The little-used funds that can save hundreds of thousands in tax (and are safe from Rachel Reeves)

Telegraph

22-03-2025

Try as you might to build a nest egg, the spectre of Rachel Reeves looms large over your savings.
Pensions are to be brought within the scope of inheritance tax, and the Chancellor is reportedly eyeing up further tax raids on Isas.
But Labour's vision for growth at all costs already has Britain's wealthiest investors considering little-used investment funds that have a better chance of being left alone.
Rob Morgan, chief analyst at wealth manager Charles Stanley, said: 'While Isas and pensions have been in the Chancellor's cross hairs for rule changes, venture capital trusts (VCTs) and enterprise investment schemes (EIS) have flown beneath the radar.'
He says Ms Reeves is unlikely to take aim at these kinds of investments 'partly because they are niche and the tax breaks cost little, but more importantly they directly support an ambition of investment and growth in Britain's grassroots businesses – something the Government badly needs'.
Mr Morgan predicted that high earners with restricted pension allowances would increasingly turn to these alternatives to mainstream investments.
VCTs are listed funds that in turn invest in early-stage small businesses that may not be listed on the main stock exchange.
Up to £200,000 can be invested in VCTs each year. As a result, Emma Wall, of Hargreaves Lansdown, said they are typically the reserve of the very wealthy, 'who are able to take on the additional risks with a small portion of their portfolio'.
She added: 'These are often higher or additional-rate UK taxpayers who've already used their Isa and pension allowances,' she added. 'The tax breaks encourage investment in smaller companies which are a vital area of the UK economy and offset the higher investment risks.'
Investors in VCTs do not pay capital gains tax and enjoy tax-free dividends. Investors also benefit from 30pc income tax relief after five years (as long as they buy into a new share issue).
But the price of such big tax breaks can be steep, and ploughing money into startups via VCTs is undeniably risky – investments could fall in value, potentially to zero.
So, what have the returns been like?
In the 10 years to December 2024, the 10 largest generalist VCT managers have delivered an average return of 64.3pc, assuming dividends are reinvested – compared with 81.9pc for the UK main market, according to Wealth Club.
'Can be volatile'
'Investments in smaller companies can be volatile,' advises Octopus Investments, Britain's largest VCT manager. 'Their shares could fall or rise in value more than other shares listed on the main market of the London Stock Exchange. They may also be harder to sell.'
Companies previously backed by VCTs include alcohol-free beer brand Lucky Saint, property listing site Zoopla, stockbroker Interactive Investor, and Virgin Wines. Being listed companies, VCTs can be bought on the open market via brokers such as Hargreaves Lansdown or AJ Bell.
However, these do not offer the same upfront tax relief available with new VCT shares, as they are technically 'second hand' shares that have been owned previously.
Nicholas Hyett, of specialist adviser Wealth Club, said: 'It's not just the mega-wealthy who can benefit. VCT minimum investments start from £3,000, while the minimum investments for EIS funds start from £10,000.'
Wealth Club hopes investing in VCTs will spread beyond the super-rich, and Mr Hyett stresses that they should be part of a well-balanced portfolio. The platform estimates that maxing out on venture capital allowances could cut a tax bill by up to £2.5m this year.
Enterprise investment schemes function similarly to VCTs, but the number of companies they invest in is far fewer. Typically, an EIS fund will give you exposure to between five and 15 companies, compared with the hundreds held in a VCT. EISs are therefore more concentrated – and hence higher risk – than a VCT. But in recognition of this, the tax reliefs are more generous.
'If you lose money on your EIS investment, you can write the loss off against your tax bill in the year you make the loss,' Mr Hyett explained.
'So if a £10,000 investment resulted in a total loss, once you take into account all the tax reliefs, the most a 45pc taxpayer could lose is £3,850. To keep the tax relief you must hold an EIS investment for at least three years.'
Alan Price, a retired helicopter pilot, has been investing in VCTs via Wealth Club since 2012. 'I haven't paid income tax since 2006, and I'd say I've saved several million in tax,' he said.
The 71-year-old is a fierce defender of VCTs, and would support a tax raid on cash Isas if it meant putting money into small businesses.
Mr Price's investments included the Octopus Titan fund, which has backed car retailer Cazoo and Gen-Z e-commerce darling Depop. 'I sold those a few years ago and had an extraordinarily large dividend,' he said.
The retiree does not consider himself to be ultra-wealthy, although he is undoubtedly eccentric. Mr Price busies himself in retirement as a Deliveroo rider in Battersea where he lives, delivering takeaways on a penny farthing.
'When I have to put petrol in my Porsche I do a bit of delivering,' he said. 'The income from my VCTs is more than all my pensions put together.'
Which VCT should you buy?
Alex Davies, of Wealth Club, a specialist adviser on VCTs, recommended two funds.
'The Baronsmead portfolio is probably the most diverse of all VCTs,' Mr Davies said.
'The two VCTs have a portfolio of 85 companies spread across early-stage growth companies, legacy management buyouts and AIM, as well as investing in three Gresham House managed UK equity funds.
'That diversification, together with significant exposure to more mature businesses, has historically made Baronsmead something of a gateway VCT for investors new to the sector.
'Unfortunately, listed UK smaller companies have been a tough place to invest in recent years. However, that could present an opportunity going forwards.
'With 65pc of the portfolio invested in UK listed companies, a turn in sentiment towards the UK has the potential to translate quickly into substantial gains for the VCT.'
Mr Davies says: 'Pembroke VCT is a generalist investor, but unlike many VCTs it has particular expertise in backing consumer brands – an area where it has had a number of exits.
'Past successes include women's fashion brand ME+EM, and fresh pasta delivery service Pasta Evangelists.
'LYMA, the VCT's current largest investment accounting for 15.1pc of the portfolio, has developed a medical-grade laser for at-home use to improve skin health which was voted one of TIME Magazine's inventions of the year in 2023 and the VCT investment is currently valued at 16.9 times its cost.'