Investing in smaller companies – with tax-benefits

For those unfamiliar with VCTs, these are specialist investment companies which invest in portfolios of small UK enterprises that are either unquoted or are traded on the London Stock Exchange’s Alternative Investment Market (AIM). A wide range of companies have previously benefitted from VCT financing, ranging from clothing brands such as Crew Clothing and Fat Face to property website Zoopla, biotech firm Abcam and wine company Virgin Wines.

Investing in small companies inherently carries a high degree of risk, as it may be difficult to sell an investment if the company disappoints or the market environment is tough. To incentivise investors to help finance these companies the Government therefore provides VCTs with a number of tax benefits. These include a 30% Income Tax credit when investing a VCT new share issue (repayable if the investor sells the shares within five years), tax-free dividends and tax-free capital gains.

In the previous tax year, 2013/14, VCT fundraising reached the highest level in several years, with almost £400 million of new cash raised. At a time when yields on many traditional asset classes are low and the annual and lifetime pension allowances have been reduced, experienced investors with a high risk tolerance have shown increased interest in the combination of dividends and tax efficiency provided by VCTs.

While VCTs can be an attractive part of a portfolio for some investors, they are clearly not suitable for the broad market of investors. It is therefore important to carefully consider the pitfalls as well as the benefits before investing in them.