HMRC has recently published a consultation document with proposals to change taxation of partnerships in two ways. We think that firms should be planning ahead, both to maximise benefits from existing structures and to plan ahead before the changes take effect.
Firstly there is a move to treat fixed share partners in an LLP as employed so that they pay Income Tax and Class 1 National Insurance Contributions (NICs) under PAYE. This contrasts with the current situation where LLP members are always treated as self-employed partners of the LLP. Those affected are salaried partners who:
- would be an employee using standard employment indicator tests
- do not share in profits if the LLP does well and are not financially at risk if the LLP makes losses and cannot share in assets on a winding up
Whilst this seems to catch a wide range of salaried partners, HMRC say that not every fixed share partner will be affected: normal LLP arrangements with junior partners as part of promotion/career progression should not change. What they claim to be targeting are employers who try to avoid NICs by turning normal employees into partners. Nevertheless, there is room for differences of opinion with HMRC and a review of fixed share arrangements prior to introduction of these measures in April 2014 would be a sensible precaution.
The second area earmarked for change by HMRC concerns mixed partnerships, broadly those with both individual and corporate partners. The main type of arrangement that concerns HMRC is where corporate and individual partners share profits so that more profit is allocated to the lower taxpayer, usually the company, and yet the other partner/s still retain an economic benefit, generally by being a shareholder. HMRC proposes that, if the structure is tax motivated, then all or part of profits that were allocated to the corporate member under the partnership profit sharing agreement will instead be allocated to members subject to income tax. This would be on a ‘just and reasonable’ basis i.e. according to their shareholding or side arrangement.
All in all the consultative document probably raises more questions than it answers. Fixed share partners are a normal part of a professional career and, when the LLP structure became available, the concept has simply followed professional firms across from general partnerships. In professional firms the tax considerations are rarely the main driver for creation of fixed share partners but it remains to be seen where HMRC will draw the line, particularly where fixed shares make up a large section of the partnership. Similarly, many partnerships have admitted a company to the firm, often with a view to provision of services to the partnership as much as to control the flow of income which becomes taxable in the hands of partners individually. The proposals aim to tackle avoidance but seem almost certain to go ahead: the consultation requests input on how to implement the changes, not whether to do so at all. We therefore recommend a review of profit sharing arrangements for corporate and fixed share partners before the changes take effect on 6 April 2014 to identify both the impact of the changes and any planning that should be undertaken in the window between now and April 2014 .
Please contact Clare Munro or Phil Moss to discuss how this could affect your firm.
Tel: +44 (0)20 7490 7766