UK partnerships with 'salaried members' face uncertainty until new guidance confirmed by legislation, says expert

Catherine Robins of Pinsent Masons, the law firm behind Out-Law.com, was commenting as HM Revenue and Customs (HMRC) published revised guidance on how the new 'salaried member' rules would apply. The rules come into force on 6 April but the 2014 Finance Bill will not receive Royal Assent until later in the year, meaning that the legislation will not be in its final form until then. The guidance is therefore expressed as "an informal view of HMRC on how the legislation will apply", Robins said.

"This is not a very satisfactory situation," said Robins.

"Firms will have to decide from 6 April whether they need to apply PAYE in relation to payments made to their members. However, at this time the legislation may not be in final form and they cannot obtain a clearance from HMRC. In many cases the application of the 'significant influence' and 'disguised salary' tests will not be clear-cut so there will be uncertainty for some LLPs as to how the rules impact upon them. It is disappointing that the government has not postponed the introduction of these rules," she said.

The government first announced that it was planning to change the way in which the members of LLPs are taxed in May 2013, with the intention that it would prevent companies and individuals from using this structure to disguise employment. The change will remove the presumption of self-employment for some members of LLPs for the purposes of income tax and national insurance contributions (NICs). However, in December 2013 revised proposals were announced which differed significantly from the original proposals. Robins said that the current proposals affect many professional services firms, who would not have been caught by the original proposals. Firms will have to pay employer's national insurance contributions – at 13.8% -  in respect of payments to members who caught by the new rules, she said.

According to draft legislation published in December, partners would have to satisfy one of three tests in order to avoid being treated as a 'salaried member' and taxed in the same way as an employee. They must not receive a 'disguised salary'; or they must have 'significant influence' over the affairs of the partnership; or they must be making a capital contribution of at least 25% of their fixed pay to the LLP's capital.

For the purposes of the new regime, a 'disguised salary' is defined as an amount that is fixed, or that is variable but without reference to the overall profits or losses of the LLP or not affected by the LLP's overall profits or losses. If it is reasonable to expect that a partner will receive at least 80% of the amounts payable by the partnership for his or her services in the form of disguised salary he or she will be caught by the new rules.

LLP members with 'significant influence' will include those that are involved in the management of the business as a whole, or senior members with the right to exert significant influence over the business as a whole even if they leave the day-to-day management to others. It does not, however, refer to voting rights or influence over separate component parts of the business. The guidance confirms that a three-month 'grace period' will apply for those LLPs planning to restructure by increasing the capital contributions of members.

"The most feasible way for many firms to restructure to avoid falling foul of the new rules is to increase the capital contributions of their members so that members are contributing at least 25% of their fixed entitlement," tax expert Catherine Robins said. "It is welcome that the government has agreed to a three-month grace period for current partners to increase their capital so that the cash does not have to be handed over by 6 April, although the partner has to have agreed by 6 April to make the contribution. With many partners needing to fund their contribution by bank borrowing, having the funds in place by 6 April was going to be extremely difficult to achieve. Indeed, even a three-month grace period may be challenging, given the number of firms looking to restructure and the fact that the banks are not as keen to lend as they once were."

Robins said that HMRC's new guidance provides a significant number of further examples of how the department considers that the legislation will work in practice.

"The guidance provides more examples of what constitutes a 'disguised salary'. There are still traps, however, in relation to remuneration which depends upon personal or team performance or on the profits of an office, division or region. This will be treated as disguised salary – thereby causing an individual to meet the disguised salary condition – unless it is just used to determine the individual's share of the total profits of the firm, for example by giving the individual a greater number of points or units which are used to determine profit share," she said.