Which peer-to-peer loans, crowdfunding debentures and cash investments qualify for innovative finance ISAs.
Innovative finance ISAs
Innovative finance ISAs may be offered if you’re approved by HM Revenue and Customs (HMRC) as an ISA manager.
HMRC will consider ISA manager applications if you’ve been granted equivalent permission under the law of a territory outside the UK that is within the European Economic Area.
Any transfer or withdrawal rights in relation to non-cash investments in an innovative finance ISA are available only as set out in the terms and conditions of the account.
Innovative finance ISAs are only available to investors who are 18 or over.
Investments that managers may purchase, make or hold in an innovative finance ISA (‘qualifying investments’) are:
Eligible peer-to-peer loans are facilitated by an operator authorised within the meaning of section 31(1)(a) or (c) of, or Schedule 5 to, the Financial Services and Markets Act 2000.
The operator must have permission, other than interim permission under Chapter 4 of Part 8 of the Financial Services and Markets Act 2000 (Regulated Activities) (Amendment) (No. 2) Order 2013 to carry on one or more of the activities specified in Articles 36H (operating an electronic system in relation to lending) and 39G (debt administration).
Where a borrower defaults and the loan is assigned or novated in exchange for a payment(s) to the lender, the payment(s) won’t be made under an Article 36H agreement but will be eligible to remain in the ISA wrapper provided the loan was an Article 36H agreement when the lender entered into it.
All loans must be made using cash held by the ISA manager and must be entered into for genuine commercial terms and not as part of a scheme or arrangement the main, or one of the main purposes of which is the avoidance of tax.
Peer-to-peer loans held outside of the ISA wrapper can’t be sold, and repurchased inside an innovative finance ISA except where the loans are sold and are made available for purchase (using cash held by the ISA manager), at the same price, by any lender in the open market. That is, the loans must be available for purchase by more than one prospective purchaser.
It won’t therefore usually be open to a platform to purchase a lender’s portfolio of loans and for the proceeds to be used to reacquire the same loans inside the ISA wrapper. Any purchase would need to be of loans made openly available to any prospective lender.
Crowdfunding debentures are provided for in the Individual Savings Account (Amendment No. 3) Regulations 2016 which extends the range of investments that can be held in an innovative finance ISA. These are:
- crowdfunded debt securities issued by companies
- bonds issued by registered charities
Eligible crowdfunding debentures must:
- be transferable
- create indebtedness
- be facilitated by a person with FCA permissions to arrange deals in investments
- be made through an electronic system operated by that person in the EEA
The ISA investor must be treated as ‘the client’ of the person operating the crowdfunding platform (or a person acting on behalf of the platform). This arrangement offers the investor FCA regulatory protections and recourse to the Financial Ombudsman.
The platform (or the person acting on their behalf) must receive payments, make payments and exercise (or facilitate the exercise of) rights under or in respect of the debentures.
Qualifying debentures must be invested in within an innovative finance ISA and using cash subscriptions held by the ISA manager and must be entered into for genuine commercial terms and not as part of a scheme or arrangement, the main or one of the main purposes of which is the avoidance of tax.
Within the meaning given in section 170 of ITA 2007 the investor mustn’t be connected with the issuer of the debenture. The investment mustn’t be connected to any other investment held outside the ISA wrapper. Investments made available to an investor solely by reason of their employment or position within an issuing company or charity are excluded from eligibility as a qualifying debt security.
An investor’s cash subscription and any other cash held in an innovative finance ISA, for example, loan repayments and other payments when loans default, may be held only in sterling and must be deposited in:
- an account with a deposit-taker
- a deposit account or a share account with a building society that is designated as an ISA
In practice, managers can operate a single account, which may also hold other savings products, such as cash ISA, feeder fund and current account balances, provided:
- the account is designated as an ISA account
- the monies relating to each investor’s ISA are recorded and can be accounted for separately
Transfers and withdrawals
Transfer and withdrawal rights in relation to non-cash innovative finance ISA investments are available only as set out in the terms and conditions of the account.
Payments when loans default
When peer-to-peer loans default, some ISA managers allow access to a provisions fund to compensate lenders. Alternatively, the loan may be ‘paid up’ or purchased from the lender, with the loan being taken on by the ISA manager or a debt collection specialist.
Where ‘compensation’ in respect of the poor performance, loss (in whole or in part), depreciation or risk of depreciation of a qualifying innovative finance ISA investment is received:
- by the ISA manager, it can be used to purchase qualifying investments
- outside of the ISA wrapper, the investor will be able to make a defaulted investment subscription
This applies whether or not the qualifying investment continues to be held in the ISA at the time the payment is made.