Addressing The Finance Bill 2014 ‘Salaried Member’ Provisions For Llps

Introduction

On 10 December 2013 HMRC issued draft legislation and guidance on the Finance Bill 2014 provisions affecting the employment status of LLP members for tax purposes, and the tax treatment of profit & loss allocations for mixed partnerships (those partnerships or LLPs with both individual and non-individual partners). Both measures generally take effect from 6 April 2014. Representations on the draft legislation are being made and we understand updated HMRC guidance will be available in February 2014. However this leaves little time for action and affected parties need to consider the issues now.

LLPs and partnerships should be reviewing the impact of the new legislation on their business as a matter of urgency and responding accordingly. This note highlights some of the consequences of the 'salaried member' provisions and the PAYE penalty provisions that may arise if the rules are not properly followed.

The new salaried member provisions With effect from 6 April 2014 where three conditions are satisfied a member of an LLP will be treated as an employee for tax purposes, leading to an obligation for the LLP to operate PAYE and Class 1 NIC on payments representing earnings to that member. The three conditions are where:

It is only necessary to fail one of these conditions to fall outside the definition of an employee for tax purposes under these provisions. Reorganising arrangements so that the 'salaried member' provisions are not in point is complicated by anti-avoidance legislation.

Implications of an LLP member being classified as an employee for tax Purposes

There will be a number of consequences of members being categorised as employees for tax purposes. These include:

• The individual's remuneration for services performed from the point the legislation applies (for example 6 April 2014 if it applies on that date) will be regarded as earnings from employment, and taxed when paid or put at the individual's disposal.
• The individual will be deemed to have ceased self-employment from that date and all relevant consequences will follow, including the crystallisation of overlap relief (which in the case of employment applying from 6 April 2014, will apply for the 2013/14 tax year).
• The individual will need to be included on the partnership return for those parts of the accounting period for which they are regarded as a member of the LLP.
• The partnership's RTI submissions will need to take account of the PAYE and NIC due in respect of the amount treated as the individual's employment remuneration, ie an RTI submission will be required on or before the date the amount is paid or put at the individual's disposal.
• Where the LLP uses shares or share options for rewarding members, consideration will need to be given to the employment related securities legislation.
• If the only reason the individual is not regarded as a salaried member is because of Condition C, the capital contribution condition, then care will need to be taken concerning any withdrawals of capital to ensure the minimum 25% threshold is maintained.
• Amounts treated as employment income and related expenses will be deductible in computing the partnership profits, whether or not the costs are deducted as expenses for accounting purposes.
• Consideration will need to be given to amendment of the partnership agreement to cater for reclassification of members as employees for tax purposes.

Both firms and individuals will need to consider the implications of the imposition of PAYE and NI liabilities and in what circumstances they would be liable for these tax costs.

It is the employer's responsibility to account for an individual's income tax and NI liabilities under the PAYE regulations. While there are tax provisions that permit the employer to recover such liabilities from other earnings of the employee, if the individual has left employment by the time the tax liabilities are paid, and there has been no retention, the firm may need to resort to the Courts to recover the amounts from the individual.

Looking at this issue from the perspective of the individual member, where the employer fails to pay the tax and NI liabilities there may be circumstances where HMRC can collect income tax directly from the member. The circumstances where HMRC can collect outstanding employee's NI contributions directly from the individual member are more limited, but as noted above the employer may have a right to collect costs borne by it from the employee.

It is unlikely that LLP's failing to properly account for PAYE/NI under the 'salaried member' provisions will be within the more relaxed rules for reporting such liabilities on or before the date of payment of remuneration that apply for small employers newly within the PAYE regime.

Penalty and interest provisions

Where an employer has failed to operate PAYE/NI in respect of salaried members there are a range of penalties that could apply.

Errors in returns

It is likely that HMRC will look at the provisions for penalties for errors in returns, where the penalty could be up to 100% of the potentially lost tax, depending on the reason for the error and the degree of co-operation provided in resolving the error.

Interest

It should also be noted that interest will accrue in respect of unpaid PAYE and NI from 19 or 22 April following the end of the tax year depending on the payment method used.

Late payment

Penalties under the real time information (RTI) regime for late payment of PAYE and Class 1 NIC (due on the 22nd of the month after the tax month to which they relate if made electronically) will be levied for late payment based on a percentage ranging from 1% to 4% depending on the number of defaults in any tax year. If the payments are outstanding after six months from the due date, further late penalties will be due of 5% of the unpaid amount, with a further charge if the tax still remains unpaid after 12 months.

Late filing penalties

There are also late filing penalties for late filing of RTI full payment submissions, ranging from £100 to £400, depending on the number of employees within the PAYE scheme. In addition where the end of year final RTI return is incorrect, a tax geared penalty is likely to apply.

Penalties are generally due within 30 days of the notice and interest will also accrue on unpaid penalties.

Conclusions

There are significant organisational, tax and administrative issues to consider as a result of the 'salaried member' provisions becoming effective from 6 April 2014 and little time to prepare for them. Firms and LLP members should be considering whether changes need to be made to the business operation as a matter of urgency.