3 practical tax benefits of a Venture Capital Trust

Whilst a great deal of former chancellor Kwasi Kwarteng’s mini-Budget from 23 September has now been undone by new incumbent Jeremy Hunt, one element of his plan that has remained in place is the decision to extend Venture Capital Trusts (VCTs) beyond April 2025.

This may be particularly welcome news if you’re looking to reduce your tax liability, as VCTs offer a potentially attractive way to do so.

VCTs are investment vehicles containing smaller, fledgling companies looking for funding to develop and expand. Typically, between 20 and 70 of these companies are packaged together in a single fund by a VCT provider that investors can then invest in all at once.

Many of these businesses will go on to become household names – property search site Zoopla, burger chain Five Guys, and meal kit company Gousto are all alumni of the scheme.

However, others will also fail entirely within their first few years. This means that VCTs can present a risk to your money, as there’s a greater probability of this happening to companies within these investment packages than to larger, more-established firms.

Whilst VCTs are generally higher risk than other investment options, investors are generously compensated in the form of various tax benefits in return for the risk they take on.

These tax benefits can make VCTs a worthwhile choice for high earners looking to reduce their tax bill. For example, VCTs are often used in retirement planning when investors are seeking a regular tax-free yield.

Read on to discover three useful tax benefits that come with VCT investments.

1. Up to £60,000 in Income Tax relief

First and foremost, one of the most notable benefits of VCT shares is that you can receive Income Tax relief on your investment.

When investing in VCTs, you can claim up to 30% Income Tax relief on up to £200,000 of investment in a single tax year.

That means you could reduce your Income Tax bill by up to £60,000 in each year that you invest in the funds.

Bear in mind that you can only claim this tax relief in the tax year that you invest, and you must hold your investment for at least five years to qualify. Otherwise, you’ll have to repay any claimed relief.

The relief you claim must also not exceed the amount of Income Tax you are subject to in that tax year.

2. There’s no Capital Gains Tax to pay on increases in value

Beyond Income Tax relief, another advantage of VCT investments is that your shares won’t be subject to Capital Gains Tax (CGT).

CGT is charged when you “dispose of” or sell an asset for a gain. Each tax year, you do have a CGT exempt amount (£12,300 in 2022/23 reducing to £6,000 in 2023/24 and £3,000 in 2024/25) before tax is due, but gains above this amount will likely be subject to tax.

Your rate of tax depends on your Income Tax band so, as you’re most likely an additional-rate taxpayer, this will be 20%, or 28% on property that isn’t your main residence.

Meanwhile, VCT shares aren’t subject to CGT at all. So, when you come to sell your VCT shares, there’ll be no CGT to pay on any gains in the value of your investment.

Of course, you’ll only benefit from this if your shares rise in value, which is not guaranteed.

3. You may receive tax-free dividends on your investment

Many VCTs also pay dividends to investors, which are entirely tax-free.

Dividend Tax rates in the UK are notably high for additional-rate taxpayers, charged at 39.75% if you receive more than your Dividend Allowance in a single tax year (£2,000 in 2022/23 falling to £1,000 in 2023/24 and £500 in 2024/25). This can see a great deal of your dividend income eaten up in tax.

But, as VCT dividends are entirely tax-free, any dividend income derived from your VCT investment in the form of dividends can go straight into your pocket. In fact, you won’t even need to declare these on your tax return.

In an environment where more and more people are finding access to pensions restricted by both the Lifetime and Tapered Annual Allowances, VCTs offer one of the few remaining non contentious tax allowances available to investors.

Not all VCTs pay dividends, so check with your adviser before you invest if you’re targeting tax-free income in the form of dividends.

There are key considerations to note when investing in VCTs

These tax benefits are no doubt highly attractive, and may have you considering purchasing VCT shares as soon as possible.

However, before you consider these investment vehicles, there are a few things to bear in mind first.

VCTs are higher risk investments

As mentioned earlier, VCTs are made up of smaller, developing businesses and, while many go on to be successful, others fail early on. As a result, there’s always a chance that you’ll lose value on your investment, negating the tax benefits of having invested in the first place.

You’ll need to be comfortable seeing your investment fluctuate more in value, and potentially even getting back less than you invested.

You can only invest during set windows

VCT providers only offer access to these investments during set windows when they are raising capital. As a result, you won’t have access to them at all times, and you’ll need to be prompt in making your investment during the periods when you are able to do so.

We can help you with this, finding the most appropriate VCTs for you and ensuring that your money is invested in them when they become available.

You must hold your investment for at least five years

There are strict rules governing the tax benefits that VCTs come with, most notably that you must hold your investment for at least five years to be eligible for tax relief. Additionally, the investments themselves must also retain VCT-qualifying status during this period.

While tax relief is paid upfront, you’ll need to repay any you’ve claimed if you sell your shares before the end of the five-year period.

So, you’ll need to be confident that you won’t need access to your money throughout these five years before you invest.

While VCTs are listed on the stock exchange, they are thinly traded as there is no initial income tax relief available on second hand shares. As such, in order to sell your shares you usually need to rely on the VCT board to buy those shares back from you when you wish to exit, which will typically be at a discount to the Net Asset Value (NAV).

Work with us

If you’d like to find out whether a VCT investment is appropriate for you, please get in touch with your financial adviser

Please note

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

Venture Capital Trusts (VCT) are higher-risk investments. They are typically suitable for UK-resident taxpayers who are able to tolerate increased levels of risk and are looking to invest for five years or more. Historical or current yields should not be considered a reliable indicator of future returns as they cannot be guaranteed.

Share values and income generated by the investments could go down as well as up, and you may get back less than you originally invested. These investments are highly illiquid, which means investors could find it difficult to, or be unable to, realise their shares at a value that’s close to the value of the underlying assets.

Tax levels and reliefs could change and the availability of tax reliefs will depend on individual circumstances.

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