More News » Firms ‘helpless’ as new LLP tax guidance looms

AS THE END of the consultation period approaches, it worringly appears that professional services firms are still none the wiser over what form the taxation of partnerships legislation will take.

HM Revenue & Customs and the Treasury are concerned that limited liability partnership structures allow “disguised employment” to take place, whereby people who are ostensibly partners, in fact have a guaranteed income and little decision-making power.

The review also aims to tackle the manipulation of profit and loss to create a tax advantage, which is typically achieved by allocating profits to some partners and losses to others – with the former obtaining a reduction in tax liability by way of income tax reliefs or capital gains relief, while the latter’s losses for example could be funnelled through a corporate entity to lower its business taxes.

However, steps to prevent that from taking place are in danger of impinging on innocuous, commercially-motivated activities, stakeholders maintain.

Three-point turn

The main bone of contention is the three-point test HMRC is set to impose in order to determine a staff member’s status.

Under the draft proposals, partners must satisfy one of three tests in order to maintain their status. The first option is ensuring at least a quarter of their pay is profit-dependent; the second would see them contribute at least 25% of their ‘fixed pay’ to the firm’s capital; or the third option is to prove they have significant influence on the overall partnership.

If partners are deemed to be employees, then employer’s national insurance contributions at 13.8% will be due and other employment-related tax rules, such as benefits in kind and share scheme rules, will apply to them.

However, the tests have been criticised by practitioners and other stakeholders, who note they are unreliable indicators.

For example, an investment fund manager may contribute less than 25% in favour of committing investment to their funds rather than their management company – especially given legislation on the way to encourage such investment.

Why, asset managers might ask, should they invest more funds in their management companies than necessary – when that carries significant risk, and their funding interests are in line with their clients?

Much concern centres on the vagueness in the consultation document’s terminology, which has led to uncertainty among stakeholders.

And while new guidance is due on 17 February, many professional services companies do not expect the upcoming document to help.

Firms impotent

Instead, there is mounting anxiety that the vocal concern of professional services will be rather impotent.

“HMRC generally treats partnerships, and particularly LLPs, as if they are exclusively avoidance vehicles,” Magnus Spence, chairman of New City Initiative and managing partner of Dalton Strategic Partnership told a roundtable held at the ICAEW’s Chartered Accountants’ Hall. “They’re not. They’re established for very good reasons – and HMRC and the Treasury are in danger of throwing the baby out with the bathwater.”

It was a point echoed by many at the meeting, with Simmons & Simmons partner Martin Shah noting the current tests are “artificial…which substitute any real analysis of whether individuals are carrying on the business”.

Engagement with the tax authorities is key, because in the absence of alternative suggestions, and taking into account the tax climate, the rules are likely to be imposed largely unchanged.