One of the most anticipated – and potentially distorting – policy changes speculated upon is a major increase in Capital Gains Tax (CGT), the tax levied on the profit realised from the sale of a capital asset, such as stocks and other investments.

Uncertainty over the future of CGT and other taxes is already causing disruptions in the economy. Since the Labour Party took office in July this year, executives from some of the UK’s biggest companies have sold more than £1 billion in shares amidst fears that the Chancellor might announce a rise in CGT to match income tax.

The current uncertainty in the macro economy is undoubtedly affecting the UK’s startup ecosystem and the entrepreneurs, investors, and employees of the VC and PE-backed companies within it.

The UK’s appetite for risk

It’s no secret that the startup ecosystem is fuelled by a willingness to take a risk. Entrepreneurs and investors, especially venture capitalists and angel investors, sacrifice financial certainty for the prospect of higher returns. Recognising that successful startups deliver outsized benefits to the economy, governments have historically supported that risk taking in the form of lower taxes on profits made from the eventual sale of the business. This is how the capital gains system works.

One consequence of an increase in CGT is that it would drive a change for investors in that risk versus reward calculation. They would be tempted to hold on to their investments for extended periods, become more selective in making new ones, or shift towards funding lower-risk later-stage companies. This, in turn, will likely reduce liquidity for both VCs and entrepreneurs, slowing down the funding cycle for early-stage startups.

The reality of investing in startups is brutal. Nine out of ten startups fail, and those that thrive can take many years to realise any value for investors. Backing early-stage startups will always be a significant risk, which is why tax incentives such as EIS and SEIS are crucial in stimulating capital flowing into the market. But without sufficient investment and investors willing to take a risk, we will never bring world-changing ideas to market – an area in which the UK has historically excelled on the global stage. 

If the government increases CGT and significantly reduces the value of a successful investment or business exit, fewer people will be willing to take the risk at the crucial early stages of a company’s existence. The future prosperity of the economy is dependent on entrepreneurialism and wealth creation – if we’re not creating these companies, how can we expect the economy to grow?

Policy certainty is critical

With so much happening in the world right now (from conflict and elections to rising interest rates and tariff barriers) it’s easy to see why the venture capital market has slumped under the weight of uncertainty and caution. It is hoped that some of that will change with the budget, but there are long-term lessons to be learned about the need to communicate with the business community regarding policy direction.  

One of the knock-on effects of current policy uncertainty is the impact on the future crop of founders. Many new founders will already be looking at other territories – the US or Europe – to establish their companies where markets are more accessible and the environment is more favourable.

To ensure that our economic potential is fulfilled, the government must act now and implement policies that will help, not hinder, UK entrepreneurs. We’ve already seen positive policy changes, such as the Mansion House Compact, which will unlock £50 billion for startup investments by 2030 and the extension of the EIS sunset clause.

But given the length of entrepreneurial journeys, certainty over government policy is one of the best ways to create a positive environment for entrepreneurs and investors, enabling them to make the big, long-term,  bets needed to create world-leading companies that drive economic growth.

A sense of optimism

The UK has the world's second-largest venture capital market, with our fast-growing firms already contributing £1 trillion to our economy and providing 3.2 million jobs. Some of the world’s best and brightest minds come through our universities, and we have a legal system which is valued as transparent and trusted. We are also continuing to build networks across the country to rebuild the investment landscape outside of London. There are good reasons to found a business here and the UK is well-placed to drive world-leading innovation.

Let’s hope that the government recognises this and takes action to support rather than stifle the entrepreneurial spirit that will shape the future of our economy.

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