The ISA rules[1] have been changed. There were two types, a cash ISA and a stocks and shares ISA. A third ISA type has now been added – the Innovative Finance ISA (“IFISA”).

Its introduction was heralded as enabling peer to peer loans to be held within this new type of ISA but debentures issued by private companies may also be purchased and held in an IFISA where certain conditions are met. This means that interest on such debentures, more commonly referred to as ‘bonds’, can be paid tax free to the extent that investors qualify for ISA tax benefits and their subscriptions to all ISA accounts do not exceed £20,000 per annum. Existing cash balances within the other types of ISA account can be transferred to an IFISA. We are currently working on four IF ISA bond issues and anticipate being instructed on a further two shortly. There are currently two uses of the IFISA structure.

The first use is where the issuer of bonds will employ the capital raised in its own business. We are currently acting for a property developer which wants to establish a bond issuance platform from which up to £100m in total might be raised by the issue of bonds for property development.

The second use is where the issuer of debentures will employ the capital raised in funding a money lending business where loans will be advanced to infrastructure projects. We are currently acting for three such issuers where a platform will be established from which an initial €5m will be offered on the basis that if the offer is attractive to investors then the information memorandum will be morphed into a document we can take through the UKLA in order that more substantial amounts can be raised. Current rates being considered for offer are 3-year money at a rate of 6.5% pa; 4-year money at 7.5% pa and 5-year money at 8.5%pa.

I think there are potentially two other uses. IFISA bonds could be used to refinance all or part of an existing EIS investment enabling an EIS investor to receive tax free interest whereas at the moment he might only be able to receive income that would be taxed. [2]

IFISA bonds might also be used by the Government as an alternative to PFI. The ordinary definition of what is a ‘debenture’ for the purposes of section 77 of the Regulated Activities Order (RAO) – an instrument creating or acknowledging indebtedness – excludes bonds issued on behalf of the government of the UK, a regional government or a local authority but for the purposes of the ISA regulations these types of bonds are brought back into the definition. Could the government have it in mind to refinance and/or redevelop public infrastructure assets using IFISA bond capital?

The diagram below illustrates a potential structure where IFISA bond capital is initially used to refinance part of an existing portfolio of loans before being wholly deployed in new loans.

The following conditions must be satisfied for a holding of bonds to be held within an IFISA account:

• bonds must be transferable securities issued by a company or a charity;

 

• the investment in the bonds must be facilitated by a person carrying on an activity of [arranging deals in investments] through an electronic system for such purpose;

 

• that person or another, acting under an arrangement with that person or at that person’s direction, in respect of the investment, must treat the bondholder as its client and undertake on behalf of the bondholder to— (i) receive payments in respect of the bond; 
(ii) make payments, when due, in respect of the bond to the bondholder; and (iii) exercise, or facilitate the exercise of, rights in respect of the bond;

 

• the investment in the bond must not be not part of a scheme or arrangement the main purpose, or one of the main purposes, of which is the avoidance of tax;

 

• the bond must not be made available to the bondholder by reason of their or of another’s status, whether past, present or prospective, as an employee, director, partner, trustee or the holder of any office;

 

• the bondholder must not be connected with the issuer of the bond, and for this purpose “connected” has the meaning given in section 170 of Income Tax Act 2007 with the omission of the reference to “in period A” in sub-section (7); – this is the EIS test for ‘connected’ where a person is ‘connected’ if he is entitled to acquire more than 30% of the ordinary share capital of the issuer;

 

• the bond must not be connected with any other investment held outside an IFISA account by the bondholder or any other person, and for this purpose an investment is to be treated as connected with another if— (i) either was made with reference to the other or with a view to enabling the other to be made on particular terms; (ii) the terms on which either investment was made would have been significantly less favourable if the other investment had not been made; and

 

• the investment in the Bond must be made on genuine commercial terms.

 

With regard to the third potential use of IFISA bonds, that is as a tool to refinance an EIS investment, condition (g) is the one to watch but provided the terms of the IFISA bond are ‘on market’ it should remain eligible for inclusion within an IFISA account.

[1] The Individual Savings Account Regulations 1998 (SI1998 No.1870) as amended.

[2] In accepting such a refinancing option the investor would dispose of all or a proportion of his shares in order to subscribe bonds. If the disposal falls outside the relevant three-year period the disposal will be free of capital gains tax but any deferred gains would be brought back into charge and the investor would also lose the ongoing potential business property relief from inheritance tax which attached to his shares.

Roger Blears

2 November 2017