Louis Baker, head of professional practices, Crowe Clark Whitehill
The Government believes that an attack on abuse of LLPs and partnerships will yield £300 million within two years, primarily from large professional firms, including law firms.
HMRC has launched a consultation on its proposals to change the tax treatment of those it will badge as ‘salaried members’ of LLPs and on taxing profits in mixed partnerships. It is proposed that new legislation will be effective from 6 April 2014.
Salaried member arrangements are those that the Government believes look to take advantage of current tax legislation that automatically treats all individual members of an LLP as a self-employed partner for tax purposes, even if in reality they are employees. The benefit of this self-employed partner status is that employers NIC at 13.8 per centof a member’s income is not due.
HMRC believesthat the legal sector has seen a rise of LLPs seeking to exploit this position. They are looking, broadly, to put the tax position back to what it might have been had the LLP in fact been a partnership.
In seeking to ensure that ’salaried members’ are taxed as employees, HMRC isproposing to define “salaried members” beyond those who could be held to be an employee if their current terms were replicated within a partnership.
HMRC intendsto also class as ‘salaried members’ those who:
– have no economic risk of loss capital or repayment of drawings should the LLP make a loss
– are not entitled to a share of the profits (beyond their fixed income); and
– are not entitled to a share any surplus assets of the LLP on a winding-up.
The Government also has “mixed partnerships” in its sights. These ’mixed partnerships’ (including LLPs) are those comprising a mix of individuals and companies as partners, usually with the companies being owned by some or all of the individual members.
The Government has noted a rise in ‘corporate partner planning’ and HMRC wishes to stop this. In its view such planning is trying to get the best of both worlds, flexibility of partnerships combined with lower corporate tax rates.
It proposes that where profit allocations in a mixed partnership are made to attempt to secure a tax advantage, that advantage will be reversed by making the allocation for tax purposes to the individual partners subject to income tax on a just and reasonable basis.
The proposal will also affect firms thathave introduced a company into their ownership structure to hold profits back within the firm for working capital purposes. The profits held back will prospectively be assessed to tax on the individuals at income tax rates, rather than on the company at corporation tax rates.
Given the continuing difficulty of many firms in accessing cost-effective bank finance, there has been a rise of such working capital structure arrangements of late, and the tax changes may make it difficult for some firms to maintain their capital base.
Overall, HMRC badge itsproposals as supporting fairness in the tax system and as an attack on abuse.
The Government believes that a few large firms will pay significantly more tax than at present, but that the majority of firms will be unaffected. Despite this assurance, firms will no doubt be spending time to ensure that their structure and internal arrangements are such that they are clearly not affected by the proposals.