Jasmine Birtles
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How to invest in Venture Capital Trusts (VCTs)
Moneymagpie Team
25th Oct 2019
Venture Capital Trusts (VCTs) offer the appeal of big tax breaks and great returns.
However, the larger the reward – the bigger the risk. That’s why VCT investing isn’t for everyone. If you want to find out if it’s something you’d like to add to your investment strategy, keep reading!
- What are VCTs?
- So why bother with VCTs?
- But remember – there are big downsides!
- Yet still
- How do you invest in VCTs?
- Step-by-step online VCT investment guide
What are VCTs?
Venture Capital Trusts (VCTs) are a type of investment company — and one of the riskiest types at that! They’re pretty similar to investment trusts, and they’re all listed on the stock exchange, but they focus their investments on very young companies known as startups.
Don’t confuse Venture Capital Trusts with Venture Capital Schemes (VCS), though! A VCT is listed on the stock exchange and is a way to invest in a VCS. A VCT is approved by HMRC to invest in unlisted companies through a VCT.
So why bother with VCTs?
Startups can, sometimes, do incredibly well. Remember – Facebook, Google, and Amazon were all startups once. People who invested in those companies early on made huge profits.
The Government also offers a big tax break on these profits, too. It’s like a reward for having faith in an unknown company that ends up making a big contribution to the country’s economy.
You can claim tax relief on 30% of a maximum annual investment of £200,000. You also won’t pay tax on dividends (that’s the payout shareholders get when the company turns a profit).
Note: You can’t invest in a VCT if you have a connection, such as you or a family member working for the company. However, if you invest in a VCT and a connection occurs after this purchase, your investment remains valid.
Investing in a VCT instead of one of the Venture Capital Schemes means you’re pooling your money with other investors to buy shares in a number of startups. If you only invest in a VCS, you’re putting your own money directly into the scheme and won’t benefit from the spread risk: the investment is only for that particular company.
But remember – there are big downsides!
The tax reductions may make VCTs seem like a glittering investment, and it is always exciting to be helping to fuel the ‘next generation of innovation’. However, with each tempting tax incentive comes a high degree of risk:
1. VCTs can only invest in small private companies, plus those listed on the Alternative Investment Market (AIM) and OFEX (where many small companies begin their lives as publicly listed companies). These may have the chance to boom, but they have a higher chance of going bust.
2. You have to keep the investment for five years or face losing the tax break — so there is no ejector seat if the share values start to plummet.
3. Management charges for VCTs are much higher than for most other investment funds. The difficulty of spotting which companies will be successful at such an early stage requires a great deal of experience and expertise, and that means you have to pay VCT managers more for their services. There’s often an initial charge of around five per cent, while management fees are normally between 3 and 4 per cent. There are also frequently performance fees – so if certain targets are hit, these fees can all but wipe out the tax relief VCTs benefit from. Compare that with the fees that are charged by standard trackers or Exchange Traded Funds (around 0.5 per cent). Even actively managed funds only charge around 1.5 per cent. There are potential rewards with VCTs, but Exchange Traded Funds overall are normally a far better bet.
4. VCTs also have a poor investment track record. Their poor reputation of making money in the long run leaves other investors reluctant to buy them. These sorts of shares are known as illiquid, meaning they are hard shares to sell quickly.
Yet still!
VCTs offer an interesting option for those seeking to add to their pension plan. As tax-savings of personal pensions diminished over recent years, more investors turned to VCTs to benefit from the tax savings on offer there.
But the performance of most of them has been pretty disappointing. So, make sure you do your research before putting money into them, and do bear in mind that old investment adage: don’t let the tax tail wag the investment dog.
How do you invest in Venture Capital Trusts?
If you are still keen on VCTs, then there are two main ways to go about it:
1. Through financial advisers.
2. Through stockbrokers.
Due to UK financial regulations in the UK, which are in place to ensure legal financial practice, it’s impossible for people to invest directly in VCTs without the relevant financial qualifications (i.e. you need to be a qualified financial adviser or a stockbroker).
If you speak to an adviser they will give you a number of choices for the type of VCTs you could invest in. The three main choices include:
1) Alternative Investment Market (Aim) VCTs. These VCTs are a selection of companies your financial adviser or stockbroker cherry-picks from the Aim — a submarket restricted to small companies on the London Stock Exchange.
2) Generalist VCTs. These VCTs are the ones invested in unquoted companies from a wide range of sectors. Unfortunately, generalist VCTs are particularly difficult to sell, since they are unquoted, which means there is no secondary market for them.
3) Specialist VCTs. These are the VCTs that you invest in a particular sector — for example, the biotech or media industry.
VCTs have closing dates for investment. Take a look at the Hargreaves Lansdown page: you’ll see different dates listed next to each VCT. You’ll need to apply for the one you want in good time (at least 3 working days) before the closing date shown if you want to take advantage of the advertised rate.
You’ll also need to pay an initial fee: this can be anything from 3% – 6% of your investment.
Step-by-Step Online VCT Investment Guide
Once you’ve received financial advice and researched the VCT you want to invest in, you’ll need to complete a few steps.
If you’re using a financial adviser or stockbroker, they’ll advise you of the steps required to complete the process.
However, with the advance of online stockbroking websites like Interactive Investor, you could take control of some of the process yourself.
- Research the VCTs available that strike your interest.
- Find out if your online broker offers entry to the VCT you want.
- Set up an online account with the broker. You’ll need your identity documents and previous addresses to hand, to help prevent fraud.
- Complete the Appropriateness Assessment Form where required. This ensures you’re the right type of investor for VCTs.
- Find the application form for the VCT you want to invest in. Download, print, and complete it.
- Send the completed form, with a cheque payment where requested, to the relevant VCT manager.
- Your shares, once approved, will appear electronically in your online trading account.
There you have it: you’re a VCT investor!
If you think VCTs might be too much of a risk for your investment plans, don’t worry. Take a look at our other investment guides – you’re guaranteed to find the best type of investment strategy to suit your financial plans.
*This is not financial or investment advice. Remember to do your own research and speak to a professional advisor before parting with any money.
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