On 3 February 2016 HMRC published a research study of the use and impact of the Enterprise Investment Scheme (EIS) and Venture Capital Trusts.

The research examined the incentive effects on investors of the two schemes; the impact on the ability of investee companies to access finance for business development and growth; and the impact of the expansion of the two schemes in 2012 which widened the number of companies that could be invested in under the schemes and also increased the total investment limit.

The research was conducted through telephone survey interviews with more than 600 companies and more than 500 investors. These were followed up by detailed qualitative interviews with eight investee companies and seven investors that had all taken part in the telephone surveys, and with five fund managers of venture capital trusts who had not taken part in the telephone surveys.

The survey found that 74% of the investee companies had looked for investment at least partly to start their business or to develop a new product or service. However most of the investees put forward a number of reasons for looking for venture capital. Only 9% had sought investment only for working capital or cash flow purposes. The smallest and youngest companies and those in primary, manufacturing or construction sectors were more likely to be looking for investment to grow their business rather than just for cash flow purposes.

The main reason for investors to use the schemes was the income tax relief available. 79% of the investors saw the income tax relief as very important or essential in their decision to invest through the schemes. More than half the investors also saw the capital gains tax exemption to be very important or essential in their decision to invest. Other tax advantages of the EIS were seen as less important.

Investors put forward loss aversion as an important factor in deciding to use the schemes. The value of their investment could fall by a substantial amount before they would begin to lose money and they were therefore more willing to invest. Some investors would have invested in any case regardless of the tax relief but the availability of the relief meant that they were able to invest more.

Conclusions

The study concludes that the venture capital schemes are working as intended. The income tax reliefs are the key drivers of investor decisions and the majority of investee companies are looking for investment at least partly for start-up or product development reasons as intended by the schemes. The impact of the schemes on the smallest and youngest companies and on companies intending to expand is strong.

Investee companies and fund managers of venture capital trusts are generally positive about the expansion of the schemes carried out in 2012 as these could mean that a wider range of companies could benefit from the schemes. There is however not yet any explicit evidence that investors have changed their investment profiles since those changes.