Last month (6 April 2017), UK limited partnership law was amended to introduce the new ‘Private Fund Limited Partnership’ (“PFLP”) – an optional designation for UK limited partnerships operated as private investment funds.
The PFLP regime introduces certain changes to the UK limited partnership regime, with a view to reducing the administrative and financial burdens associated with operating a private investment fund structured as a UK limited partnership and retaining the UK’s status as an attractive domicile for investment funds. The two most noteworthy changes are: (a) the creation of a “white list” of actions that LPs can undertake without risk to their limited liability status; and (b) the removal of the requirement for LPs to contribute capital to the partnership upon their admission and the ability for LPs to withdraw their capital during the life of the fund.
Unsurprisingly, there has been a considerable amount of commentary on the new legislation in recent months within the UK investment funds community, and the uptake amongst sponsors using UK limited partnerships is expected to be high. The purpose of this article is to summarise the key features of the PFLP regime, but also to identify certain issues which are worthy of consideration prior to following the PFLP route.
Outline of the PFLP Regime
Qualification and Designation
The PFLP regime is now live and PFLP designation is available to those establishing UK limited partnerships, as well as those wishing to re-designate existing UK limited partnerships.
Importantly, PFLP designation is optional. UK limited partnerships will not be affected by the reforms unless they specifically “opt in” (whether during the life of the limited partnership or upon establishment). In an investment funds context, the qualification criteria will almost certainly apply.
The “White List”
The first headline change is that the law now sets out a non-exhaustive list of actions which may be taken by limited partners in a PFLP without them being regarded as taking part in the management of such PFLP (which may cause them to lose their limited liability status). This list remains subject, of course, to anything to the contrary in the limited partnership agreement. This has traditionally been a relatively grey area of English law, and so the increased certainty is likely to be welcomed, particularly by the LP community, although certain question marks will inevitably remain.
Removal of Capital Contributions
The second headline change is that PFLPs will not require limited partners to make capital contributions to the partnership, and will allow LPs to withdraw capital during the life of the partnership without being liable for the debts and obligations of the partnership to the amount withdrawn.
UK limited partnership law has traditionally required limited partners to contribute capital at the time of their entry into the partnership and has restricted their ability to subsequently withdraw that capital. This has given rise to the so-called “loan-capital split” in UK limited partnerships, which is a well-established mechanic, but a quirk that is unique to the UK. The loan-capital split will no longer be necessary under the PFLP regime, which will in turn help streamline fund documentation and the closing process more broadly.
Other changes introduced under the PFLP regime include (but are not limited to):
- a simplification of the initial registration process, and a relaxation of the requirements to notify the registrar of changes to the partnership during its life and to advertise certain changes in the London, Edinburgh or Belfast Gazette, each of which will reduce ongoing administrative burdens;
- limited partners will be able to appoint a third party to wind up the PFLP without a court order, in the event of GP removal; and
- provisions of partnership law (often disapplied by contract) requiring limited partners to render accounts and to account for profits made in competing businesses will be disapplied to PFLPs as a matter of law.
Pause for Thought
Whilst the PFLP regime has a number of clear merits, it is important to consider the consequences of PFLP designation prior to establishing or re-designating a limited partnership as such. This is particularly true in light of the fact that, although not specified in the legislation, the current consensus amongst practitioners appears to be that once designated as a PFLP, a limited partnership cannot generally return to traditional limited partnership status.
The following is not intended to provide an exhaustive list of issues, but rather a few specific points that may be worthy of consideration.
A Cost Saving?
Whilst the administrative burden of running a UK limited partnership will be lightened by the relaxation of registration and ongoing filing requirements, it is worth pointing out that the associated cost saving is likely to be relatively modest. For established UK sponsors raising new funds or looking to re-designate existing funds, this saving would need to be balanced against the cost and/or time required to remove the loan-capital split from fund documentation and explain the changes to investors.
With respect to re-designation of existing funds specifically, the process for re-designation is simple, requiring a basic filing to be made at Companies House. However, in addition to the considerations outlined above, one would also need to determine whether investor consent is required under the partnership agreement (notwithstanding that the changes may largely benefit investors). If investor consent were to be required, the timing implications would not necessarily be an issue (since an existing UK limited partnership can re-designate at any time), nor would we expect investors to object to the change. Seeking investor consent would, however, carry an additional administrative cost, which would need to be factored into the cost-benefit analysis.
Whilst it is understood that the PFLP regime is not intended to subject UK tax resident limited partners (whether third-party investors, in-house co-investors or carry participants) to tax treatment that is different from that of limited partners in traditional UK limited partnerships, at the time of writing this Memorandum, HMRC has not published any tax commentary on this new form of limited partnership. Practitioners, investors and management teams alike will continue to monitor developments in this area with interest. In the meantime, there is one point on UK stamp taxes that is worth taking into account.
The question often arises as to whether – and to what extent – transfers of interests in limited partnerships (whether established in or outside the UK) attract UK stamp duty or SDRT. A limited partnership commitment is traditionally split 99.999% loan to 0.001% capital for the reasons noted above (the “loan-capital split”). Although it should be confirmed in each case, the transfer of a limited partnership interest, to the extent it consists of loan commitment, may qualify for the “loan capital exemption” for stamp duty on transfer. In practice, this often means that stamp duty is of limited concern on the transfer of limited partnership interests (although each case needs to be considered on its facts, of course, and SDRT issues should always be considered).
Going forward, where limited partners in a PFLP make a pure capital commitment with no loan element, the loan capital exemption would not be available on a future transfer of limited partnership interests. Stamp duty is not a mandatory tax per se, and would probably only ever need to be paid in connection with litigation in UK courts, but SDRT does impose mandatory charges, and it is often comforting to know that stamp duty requirements (which would typically be treated as satisfying any equivalent SDRT liabilities) could be cheaply fulfilled if necessary. This is a complex area, and whilst the PFLP regime brings significant simplifications elsewhere, it may be worth considering retaining the traditional loan-capital split to manage stamp complexities and charges.
The launch of the PFLP regime comes at a very interesting time. The PFLP regime was conceived out of a desire to preserve the UK as an attractive domicile for funds, and it responds to developments in other “funds jurisdictions,” where more flexible legal vehicles for structuring funds have become available in recent years. As UK sponsors with European investors begin to grapple with the best route to take to future fund-raising structures in the face of Brexit uncertainty, it can certainly only be helpful for a number of the historic quirks of the UK limited partnership to have been resolved in order to keep the UK limited partnership structure current and competitive.
On the same day as the final legislative package was published (16 January 2017), the Department of Business, Energy and Industrial Strategy (BEIS) announced a call for evidence with regard to a review of limited partnership law (the “BEIS Call”). The BEIS Call is focussed primarily on allegations that Scottish limited partnerships are being exploited for criminal purposes. However, the BEIS Call is intending to look more broadly at limited partnership law. The BEIS Call demonstrates concern around a perceived lack of Fried Frank Client Memorandum 4 transparency and the ability for a limited partnership’s “principle place of business” to be outside the UK. It states that “the UK government recognises that Limited Partnerships are important investment vehicles…but, if there is evidence that they are providing a vehicle for criminal purposes, further regulatory action may need to be considered”.
Consequently, there are fears in some quarters that the concessions being made by the Government with one hand through the PFLP regime may be taken away by the other in due course. The Regulatory Reform Committee had recommended that the PFLP regime be delayed in order to allow responses to the BEIS Call to be assessed, but this recommendation was ignored. As such, further reform to UK limited partnership law remains a possibility.