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INTERVIEW: As Pension Tax Breaks Erode, VCTs, Other Structures Shine Brightly - Octopus Investments

Tom Burroughes

9 May 2013

As the UK government erodes or is accused of cutting tax breaks for higher earners’ pension savings pots, it has made other tax-advantaged products such as venture capital trusts and enterprise investment schemes more attractive by comparison, practitioners say.

An organisation well placed, it says, to take advantage of such changes is Octopus Investments, a 12-year-old company that started with three people and now has around 250 employees. It manages VCTs, EIS and inheritance tax relief-related investments for clients including high net worth individuals.

While some tax-advantaged investments are often low-risk, low-return in nature, Octopus has crafted a range of products designed to deliver strong returns for people willing to take a long-term view, Paul Latham, managing director, told this publication in a recent interview.

“What was clear when I joined was that there was demand from clients to access the tax reliefs that were available through our products but with a different set of risk profiles,” Latham said, speaking at his firm’s offices in Old Bailey near St Paul’s Cathedral, across the street from the famous courthouse that bears the same "Old Bailey" name. Latham joined Octopus eight years ago; the firm oversees about £3 billion ($4.67 billion) of client assets.

Structures

VCTs, created in 1995, carry income and capital gains tax reliefs; they must invest 70 per cent of the funds they raise in UK “qualifying” companies (such as small unquoted firms or those quoted on the Alternative Investment Market) within three years. VCTs have a minimum term of five years, a maximum investment per person of £200,000 ($310,000) per tax year and a minimum of £5,000. EIS vehicles invest in companies that are not listed on a stock exchange; as such, they can carry a high risk. They carry income tax and capital gains tax reliefs. Through an EIS, an individual with no more than a 30 per cent interest in the company can reduce his income tax liability by an amount equal to 30 per cent of his share subscription. The minimum subscription is £500 per company and the maximum per investor is £100,000 per annum.

IHT-related investments work as follows: unlike gifts or trust solutions, which take seven years before they are completely exempt from inheritance tax, IHT-linked investments fall outside of an estate after two years. At a time when the UK government has not increased the nil-rate threshold on IHT in recent years, despite rising asset values and inflation, that is an attractive option, Octopus argues.

With such advantages, Latham said there is great potential to educate the public about their appeal, considering that they still do not obtain the same broad appeal and name recognition as, say, Individual Savings Accounts – a mass-market tax-advantaged fund model.

“It is frustrating that ISAs get so much more publicity than VCTs given that VCTs are an even more tax-efficient way of investing,” he said. “While ISAs offer tax-free growth, VCTs offer this and income tax relief when you invest,” he said.

These benefits have become more appealing as other tax reliefs – such as on pension savings for those paying top-rate income tax – have been eroded, as has happened recently under UK finance minister George Osborne. As the administration tightens the screws on so-called aggressive tax avoidance schemes, legally robust, legitimate investment vehicles are attractive as a result.

Octopus has over 30 people up and down the UK talking to wealth advisors about these structures, he said – a sign of how seriously it takes its message.

Industry figures - such as those provided by Allenbridge, a research firm - shows a wide spread in performance figures for different breeds of these structures, such as between VCTs that hold stocks quoted on AIM, say, and unquoted companies. For example, the Albion Venture Capital Trust, which started eight or more years ago, showed an internal rate of return of 6.5 per cent (as of early January, 2013); by contrast, the Oxford Technology 2 VCT plc was down by 8.3 per cent.

Rising prominence

This investment house hopes its profile will get a fillip from its recent signing of a sponsorship deal with Surrey Cricket Club, to sponsor a series of matches involving the team.

Some of the investment sizes involved are appealing to the mass affluent/high net worth client segment. Among the EIS funds, some investors are committing money in a range between £0.5 and £1 million. EIS’s have become more interesting to investors who have gone above the new, lower limit for tax-free pension savings as introduced recently by the UK government, Latham said.

“Demand is there and we do our best to provide a solution,” he said.

One of the most appealing features of these investment vehicles is that they are legally robust and have been protected – with some tweaks – by governments of different political colours, Latham said. The tax-advantaged investment vehicles, such as EIS, are Government initiatives designed to encourage investment into UK smaller companies rather than structured as purely a tax-mitigation tool, he said.

Network

The ventures team at Octopus, which manages the Titan VCTs and Eureka EIS, works with the Octopus Venture Partners, a network of around 120 business leaders, entrepreneurs, private investors and top managers, who provide expertise and resources for Octopus’ portfolio firms, as well as investing on a deal-by-deal basis alongside Octopus venture funds. The Venture Partners also bring in deals and business ideas, Latham said.

“We won’t invest in our venture deals unless our Venture Partners will invest alongside on equal terms”, Latham said.

Members of the Venture Partners come to Octopus, asking to be involved, and the firm also seeks out new members. It creates a superb network and pool of ideas from which to draw, Latham said.

“They are bringing in about a third of the ventures deals that we do and form part of the evaluation process,” he said. “Sometimes a Venture Partner will sit on the board of the portfolio company, for example, as a non-executive chairman. We can call up their opinion on all sorts of issues,” he said.