The Finance Bill received Royal Assent today meaning investors can no longer benefit from tax-efficient schemes, including VCTs and EIS, investing in low-risk businesses.
The bill, which was originally set to receive Royal Assent on 8 March but was delayed by a week, will introduce a "risk-to-capital condition" that will stop investors taking advantage of tax breaks by investing in low-risk venture capital trusts (VCTs) and enterprise investment schemes (EIS) - they will only receive tax breaks by investing in higher-risk vehicles.
Alex Davies, founder of Wealth Club, a broker that specialises in tax-efficient products for HNW clients, said: "At 11.05 today the Finance Bill received Royal Assent. This draws a curtain on lower-risk, asset and contract-backed EIS and SEIS. These types of investment have served investors well, but from tomorrow it will all be about growth offers."
Davies added that investors will have to be prepared to take some risk if they want the benefit of tax relief, but said he didn't think it would put investors off.
"In our experience, if the investment case is compelling, and the numbers stack up, investors take the risk.
"We have recently helped a start-up vet hospital raise close to £3m under EIS. No asset-backing, but a good idea, a growth market and a great team, coupled with the potential for a decent return. That's precisely the kind of company the government wants to help raise funds. So the future is going to be more risky, but quite possibly more interesting and exciting."
The planned changes come after Chancellor Philip Hammond's 2017 Budget, in which he said he wanted to crack down on these schemes being used as capital preservation vehicles instead of ways to fund high-growth but high-risk businesses.
These types of funds have been particularly popular among high-net-worth investors pushed away from further pensions savings by cuts to pension tax relief in recent years, and have have seen an influx of new investment recently ahead of the deadline.
The new rules are expected to target EIS funds that invest in pub chains, crematoria, self-storage companies, films and funds that have already completed bumper fundraisings in advance of the rule change, and that EIS funds will be hit harder than VCTs as they invest more commonly in asset-backed schemes and enjoy less flexibility than VCTs.
Davies added: "The government's aim is to stop investors benefiting from tax relief if they haven't taken sufficient risk. This may mean investments offering significant downside protection could no longer qualify for EIS.
"Downside protection could be in the form of asset backing, such as a pub owning the freehold or a shipping company owning a ship, or in the form of contract backing, such as a film-production company with distribution contracts already in place."
He said VCT investment for the tax year stood at £560m, as at 15 March. This compares with a total of £542m for the 2016/17 tax year, indicating "business is way ahead".
"The increase is probably more attributable to rumours tax relief was going to reduce on VCTs in the budget, plus structural changes, for example pensions, buy-to-let restrictions and dividend tax, which means demand for VCTs and EIS is only going to grow.
"We have seen a lot of people investing in EIS prior to the Royal Assent which makes sense."
According to the Enterprise Investment Scheme Association (EISA), £1.8bn worth of inflows went into EIS during the 2016/17 tax year, of which around £900m was in EIS funds. Around half of these are expected to be shut down.
EIS not willing to comply may remain open but will not be able to do any further fundraising for non-compliant investments in the future.
Oxford Capital Media EIS raised its target of £10m just five months into the last tax year while Select Media Marketing EIS fund raised £5.3m by 2 March this year, compared with just £1.2m in 2017.
Pub company investments have also been popular. Downing Pub EIS fund raised £10m in the current tax year and is already closed to new investments.
Mark Brownridge, director general of the EIS Association, told Investment Week: "I do not think fundraising has suffered this year. There have been two trends, one being that most EIS and VCT funds have raised money much earlier than normal.
"The second has been that the rule changes have created a 'buy now whilst stocks last' investment opportunity for capital preservation focused EIS's...until everything becomes 100% focused on growth.
"This has meant most of the capital preservation EISs have already hit capacity or are very close to hitting capacity and will fill up very soon. I do not think capital preservation EIS will raise more this year - they will raise largely the same as last year but just do so quicker."