Post HMRC changes, how many employees does an LLP have?

HMRC’s changes to the tax treatment of members could raise serious employment law issues

HMRC’s new tax regime is up and running, with the changes (as they say) making “… the tax system fairer by ensuring that employment taxes are paid by LLP members who are essentially employee”. 

Those in the firing line are fixed-share members.  A failure to satisfy the new test will mean that, for tax purposes, the member will be treated as an employee.  It does not though touch upon their membership of the LLP nor their employment status.   

Firms are typically seeking to address the new test by requiring these members to contribute the equivalent of 25 per cent or more of their fixed share as capital.

But what happens when, say, a fixed share/equity partners does not wish to put this amount of capital into the business?  The obvious point is that they are now taxed as an employee (and the LLP has to carry some additional cost as well) – however, could these changes affect a potentially bigger issue, namely will these members now be treated as employees of the LLP and not just employees for tax purposes.   

In short, does the new regime create tensions between HMRC’s definition of an ‘employee for tax purposes’ and when a member is deemed to be an ‘employee’ by an Employment Tribunal? 

It has always been possible for a member of an LLP to also be an employee (s4 Limited Liability Partnership Act 2000), but tribunals have been reluctant to make such findings.  Tiffin v Lester Aldridge drew a clear line and looked at the issues of capital contribution, share of profits/assets, and what say someone had in the management of the LLP.  We all knew where we stood.  But does the new tax test arguably reopen up the ‘employment’ debate?  Will tribunals now apply the new tax tests to their deliberations?  If a member is not willing to invest a reasonable proportion of capital into the business, could this now be taken as a significant issue and result in them being held to be an employee.  Indeed would an LLP now be better off making them an employee anyway? 

There are conflicting benefits and perils of employment versus membership.  It is though deeply concerning that no one seems to have factored in to their thinking the employment implications that the new tax changes have brought about.   If the partnership test is challenged, and members who are deemed employees for ‘tax purposes’ are also granted traditional employee rights, it will potentially have huge implications and potentially lead to a raft of disputes and litigation. 

That is the mischief – LLPs are unlikely to appreciate the impact of the changes until it bites them.  LLPs must now bring the ‘employment’ question into their planning of the structure of their LLP   If not, LLPs could be exposing themselves to waves of future litigation.

David Israel, partner and head of employment, Wedlake Bell