Tax Planning with Limited Liability Partnerships (LLPs)

Although they have been with us for a few years now LLP's are often not considered by business owners or their advisers when planning their business structure.

An LLP is a separate legal business entity that gives the benefits of limited liability but allows its members the flexibility of organising their internal structure as a traditional partnership.  In addition they can offer significant tax advantages.  With increasing tax and national insurance rates, business owners are looking carefully at ways to reduce the effect of the tax burden on cash flow and success of their business.

Typical professional advice has been that companies are the best structure for tax efficiency, especially where profits are to be retained in a business and goodwill has been acquired.  On the other hand owners that will need to extract all profits are generally advised to use a partnership.  Although this advice can still hold good, an increasing number of people are taking the view that the use of an LLP is by far the most commercially flexible and tax efficient structure available.

Tax Efficient Acquisitions

For an existing LLP, one disadvantage is that when new businesses are acquired, the LLP is unable to claim a tax deduction against trading profits for the cost of any goodwill acquired, as this relief is available for companies only.  One way of achieving a deduction is to introduce a limited company as a member of the LLP. This member would be used to acquire the trade, including goodwill. The acquired trade could then be introduced into the LLP in return for a share of the profits and it is then possible for the company to obtain tax relief for the related amortisation.

Alternatively, a newly formed limited company could purchase the goodwill of an existing business, with the remaining assets acquired by the LLP. The company could then grant a licence, enabling the LLP to utilise the goodwill and the amortisation could be deducted from the licence fee received for tax purposes.  It is worth remembering that goodwill relief is available on purchases from unconnected third parties, or from connected parties providing the business started after 1st April 2002.

Tax Efficient Sales

If companies have large numbers of shareholders, it may be that Entrepreneurs’ Relief (where the first £1m/2m/£5m of qualifying capital gains is only subject to a 10% effective tax rate) is not available.  This is often because some individuals might not own the requisite 5% shareholding.  An LLP can be more effective in this case because there is no minimum percentage ownership requirement in order for an interest in LLP's to qualify for Entrepreneurs’ Relief.  On any future sale, or exit of an individual member, it should, providing all other conditions are met, be possible to qualify for the 10% tax rate.  A further advantage of LLP's is that it is easier to bring in individuals as new members without falling into the complex employee share rules, which can result in unwanted tax charges.

Employee Tax Planning

LLP's can provide an alternative method of remuneration for key employees, rather than the traditional routes of dividends or salary.  Such employees could terminate their employment contract, form an LLP and provide consultancy services to the business.  The individual would then save an element of national insurance, as rates are lower for the self employed than for the employed.  In addition, the business will benefit from a tax deduction on the charges made by the LLP, and save employer’s national insurance at a rate of 12.8%, potentially a significant saving. IR35 regulations would need to be considered in this plan.

Alternatively, an LLP could be used to remunerate all employees. They could all resign and become members of a “service“ LLP.  This would have the advantages of national insurance savings as above.  There are non tax areas to consider, for example the individuals will lose their employment rights on becoming self employed (this could be a huge advantage to the employer).  Clearly this risk would have to be appropriately managed and considered throughout.

Inheritance Tax (IHT) Planning

If you control a business through a company (either on your own or with others) and the business property is personally held outside the company you are likely to benefit from setting up an LLP for inheritance tax (IHT) purposes. Unless an LLP is used, Business Property Relief (BPR) for IHT will only be available at 50% on the premises.  By setting up an LLP, the company could contribute the trade to the LLP but retain its entitlements to profits and assets, and the property owners contribute the property whilst still retaining the rights to its capital value.  By adopting this arrangement 100% BPR should be available on the property. There could also be benefit for capital gains tax if enterpreneurs relief was not fully available.

Conclusion

There are numerous other examples of situations where an LLP can provide an ideal trading structure, taking the advantages of both a company and partnership but without the respective disadvantages.

For further information please contact Nick Brown at our Eastbourne Office on nick.brown@plummer-parsons.co.uk , Kieran McCurdy in our Brighton Office on kieran.mccurdy@plummer-parsons.co.uk  or Ian Killick at our Hailsham Office on ian.killick@plummer-parsons.co.uk.

Plummer Parsons