SEIS: The UK Startup’s Secret Weapon for Seed Funding

Why SEIS? In the fiercely competitive arena of the UK’s startup ecosystem, the problem of securing early-stage funding for innovative, high-risk ventures is a perennial challenge. Traditional financial institutions, by their very nature, are averse to the kind of speculative bets that characterize the innovation space, leaving founders with little in the way of collateral or a proven track record to secure a loan. This creates a critical funding gap,  a chasm between a brilliant idea and the capital required to build a minimum viable product, hire a core team, and begin a commercial operation. 

Without a mechanism like the SEIS to bridge this gap, many promising startups are forced to either fold or compromise their vision, which stifles the very engine of economic growth and technological progress that the UK seeks to cultivate. This is where organizations like Innovate UK and government schemes like SEIS and EIS come into play, providing crucial support and helping to address this market failure.

SEIS: What Is It?

The Seed Enterprise Investment Scheme (SEIS) is a UK government initiative designed to encourage investment in early-stage, high-risk companies. At its core, it offers substantial tax incentives to individuals who purchase new shares in qualifying startups. For the investor, this means up to 50% income tax relief on their investment, an exemption from Capital Gains Tax on profits, and loss relief if the venture fails. For the entrepreneur, SEIS is a powerful tool for attracting much-needed seed capital. It makes a company’s shares a highly attractive proposition to angel investors, turning a speculative investment into a financially de-risked opportunity for funding innovation.

SEIS: What is it for?

The Seed Enterprise Investment Scheme (SEIS) is designed to fund new, high-risk, trading companies. The money raised must be used for a “qualifying trade,” which includes most commercial business activities with the aim of making a profit.

However, there is a specific list of “excluded activities” that do not qualify for SEIS. If a company’s trade consists “substantially” of any of these activities (defined by HMRC as more than 20% of its business), it will not be eligible for the scheme.

SEIS: Qualifying Activities

• Most trades qualify. This includes activities common to innovative startups, such as research and development, software development, product manufacturing, and retail or wholesale distribution.
• The funds must be used to grow and develop the business, for purposes such as product development, hiring staff, marketing, or purchasing essential equipment.
• The company must be carrying on a “new” trade, which means it has not been carried on for more than three years at the time the shares are issued.

SEIS: Excluded Activities

The following activities are specifically excluded from the SEIS scheme:

• Dealing in land, commodities, futures, or financial instruments.
• Legal and accountancy services.
• Property development.
• Financial activities, such as banking, insurance, money-lending, or debt-factoring.
• Leasing or letting assets on hire.
• Receiving royalties or license fees (unless the company created the intangible asset itself, such as software).
• Farming or market gardening.
• Operating or managing hotels, nursing homes, or residential care homes.
• Generating or exporting electricity or producing gas or fuel.
• Coal or steel production.
• Shipbuilding.

SEIS: What is High Risk?

In the context of SEIS, a company is considered high risk if it meets the “risk to capital condition”, a core principle introduced by HMRC to ensure the scheme supports genuinely entrepreneurial ventures. This isn’t based on a single factor, but rather a holistic assessment of the company and its investment opportunity.

To meet this condition, the company and its investors must satisfy two main criteria:

1. Growth and Development Objective

The company must have clear and credible plans to grow and develop its trade over the long term. This means it can’t be a business that’s already stable, low-growth, or primarily a vehicle for preserving capital. HMRC looks for evidence that the investment will be used to fuel this growth, such as:

• Projected increases in turnover, customer base, and employee numbers.
• A clear business plan outlining how the funds will be used for research and development, new product creation, or market expansion.
• The absence of arrangements that would give investors a low-risk return, like investing in assets that are not integral to the trade.

2. Significant Risk to Investor’s Capital

The investment must carry a significant risk that the investor could lose more capital than they are likely to gain as a net return, even after accounting for the generous SEIS tax relief. This is the central test for a high-risk company. HMRC will scrutinize arrangements to ensure they’re not a form of tax avoidance. Factors that would indicate a failure of this condition include:

• Secure Income Streams: The company already has a secure or guaranteed income source, making a significant loss unlikely.
• Asset Preservation: The investment is primarily used to acquire or preserve assets, rather than to grow the trade.
• Risk-Reducing Arrangements: The company has arrangements in place that give an investor priority over other investors, allow for an easy exit, or otherwise protect their capital.
• Low-Risk Business Model: The business model is a replication of an existing, proven concept with minimal commercial risk.

SEIS: Impact on Risk to Capital that improves investability 

In essence, if the investment looks so attractive that it would be compelling even without the SEIS tax reliefs, it will likely fail the “risk to capital” test because it isn’t considered high risk enough.

SEIS impacts the “risk to capital” by directly reducing the investor’s exposure to loss. While the scheme requires the investment to be inherently high-risk, the generous tax reliefs act as a financial buffer that mitigates the potential for a total loss. In essence, SEIS doesn’t eliminate the risk; it transfers a significant portion of it from the individual investor to the government through tax savings.

How It Works in Practice

SEIS lowers an investor’s effective financial risk in two primary ways:

1. Income Tax Relief

SEIS provides a significant upfront income tax relief of up to 50% on the amount invested. For example, if an investor puts £200,000 into an SEIS-qualifying company, their effective net cost could be as low as £100,000. This immediate tax saving means they are already “out of pocket” by only half of their initial investment, even if the company’s value drops to zero.

2. Loss Relief

If the investment fails and the shares become worthless, the investor can claim loss relief against their income tax. The amount of loss they can claim is their initial investment minus the income tax relief already received. For a top-rate taxpayer, this additional relief can significantly reduce their effective loss even further. This mechanism serves as a safety net, ensuring that an investor’s potential financial hit is greatly reduced.

These tax reliefs are designed to make high-risk investments in startups more palatable. The schemes do not change the underlying commercial risk of the business itself, but they are a powerful incentive that encourages individuals to support entrepreneurial companies that might otherwise struggle to attract funding.

SEIS: How do Seed and Angel Investors feel about SEIS?

Investors generally have a very positive view of SEIS. It’s considered a highly effective tool for making high-risk, early-stage ventures a more palatable and attractive investment opportunity.

SEIS transforms the risk-return profile for investors in several ways:

Significant Tax Reliefs

The primary appeal of SEIS is the generous tax reliefs it provides, which directly lower the investor’s exposure to loss. Investors can receive up to 50% income tax relief on their investment, an exemption from Capital Gains Tax on any profits, and the ability to claim loss relief if the business fails. This suite of incentives makes the investment “de-risked” in a way that is unique to the UK’s startup ecosystem.

Access to High-Growth Potential

For savvy investors, SEIS provides a mechanism to support genuinely innovative companies that could yield substantial returns. The scheme’s focus on businesses less than three years old ensures that investors are getting in at the ground floor of ventures with significant growth potential.

Favorable Market Conditions

The latest HMRC statistics show a significant increase in SEIS funding, highlighting a strong appetite among investors for early-stage UK businesses. The scheme’s recent expansion, which raised the investment limits, has further fueled this trend, making SEIS a crucial part of the UK’s venture capital ecosystem.

The video “What is Investor Sentiment?” explains the general mood of investors toward the market, which provides helpful context on why tax incentives like SEIS are so effective.

SEIS: Qualification criteria. So you Qualify?

To qualify for the Seed Enterprise Investment Scheme (SEIS), a company must meet a strict set of requirements set by HMRC. These are designed to ensure the scheme supports only small, high-risk, genuinely new businesses in the UK.

General Company Requirements

• Age: The company must have been trading for less than three years.
• Assets: The company’s gross assets must not exceed £350,000 immediately before the SEIS share issue.
• Employees: It must have fewer than 25 full-time equivalent employees at the time of the share issue.
• UK Establishment: The company must have a permanent establishment in the UK. This means an essential and substantial part of the business is carried out in the UK.
• Lifetime Funding Cap: A company can raise a maximum of £250,000 in its lifetime through SEIS.
• Independence: The company must not be controlled by another company and cannot be a member of a partnership.

Trade & Investment Requirements

• Qualifying Trade: The money raised must be used for a new “qualifying trade” and spent within three years. Most commercial activities qualify, but a specific list of excluded activities will disqualify a company, such as property development, legal services, or financial activities.
• Risk to Capital Condition: The investment must genuinely be high-risk. This means the company must have a long-term growth and development objective, and the investor’s capital must be at significant risk, with no guaranteed return or risk-reducing arrangements in place.
• No Prior EIS/VCT: The company must not have previously raised money through the Enterprise Investment Scheme (EIS) or a Venture Capital Trust (VCT).

SEIS: What does Qualifying Trade mean?

A “qualifying trade” is a business activity that is eligible to receive investment under the Seed Enterprise Investment Scheme (SEIS). HMRC defines it as a trade that is conducted on a commercial basis with the intention of making a profit, and which does not “substantially” include any of a specific list of excluded activities.

The funds raised through SEIS must be used for a new qualifying trade that has been carried on for less than three years.

Excluded Activities

A company will not qualify for SEIS if more than 20% of its business consists of any of the following activities:

• Financial Services: Including banking, insurance, money-lending, or financial-based services.
• Property & Land: This covers dealing in land, property development, and leasing or letting assets.
• Legal and Accountancy Services: Providing these professional services is excluded.
• Hotels & Care Homes: Operating or managing hotels, guest houses, nursing homes, or residential care homes.
• Primary Industries: Activities like farming, market gardening, forestry, timber production, coal production, and steel production are not eligible.
• Energy Generation: This includes generating or exporting electricity, or producing gas or fuel, with some specific exceptions.
• Royalty-Based Income: Receiving royalties or license fees is excluded, unless the company that issued the shares created the intellectual property itself.
• Other Activities: Dealing in commodities, futures, or financial instruments.

Most commercial activities, especially those in the technology and innovation sectors, are considered qualifying trades and are well-suited for SEIS

SEIS: Why is it useful to innovators?

Innovative startups apply for SEIS to strategically bridge the critical funding gap that exists for unproven, high-risk ventures. Given that traditional loans and institutional funding are often inaccessible, SEIS provides a powerful mechanism to attract capital from a different source: individual angel investors. By offering significant tax reliefs, the scheme transforms an otherwise speculative proposition into a de-risked and highly attractive investment opportunity. This not only unlocks a crucial pool of early-stage funding, but also serves as a stamp of credibility. A company that has navigated the SEIS application process demonstrates a solid business plan and a commitment to long-term growth, which is a key signal for investors looking to back genuine innovation. In essence, SEIS enables these startups to secure the patient capital needed to focus on research and development without the pressure of immediate returns.

SEIS and Grant Funding: The combinator effect for investors

While SEIS provides a powerful incentive for private investors, a startup’s funding strategy need not end there. In fact, many innovative companies leverage a “double bonus” combinator effect by combining SEIS with public funding mechanisms like Innovate UK Grants, Innovate UK Loans, and EIC grants.

These grants and loans provide crucial non-dilutive capital, which allows a startup to fund ambitious research and development projects without giving away valuable equity. This is particularly valuable for deep tech ventures where the upfront R&D costs can be significant.

The combination of SEIS and grant funding creates what can be described as the perfect solution for investors, leveraging a powerful combinator effect that significantly reduces risk while enhancing a startup’s profile. Grant funding from credible bodies acts as a form of rigorous, third-party validation, signalling to investors that the company’s technology and business model have already been vetted by national experts. This de-risks the investment by boosting the company’s credibility and increasing its likelihood of success. 

At the same time, the grant provides crucial, non-dilutive capital for a startup’s early, high-risk R&D and operational costs. This preserves the private capital from SEIS investors, allowing it to be used for commercialization and growth, while the investors still benefit from the scheme’s generous tax reliefs and loss protection. 

The result is an enhanced investment profile where public and private funding work in synergy to make a high-potential venture a much more secure and attractive proposition.

Innovate UK and Innovative Startup Grant Funding

Innovation grants and loans, primarily from bodies like Innovate UK, represent a game-changing source of non-dilutive capital for innovative UK startups. Unlike investment, this funding doesn’t require you to surrender equity, which means you can fuel ambitious research and development without diluting your ownership. However, securing these funds is a formidable challenge; the application process is intensely competitive, demanding a highly specific and compelling proposal to win. This is where professional guidance becomes invaluable. 

Novigo Grant Funding Consultants specialize in navigating this complex landscape, leveraging deep expertise to identify the perfect funding opportunities for your unique project. They work with you to craft a persuasive, high-quality application that directly addresses the funder’s strict criteria, dramatically increasing your chances of success. They manage the arduous paperwork and strategic messaging, allowing your team to remain laser-focused on building the future. Don’t leave millions in potential funding on the table. 

To explore these powerful opportunities, call now on 07868 748856.