On 20 May, the UK Government published its consultation paper on the reform of certain aspects of the tax rules applicable to limited liability partnerships (LLPs). The Government states that it has become increasingly concerned that employment relationships are being disguised through the use of LLPs.
The principal benefit of such structures is that employer’s National Insurance Contributions (NICs) are saved. Also, the individual benefits from paying income tax via self-assessment (rather than through the pay as you earn (PAYE) system), which generates a timing benefit because self-assessment does not have to be finalised until 31 January following the tax year in question. There is also a marginal NICs benefit for the individual, who instead of paying Class 1A NICs through PAYE pays Class 2 and 4 NICs (the combined levy from these is slightly lower).
The consultation proposes the removal of the presumption of self-employment for LLP members and two new tests for their assessment. The first test asks whether or not a member would be regarded as employed by the LLP on general employment law principles. The second test focuses on the member’s entitlement to share in the profits of the LLP and the member’s exposure to losses. Both tests are substance-based and their operation will be supported by a targeted anti-avoidance rule.
If an individual satisfies either test, he would be regarded as employed by the LLP, and the LLP would be required to operate PAYE in respect of the employment income. The principal downside for the LLP in this situation is the cost of employer NICs at a rate of 13.8 per cent. on the greater part of the employee’s employment income.
It seems likely that the tests could apply to salaried partners of LLPs who:
- do not bear the financial risk of being an equity partner;
- receive only a fixed income;
- are subject to the management of the equity partners; and
- are bound to provide personal service to the LLP.
The consultation will run until 9 August 2013. Legislative changes are expected to be included in Finance Bill 2014, with implementation from 6 April 2014.
It is questionable whether the consultation represents anything more substantial from a technical perspective than the removal of the presumption of self-employment for members of LLPs. In practical terms, however, the consultation does indicate a forthcoming greater degree of scrutiny from HM Revenue and Customs (HMRC) and a tighter application of the rules (whether in their current form or as amended by virtue of the consultation process).
At the very least, HMRC’s starting proposition can be expected to be that any salaried member of an LLP is, in fact, an employee in the absence of proof to the contrary. It should be noted that there is unlikely to be any grandfathering of existing arrangements, so LLPs and their members should be reviewing their situation in advance of any proposed changes and should follow the consultation process closely.
The full consultation paper is currently available via the following link - click here to read.