Limited liability partnerships (LLP) – salaried partners
Currently, if an LLP carries on a trade or profession with a view to profit, then its members are treated as partners. However, finance bill 2014 will ensure that a salaried member of an LLP will be treated as an employee where the following conditions are met:
- There are arrangements in place, where the member performs services for the LLP and it is reasonable to expect the amounts paid to the member are either fixed, or if variable are unaffected by the overall profit or loss of the LLP (“the disguised salary”).
- That member does not have significant influence over the affairs of the LLP
- That member’s contribution is less than 25% of the disguised salary which is reasonably expected to be paid in respect of the services.
These rules will also apply if the individual is not a member of the LLP but performs services for the LLP under arrangements involving a non-individual and the main purpose of this arrangement is to avoid the salaried member rules.
This could have a big impact on both the partnership and individual. If caught under the new rules, the partnership will be liable to pay class 1 (secondary) national insurance in respect of the disguised salary. The individual partner will then be subject to class 1 (primary) national insurance instead of the previous class 2 and class 4 national insurance.
Mixed membership partnerships
Mixed membership partnerships involve both an individual partner and a non-individual partner such as a limited company. Previously it has been possible to minimise/defer any income tax liability on the individual partner through the use of such a structure.
If the partnership has a high level of profits during an accounting period, the partnership share ratio can be changed to allocate a higher portion of the profits to the corporate member. Therefore the profits will be taxable at the lower corporation tax rates, rather than at the higher or additional rate on the individual. Then, provided the individual partner is also a shareholder in the company, the profit can be distributed by the company via a dividend during a period of lower profit. Depending on the individual’s other income, this could be taxed at an effective rate of 0%.
Anti-avoidance legislation is to be introduced by finance bill 2014, to reallocate excess profits allocated to a non-individual to an individual partner where the following conditions are met:
- A non-individual partner has a share of the firm’s profit;
- The non-individual’s share is ’excessive’
- An individual partner has the power to enjoy the non-individual’s share or there are deferred profit arrangements in place; and
- It is reasonable to suppose that the whole or part of the non-individual’s share is attributable to that power or arrangement.
The legislation will also include a provision so that excess profits can be allocated to an individual who is not a partner where it is reasonable to assume that they would be a partner if not for the new rules and at least part of the non-individual’s profit share is attributable to the individual’s power to enjoy the non-individual’s share or to deferred profit arrangements.
In the case of a partnership making a loss, the new legislation also contains restrictions on the use of a loss allocated to an individual partner. This applies where the individual is party to arrangements, where the one of the main purposes of which is to secure that at least some of the loss is allocated to the individual instead of a non-individual, with a view to the individual obtaining relief.
These changes will affect both standard partnerships and limited liability partnerships.
When will this take place?
The changes in relation to the profit allocation will take effect from 5 December 2013. All other changes will take effect from 6 April 2014, for further information about these upcoming changes, blogs like that on Perry’s can keep people abreast on some of the changes that will coming into place.
Those affected by the above legislation may wish to consider changing the business structure. Alternatively, firms with a corporate partner should consider gathering evidence to confirm that their profit allocations are made on a commercial basis.