New S/EIS 'Risk to Capital' rules make a mockery of investing in Start Ups

The new rules brought in the 2018 Finance Act to prevent the abuse of S/EIS tax reliefs for SMEs and start ups, are completely unworkable. We now have evidence of one case where advanced assurance has been denied on the basis that the company's plans showed they aimed to give investors a return. 

Company X applied for advanced assurance (AA) under S/EIS tax reliefs for their current funding round. The company complied with all the standard criteria for these reliefs. However under the new 'risk to capital' criteria that came into force last year, HMRC has denied this company AA. The letter states - 

''The exit provisions provided in the supporting documents are indicative of an arrangement whereby investors will receive a return of their investment''  - thereby contradicting the new rules.

HMRC have made it very plain that this 'risk to capital' criteria must be met as a first hurdle before any other conditions are examined. So if your business shows your investors getting their money back then you will not be eligible. That's the law. 

'Risk to Capital' is 'defined' by the new rules as being the assurance that the risk of losing the investment is greater than the chances of it being returned. How you calculate these chances, which are based almost entirely on future events, is not discussed. What HMRC want people to invest in, are businesses that are more likely to fail than succeed. If you have one of these, then your investors will be eligible for tax relief. Makes perfect sense to us!

The full rules are here

The implication is stark. You cannot hope to get AA if you offer investors a business plan that shows at some stage in future, investors will get their money back. Note -  this is not a return on investment - it is merely the return of the principle sum. 

If we expand on this - companies now hoping to get AA on S/EIS schemes - roughly 100% of all companies using equity CF, then their plans must show that investors will most likely lose all of their money. That is so stupid as to be ridiculous. Who in their right mind seeks investment in a business knowing from the start that they will take that money and lose all of it. Then again, who invests using S/EIS reliefs knowing that they will certainly be making a lose.

There are many ways the Government could improve S/EIS but this isn't one. What we will now get - if this refusal is an indication of things to come, is companies creating a set of plans for HMRC and another set for investors. I do not believe I have ever seen a PD that assumes from the outset that all the investment will be lost.

We get this information to you as we have many contacts now in this sector and they are concerned as to the direction this is all going. When we launch ECFBuzz in July of this year - this sort of advice will be restricted to members - so why not join up now with a 50% discount here - 

https://www.indiegogo.com/projects/ecf-buzz-the-crowd-investors-information-centre/x/19804529/

Mr and Mrs Smith offering massive rewards to achieve funding on Crowdcube - is that good business?

The Mr and Mrs Crowdcube campaign is massive success - £4m raised on day one - most of it in private mode. So what about these rewards?

This campaign is offering all serious investors a 4% discount on spending as a minimum. But if you choose to invest £25k you get a load more. You get your £1000 off the next holiday (the 4%) but in addition you get a permanent discount of £400 pa forever. So lets assume you are a healthy 30 yo and you live to be 85 and go on hols each year (well at least one), then you might expect to get £400 X 55 years as a discount - or £22000. Plus the £1000 that makes £23000 of the £25k you invested. Lost opportunity costs and lack of ROI aside, that is some deal. And of course its not cash - its a discount against expenditure with Smith. But it's still a great deal.

It begs the Q, how is the company going to make a real ROI when it is handing back so much cash - are margins that great and if they are, it would suggest room for undercutting by competitors. And of course there is always the consideration that if the company were to fold, this would disappear.

And then on top of all of this - you get 30% of your investment back via EIS. So in effect a £25k investment now will give you a one off £1000 rebate against your next Smith outing, £7500 off your income tax bill, and £400 pa forever against future Smith outings. The usual vague warning about rewards valued over £1000 and EIS relief is issued. Beware.

So if the total number of £25k investments reaches say 100, it will cost Smith £100k initially and then £40k a year to service. Over 3 years that's £220k. At 8% you could borrow ~£1m for that, retain equity and lose the £40k pa liability. Isnt that a little crazy as a business proposition?

It is little wonder that their 1.5m million members have backed them - well some of them have. 1200 investors on board for £4m suggesting nearly all have taken up the £2500 or better. Or maybe the 1.5m is inclusive of a chunk of not so active members?

Tiosk - a good example of Crowdcube success.

Tiosk raised £173k on Crowdcube in 2016. They already had what they described as their flagship unit in Hackney up and running. Now 18 months later accounts to Nov 2017 show a deficit of £147k with nothing we can find to make it up. And the accounts, as filed,  are not correct. 

There is no explanation for this deficit  -  the accounts are of the minimal kind. But what they do reveal is that the figures given and filed on the 2016 accounts have now been changed - but the filing hasnt. That is clearly in contravention of all accounting rules in pretty well any country that has accounts. You cant make things up.

According to the usual rubbish provided on Crowdcube, Tiosk was due to make profits of £122k last year  - but made losses of £115k and failed to raise any more money. 255 investors put money into this company and the pitch was 140% over subscribed. They are due to make a £634k profit this year and we asked them how that was going. 

It's a mess and it would be joke if it wasnt such a shame. Tiosk could have made its two founders a living - as well as a decent cup a tea. What it was never going to do was make investors a return. The company is still technically open but with what hope? A second raise? Well that hasnt happened as planned.

One thing is for sure - a couple of friends selling excellent tea out a unit anywhere, is not a sound business investment. In fact it is not even a risky investment - it is a dead cert zero sum game. And it is a total waste of EIS tax reliefs. The only beneficiary here would be Crowdcube if we hadnt pointed out their inexcusable promotion of the investment.

We did try to get hold of the company.........................nothing.

If you ever wanted evidence that Crowdcube investors are not in slightest sophisticated, then Tiosk is it.

Chupamobile have just £10k left on their balance sheet, 3 years after taking £740k off Crowdcube investors

So what is Chupamobile and its 'seasoned entrepreneur' (Crowdcube's description) Stefano Argiolas, doing?

Looking at the latest accounts  - late again - not very much. YE Dec 2016 showed this company making profits of £1.3m in its Crowdcube sales pitch. It's hard to be certain, given the lean information supplied in their latest accounts, but our guess is they made a loss of £95,000.

That was over a year ago. There is no record of them raising money since. In fact their filings at CH are almost exclusively to do with moving filing dates or postponing compulsory strike offs.

£740k is a good sum of money - so where has it gone? Fixed Assets are negligible. We wrote about this company before - here .

Their website is all in $ so maybe they have ended up over there. Any shareholders with some more information , please get in touch. ROI would seem some distance away. It could be even further away if you read their reviews - I dont think I have ever seen so many people calling a business a scam  - see here

Back in 2014 when they raised the £740k on Crowdcube, they told investors that they expected to be bought out in the next '2 to 3 years'. So that would be last year. Well who the hell believes anything these companies say anyway - Crowdcube investors just throw money away because they love doing it. Just so long as they diversify their throwing - some over here and some over there. Give them a bit too. Good job guys - excellent result for GBplc.

Oh and dont forget taxpayers, via EIS, these investors will get 30% of their thrown away money back from your Government. Excellent use of public funds.

Crowdcube customer service goes missing

Crowdcube sent an email to the unlucky investors in Flavourly, saying how sorry they were for their loss. Oh and giving them no advice on the state of their EIS relief.

Flavourly funded on Crowdcube in 2015. £500k was invested by over 300 people. A few days ago the main shareholders and the key Directors sent a one line note to investors to say they would now be forced to sell their shares - at a ~85% discount to the price they paid for them just over a year ago. We wrote about it here.

Today the same investors received an email from Crowdcube - see below - 

Hi [...],

We understand that the major shareholders of Flavourly Limited have issued a drag along notice to all other shareholders. As the value offered for each Called Share under this notice is less than the price paid by you during its Crowdcube round, you may be able to claim loss relief (if eligible).

If applicable, you should have received your EIS3 form to enable you to claim any tax relief you may be entitled to and if you haven’t yet done this, we recommend you do so. Income tax relief can be claimed within five years of the year you made the investment.

If appropriate, loss relief is also available under EIS. You should seek professional advice if necessary. For more information about EIS, please visit the HMRC website:

 HMRC - 'How to claim EIS tax relief'

Once again, we understand your disappointment and if you have any further queries please do let us know.

Kind regards,

The Crowdcube Team

We put a comment on this post that referred to the loss of the EIS relief as the shares had been sold within the 3 year period. 

To be more precise and to help Crowdcube investors who do not have access to expert advice, we have looked into this further and have found the following - 

1. EIS relief at 30% that has been claimed on this investment will be lost on the proceeds of the sale not the initial investment as the sale has resulted in loss. So for example if you invested £10k and have claimed 30% under EIS, you will have your EIS income tax relief withdrawn based on 30% of the sales proceeds ie ~ 30% of £1500 or a withdrawal of ~£500 of the initial £3k. The loss you can claim is then reduced by the balance of the relief you claimed ie ~£2500 will be taken off your loss claim.

2. So for example someone who invested £10k and had claimed £3k. They would now have £500 of that withdrawn so they could claim only £2500 against income tax. The loss they made when they received their sale proceeds of £1500 is £8500. But they have to reduce this by the relief not withdrawn ie £2500. So they can claim loss relief on £6000 only.  

3. If you have deferred capital gains into this EIS investment then this will also have to be corrected.

You should of course check this with a tax expert. We did. But we are not experts.

So the net result seems to be it would have been better for the company to close. You would then have kept all the relief and be able to claim on the full loss. 

Oh and what about the service from Crowdcube on this? There is none. The interns at Crowdcube simply dont have a clue. Sad but there you are. They really dont give a fig about their investors - but we do :))!!

Earlybird asks investors to pay for its EIS submissions. No - you didnt misread that.

This is a script that David Croft would have loved. You can just imagine Battery Sergeant Major "Shut Up" Williams' expression as Private Pugh explains that although investors have lost all their money - in order to claim their 30% tax rebate they have to fork out more cash because Pugh hasnt yet put through the paperwork with HMRC (loud snorts stage left).

This is the guy that many people trusted with a lot of cash. And you have to ask why, for instance, the Crowdcube 2015 raise has still not managed to file its EIS paperwork? This was Crowdcube's job, so clearly their EIS department have joined forces with the due diligence crew and are both down the local.

It is quite simply - amazing.

The good news, if you can call it that, is that Crowdcube have agreed to pay for their EIS paperwork, so Pugh only needs investors to cough up for the other two outstanding applications. Salt and wounds. 

Are we heading for an EIS disaster?

A very recent Crowdcube raise by Verto Homes illustrates what maybe a hidden problem with EIS.

Verto Homes successfully raised £1.6m on Crowdcube this week. They had no advanced assurance from HMRC on EIS eligibility. However they told investors that they expected to be eligible.

In the course of the pitch, the question of EIS came up. In reply to questions, the founders of VH stated that they had taken advice from the Mill Consultancy's Jerry Davision and that he had informed them that they would be EIS eligible. Jerry worked at Crowdcube previously.

One of the proscribed activities for EIS is property development, which is defined as being involved or having been involved in a piece of land that is then developed for housing or commercial use. Its a grey area as construction companies are eligible providing they are not involved and have never been involved in the purchase and sale of the land they are building on.

One other proscription is that the company must not be providing services to another company that is offering a proscribed service if both companies are controlled by the same person/people.

HMRC retain the absolute right to enforce their own judgements in these matters retrospectively.

In the case of Verto Homes, we dont know yet what HMRC have decided. Verto Homes have distanced themselves from their recent developments - Towan Heights for example. Towan Heights LLP are the developers. But if you dig a little, there seems very little difference between the two. Towan Heights LLP was set up in December 2012 as Verto Group Developments Towan Heights LLP. The sole members at this time were the sole directors and founders of Verto Homes. Only in 2015 did the name change and other members join. Also at this time, the two founders terminated their membership to be replaced by their Verto Homes company, as a designated member. Then in May 2016 Verto Homes resigned as a member to be replaced by the the two founders again. So the development company, Towan Heights was set up by the same people as Verto Homes. Verto Homes and Verto Construction (also controlled by the same two) use their services exclusively to develop land that is owned by Towan Heights and other LLPs or companies that are also controlled (at least in part) by the same two people. 

Another Verto Homes development, according to their website, is Hilgrove Mews. Hilgrove Mews Ltd was incorporated in 2015 and its sole directors are the same two as for Verto Homes and the founders of Towan Heights LLP. 

That looks like a pretty close relationship. Of course the application to HMRC prepared by Verto Homes' expert, may not have filled out all this detail. The bottom line is even if HMRC now grant advanced assurance, they can at any stage change this is if it becomes clear to them that the original application was incorrect. The only people who will suffer from any change will be those who have already utilised their EIS relief as HMRC claim it back with interest. 

You might well ask what the equity crowdfunding platforms do to help here. Well in the case of Crowdcube, not much. We think that in cases that are clearly on the line, advanced assurance should be a minimum before any claim by the pitch to EIS relief can be allowed. But we know this wont happen as it would hinder Crowdcube's deal flow. 

One final point on this. If during the first three years of trading (post investment) for whatever reason, the company changes its operations and these changes take them into a proscribed activity, then EIS relief will be voided and any taken will have to be returned with interest. As we have seen with the recent Wool and the Gang 'exit', Crowdcube investors and it appears Crowdcube,  have no control over what the company chooses to do. So this is yet another potential time bomb. 

It might all end up in a bit of a mess. 

Wool and the Gang Sell Out their Crowdcube investors for a penny to Blue Gem Capital Partners

No doubt Crowdcube would be trumpeting this from the rooftops as evidence of a successful exit but details shown to us prove otherwise. It's a total farce.

Wool and the Gang (WATG) raised over £1m on Crowdcube at the start of 2016. The company had already secured investment from Index Ventures and a few other financial vehicles. The pitch talked of ambitious plans; dont they all. We wrote a not very glowing post on them and Index here  - looks like we were spot on!

Investors via Crowdcube paid just over 26p per share for their stake in this company which was valued at around £8.5m.

An email sent to these investors this week and shown to us, states that the company has been sold to Blue Gem Capital Partners and investors will receive 27.358p per share. A gain of approximately 5%. There is no choice here - its a done deal behind investors' backs, without them being consulted. The email uses weasel words to try and cover up the let down but we can all see the reality. This would not be the first time Index Ventures have used Crowdcube. 

This pitch on Crowdcube had EIS advanced assurance; so many if not all investors will have claimed back or planned to claim back their 30% and will now have to undo all that and repay HMRC. EIS reliefs are only allowed if you hold the shares for a minimum of 3 years. In this case they have been given no choice. Surely the company needs to account for this? Shareholders should not and will not be used by VCs to 'borrow' the odd million risk free. Investors can get far better and safer deals from Funding Circle. We would like to know when conversations with Blue Gem started - was it before the Crowdcube raise?

In a move that seems so blatantly wrong, WATG offer shareholders an alternative deal. Instead of cash you can take your whole investment back in credit to be spent with WATG. So for example (to quote the email) an investment of £10 via Crowdcube will give you a return of £10.50 cash or a gift voucher of £15.50. No seriously, they are offering this to shareholders whilst sticking knitting needles in both eyes.  Take that, they scream and here is a nicely knitted beany to cover up the mess. Even Mickey Mouse is blushing. 

The email does not make clear if Index and the other earlier investors are also selling out - they paid 20p a share 3 years ago so would see a return of around 35%. 

Is this what Luke Lang meant when he said that 2016 would see some exciting exits? Well on the upside it is not Rebus or Ovivo or Solar Cloth Company or Crowdcube (!) - at least investors are getting their stake back. But it is not what equity crowdfunding should be about.

Crowdcube stood to make a 7% risk free commission on this deal, whilst their customers were asked to risk all their money for a pathetic 5% return or a couple of woolly jumpers. 

We asked WATG for a comment but the CEO was 'out' at the time and has not got back to us. We'll let you know what she thinks if she contacts us. We have also asked Crowdcube and Index Ventures to comment - nothing yet!

EIS and SEIS criteria need to be more stringent

Both the SEIS and EIS schemes have helped finance the essential growth of the UK's SME sector.

However the schemes were never built to house the rapidly increasing investment via ECF platforms. The platforms and ECF would never have been able to build such a rapid increase in business without them - the tax savings are something all sites major on. Very few pitches on ECF platforms complete without either EIS or SEIS reliefs for the investors.

Where does all this money come from? Simple - its all part of the massive pot we as taxpayers put our money into annually to allow our elected government to spend on services, like the NHS. So rebates will mean that this money will not be in the pot - it is instead in a private individual's hands as part of his choice to invest in a company. Government has essentially handed the power to spend part of the tax pot to anyone willing to back an ECF pitch. These decisions are now being made by mainly unqualified people - bit like having Jonathan Ross as PM.

This works out fine if the net result is an increase in GDP and jobs - the money has been well spent. But what if most if these companies do not grow, some go bust and the rest remain like so many SME's, a vehicle for earning a living for the owners? To what extent could we say that this is a good use of taxpayers money?

Why would Government expect the man in the street to be better at picking a winner in business terms than a business expert - say a banker, VC or entrepreneur? Surely that is completely counter intuitive. Certainly from reading the forums on sites like Crowdcube, the evidence is that most people have no clue what makes a business run well or fail.

In an age when we are very obviously struggling to pay the basic running costs of the NHS, does it make sense to keep throwing money at these 'businesses' when there is evidence that they may not deliver and no evidence after 4 years that they can. Sure we can sit and wait a few more years for the outcome but isnt Government about steering a future course - one that is prudent and doesnt throw away our hard earned money. We can all look backwards.

We are contacted weekly by professionals who agree that this ECF bubble will end badly. It is time to tighten up the criteria used to hand out EIS and SEIS. Our taxes need better protection than to be placed at the whim of the man on the street.

Platforms need to be more accountable, EIS and SEIS criteria more stringent. At the moment we are freewheeling towards the precipice.