HMRC published this week a consultation paper entitled
"Review of tax rules on partnerships: disguised employment
and profit and loss allocation schemes" following its
announcements in the 2013 Budget, with a view to introducing new
legislation in Finance Bill 2014.
The purpose of the consultation is to invite comments from
industry members on how to tackle two areas of perceived UK tax
the current treatment of certain members of a UK Limited
Liability Partnership (LLP) as self-employed for UK income tax and
national insurance purposes; and
schemes involving manipulation of partnership profit and loss
allocations to secure a tax advantage.
The consultation will close on 9 August 2013, and the changes
would take effect from 6 April 2014.
Disguised employment – "salaried" LLP
Under the current rules, individuals who are members of a UK LLP
are taxed as if they are self-employed partners of a traditional UK
partnership, even if they are engaged by the LLP on terms similar
to those of employees.
To create a level playing field between employees and LLP
members who are considered "disguised" employees, the
Government intends to change the employment tax rules by removing
the presumption that all individual LLP members are treated as
self-employed partners for UK tax purposes, and instead seeks to
tax LLP members as if they were employees if the terms of their
engagement are tantamount to employment. The proposals are,
broadly, that LLP members would be treated as "salaried
members" of the LLP if either (i) they would be treated for UK
tax purposes as de facto employees under case law principles, or
(ii) they do not share in the economic risks or rewards of the LLP.
Under limb (ii) of this test, an LLP member will be a
"salaried member" if he or she:
a) has no economic risk;
b) is not entitled to a share of the profits; and
c) is not entitled to a share of any surplus assets on a
These changes could affect professional service and asset
management firms, for example, which are typically constituted as
UK LLPs. It is not clear if these changes might affect the
treatment of UK members of non-UK LLPs.
Schemes involving a manipulation of partnership profit and loss
HMRC has seen an increasing number of arrangements involving
partnerships (i.e. UK and non-UK LLPs and partnerships) with mixed
membership – for example, a company and several individuals
– whose profit-sharing ratios are calculated in such a way as
to reduce the overall tax paid by the partners/members.
Partners (and LLP members), all referred to here as
"members", are charged to tax on profits allocated to
them under the partnership/LLP profit-sharing agreement applicable
during the relevant period. The schemes of which the Government has
become aware operate to (a) allocate profits to a member (e.g. a
company) that pays a lower rate of tax, (b) allocate losses to a
member that pays a higher rate of tax, or (c) allow members to
reduce their profit entitlement in return for payment made by or
benefits provided to other members who will be taxed more
favourably on those profits.
To block the use of such arrangements, the Government intends to
introduce rules to counteract the income tax advantage obtained by
reallocating the profits to the tax-advantaged members as if the
actual allocation had not occurred (or, if the partnership is
loss-making, by denying the loss relief claimed by the
The Government also intends to introduce measures to prevent
schemes in which a member with certain tax attributes (e.g. a
tax-exempt body) makes a capital contribution to the partnership
for the benefit of, or makes a payment to, another partner without
such attributes, in exchange for a transfer of a profit share from
the latter, thus minimising the transferring member's income
tax liability without any real economic loss for that member. Such
measures intend to tax the payment or the value of the capital
contribution received by the transferring member as income.
These new rules would apply to profits and losses arising to
partnerships and LLPs on or after 6 April 2014, without any
grandfathering for arrangements entered into before that date.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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What’s the Option? We’re all still waiting for a final decision in Gillette.1 In the meantime, taxpayers have an option for the returns due this fall. They may compute their apportionment using one of the following two methods: