4 potential benefits of investing in Venture Capital Trusts

The UK has a rich history of discovery, advancement, and innovation.

From the steam engine and television to a Covid vaccine and the World Wide Web, many of history’s most significant inventions were conceived on this small island.

While our universities are world-leading, and the government provides support for pioneering technologies, private investment has been fundamental to fostering a dynamic landscape where innovation can thrive.

In 1995, the UK government created Venture Capital Trusts (VCTs) to provide funds for innovative businesses from private investors. VCTs offer incentives to invest up to £200,000 every tax year into trusts that offer potentially high rewards, though there are risks involved.

VCTs continue to attract capital that fuels groundbreaking research and development across sectors, ensuring that the UK remains at the forefront of global innovation.

Read on to discover four potential benefits of investing in a VCT.

1. Tax-efficient investing

VCTs offer several generous tax incentives to encourage investment in startups and growing businesses.

The incentives include:

• Income Tax relief – you can normally claim up to 30% Income Tax relief 30 days after you invest, provided the relief you claim does not exceed the amount of Income Tax you owe for that year. This means that if you invest the full £200,000, you could claim back £60,000 in Income Tax. If you sell your VCT shares within five years, you will be required to repay the relief to HMRC. After holding the shares for five years, the relief becomes permanent.

• Capital Gains Tax (CGT) exemption – if you choose to sell your VCT shares and you make a profit, the money you make will not be liable for CGT.

• Dividend Tax exemption – Any dividends your VCT pays are not liable for Dividend Tax and you don’t need to declare them on your tax return.

These incentives are particularly beneficial in light of recent changes to the tax system.

Basic- and higher-rate Income Tax thresholds have remained frozen since 2021, and the additional-rate threshold was reduced in 2023, meaning you could be paying more tax on your income.

VCTs allow you to reclaim some of the Income Tax you’ve paid and can be particularly beneficial if more of your income has moved into a higher tax bracket, though there are risks involved.

Moreover, the tax-free allowance before you pay CGT, the Annual Exempt Amount, was £12,300 in 2022 and is now down to £3,000. And the government reduced the Dividend Tax allowance from £1,000 to £500 in April of this year.

As a result, the incentives offered for investing in VCTs could be advantageous in mitigating your total tax bill.

2. Portfolio diversification

Portfolio diversification is an effective way of managing risk and capturing returns, and VCTs offer the potential for both.

VCTs can complement the other more commonplace or mainstream investments in your portfolio, such as property or listed equities. By providing exposure to smaller companies that may offer limited investor access, VCTs present an opportunity for potentially higher returns with lower initial investment.

Moreover, the share prices of listed companies are often influenced by global market trends and international events, whereas the share prices of smaller companies more accurately reflect their underlying performance.

So, investing in smaller companies through VCTs offers you the potential to reduce your vulnerability to global market fluctuations and open your portfolio to wider opportunities.

3. Growth potential

VCTs solely invest in smaller, emerging companies not listed on the London Stock Exchange.

While there are risks associated with these investments, they also have the potential to grow much faster than their more established counterparts.

Some go on to achieve huge success and deliver significant returns for early investors. Examples of this include companies such as Zoopla, Cazoo, and Depop.

FTAdviser recently reported that although the average VCT was down 5% in 2023, longer-term VCTs have performed better.

Over five-year horizons, the average VCT returned 22% (though some have returned 45% and higher), and over 10-year horizons, they returned 85% – and those figures do not take returns from the tax reliefs into account.

Over longer horizons, VCTs have so far performed well, and many investors take additional comfort in the tax incentives that can offset any potential losses.

4. Supporting innovation and economic growth

VCTs typically invest in innovative and exciting technologies, products, and services that seek to disrupt and evolve their markets.

By investing in VCTs, you have the opportunity to fund some of the UK’s most exciting new companies, and help to drive innovation, create employment, and support the UK’s economic growth.

Investing in VCTs is high risk and speaking to a financial planner is advisable

As with all investments, there is a level of risk to investing in VCTs. Indeed, the risk associated with VCTs is generally higher than regular investments, though the rewards can be too.

Given the high-risk high-reward nature of VCT investments, they can be a good addition to supplement your existing portfolio and more standard investments.

They could also be particularly beneficial if you have reached the limits of your ISA or pension Annual Allowance.

While the tax incentives and growth potential can offset any losses you experience, it is a good idea to speak to a financial planner to assess your risk exposure and risk management strategies before investing in VCTs.

Email Info@mlpwealth.co.uk or call us on 020 8296 1799.

Please note

This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

This article is for information only. Please do not act based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.