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Tax assessment of UK LLP members to change from 6 April

Large firms with delegated management functions most affected  

11 December 2013

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By Manju Manglani, Editor (@ManjuManglani)

The UK government is changing the tax status of law firm members, with many to be regarded as ‘salaried members’ from 6 April 2014.

Firms with newly-defined salaried members will be required to pay national insurance contributions at 13.8 per cent of those members’ salaries.

New tax rules will also apply to mixed-membership partnerships (with both individual and company members).

The draft Partnerships Review, published yesterday, will be included in the Finance Bill 2014, which is open for technical consultation until 4 February 2014.

Redefining ‘salaried members’

Strong objections have been made to the revised proposals, which follow HMRC’s first consultation earlier this year.

Louis Baker, head of the professional practices group at accountancy firm Crowe Clark Whitehill, said the proposals on salaried members “will potentially catch out many members of larger firms, particularly where the firm has complex profit-sharing arrangements. Such arrangements may not be capable of being redrafted by 6 April 2014 and we are likely to see far more than just junior members caught.”

Members of LLPs will be assessed by HMRC as to whether they are employees for income and corporate tax purposes based on the payments they receive for services performed, their level of influence over the LLP’s affairs, and their financial contribution to the LLP.

George Bull, chair of the professional practices group at accountancy firm Baker Tilly, said the rules “could present real problems” for large firms that have delegated management to a small management team.

“We do not think that tax changes should force firms to modify commercially driven profit-sharing and management arrangements. We expect many professional LLPs to increase their capital requirements to ensure that the self-employed tax status of their partners is not prejudiced.

“However, that too may be seen as a retrograde step, forcing firms to make greater use of partner capital instead of organising firm-level medium term finance with their banks,” continued Bull.

“It is hard to escape the view that, with substantial short-term tax yield at stake, HMRC is imposing a similar short-term agenda on firms.”

Members with high and relatively fixed remuneration packages, no real involvement in management and little or no capital invested in the LLP could face new financial pressures, noted Baker.

“We may see calls to the banks from firms looking to restructure their borrowings so that each individual member can prove they have sufficient personal capital in the LLP,” he said.

Baker warned that partners in the London offices of many US law firms (structured with a UK LLP) may now be considered salaried members for tax purposes.

“Furthermore, the cost of taking in lateral partners will be increased where you are bringing them in on fixed packages for a transitional period and where they do not have to subscribe capital on arrival,” he said.

Targeting mixed-membership partnerships

Partnerships with corporate members will also be subject to new tax rules. These will affect firms in which partnership profits are allocated to non-individual partners and enable individuals to benefit from those profits. Also affected are firms in which partnership losses are allocated to individual partners and enable those individuals to access loss relief.

Bull said the new rules are “understandable from the taxman’s perspective”. However, he warned that they “will impede the genuine commercial plans of firms which are striving to retain profits to invest in the future of their business, so reducing their reliance on banks.”

“One response to this will be to incorporate the firm as a limited company,” said Bull. “Many have been concerned that HMRC somehow favours incorporated businesses over unincorporated businesses; this seems to be another step in that direction.”

The tax changes will take effect from 6 April 2014, with the exception of anti-avoidance rules concerning tax-motivated profit allocations. These rules came into force on 5 December 2013 “in order to protect against risks to tax revenue”, the proposal says.

 

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