Obtain tax relief for investors
CG writes: I have been in negotiations with a business angel who is interested in investing in my small technology business. We have agreed the basic principles of the investment but, in order for it to take place, I need to ensure that the company qualifies for Enterprise Investment Scheme (EIS) relief. Essentially, I have agreed to sell 35% of the business, but I can claw back some of the shares if I achieve the numbers outlined in the business plan over the next five years. The maximum I can claw back is 15%, leaving the investor with 20%. Is this kind of arrangement allowed under the EIS?
The proposed clawback arrangement is not unusual in this kind of investment, writes Chris Lane, a partner at Kingston Smith LLP. First, you need to make sure that the business qualifies for EIS relief. This is a fairly straightforward process whereby the company needs to submit a form EIS(AA) explaining the proposed transaction to the specialist Small Company Enterprise Centre of HM Revenue & Customs.
In terms of the clawback, there needs to be a mechanism in the company share structure to enable you to have a greater share of the equity if the various milestones in your business plan are reached.
One way of doing this is to give you a new class of shares that have no rights and will not have until they “blossom” as a result of the agreement that you have reached. When the criteria in the business plan are reached, then a certain number of these shares will obtain the same rights as the original shares, thereby increasing your equity. The detail will need to be outlined in your agreement with the new investor.
There are some other issues to address that depend on the precise details of the deal so, as ever, expert advice will be needed. Having said that, the maximum equity percentage an investor can hold and qualify for EIS relief is 30% and, therefore, the current deal as outlined will not work. You will need to come up with a slightly different plan that starts at a 30% stake for your investor.