The World of SEIS

The rise of SEIS in recent years was largely based on the success of the existing EIS. It offers a greater tax incentive to UK tax payers to invest in early-stage companies. Since it was established in 2012, it became a no-brainer option for companies to raise under such scheme if they qualified. It is one of the most well know acronyms (Seed Enterprise Investment Scheme if you didn’t already know) in the UK and when meeting investors, especially angels.

SEIS is extremely beneficial to the investor and has helped raise funding for many startups in the UK, the incentives to the investor are split into three main blocks:

1. Income tax relief: 50% of the investment, up to £100,000, if shares are held for 3 years
2. Disposal relief on CGT (Capital Gains Tax): 0% CGT if shares are held for 3 years
3. Loss relief: you can claim up to the product of the risk capital and your tax bracket. (Risk capital = total investment — any income tax relief you have claimed on your investment)

A simple example will explain

You are a 45% taxpayer (your earnings are in the highest tax bracket (>£150,000). You invest £10,000 into a SEIS eligible company, you get £5,000 (50%) income tax relief. Meanwhile, your risk capital = £5,000. In addition to the above the Capital Gains Tax on any earnings will be 28%.

What happens next? Here are three scenarios:

1. You sell the shares in Year 4 for £20,000: therefor you have made a profit of £10,000, you will not be paying any tax on these earnings. In total, you invested £10,000, and got £25,000 back.
2. You sell the shares in Year 4 for £10,000. You haven’t made a profit, but you still received £15,000 in total, not a bad day in early-stage investment.
3. The company goes bankrupt: This is an investor’s worst nightmare, however with SEIS the landing is surprisingly soft. You have already received £5,000 back from your investment, and you can claim for loss relief which is 45% x £5,000 (your risk capital) = £2,250. Therefor you lose will only amount to £2,750. As far as investing goes this is a dream result.
4. Option 4 is only applicable if you sell your shares before the 3 year vesting period. You sell the shares in Year 2 for £20,000, you make a profit of £10,000. Now you have a choice, you can put your ‘gain’ into another SEIS company in order to claim CGT exemption, as long as you do that within same tax year. Worst case you pay CGT on your £10,000 gain.

Overall, pretty sweet deal — all perfect for the investors. However, how does this work for the founders? Normally investment is good for early-stage businesses to support their growth. I would be very interested to know, firstly, how many SEIS companies have folded (or just manage to survive) after 3 years of being funded?and secondly, are investors making return relying on the tax relief, or the exit of the investment? I don’t currently have any statistics on this however if anyone does please get in touch.

SEIS FUNDS

In recent years there has been an increase in “SEIS funds” appearing in UK. What is the difference between SEIS funds and traditional VC funds? In most cases VC funds charge management fees from its investors to pay for their office, wages, etc, what is known as “working capital”. So when it comes to a SEIS fund who is funding this “working capital”? Some might be private investors managing these, however in many cases it is the startups who have been invested into and their founders. I came across an SEIS fund recently, not mentioning any names, that invested into and early-stage company for £50,000. The additional charges that were in their agreement were as follows:

• 5% outright broker fee totalling £2,500
• 2.5% annual management fee needs to be paid for 3 years, that is £1,250 for 3 years, totalling £3,750
• And SEIS also requires the investor to be on the board and the startup was asked to pay another a couple of hundreds per month for 3 years

I personally believe that SEIS and EIS has been empirical to growing the UK tech ecosystem and has seen some great companies grow through theses schemes.

Something to think about at your next investor meeting.

Good luck with your next raise.