the next most favourable capital allowance to consider is 100% first-year allowances (often referred to as enhanced capital allowances ). If you incur expenditure on 7 www.laytons.com
certain green technologies, such as energy saving plant and machinery and environmentally beneficial plant, you can claim 100% first year allowances. To qualify, the assets on which the expenditure is incurred must be of a description specified by Treasury order for plant of that description, or have a certificate of energy efficiency or environmental benefit in force. (iii) Research and development allowances As mentioned above, you can claim up to 230% of the value of the revenue expenditure incurred on your R&D activities. For certain capital expenditure incurred directly by your company or on its behalf by a third party subcontractor in relation to the R&D, you can claim R&D capital allowance which is, in effect, another 100% first year allowance. (iv) Writing down allowances main pool expenditure Other plant & machinery that do not fall within AIA or any first year allowance or special rate pool are pooled together and you are entitled to deduct 18% of the value of the pool each year from your taxable profits. (v) Special rate expenditure For expenditure incurred on certain integral features of a building or structure, or on plant and machinery which can reasonably be expected to last for at least 25 years (long-life asset expenditure), you can deduct 8% each year from your taxable profits. (vi) Short life assets The effect of a short-life asset election is that if that short-life asset is sold or scrapped before the eighth anniversary of the end of the chargeable period in which it was acquired, this is regarded as the final chargeable period for capital allowances purposes. The effect of this is that the disposal proceeds are then used to calculate a balancing allowance accelerating all of the remaining tax relief (or more rarely, a balancing charge if the disposal proceeds exceed the tax written-down value at that time). How to claim? You can only benefit from the capital allowances treatment if you claim in your company tax return and include a separate capital allowances calculation. 2.2 Patent Box If your company has certain qualifying patents and intellectual property rights, you may be entitled to pay a reduced rate of corporation tax under what is called the Patent Box regime. What is the Patent Box? The Patent Box is an elective regime which allows companies to apply an effective 10% rate of corporation tax on worldwide profits attributable to qualifying patents and similar intellectual property rights. The normal corporation tax rate is currently 20%. 8 www.laytons.com
What can you claim? The Patent Box rate applies to a qualifying company s profits derived from: Selling or licensing patented rights Selling patented products (including products incorporating the patented invention or bespoke spare parts) Compensation received for infringement of the patent rights Your company may also benefit from the Patent Box if it uses a manufacturing process that is patented or provides a service using a patented tool. What are the qualifying IP rights? Qualifying IP rights are patents granted by the UK Intellectual Property Office, European Patent Office and patents issued by other specified EEA national authorities. Who can claim? You can claim the Patent Box if your company is liable to corporation tax and makes a profit from exploiting patented inventions. So it is not available to individuals or other unincorporated entities carrying on a trade. Your company must own or hold an exclusive license in respect of the patents Your company or another group company must have carried out a qualifying development for the patent by making a significant contribution to either: the creation or development of the patented invention a product incorporating the invention ( Development condition) If your company is a member of a group, it must also actively own the patented invention by taking a significant role in managing its whole portfolio of eligible patents ( Active ownership condition) How and when to claim? In order to benefit from the Patent Box regime, your company will have to make an election within 2 years after the end of the accounting period in which the relevant profits and income arose. The full benefit of the regime is being phased in from 1 April 2013 and in the current financial year (1 April 2015 to 31 March 2016) the relief can apply in respect of 80% of the profits your company earns from its patented inventions. Full relief will be available from the financial year starting 1 April 2017. 9 www.laytons.com
3. Maturity Stage 3.1 Attracting & motivating good quality people EMI & share options As your business matures, it becomes more important to attract and retain the best people. Businesses use different types of incentives to motivate the best people to join their business over a competitor. Benefits of share based incentives One way to do this is providing them with tax efficient share schemes and incentives. The benefits of offering shares and share schemes are: they provide a great opportunity for employees to share in the growth of the company; if structured properly, they can align employees interests with those of the company s shareholders and investors; their benefits come at a smaller cash cost for the company; and the schemes are tax efficient. EMI options The approved share schemes give special tax advantages and the most favourable are Enterprise Management Incentive (EMI) share options. EMI options are specifically designed to help small, higher risk companies attract and reward staff and can be on different terms for different employees (for example, very generous terms for senior management; less generous for junior staff). EMI share options are UK specific and need to be approved by HMRC prior to issuing options. Once this is done, the employee is not taxed on the notional benefit of those options and only becomes liable to capital gains tax (as opposed to income tax) if those options are sold. The maximum rate of capital gains tax is currently 28% and is subject to the 11,100 exemption threshold (as opposed to the maximum income tax rate of 45%). Cash bonus vs EMI The following calculation illustrates the potential tax advantage gained from issuing an EMI option rather than a cash bonus: 100,000 Cash bonus paid Employee: 100,000 x 45% tax = 45,000 x 2% NICs= 2,000 TOTAL 47,000 Employer: 100,000 x 13.8% NICs = 13,800 EMI option is granted: The employee is granted 10,000 share options at a fair market value of 5 per share. The employee exercises those rights 3 years later when their market value has increased to 10, and sells the shares immediately. On grant & exercise: No income tax (in general) On sale: Capital gains tax @ 10% 28% x 50,000 (subject to exemption threshold of 11,000) Overall tax rate: 60.8% vs 10% (maximum 28%) 10 www.laytons.com
Conditions In order to qualify for an EMI scheme, both company and employee must meet the relevant requirements. Companies must meet: Have gross assets of no more than 30 million Not be under the control of another company Operate in a qualifying sector (property development, financial services, farming, hotels, nursing homes, leasing, legal and accountancy services are excluded) An employee is eligible if: Limits He or she is working at least 25 hours a week or, if less, 75% of their working time He or she does not own more than 29% of the equity in the business Provided the maximum value of options does not exceed 3m in total, there is no limit on the number of employees who can be awarded share options. There is a limit of 100,000 per individual employee and the share options must be exercisable within 10 years. However, businesses should bear in mind that some employees (perhaps at a more junior level) may be more motivated by a cash bonus. Some more established start-ups set up bonus schemes alongside the option of shares, to have the best of both worlds. 11 www.laytons.com
4. Creative Industry Tax Reliefs If your company is directly involved in the production and development of certain films, high-end television programmes, animation programmes or video games, and is liable to corporation tax, it can claim creative industry tax reliefs. The creative industry tax reliefs allow qualifying companies to claim a larger deduction or in some circumstances claim a payable tax credit when calculating their taxable profits. Where your company makes a loss, you may be able to surrender the loss and convert some or all of it into a payable tax credit. 4.1 Qualifying conditions the culture test The five types of creative industry relief include film tax relief, animation tax relief (ATR), high-end television tax relief (HTR), video games tax relief (VGTR) and theatre tax relief (TTR). The different conditions and rates of relief that apply to respective relief are outside the scope of this summary. However, broadly, to qualify for the creative industry tax reliefs all films, television programmes, animations or video games must pass a culture test or qualify through an internationally agreed co-production treaty certifying that the production is a British film, British programme or British video game. In all cases, formal certification is required to qualify. Certification and qualification is administered by the British Film Institute (http://www.bfi.org.uk/film-industry). BFI will issue an interim certificate for uncompleted work or a final certificate where production has finished. 4.2 How and when to claim You can claim for relief in your company tax return once your company has received its certificate from the BFI. If you have received an interim certificate you must apply for a final certificate after the film, television programme or video game has been completed. Otherwise, you will have to repay any interim relief already paid. Certificates should be sent with the return. You may make, amend or withdraw a claim for creative industry tax relief up to one year after the company s filing date. 12 www.laytons.com
For further advice or more information, please contact Euri Yoon at euri.yoon@laytons.com 13 www.laytons.com
This document is offered on the basis that it is only a general guide to the law as at June 2015 and is not a substitute for legal advice. Laytons cannot accept any responsibility for any liabilities of any kind incurred in reliance on this document. London 2 More London Riverside London SE1 2AP +44 (0)20 7842 8000 london@laytons.com Manchester 22 St. John Street Manchester M3 4EB +44 (0)161 214 1600 manchester@laytons.com Guildford Tempus Court, Onslow Street Guildford GU1 4SS +44 (0)1483 407 000 guildford@laytons.com www.laytons.com Laytons Solicitors LLP which is authorised and regulated by the Solicitors Regulation Authority (SRA Nº 566807) A list of members is available for inspection at the above offices.