An introduction
Venture Capital Trusts provide finance to some of the most dynamic small businesses in the UK to help them grow.
This guide explains the benefits and risks of investing in VCTs, and takes a closer look at some of the exciting businesses that VCTs have helped to flourish.
Young, innovative businesses often struggle to raise finance to help them expand. They may still be developing their products or services, so haven’t been able to generate any profits from sales yet. They may be pioneers in new technologies or services which are relatively untested. They may not have been around long enough to generate a strong financial track record, which lenders often look for when deciding which businesses to support.
These businesses can therefore find it hard to raise finance from traditional sources such as banks, something that has been made worse by the banking crisis. However, they often need a lot of capital in these early stages, well beyond the means of most individual investors. VCTs help to bridge this ‘finance gap’ by allowing smaller investors to pool their resources and invest in a diversified portfolio of investments to spread risk.
Though the companies VCTs invest in start small, and are high risk, they can become household names in the future, helping to create jobs and economic growth. So the Government offers generous tax benefits to compensate you for the risks involved. But you should not invest in a VCT just for these tax benefits and should make sure you fully understand all the risks. If you are in any doubt, you should take independent financial advice.
Although the companies VCTs invest in start small, they can become household names
This guide is aimed at retail investors aged 18 or over who are UK income tax payers.
New to investment companies? Read ‘A guide to getting started’ to learn the basics.
In many ways, VCTs are like other investment companies. They give you access to a diversified portfolio of investments managed by a professional manager.
VCTs are required to invest in small, private businesses. They can also invest in similar investments traded on the Alternative Investment Market (AIM), which is the London Stock Exchange’s market for smaller growing companies.
There are limits on the size of companies VCTs can invest in. Most VCT investments must be in small companies (up to £15 million in size). These businesses are much more risky than the large, established companies other funds tend to invest in. Some of these companies will struggle even with the support of VCT investment, and may fail altogether. However, those that succeed can develop into some of the most exciting businesses in the UK.
To compensate you for the extra risks of investing in small, growing businesses, there are a number of tax benefits available when you invest in a VCT.
For example, you will pay no income tax on any dividends you receive, and no capital gains tax on any profits you make when you sell your shares. These two reliefs are available at all times, irrespective of how much you invest, how you buy the shares or how long you hold them.
However, if you buy shares issued on the launch of a VCT or when it raises new money, then further tax relief is available to reduce your income tax bill, providing you hold the shares for a minimum period of time and subject to certain limits and conditions. This is known as ‘initial’ (or ‘upfront’) income tax relief.
Although the tax benefits are generous, you should not invest in VCTs just for tax reasons
A VCT can give you exposure to a range of up-and coming companies
Like all investment companies, you can buy existing VCT shares through the stock market. You will still benefit from tax-free income and capital gains, but you won’t get any further income tax relief. If you want to benefit from initial income tax relief, you will have to invest in new shares either on the launch of a VCT, or when it raises new money.
The VCT will issue a prospectus, which is a document that provides a lot of information about the VCT and the risks involved. You can apply for VCT shares directly via the prospectus, or you can use an independent financial adviser to help you decide which VCT would be best for you and help you make an application. There are also other financial firms that can help you to apply for VCT shares, though they do not provide advice as part of this service.
Whichever route you choose, you should read the information provided carefully and make sure you understand the risks involved. You should also consider the costs and make sure you are happy with them.
VCTs are a boost to the UK economy providing vital finance and expertise to smaller British companies and stimulating high levels of job creation. VCT-backed businesses have high levels of exports, indicative of their potential value to the UK economy.