Capital gains increase means it’s time to look beyond selling shares to finance new investments

By James Mungovan, Chief Executive Officer, Europe, EquitiesFirst

7 January 2025

The increases in UK Capital Gains Tax (CGT) announced in last year’s budget change the calculus for investors who are looking to raise capital for new ventures.

Realising profits on equity portfolios in order to fund new investments has become a much more costly option, and slowing investment in UK companies could be one of the budget’s unintended consequences. The business community itself certainly didn’t receive the budget with much enthusiasm: an Institute of Directors poll found that two-thirds of respondents felt negatively about it – and did not believe it would support growth.

But there are plenty of other factors that determine whether investors and entrepreneurs decide to make a particular investment. The Institute for Public Policy Research (IPRR) argues that there are in fact much more important issues than CGT, such as market opportunities, broader economic conditions and access to financing.

It’s also clear that companies, entrepreneurs and investors still see opportunity in the UK. In spite of the pervasive fiscal gloom, Britain offers a wide spectrum of attractive investment prospects. The government’s International Investment Summit, held earlier in October 2024, secured billions of pounds of investments in sectors from data centres to life sciences. The entrepreneurs I talk to see no shortage of opportunities to put capital to work in the UK.

Furthermore, it looks like economic conditions are becoming more constructive. Inflation is moderating and the Bank of England’s second rate cut this year, on November 7, led to an upgrade in the IMF’s growth outlook for 2024 and 2025.

But access to financing for the investment required to reignite growth remains a concern – and one that the new government itself highlighted in its Invest 2035 paper on a “modern industrial strategy” for the UK. Many banks remain unwilling to provide financing for the equity investments needed to drive growth.

This is of course a continent-wide problem that could well get worse before it gets better – even though interest rates are finally on the way down. After two years of successive tightening, banks in the UK and the euro area reported that the supply of credit remained largely unchanged in the third quarter of 2024, as revealed by the latest bank lending surveys released by the Bank of England and the European Central Bank.

At the same time, demand for loans among both corporates and consumers should pick up because of declining interest rates. This suggests that the gap between supply and demand could widen and that businesses are potentially facing even more difficulties in accessing credit at a time when insolvencies are still rising.

Moreover, the Bank of England has warned that the UK is still very much at risk of an intensified credit crunch because of the vulnerable state of financial markets. If businesses are starved of capital to invest in growth, the economy’s nascent recovery could stall.

Meanwhile, securing funding from private equity or venture capital investors could also become more difficult now that capital gains tax on “carried interest” — the profit earned on the sale of private market assets — is set to rise from a current 28% to 32% from April 2025. The government has also proposed further reforms from April 2026 that are likely to raise this rate further.

Non-bank lending is filling the void

Against this backdrop, the private credit market has been providing a much-needed funding lifeline for entrepreneurs and high net-worth individuals who need liquidity for investments. According to the Bank of England, non-bank financiers contributed nearly all of the roughly £425 billion net increase in lending to British businesses between 2008 to 2023.

As private credit grows, it is becoming much more diverse. One of the hottest areas in a market now worth nearly $2.5 trillion globally is so-called specialty finance, which allows borrowers to raise capital against a range of financial assets like mortgages and other loan portfolios.

Individuals who are major shareholders in listed companies can also turn to specialist financiers to raise financing against their stock portfolios, allowing them to hold on to those core, long-term investments at the same time as accessing liquidity for new capital commitments.

Tax advisors like to stress that CGT is a “voluntary” levy. Unlike income tax, significant shareholders in listed companies can simply choose to avoid it by not selling their holdings.

You may believe that UK equities will gain value over the next few years as growth improves and the Chancellor’s proposed pension fund reforms bring a new driver of demand for UK assets. Or, like companies from DP World to Iberdrola, you may see opportunities ahead for investment in Britain.

You may also be undeterred by reports that investors sold off nearly GBP1 billion from UK equity funds in the month leading up to the budget. After all, that can’t even be considered a rounding error relative to the London Stock Exchange’s GBP4.4 trillion market capitalization – and the lion’s share of UK equities are owned and traded by institutional investors who are not subject to CGT.

And you may also have a view that CGT may come down again one day, when the political cycle turns once more.

Holding any of these convictions would support the case for holding on to core, long-term investments and looking beyond equity sales and bank lending when it comes to funding new investment opportunities in the UK.

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