The investor's cut: a tax credit for funding films

Backing Brit flicks is still a good way to boost your financial planning, argues Simon Hildrey

Investing in British films can be a profitable venture. Four Weddings and a Funeral and Trainspotting, for example, have gone on to enjoy worldwide success.

As a reward for assisting the British film industry, investors have enjoyed attractive tax breaks, enhanced by the incoming Labour government in 1997.

But the situation changed on 10 February. The Inland Revenue clamped down on limited liability partnership schemes, which it regarded as being too aggressive in trying to reduce investors' tax bills. This has led to the closing of a number of film partnership schemes.

The film industry claims that as many as 40 movies in pre-production have been threatened by the Revenue's decision.

But while financial advisers admit film partnerships are now less attractive for tax-planning purposes, they argue that such schemes can still be used to defer tax.

Patrick Stevens, tax partner at accountants Ernst & Young, says planning with film partnerships has reverted to where it started, with sale and leaseback tax deferral schemes, under legislation known as Section 48. These schemes enable investors to receive a tax deduction in the first year of their investment, which they then have 15 years to pay back to the Revenue.

Under the schemes, a production company sells a film to a group of individual investors and leases it back over 15 years. This produces a steady flow of income for the investors; the amount they receive is not usually determined by the success of the film and is, in effect, a loan to the film company. Such schemes are provided by Close Brothers and Grosvenor Park.

In return, investors also receive a deduction against their income and capital gains tax liability the moment they invest, by being able to write off production costs in year one. Mr Stevens says: "If a top-rate taxpayer invests £100,000, he will save £41,000 in tax in the first year."

The minimum investment tends to be £100,000 and, to qualify for a scheme, the film has to be British and cost less than £15m to make. Investors usually borrow 80 per cent of the money they put in and can invest or spend the £41,000 in saved tax in the first year. The typical "hurdle rate" - the return you need to generate before you can make a profit on your investment - on such schemes is currently 4 to 5 per cent. The hurdle rate includes the interest on the loan, the cost of the scheme and income received.

While most investors use the £41,000 "loan" to try to gain a better return than 5 per cent, there are other benefits, says Mr Stevens. When you reach retirement, the amount you pay in tax will fall to 22 per cent. If you invest in a scheme a few years before you retire, you will pay back less over the 15 years.

Jim McLatchie, associate director of independent financial adviser Charcol Aitchison & Colegrave, says sale and leaseback is a good financial planning tool: "The scheme can be used as a way of providing capital upfront when it is needed for things like school and university fees." It helps, he adds, that the loan can be repaid over time, "particularly as the heaviest repayments are towards the end of the 15-year term, when you may have fewer other expenses".

Mr Stevens warns some sale and leaseback initiatives carry a risk to your capital. "These particular schemes have usually achieved some pre-selling of the film, so you're guaranteed something like 30 per cent of your money. They work on the same tax deferral principle, except the rest of your capital depends on the success of the film." It is possible to make money on such schemes but financial advisers regard them as a medium- to high-risk investment.

Section 48 is due to expire in 2005. So investors have just one more calendar year (or three tax years, including the current one) in which to take advantage of the scheme. Another route into films is through an Enterprise Investment Scheme (EIS) company. Investors benefit from income tax relief at 20 per cent and capital gains tax exemption if they leave their money in for more than three years. Added incentives are that the minimum investment is often no higher than £2,000 - and you have a chance to appear as a film extra.

Luke Morton, who works for a PR firm in London, has invested in two films through EIS companies, The Damp and Love FM, which both begin production in May. He says he already had a portfolio of stock market investments and saving plans. "I was disappointed with my returns so I wanted to invest in something different. I see it as a complete punt and am prepared to lose my money. I have only invested £2,000 in each film. You get other benefits like going to the premiere."

If one of the films is as successful as Four Weddings and a Funeral, he will also make a decent profit.