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Understanding Tax: The UK tax opportunities for corporate and fintech startups

White & Case Technology Newsflash

This article is produced by our UK Tax team, which is part of our global Tax practice. Our series, "Understanding Tax", explores commercially relevant and recent changes to the UK and international tax environment.

 

Fintech in the UK

For anyone wondering where to base their financial technology (fintech) startup, the UK should feature high on the list of jurisdictions to consider.

The UK's credentials as a welcoming environment for tech and fintech businesses are impressive: Venture capital investment in UK tech companies, steadily increasing over the past few years, soared by 44 per cent last year (with the UK receiving over a third of all tech investment in Europe), putting the UK behind only the US and China as regards total venture capital funding received in 2019. Importantly, this growth is not confined to London—Edinburgh, Manchester and Leeds, Birmingham, Cambridge and Oxford are also acknowledged as fintech hubs.

"The UK is home to more billion dollar start-ups than anywhere else in Europe" – UK FinTech State of the Nation

There are a number of factors behind this growth.

For example, fintech businesses benefit from the UK's existing strength in financial and professional services, as well as from the UK regulatory environment, which is seen as robust but supportive (with the UK's Financial Conduct Authority (FCA) having established an Innovation Hub to help encourage new financial products and services, as well as a "regulatory sandbox" allowing firms to test new products and services with real consumers but in a controlled setting).

Other factors include the UK's highly regarded universities helping to fuel a skilled workforce alongside specialised visa programmes for tech experts and entrepreneurs encouraging diverse incoming talent, as well as the high digital uptake by UK consumers providing a strong demand from a digitally savvy domestic customer base that is open to new consumer technologies and innovative financial products.

However, key among the UK's attractions are its tax regime and the benefits it can provide.

With proper forethought and structuring, the UK tax regime can offer material benefits to startup businesses, and to tech and fintech startups in particular. These benefits are, in part, provided by the overall corporate tax regime, in part by the UK's tax landscape for startups, and in part by its tech specific tax regimes.

 

The UK's corporate tax regime

The UK's corporate tax regime has a number of attractive features:

  • The headline corporation tax rate is competitive at 19 per cent
  • There are practical participation exemptions for both certain equity disposals and the receipt of many forms of dividends
  • There is no domestic withholding tax on dividends, and a series of practical and commercially viable means of avoiding the domestic withholding tax on interest payments and
  • Interest paid by a UK company is generally deductible, though corporate interest restriction rules broadly limit corporate tax deductions for net interest expense to 30 per cent of a group's UK earnings before interest, tax, depreciation and amortisation (EBITDA)

These characteristics help provide the UK with a generally competitive tax regime for corporates in a playing field that, in the wider EU context, has been generally levelled by the implementation of the two Anti Tax Avoidance Directives (ATAD I and II), which require all member states to enact certain anti avoidance measures.

 

The UK's tax regime for startups

Startups can make use of a number of standalone regimes aimed at encouraging smaller businesses by offering tax relief to their owners, or by helping businesses to incentivise employees or to obtain important early-stage investment.

For individuals, entrepreneurs' relief can reduce capital gains tax payable on the eventual sale of their business from 20 per cent down to 10 per cent (albeit, due to recent changes, now only for £1 million of gain), where conditions are met.

Companies with employees can make use of the enterprise management incentive (EMI) share scheme in order to motivate those employees to boost the business's value by granting them share options on tax efficient terms.

Further encouragement for investment into small businesses is delivered through the enterprise investment scheme (EIS). It is designed to help smaller, riskier trading companies to find investors by offering those investors tax relief—where conditions are met, investors can claim back up to 30 per cent of the value of their investment in income tax relief, and can sell their investment shares without incurring capital gains tax. The seed enterprise investment scheme (SEIS) is similar to the EIS but is aimed at even smaller investees, offering even higher tax reliefs to investors to reflect the higher risks of investing.

Venture capital trusts (VCTs) also boost investment in startups. VCTs are companies which subscribe for shares in (or lend to) small, unquoted companies, and those who invest in the VCT itself will, where conditions are met, obtain tax benefits including income tax relief, exemption from tax on dividends and exemption from capital gains tax on disposals of their shares.

The EMI, EIS and VCT regimes often play a very important role in helping to source and secure early-stage capital, and there remains a very active investor market in this area.

 

The UK's tax regime for tech businesses

As well as being potentially eligible for the benefits available to startups generally, technology and fintech companies may be eligible for more targeted beneficial tax regimes.

The UK's research and development (R&D) regime, for example, supports companies which seek to innovate in science or technology (even where they are unsuccessful) by allowing them enhanced deductions against their profits for corporation tax in respect of certain qualifying expenditure; and —where the company is loss making—it can surrender those losses in return for a cash credit (which has increased in recent years to 14.5 per cent). This can be invaluable for startups in the early years of operation.

The patent box regime allows companies to apply a lower rate of corporation tax to profits from exploiting eligible patents. In addition, the UK's tax regime for "intangible assets" —such as intellectual property, patents and design rights—has recently become more beneficial with tax relief for acquired goodwill and certain other intangibles having been introduced, and with additional restrictions on claiming relief for older intellectual property rights set to be removed.

Overall, the UK's tax regime provides the tools to help make the UK a place where tech and fintech businesses can thrive, although careful thought should be given from the outset of any business venture to ensure that maximum advantage can be taken of those beneficial tax regimes which may be applicable at any given point in a business's life cycle —along with the many non tax advantages which the UK has to offer.

In order to maximise these potential tax benefits, careful structuring and planning is required. For example, this will include:

  • Structuring the business to ensure that it is, and remains, attractive to EIS and VCT investors
  • Ensuring that the company can secure the R&D benefits which are available
  • Considering how best to manage the application of the UK patent box regime and
  • Putting in place additional corporate structuring—such as a traditional OpCo/IPCo split—both to maximise the tax position as well as to protect the IP and to facilitate growth and future corporate activity

The use of an "OpCo/IPCo" structure is a good example of where upfront planning can be of material benefit. Locating the company's IP in a suitable jurisdiction can, in certain circumstances and if properly structured and operated, give rise to additional benefits (such as tax deductions for licence payments by the OpCo and managing any future disposal). However, care is needed with respect to the location of the IPCo, the timing of any transfer of IP, the future operation of the IPCo and the general application of the UK tax regime.

Working alongside our market leading Tech and Fintech Corporate practice, both in the UK and in Europe, our UK Tax team is ideally placed to help businesses secure long term tax efficiencies.

As with any of the documents in the "Understanding Tax" series, if you have any questions on the above, please feel free to reach out to your regular contact at White & Case. Alternatively, please contact either of the authors.

 

Click here to view other articles of the "Understanding Tax" series

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