How to Reduce Tax on a £3m Investment?

A Telegraph reader has made large gains on an investment and asked their financial expert for advice on reducing his tax bill.

Investing in tech companies under schemes like the Seed Enterprise Investment Scheme (SEIS) can yield substantial returns. However, it is essential to understand the tax implications that come with such investments. In the article, they explore the possibilities of shielding this investment from inheritance tax and whether the potential capital gains tax relief would apply to the reader’s heirs.

Will It Be Subject to Inheritance Tax?

Peter, a retired individual aged 73, wrote to inquire about the tax consequences of his £3 million investment in a small tech company through SEIS. He expressed concern about whether the shares would be subject to inheritance tax if he were to pass away before the company is sold. Additionally, he questioned whether his three daughters would benefit from the SEIS relief on any eventual sale.

In response the Telegraph’s expert says it is important to differentiate between inheritance tax (IHT) and capital gains tax (CGT). Starting with IHT, if Peter were to die while still holding the shares, they would be considered part of his estate for tax purposes. However, if the company meets the conditions to qualify as a business property, they should be eligible for IHT business property relief at 100%. It is advisable to refer to the HMRC manuals to confirm the specific qualifying conditions.

Regarding CGT, Peter correctly mentioned that the initial investment qualified for income tax relief at 50% and the eventual capital gain would be exempt from CGT, provided all necessary conditions are satisfied. Unfortunately, the exemption only applies to him and would not carry over to his daughters if they inherited the shares.

If Peter were to pass away while still holding the shares, there would be no CGT on them due to the general exemption at death. However, transferring the shares as either a lifetime gift or bequest to his daughters has its complications. The shares, representing a minority interest in the unquoted tech company, would be valued at a discount by HMRC. It is estimated that this discount could be around 75%, considering the absence of a current offer for the company. Consequently, if the daughters were to sell the shares in the future, they would be subject to a 20% CGT rate, based on the substantially reduced base cost.

To determine the best course of action, two factors need to be considered: when Peter will pass away and whether the company will be sold before that event. Although these variables are beyond Peter’s control, it is advised to retain the shares and benefit from the CGT exemption. Since the company is successful and pays dividends, alternative takeover offers may arise.

Given Peter’s age and assuming reasonable health, there should be sufficient time to make lifetime gifts to his daughters and still survive the seven-year period for IHT purposes. Alternatively, if Peter is still married, his wife, who may have a greater life expectancy, can receive funds as gifts from him and then transfer them to their daughters.

Conclusion

Investing in tech companies under schemes like SEIS can lead to substantial financial gains. However, it is crucial to understand the potential tax implications and plan accordingly. In the case of Peter’s successful £3 million investment, it is recommended to retain the shares to benefit from the CGT exemption. While there are complexities surrounding inheritance tax and valuation, considering factors such as timing and alternative offers can help protect the investment. As always, it is important to consult with a tax professional to navigate the intricacies of tax planning effectively.