Investors looking to make the most from their Seed Enterprise Investment Scheme (SEIS) tax breaks need to have a detailed grasp of the rules.
Two little-known clauses in SEIS legislation can help them maximise tax breaks – but can also lose them money if they are unaware of the possible consequences they carry.
The two rules that affect tax breaks are:
- Carry-back elections
- The tax relief pecking order
Carry back rules
Carry-back started in 2013-14 and lets a SEIS investor set off their tax reliefs to the previous tax year. As SEIS has not run long enough to see the end of any three-year investment, this only affects income tax at the moment.
Effectively, the investor can pick the current or previous tax year to gain the biggest tax reduction but cannot split the relief across two years.
For example, an investor stakes £100,000 into buying SEIS company shares in the 2014-15 tax year.
In that year, the investor pays £35,000 income tax and can claim a 50% tax reduction of £50,000, reducing the tax liability to zero but losing the remaining £15,000 tax relief.
In the previous tax year (2013-14), the investor had paid £65,000 income tax. By applying carry-back, income tax paid in that year can be reduced to £15,000.
Without carry-back, the investor would have paid a total of £65,000 income tax across the two tax years, but with carry-back, only£50,000 is paid (£35,000 + £15,000).
But understanding carry-back is no good if investors don’t also consider the tax relief pecking order imposed by HM Revenue & Customs (HMRC).
Tax relief pecking order
Tax reliefs are deducted during self-assessment according to their ranking in Section 27 of the Income Tax Act 2007, which sets this framework:
- All a taxpayer’s income is added to give a total chargeable to tax
- The personal allowance is deducted
- Loss relief is deducted
- The amount due for income tax is calculated by banding the total chargeable to tax and applying income tax at the appropriate rate
- Other investment reliefs are deducted – first Venture Capital Trust (VCT) reliefs, then EIS reliefs and then SEIS reliefs
- If any tax to pay is still left, the other reliefs listed in Section 27, the Income Tax Act 2007 come into play
Investors should not forget the order in which reliefs are deducted and should time their investments to gain the maximum tax advantage, because if VCT and EIS come into play in the same year as a SEIS, they may end up losing some of that valuable income tax reduction and may have to look to carry-back to maximise their savings.