An English law Limited Liability Partnership (“LLP”) is one of the structures available to those setting up or running a business. As its name suggests, it is a vehicle that combines some features of a traditional partnership with other characteristics more often associated with companies, in particular the protections of limited liability.
This article examines some of the key advantages and disadvantages of the LLP.
LLPs are not right for all businesses, but you only have to look at the number of accountancy and law firms that have converted to LLP status since their introduction in 2000 to conclude that, for many, the pros outweigh the cons.
Properly structured, an LLP protects its partners with similar limited liability benefits to those enjoyed by company shareholders, whilst maintaining the flexibility of a general partnership. Additionally, most LLPs are tax transparent which can bring benefits for both the entity and the partners. That said, as discussed below, there may also be pitfalls.
The tax benefits of an LLP may include NICs saving and the legitimate avoidance of PAYE deductions. The latter enables the LLP to distribute income and gains gross or, if preferred, to operate a tax-trap, making payments subject to deduction of a notional tax reserve which is released when the partner is due to pay HMRC. Gross distributions, despite their obvious attractions, bring additional risks as discussed further below.
Maintenance of the LLP tax and commercial benefits requires strict compliance with the statutory requirements both at the outset and in the ongoing operation of the LLP.
Failure to comply may result in the loss of limited liability status and of tax transparency. The latter would likely increase the overall tax liability and accelerate the tax payment dates.
Even for a properly operated LLP, things may turn ugly for a partner who does not fully appreciate the consequences of LLP status. Tax transparency means that individual partners are assessed to tax on their share of profits whether or not there has been a corresponding cash distribution. Even where appropriate cash distributions are made, problems may arise with HMRC if the tax reserve operated by the LLP or an individual member proves to be underfunded when payment is due to HMRC. For, traditional partnerships, the consequences for individual partners may be even worse.
Some years ago, a partner in a “Big Six” accountancy firm was heard to say that their rule of thumb was to put aside 50% of all cash received. It is questionable whether that is practical for most LLP members, and perhaps not even for the best paid, given how quickly six became four.
How we can help
Druces’ commercial and tax lawyers are experienced in all matters relating to the establishment, operation, restructuring, acquisition and disposal of LLPs. We can advise whether an LLP is appropriate for your business enterprise and, if so, how to benefit from the LLP structure and avoid the pitfalls.
If you are not in the happy position of being able to save half of everything you earn to apply to your tax bill, like that ‘Big Six’ Partner, you may wish to consider a more nuanced approach to your tax reserve. Early planning is key and our Tax Compliance team, part of Druces’ Private Wealth department, is able to advise LLPs, traditional partnerships and individual partners on appropriate levels of tax reserves as well as completing annual tax returns when the time comes.
Please contact a member of our team below or fill in our form for further details: