Venture Capital Trusts: a brief guide for investors

Since their launch in the mid 1990s, VCTs have become a key investment and tax planning option for investors, providing the potential for high returns alongside compelling tax incentives. VCTs have transitioned from being an ‘alternative’ investment option into a mainstream tax-efficient investment option with an impressive track record, widely used by many investors and advisers as part of their tax and income strategies.

A VCT is listed on the London Stock Exchange and is similar in structure to an investment trust, with individual investors acquiring shares in the VCT. Investor funds provide growth capital used by the VCT’s investment manager to invest in private or AIM quoted UK companies, and the investors benefit from 30% initial tax relief, as well as tax free income and capital growth. Managed by a specialist fund manager with expertise in SME investment, returns are generated by the manager adding value to portfolio companies to accelerate their growth and paying dividends from the proceeds of the ultimate sale of those companies.

But as with any investment, it’s important to understand the features and risk of investment in VCTs, and whether they align with an investor’s financial circumstances and objectives. VCTs are generally regarded as a higher risk investment, so an investor should understand the benefits and risks before investing.

Benefits to VCT Investment

There are typically a number of key attractions for investors in VCTs:

Growth Potential

VCTs invest in smaller, emerging companies that are not listed on the main market of the London Stock Exchange and are otherwise difficult to access for retail investors. So investment in a VCT allows investors to participate in the growth of portfolio businesses at an early stage in their development. Smaller companies offer the potential to grow faster than their larger listed counterparts and tend to be more agile in responding to economic challenges or market change.

Supporting Entrepreneurship and Innovation

By investing in some of the UK’s most exciting new companies, VCTs have helped to drive innovation, create skilled employment across the UK, and bolster the nation’s economic growth. The VCT qualifying rules require VCTs to invest in young, privately-owned, or AIM listed growth focused UK businesses, which will typically be bringing innovative, disruptive new technologies, products or services to their markets and often operate in some of the highest growth sectors.

Asset Diversification

Established VCTs will typically look to build large, highly diversified portfolios which can mitigate the risk associated with investment in smaller companies by avoiding over concentration in a small number of assets or sectors. But VCTs also provide investors with an attractive, complementary option in building an investment portfolio alongside mainstream asset classes such as listed equities and property, offering exposure to a portfolio of expertly curated smaller companies.

Tax Efficiency

Whilst tax breaks in isolation should not drive an investment decision, VCTs do offer a generous package of tax reliefs for investors in order to incentivise private investment into earlier stage, growing UK businesses. Most notably investors can benefit from 30% upfront income tax relief, as well as tax-free dividends and exemption from capital gains tax.

Risks to VCT Investment

While VCTs offer the potential for high returns and portfolio diversification, they are not suitable for everyone, and investors should consider risk factors including:

Higher Risk

VCTs are considered higher risk than investments in more mainstream assets such as listed equities and bonds, as they invest in small, often privately owned companies, whose growth and performance tends to be more volatile than their larger, more established businesses. It can therefore take a longer time for the underlying value or quality of VCT portfolio businesses to be reflected in their market values, so investors should be prepared to invest for the medium to long term and be prepared to lose part or all of their investment. In addition, investors must hold their VCT shares for at least five years after issue in order to retain the initial tax relief.

Complexity

Despite their rise in popularity in recent years VCTs are sophisticated, long term investments that are only suitable for experienced investors with a knowledge and understanding of the underlying assets and the risks involved with managing a portfolio of smaller companies.

Liquidity

The market for selling VCT shares is generally illiquid, so the shares can be difficult to realise at a share price that fully reflects the value of the underlying assets if there is not an available buyer. As a result, VCT shares are typically priced at a discount to their Net Asset Value (NAV) per share. Investors will therefore be looking to invest in VCTs that operate share buy-back policies, through which the VCT itself can periodically buy back shares in the market when other buyers are not available, in order to offers investors the opportunity to sell their shares at close to market value. To maintain an orderly market most established VCTs will typically undertake share buy-backs at a discount of around 5% below NAV per share.

Regulatory and Taxation Changes

The rules and regulations governing VCTs can change, potentially impacting the tax efficiency and potential returns of the investment. That said, UK governments since 1995 have consistently recognised and supported the role VCTs play in supporting high growth SMEs, as well as innovation and job creation, and the new government has announced the further extension of VCT tax reliefs until at least 2035.

Are you considering investing in a VCT this tax year? View the current offers that are open from the Maven VCTs. Find out more here. 

Maven VCTs are intended for UK taxpayers aged 18 or over who: are seeking initial tax relief, tax free income and capital growth over a term of five or more years; already have a diversified portfolio including pension assets; are able to bear up to 100% capital loss; have a medium to high risk tolerance; and will generally be informed investors with experience in investing in VCTs or an understanding of the risks involved.