The HMRC approved Seed Enterprise Investment Scheme (SEIS) and Enterprise Investment Scheme (EIS) are two of the most popular tax incentives for private limited companies seeking to raise funds through a share issue.
Certain requirements have to be met in order for an investor to successfully claim the SEIS and EIS tax reliefs. For a more detailed guidance on the requirements to be met, please see our SEIS and EIS investor checklist.
One of the most significant hurdles is that an investor must not, at any time from the date of incorporation of the company to the third anniversary of the date of issue of the shares, hold more than 30% of the company’s issued share capital. This is not a complicated concept, if an individual holds 15 ordinary shares of a company with 60 ordinary shares it seems quite clear that the individual does not hold a substantial interest. However, the interests of associates are taken into consideration when determining whether the threshold is exceeded. The definition of associates is broad.
In summary, associates include trustees of any settlement of which the investor is a settlor or beneficiary, parents, grandparents, great grandparents, children, grandchildren, spouses and business partners. For example, the substantial interest threshold will be exceeded where shareholder A and shareholder B each own 20% of the company’s share capital and they are considered business partners (as between them they will own 40%). The SEIS and EIS tax reliefs will be unavailable for both shareholder A and shareholder B.
It is worth noting that siblings (and their children) do not fall within the definition of associates, although most other relatives would be considered associates.
It is the definition of business partners that investors often find the least straightforward. A summary of the definitions of business partners and their sources are set out below. This area is notoriously complex and it is crucial to consider each individual investor’s needs on a case by case basis in order to provide clear advice – this is where we can help.
Business partners: legal guidance for SEIS/EIS investors
The legal definition of partnership stems from the Partnership Act 1890. Here, a partnership is defined as the relationship that subsists between persons carrying on a business in common with a view to profit. However, whether a person is a business partner in a partnership requires a detailed examination of the facts of the case. A person is likely to be treated as a business partner of a partnership if he is:
- a member of the partnership by name (referred to on letterheads etc);
- entitled to a share of profit; and
- assessed to tax as trading income on a share of the profits of the partnership.
An individual is not normally treated as a partner if he or she is assessed on employment income and tax is deducted under PAYE.
Individuals who are simply directors and shareholders of the same company are not partners.
In the case of property, individuals who simply jointly own property as an investment, and who share profits and losses that are taxed as part of their personal rental business profits are not necessarily considered business partners. However, if the individuals enter into a partnership agreement, agree to develop a property for sale, and use headed paper describing themselves as partners, then these would be strong indications for holding the parties to be business partners within the Partnership Act.
Business partners under SEIS/EIS: HMRC guidance
Unfortunately, HMRC has not provided its own full and separate guidance on the definition of business partners under SEIS and EIS. However, there is limited guidance available from established HMRC principles. HMRC considers a business partner to be any individual who holds a common interest with another with a view to profit (a definition that is not wholly consistent with the Partnership Act 1890). Rather, the definition is re-worded to reflect modern business relationships. In addition, HMRC states that making an investment in common is not enough for two individuals to be deemed partners. There has to be sufficient organisation, continuity to make the activity a business and a common understanding as to how the venture is to be run.
HMRC excludes arrangements for dealing with shared expenditure where each party keeps their own income, for example health practitioners with joint premises. If an intention to create a partnership relationship is not implemented, then there is no partnership. HMRC states that parties shall not be business partners where the relationship is to acquire or dispose of assets pursuant to genuine commercial arrangements.
Conclusion
There is limited guidance on the definition of business partners for the purposes of SEIS and EIS and the definition must be assessed on a case by case basis. It is important for a party to understand the requirements to be met in order for the requirements for SEIS or EIS to be satisfied – the consequences are severe as potential tax reliefs once lost cannot be re-implemented.
We are able to advise parties on the best business structure to ensure that the benefits of SEIS and EIS are not lost.
Please do get in touch with us if you have any queries or would need assistance in understanding whether your proposed investment or company qualifies for either SEIS relief or EIS relief or on the application and HMRC clearance processes.
Helen Curtis
I am a specialist in fund structures having worked with many companies seeking SEIS and EIS investment and crowd funding. Why not call me for an informal conversation now…..