What is an 'LLP' and what tax advantages does it have?
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The Author of this article is our site Editor, Lee Hadnum. Lee is a rarity among tax advisers having both legal and chartered accountant qualifications. After qualifying a prize winner in the Institute of Chartered Accountants exams, he also went on to become a chartered tax adviser (CTA).
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Limited liability partnerships ('LLP') were introduced in 2001 and offer a cross between a partnership and company structure. They were mainly introduced to offer large professional firms that trade as partnerships (accountants, lawyers, surveyors etc) the opportunity to benefit from limited liability, just as a company can.
Put simply an LLP is a partnership which provides the partners with the benefits of limited liability - thus ring fencing their personal assets from any potential business creditors (just like a company would).
Having said that, the LLP would be subject to the same asset protection limitations as a company would, and if for example the LLP was clearly being used for a fraudulent activity the courts wouldn't hesitate to look at the partners to make good any liabilities.
Although in general law an LLP is regarded as a 'body corporate' and is like a company, for tax purposes an LLP is normally treated as a 'partnership'.
Therefore an LLP will normally be regarded as transparent for tax purposes and each member/partner will be assessed to tax on their share of the LLP's income or gains as if they were members of a 'normal' partnership
Therefore if an LLP carries on a trade, each registered partner is taxable on the income they derive from the LLP as trading income.
This is a crucial difference from being a shareholder in a company. A company shareholder is regarded as a separate entity for both legal and tax purposes. An LLP however is a separate legal entity purely in legal terms.
Therefore a company shareholder is not (usually) taxed on the profits of the company, just the cash that is extracted from the company (either as salary/benefits or dividends). A member of an LLP is however taxed on his or her share of the profits that are generated by the partnership.
For a higher or additional rate taxpayer they would therefore pay 40% or 45% income tax on the LLP profits, whereas a company may pay corporation tax at a lower rate (20%/23.75%/23%%). The problem with a company would be that although the rate of corporation tax is lower than the LLP's income tax rate to get the cash out of the company a further tax charge may then be payable (25% on a dividend extraction from a company for a higher rate taxpayer or an effective 30.55% for an additional rate taxpayer).
It would therefore be only if either cash was retained in the company for business activities, if cash was extracted up to the higher rate tax band or if you were going to extract cash as a non UK resident, that a company could offer significant reduction in taxes on income generated.
In terms of interest relief, where an LLP carries on a trade, the members of the LLP who are individuals are entitled to claim interest relief on the loans they obtain in order to purchase a share in the partnership. There are additional conditions that would need to be satisfied (eg you must remain a partner to the date of the payment of the interest and must not recover capital from the partnership).
Note if the LLP was assessed as undertaking an investment business (eg property investment) no interest relief would be due.
Any interest relief would be claimed on your self assessment return and you could obtain a mortgage for this purpose.
Capital gains tax
As a share of an LLP is treated as a share in a 'normal' partnership, on a future disposal of the partnership the tax treatment would be the same as for a disposal of a partnership interest.
The main relief for a trading partnership is Entrepreneurs Relief. On a future disposal of the partnership you may qualify for the lower 10% rate of CGT.
Note however that this will apply only to trading partnerships. If the LLP was classed as undertaking an investment, Entrepreneurs Relief would not be due. This would effectively increase the CGT rate to 28%.
Other reliefs that a partner in an LLP may be entitled to include rollover relief and gift relief , (which are looked at in other articles).
Again, trading partnerships have an advantage as the members interest in this should qualify for business property relief ('BPR'). This can effectively eliminate the value of the partnership interest from the deceased's estate.
One point to watch out for is that if land or buildings are owned personally but are used by a partnership in which you are a partner the rate of BPR is reduced to 50%. If the IHT charge is significant it may be worthwhile considering transferring the land to a discretionary trust, provided the land is worth no more, after the 50% BPR than the nil rate band (currently £325,000).
Therefore in summary, LLP's offer a good 'halfway house' between a partnership and companies and can be very useful.
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