HMRC has recently published updated guidance on its interpretation of the legislation in respect of the salaried member rules, which could impact the employment status of fixed share members of an LLP.
Under the salaried members rules, LLP members are taxed as employees unless they fail one or more of three specific conditions. Where one or more of the conditions is failed, the member’s profit share from the LLP is taxed on a self-employed basis.
In brief, the conditions are that the LLP member:
- receives a fixed profit share (Condition A);
- does not have significant influence over the affairs of the LLP (Condition B); and
- has contributed less than 25% of their profit share to the LLP as fixed member’s capital (Condition C).
Since the rules were introduced in April 2014, many firms have required their fixed share members to contribute a sufficient amount of capital to the LLP to fail Condition C. In our experience, this approach has proved popular due to Condition C being easily measured and offering the greatest degree of certainty.
The salaried members rules include a Targeted Anti-Avoidance Rule (“TAAR”), which effectively ignores any steps taken where the main purpose, or one of the main purposes, is to avoid the member being taxed as an employee. However, HMRC were aware that firms would restructure their businesses prior to the rules taking effect in 2014, and their guidance states “HMRC would not consider that genuine and long-term restructuring that causes an individual to fail one or more of the conditions to be contrary to this policy aim.” and “The capital contribution requirement is fairly prescriptive. A genuine contribution made by the individual to the LLP, intended to be enduring and giving rise to real risk, will not trigger the TAAR.”
HMRC have recently made some changes to their guidance, which they refer to as a 'clarification' of the application of the TAAR to Condition C. Although their guidance still contains the above two statements, HMRC have qualified this by stating that a genuine contribution made by the individual to the LLP, intended to be enduring and giving rise to real risk, will be disregarded if the main purpose, or one of the main purposes, is to avoid the member being taxed as an employee. They have also added a new example indicating that they consider the TAAR to apply where there is a separate agreement between the member and the LLP that allows the member to increase their capital contribution periodically in response to increases in their profit share, in order that Condition C continues to be failed.
As a result of HMRC’s new stance, it would be prudent to consider whether any changes need to be made to the arrangements between the LLP and its fixed share members going forward. If you would like any assistance with reviewing your position, please do get in touch with a member of our tax team.