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The party is over for tax planning with LLP’s

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Thursday January 16, 2014 at 10:00am
Recent legislation makes saving tax using limited liability partnerships less likely and those who have structured their business in a way that might have been acceptable 12 months ago could find themselves with substantially higher tax to pay. Here’s why.

Mixed partnerships

The partnership model is a very familiar one to those in professional services firms. More recently Limited Liability Partnership (LLPs) set up with say two partners have been used as a vehicle to minimise the tax paid by the business owner. In cases causing concern to HMRC the partners would be Mr A and Mr A’s limited company, the shares of which were wholly owned by Mr A. The main reason for structuring the company in this way was to give the limited company the larger share of the partnership profits which were then taxed at the corporation tax rate of 20%, rather than the 40% rate of tax for the individual partner.

The more aggressive use of this tax planning then had the limited company invest the profits back into the partnership and the individual partner would take this new cash investment out as drawings from partnership profits thereby overdrawing their partnership capital account.

Disguised employment

Another problem that HMRC were not at all happy with was professional services firms; typically, making former employees fixed profit share partners, or so called disguised employment under the new regime. The new “partner” will typically pay less National Insurance and there is also no Employer National Insurance on share of profit from partnerships. Likewise the treatment of company cars is much more beneficial in a partnership.

HMRC response

There was a consultation period throughout 2013 (which was the subject of one of my earlier blogs) and now we have the legislation which actually goes further than the consultation proposals.

In the case of Mixed Partnerships the new rules basically say where Mr A’s profit is effectively deferred by giving it to A Ltd and less tax is paid as a consequence, then the profit sheltered is reallocated to Mr A personally and he is taxed on this notional profit also. This is the more typical set up for clients of our firm. There is some allocation of profit allowable to the company Mr A Ltd but only for services provided by the company and not services provided by Mr A through the company. Interest on capital provided to the partnership for example would be allowed, not so generous then!

In the case of disguised employment by making former employees fixed share or “salaried” partners, the new rules mean that if an individual fails the now tightened “Alternative Test” then the profit share will be treated as salary and subject to full PAYE and National Insurance. Also any company car used by the salaried partner will be taxed as a benefit in kind.

So what now?

Well, as always we have to let the dust settle but it is difficult to see how it is possible to run a mixed partnership without expecting to have a fight with HMRC. It also looks like that fight will be difficult to win and more importantly, as accountants, we are not able to provide certainty of outcome to our clients.

The legal profession certainly seems to think that as a result of the new guidelines it’s likely that LLPs with fixed-share members will need to change their arrangements for remunerating ‘partners’ before 6 April 2014.

Hence it looks like more mixed partnerships will transfer their trade from the LLP into the Corporate Partner. Indeed this is what we are considering doing with our own Financial Planning LLP.

We will be running a seminar for clients and contacts on tax efficient profit extraction on Wednesday 26th March, in Solihull. Contact me if you are interested in attending.

Andy Parker
Chartered Accountant, Solihull

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Parker Chartered Accountants and Financial Advisors is the trading name for PLW Advisors Ltd (Registered No. 10396831), and Parker Financial Planning LLP (Registered No. OC347027). Parker Financial Planning LLP is authorised and regulated by the Financial Conduct Authority. All companies are registered in England and Wales – registered office contact details here