AIC’s Brodie-Smith: Why fundraising for VCTs has soared

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Now January and the dreaded tax return are out of the way, attention begins to turn to the end of the tax year. Venture capital trusts (VCTs) have already been in demand this tax year, with fundraising to 31 January up 44 per cent on fundraising to the end of January 2016. In this tax year 2016/2017 fundraising was £221.4m to the end of January while it was £153.5m to the end of January in the 2015/2016 tax year.

There are many reasons why fundraising has increased. The increased level of fundraising reflects early VCT offers being launched in the 2016/17 tax year, continuing demand for VCT offers that were open up to the end of 2016 and strong support for VCT dividend reinvestment schemes in the 2016/2017 tax year.

However, it’s clear that the pension rule changes and reduction in the lifetime allowance have acted as a significant boost to investor interest in VCTs.

Of course, the early stage companies invested in by VCTs makes them a riskier investment, regardless of the tax benefits. However, VCTs have a long strong track record both from a growth and income perspective and this has also contributed to their popularity. The Generalist VCT sector, which is the largest sector, has performed well, with the average company up 58 per cent over five  years and 94 per cent over 10 years on a share price total return basis.

The 30 per cent up-front tax relief, if investors hold the shares for five years, is not included in these performance figures. The average yield for the Generalist sector is an extremely attractive 10.8 per cent and the average dividend for the whole VCT sector is an impressive 9.4 per cent. These VCTs dividends are, of course, tax-free.

The tax-free status of VCT dividends is significant from an income perspective, given the changes regarding the taxation of dividends. There will be no impact on dividends from shares held in Isas and pensions, which remain tax-free, or on investors with modest dividend income under the £5,000 allowance. However, the newer dividend tax rates see those who receive significant dividend income paying more, with additional rate taxpayers paying 38.1 per cent.

What’s next for the VCT sector? New rules came in for VCTs in 2015 that included the ending of any VCT investment in management buyouts. There was also a lower “age of company” investment condition introduced, with a VCT not able to make a qualifying investment in a company more than seven years after its first commercial sale.

Although a longer time period of 10 years applies for “knowledge based” companies and no time period applies where the total amount invested represents more than 50 per cent of the annual turnover (averaged over 5 years) of the investee business. These rule changes have impacted some strategies but the sector has generally adapted swiftly. The strong fundraising figures this tax year so far demonstrate demand for VCTs is strong.

In November, Prime Minister Theresa May said: “I want us to turn our bright start-ups into successful scale-ups by backing them for the long-term.” She has launched a new Patient Capital review – led by the Treasury – that will examine the obstacles to getting long-term investment into innovative firms.

VCTs provide part of the solution to concerns over “patient capital” as they invest in small companies, which can be high risk, but can develop into household names in the future, helping to create jobs and economic growth. With Government interest in patient capital and strong fundraising so far this tax year it could be a dyn-amic year for the VCT sector.

Annabel Brodie-Smith is communications director at the AIC