A thumbnail guide to the regulation of partnerships in United Kingdom

Regulation

How are partnerships taxed?

General partnerships and limited partnerships (LPs) are tax-transparent: any profits generated by the firm are taxed as income in the hands of the partners.

Limited liability partnerships (LLPs) are also tax-transparent but only where they are used as a vehicle for a ‘trade, profession or business’ rather than for holding investments (see section 863 of the Income Tax (Trading and Other Income) Act 2005).

Because of their tax-transparency, it is rare for general partnerships, LPs or LLPs to be funded through retained profits, since partners will have been taxed in full on those profits and so typically expect them to be distributed in full. One solution to this problem was available in which an LLP or partnership could admit a private company, owned by the partners, to its membership. The company would then be allocated a share of the profits as a means of ’warehousing’ sums for reinvestment, suffering corporation tax but avoiding taxation of the profit share as income in the hands of the company’s shareholders. However, the ‘mixed members rules’ set out in section 850C of the Income Tax (Trading and Other Income) Act 2005, introduced in 2014, have effectively removed the benefits of doing so, as any profits allocated to a corporate member of an LLP will be deemed to be allocated to the other partners for tax purposes to the extent that those other partners also beneficially own the corporate partner.

Individual partners receiving profits are self-employed for tax purposes, meaning that they pay income tax (at up to 45 per cent depending on earnings) and class 2 or 4 National Insurance contributions (NICs).The UK Treasury in recent years had sought to reform NICs for the self-employed by abolishing class 2 contributions and increasing class 4 contributions to harmonise NICs between the employed and the self-employed. However, these plans seem to have been shelved for the time being.

LLPs and partnerships do not pay their own NICs in respect of the profit shares of their partners, in contrast to employers that are required to deduct income tax from gross salaries and pay employer’s NICs, presently charged at 13.8 per cent of salary.

However, the ‘salaried members rules’ (introduced by Part 1 of Schedule 17 to the Finance Act 2014) require LLP members to be taxed as though they were employees where those members do not have at least one of the ‘hallmarks’ of LLP membership (variable remuneration dependent on profits, significant influence over the LLP’s affairs, or a substantial contribution of capital). The tests required are set out in sections 863A to 863G of the Income Tax (Trading and Other Income) Act 2005.

The legislation seeks to minimise the avoidance of an LLP’s liability to pay, on behalf of a member taxable as an employee, income tax and NICs via Pay As You Earn, which requires employers to deduct such sums at source.

To what extent must partnerships, LLPs and similar structures file accounts and other documents and information with a government agency?

General partnerships do not need to file financial statements publicly or even need to maintain a formal register of partners. However, regulatory requirements will apply (for example) in respect of legal and accountancy firms that may require the keeping of formal partners’ records. Moreover, the Partnerships (Accounts) Regulations 2008 require partnerships consisting entirely of corporate bodies to file financial statements.

A retiring partner should require his or her firm to give express notice of the retirement (and hence that he or she is no longer liable for debts and liabilities incurred by the firm) to third parties with whom he or she has dealt at the firm. In practice, general partnerships will also advertise the retirement of partners from the firm in the London Gazette, as this is deemed to be sufficient notice to third parties who have not dealt with the firm that the retiring partner no longer has authority to bind the firm and is no longer liable for new debts and liabilities incurred by the firm.

LPs also do not need to file financial statements publicly. However, they are required to:

• update Companies House in respect of certain changes to their business, membership or capital; and
• advertise where any general partner in the LP is to cease being a general partner and become a limited partner.

The financial statements of LLPs, on the other hand, are public and must be submitted to Companies House on an annual basis, as is required under the Limited Liability Partnerships (Accounts and Audit) (Application of Companies Act 2006) Regulations 2008.

Companies House must be notified of changes to the LLP, including the admission and retirement of members and changes to the LLP’s designated members and persons with significant control. However, unlike companies, no resolutions of the members need to be filed upon being passed. Likewise, the members’ agreement of an LLP is a private document and cannot be inspected via Companies House, in contrast to companies’ articles of association, which are public documents.

The business letters and certain other business documents of general partnerships, LPs and LLPs must state the names of partners or where a list of the partners may be inspected.

In common with certain other businesses in the professional services sector (including companies and sole practitioners), partnerships, LPs and LLPs (including law firms and financial and tax advisers) must report certain cross-border tax arrangements in which they are involved or on which they have assisted or advised, in accordance with the EU’s Directive on reportable cross-border arrangements and the UK regulations that implement them.

Can anyone be a partner, and, if not, who can and cannot? Can bodies corporate or other partnerships own a partnership?

There is no general restriction on who can be a partner in a general partnership or LP. There is no particular legal ground that prevents a general partnership from coming into existence, or that entirely excludes the possibility of someone being a partner. Individuals and corporate bodies (including LLPs) can be partners in a general partnership or LP, though a general partnership and LP cannot (given their lack of legal personality) be partners in another general partnership, LP, LLP or company. In practice, however, there are restrictions on the ability of certain individuals to carry out business in partnerships, such as minors or undischarged bankrupts. A partnership that is formed for an illegal purpose would suffer from an inability to enforce a partnership agreement, but the illegality does not prevent the partnership from coming into existence.

Conversely, members of LLPs are subject to the disqualification regime applicable to company directors, as set out in the Company Directors Disqualification Act 1986.

This Act empowers the courts to make an order that any individual be banned from being a company director or member of an LLP if, for example, he or she:

• is convicted of certain criminal offences relating to a company or LLP;
• has been persistently in default under legislation requiring any return, account or other document to be submitted to Companies House;
• has been guilty of fraudulent trading;
• has been involved in a company or LLP insolvency in circumstances that make him or her unfit to be concerned in the management of a company or LLP; or
• has been found liable to make a contribution to a company’s or LLP’s assets as a result of fraudulent or wrongful trading.

How do partnerships and LLPs execute documents? Must all partners sign? Can the partnership or LLP sign in its own name?

Each of the partners in a general partnership is the agent of each of the other partners in matters relating to the firm and, as such, has authority to bind all the partners to any obligation. A single partner may execute a simple contract on the firm’s behalf, subject to limits on that partner’s authority that may be imposed by agreement of the partners.

Similarly, members of an LLP are agents of the LLP and can bind it to obligations subject to agreed limits on authority.

An LLP can execute a deed either by two partners signing or by a single partner where a third party witnesses that signature and adds his or her own signature as witness.

Partners can agree limits on their authority. For example, a partnership or members’ agreement can specify that undertaking obligations of a certain value requires authorisation by a vote of the partners, or by agreement of one or more other partners. Where the partnership or members’ agreement requires such authorisation but it has not been obtained, the firm or LLP will still be bound by the obligation undertaken to a third party, unless that third party knew that the partner who purported to bind the firm or LLP did not, in fact, have authority to do so.

Law stated date

Give the date on which the above information is correct.

16 June 2020.