Limited Liability Partnerships and disguised remuneration

Limited Liability Partnerships and disguised remuneration


Author: Niall Murphy

We commented in a previous article, issued on 2 December 2012, about HM Revenue and Customs (HMRC) proposals to tighten up the rules allowing members of an LLP to be treated as self-employed.

Draft legislation and guidance from HMRC was issued on 10 December following on from the earlier consultation. This legislation will apply from 6 April 2014, but is not likely to be in final form until July 2014.

Draft legislation

As noted in our previous article (click here) members of an LLP are currently automatically deemed to be self-employed. As a result, a number of businesses have taken advantage of this presumption to make people, who in normal circumstances would be treated as employees, members of the LLP so as to save employers' National Insurance.

As a result of the proposed legislation it will, in future, be possible to have both employed and self-employed members of an LLP.

The draft legislation contains three conditions, at least one of which must be met by a member, in order to be self-employed. The conditions are:

  • The amount of a member's entitlement to a, 'disguised salary' in the business must not exceed 80% of their 'reasonably expected' total profit share. In other words, at least 20% must be truly variable and dependent on the financial performance of the LLP
  • The member must be able to demonstrate that they have significant influence over the direction and management of the LLP
  • The member needs to demonstrate that they have sufficient capital invested in the business which is 'at risk'. Sufficient means at least 25% of the members deemed 'disguised salary' above. The contribution of a member is measured at the beginning of the 2014/15 tax year and at the beginning of each subsequent tax year. If during a tax year there is a change in the capital contribution or otherwise any change in circumstances which affect whether the capital contribution test is met, then it is necessary to determine whether the capital contribution test is met at that point

The legislation also has its own mini anti-avoidance test, which applies to override any arrangements entered into for the purpose of avoiding the legislation.

One positive outcome of the new legislation is that HMRC has dropped the original proposal to use the Employment Status manual as a test for determining whether a member was self-employed or not.

Practical effects

There is a fairly short lead-time within which affected LLPs are going to have to take decisions about how to deal with the implications of the new legislation.

As the legislation commences with effect from 6 April 2014, those businesses with year-ends falling after 6 April are going to have to make adjustments to deal with the changes in the current accounting period. This will involve splitting the accounting period between the old and new rules.

For those members who have been made members simply to take advantage of the saving in employer's National Insurance, there is unlikely to be much choice other than to accept the changes and be taxed accordingly.

The decision is likely to be more complicated where there is a genuine level of profit or management participation, but not sufficient to satisfy the prescriptive requirements of the legislation. This leaves three choices:

  • Increased participation in the management of the LLP. Unless the LLP is a relatively small organisation this is unlikely to be a realistic option since, in practice, most LLPs are run by a small number of members, with the majority of members having little or no input into the running of the LLP
  • Increased risk on profit share. This will require the member to take a considerably larger risk in his profit sharing ratio. This requires a fundamental re-appraisal of the risks a member is willing to take
  • The final option is to increase the capital contribution such a member makes. This may provide a welcome capital injection to the LLP and, depending on circumstances, may be the most straightforward option

As noted above, affected LLPs have a relatively short time within which to adjust to the new rules.