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Wednesday, October 22, 2014

Taxes for U.K. LLPs set to be introduced

Since April this year, members of Limited Liability Partnerships (LLP) have been subjected to new taxation rules.   

U.K. LLC taxes
Tax law changes reduce partnership classifications
These changes have been introduced in order to limit the number of people working for LLPs who were classified as partners rather than employees.

For businesses affected by these changes, it’s important to understand exactly what the new rules entail and to ensure your company doesn’t fall outside of the legislation.

Why were the changes brought in?

Traditionally, there have been a number of different sectors that have gone down the route of converting into an LLP. The practice has become fairly common amongst legal and chartered accountancy firms. This was often used as a way of saving on salaries, as members were classed as self-employed. This meant that they could benefit significantly from senior members of the firm transferring to partner status.

HMRC looked at a range of measures to reduce tax avoidance. This included making changes to the way LLPs were governed, which for some members has had a significant effect on their financial standing.

Many of the major firms within the affected sectors have been warning businesses and their clients about the potential pitfalls. Trade organisations, including the Institute of Chartered Accounts in England and Wales (ICAEW), have been holding sessions to highlight the changes to member companies. There are details of a tax guide on the ICAEW website detailed in a report by the chartered accountancy firm Francis Clark.

What are the changes?

The changes to the taxation regulations for these companies were introduced from 6th April 2014. They apply to all firms in England that have been formed after the LLP Act 2000. The rules form part of the Finance Bill 2014, which includes an amendment to the Income Tax Act 2005, part 9.

These amendments will have an impact on those who are not deemed to be partners under the new rules. To be classified as a partner, they will now have to meet any one of the three criteria that have been stipulated by HMRC. Anyone who does not meet one of these requirements will be reclassified as an employee, losing out on any benefits for themselves and the business that came from being self-employed.

The first of these criteria is that 25% or more of their income must be dependent on the profits of the company. Some partners could be affected, even if they believe they meet this stipulation, if their share is based on profits of an individual office or region rather than the company as a whole.

For partners on a fixed income, they can still keep their status if 25% or more is put into the business as capital. The third criterion is that they have some form of influence over the partnership.

For those partners that don’t satisfy one of these rules, they will become classed as an employee when paying taxes and National Insurance. This will bring employer contributions into play, including 13.8% for National Insurance.

We are yet to see the full impact of these changes, but it was expected that many businesses would try to restructure to work around them. This could include more partners putting capital into the business to satisfy this condition.

Image: Alan Cleaver, "Tax by definition"; CC BY 2.0