Over recent years HMRC has implemented several changes for partnerships and limited liability partnerships (LLP’s) with the aim of increasing transparency. This will enable HMRC to track the flow of profits and losses through these entities, and ensure that these have been taxed appropriately. This move towards tax transparency links in nicely with the objectives further down the line of Making Tax Digital (MTD) (read our update here) and may cause firms to seriously consider the benefits of a corporate structure.
Salaried members’ rules
Legislation was implemented in April 2014 which has forced LLP’s to carefully assess how tax is applied to non-equity or minor equity holding members. HMRC contended that in certain criteria, rather than being self-employed, individual members would be processed through the PAYE scheme.
There are three conditions which when all met, would mean that profit share is seen as that of a salaried member, being:
- Disguised salary – at least 80% of the amounts payable to the member is ‘disguised salary’.
- Significant influence – the member does not have significant influence over the affairs of the LLP as a whole.
- Capital contribution – the members capital contribution is less than 25% of their disguised salary.
Further details on these conditions can be found in our previous article here.
The implications of this legislation are potentially significant:
- Employer’s National Insurance would be payable at 13.8% on their profit share.
- P11D’s to be prepared on any benefits in kind (and class 1A NIC payable on their monetary values).
- PAYE/NIC payable in the next month (rather than through Self-Assessment).
Therefore it is important that these conditions are carefully considered ahead of the year end, and suitable evidence maintained to substantiate any decisions made, should HMRC ever enquire further.
If there are one or more conditions broken that member would continue to be considered self-employed, but the commercial and tax implications should be considered on an individual basis.
If a members circumstances change during the year, a reassessment is expected to be actioned at that stage.
Mixed partnerships legislation
Some LLP’s and traditional partnerships have historically had a limited company as a member. The ‘mixed partnership’ legislation, implemented at the same time as the salaried members’ rules, introduced more stringent rules on who gets assessed to tax where a corporate member/partner is controlled by other individual members/partners. As a result of this, with the move towards tax transparency, the profit allocation is taxed on the individual beneficial owners of the corporate entity in most instances, rather than the company (where corporation tax is typically tax at a lower rate).
Still in existence is the fact that the enhanced capital allowance claim, Annual Investment Allowance (AIA) is unavailable in mixed partnerships.
Some professional firms have decided to incorporate into a limited company as a means to simplify their affairs and avoid the, at times, complicated legislation detailed above.
This approach may well streamline the affairs of many firms, and there was a general move in 2015 towards corporate structures when the capitalisation of goodwill created a distributable pot for shareholders, taxed at a favourable rate. However, this favourable tax treatment no longer applies, so it is especially important to consider the benefits of a corporate structure as a whole against your firm’s individual circumstances.
Amongst a myriad of factors which need to be considered is the reduced flexibility of distributions year on year, the availability of Research & Development credits and Entrepreneur’s Relief, and the added complexity of introducing or removing shareholders.
How we can help
As a result of the various tax changes over the last few years, it is worthwhile taking a regular review of your structure (ideally before each year end) to ensure that the tax is correctly assessed and evidenced, and to consider whether an alternative structure may be more beneficial for your firm.
For further information please speak with your usual Kreston Reeves contact or Max Masters here or on +44 (0)330 124 1399.