Could VCT changes spell trouble for the economy?

March 22, 2010

Rachel MasonRachel Mason is public relations manager at independent financial service providers Fair Investment Company. The opinions expressed are her own.

Investing in start-ups can be risky, but vital for a healthy economy, so in 1995, Venture Capital Trusts were introduced by the government to encourage people to invest in small, growing UK companies.

To counter the risks involved, the government made VCTs attractive by offering 30 percent up front tax relief on investments of up to 200,000 pounds each tax year, they also made the dividends on VCTs free from income tax and capital gains tax, and any gains from the sale of VCTs free from capital gains tax.

This meant that many investors started putting their money into VCTs, giving small businesses in the UK a boost and giving themselves a nice tax break on their investments.

But now, there is talk that qualifying rules for VCTs will change, making VCT investments riskier and this is bad for business and bad for investors.

Currently, VCT rules require VCT managers to invest 70 percent of the fund’s assets in qualifying companies within three years from the issue of shares which means the VCT can keep 30 percent in cash. Then, of that 70 percent, 30 percent must be invested in the firms’ ordinary shares.

The new proposals are that this 30 percent is raised to 70 percent which means a total of 49 percent of the fund’s assets must be invested in a firm’s shares compared 21 percent now, which obviously makes investing in a VCT a whole lot riskier.

The increased risk will mean that investors are far less likely to want to put their cash into VCTs, which in turn means that businesses that benefit from VCT funding will also suffer.

According to the Association of Investment Companies, 20 percent of capital in the leisure and hospitality sector comes from VCT investment, in the business services sector it is 13 per cent while industrial business, which includes manufacturing, engineering and electronics gets 12 per cent of its investment from VCTs.

These figures, argues the AIC is why VCTs should be part of any future government’s plans to back innovation and growth in the UK’s small business community.

Ian Sayers is director-general of the AIC; he says that due to the fact VCT investment provides such substantial benefits for UK small businesses, policymakers should reaffirm their commitment to VCTs because, he argues, they are the best way to support enterprise and future economic growth in the UK.

The capital and management input from VCTs has boosted the performance of companies right across the country, claims the AIC, which in turn has increased employment, and this can only be good for the economy and Ian says he doubts any new initiatives will have the substance or staying power of the well established VCT network.

So why, if VCTs are good for investors and good for companies, are the government thinking of changing the rules?

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