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Limited Liability Partnerships: A New Entity for Small Businesses

Presented by Robert W Maas FCA, FTII, FIIT
of Blackstone Franks

What is a limited liability partnership(LLP)

1. A new entity introduced by the Limited Liability Partnership Act 2000.

- which comes into force on 6 April 2001.

- but most of the legislation is in the Limited Liability Partnership Regulations 2001.

- which apply the Companies Act 1985 to LLP's subject to modification.

- and some administrative details are in

the Limited Partnership (Forms) Regulations 2001, and
the Limited Liability Partnerships (Fees)(No2) Regulations 2001.

2. It is a legal entity distinct from its members.

3. For tax purposes an LLP is a transparent vehicle

ie it does not pay tax on its profits

these are deemed to belong to its members.

4. The liability of a member is limited to his capital contribution

- but a member can be sued for his own negligence.

Forming an LLP

5. No minimum capital.

6. Must have at least two members.

7. Must be formed "for carrying on a lawful business with a view to profit".

8. An Incorporation document must be filed with the Registrar of Companies

- form LLP2

- the registration fee is £95

- there is a Companies House booklet, Incorporation Checklist for an LLP

- main information required is name, address of registered office, names and addresses of members, identity of designated members.

9. There is no equivalent of the Memorandum and Articles of Association.

10. There can be an agreement to govern the rights and obligations of members

- this is a private agreement

- there are statutory provisions that apply in the absence of such an agreement.

Why an LLP for the small business?

11. The decision whether to trade as an unincorporated or incorporated business is often difficult.

12. The LLP gives the best of both worlds

- or almost

- the main downsides are

a) there is likely to be a higher rate of tax on undistributed profits

- but in the very small business the proprietor probably wants to draw out as much as he can

- and undistributed profits are locked in a company even if there is no business need for them

b) it is still necessary to comply with Companies Act rules

c) it is not possible to float an LLP

- but it is easy to convert an LLP to a limited company at a later date

d) a member's share of the loss in a trade of an LLP cannot be set against the member's general income except to the extent of his capital contribution (less any part of it withdrawn in the previous five years)

- but neither can his share of a loss of a company

- may point to having a high capital contribution

- this does not apply if the LLP is carrying on a profession as the definition of limited partner refers only to a person carrying on a trade

13. In particular the LLP

- avoids the taper relief problem

- enables "shares" to be spread around the family

- avoids s 419 problems

- avoids PAYE & P11Ds.

Taxation

14. Where an LLP carries on a trade, profession or other business with a view to profit

a) all of the activities of the LLP are treated as carried on in partnership by its members (and not by the LLP)

b) anything done by (or in relation to) the partnership for the purposes of (or in connection with) any of its activities is treated as done by the members as partners, and

c) the property of the partnership is treated as held by the members as partnership property.
(ICTA 1988, s 118ZA(1))

15. This treatment continues to apply in relation to an LLP which no longer carries on its business with a view to profit

a) if the cessation is only temporary, or

b) during a period of winding up following a permanent cessation provided that

(i) the winding up is not for the avoidance of tax, and
(ii) the period of winding up is not unreasonably prolonged.
(ICTA 1988, s 118ZA(3))

16. This treatment ceases to apply on the appointment of a liquidator or the making of a winding up order. (s 118ZA(4))

17. If the LLP is an investment LLP (one whose business consists wholly or mainly in the making of investments and the principal part of whose income is derived therefrom) income tax relief cannot be claimed for interest on a loan to invest in the LLP (ICTA 1988, ss 842B(1)(a) & 362(2) as amended by FA 2001, Sch 25, paras 1 & 9)

- whether an LLP is an investment LLP needs to be determined for each of its periods of account.

18. There are other restrictions in relation to property investment LLPs

- which apply to pension funds and insurance companies.

19. For CGT purposes where a LLP carries on a trade or business with a view to profit

a) assets held by the LLP are treated as held by its members as partners, and

b) any dealings by the LLP are treated as dealings by the members in partnership(not by the LLP).
(TCGA 1992, s 59A inserted by FA 2001, s 75 (2))

20. The same rules as for income tax apply on a temporary cessation of trade and on a liquidation.

21. On a permanent cessation of business without immediate liquidation that cessation triggers CGT on any gain held over under TCGA 1992, s 165(4)(b) (gifts of business assets) or 260(3)(b) (gifts on which IHT is chargeable) (TCGA 1992, s 169A inserted by FA 2001, s 75(3)). It also triggers a disposal for business asset roll over relief purposes (TCGA 1992, s 156A)

22. On a permanent cessation of business any future disposals of assets are chargeable to corporation tax in the hands of the LLP. The base cost of the member's interest in the LLP is his capital contribution.

23. If a partnership is converted to an LLP this is regarded as having no tax consequences (Tax Bulletin 50, Dec 2000)

- doesn't trigger overlap relief

- or catching up charge if previously on cash basis
- or separate tax return.

24. The LLP is a separate entity for VAT purposes. As it is a body corporate it can be a member of a VAT group.

25. The LLP's property is also treated as held by its members for IHT purposes and incorporation, dissolution or change in membership is treated as formation, dissolution or alteration of a partnership.
(IHTA 1984, s 267A inserted by s 11, LLP Act 2000)

26. There is no stamp duty on transfers to an LLP on the incorporation of a partnership (subject to conditions) (s 12, LLP Act 2000). There is stamp duty on the transfer of interests in an LLP.

The Draft SORP

27. Accounting standards will apply in general to an LLP.

28. Profits of an LLP that have not been "allocated" need to be shown under other reserves

- need to agree that profits shall be automatically divided among the members after they have been ascertained.

29. Concept of Salaried members' remuneration as a charge against profits (shown after income less expenses).

30. Any element of remuneration which is "contractual" should also be treated as a charge against profits.

31. Balance sheet to show separately

a) Loans and other debts due to members,

b) Members' other interests, and

c) Members' capital.

32. Present value of expected liability for future payments to a former members should be provided in the accounts at the date of the member's retirement.

33. Amounts set aside for such liabilities pre-retirement should be included in loans and other debts due to members.

34. Taxation on profits not to be shown in LLPs accounts.

35. In respect of stock the cost of members' time and related overheads should be accounted for in accordance with SSAP 9.

- but only costs that are expensed.

36. Question mark on conditional and contingent fees.

37. If the LLP guarantees members' borrowings this should be disclosed in a note to the account if it is material.

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