Impact
How much additional tax would be payable?
Assuming that the new charge would be levied at the same 15% rate as, and in a similar way to, the current employer NIC charge, it would lead to an effective tax rise of around 7% for additional rate taxpayers. The reason the effective rate is less than the headline rate is that the charge would, we assume, be deductible for income tax and self-employed NIC purposes.
It is unclear whether the new charge would apply to historic profits spread over current and future periods under the transitional provisions applicable to the recent "basis period reforms" (broadly, changes to the time periods used in calculating partnership profits for income tax purposes).
In addition, as well as directly increasing the tax payable by private capital management businesses structured as partnerships, the new charge would also hit the profits generated from private capital investments in professional services businesses structured as partnerships, thereby reducing returns to investors.
How will private capital managers respond?
At a macro level, introducing partnership NICs would likely make the UK a less attractive location for private capital businesses, especially as it follows the recent abolition of the non-dom regime and with the upcoming reform of the carried interest tax rules (from 6 April next year) set to adversely impact many executives.
At the level of an existing LLP, a key question would be the extent to which it should restructure its affairs. There are various options for this, including:
- Conversion to a corporate business structure. Under this route, team members would become employees or directors. This would not reduce the headline NIC charge (on the basis that both partner and employer NIC will be at 15%) on remuneration, but would have certain advantages, including facilitating the reinvestment of cash in the business. This is because partners are taxed on profits whether or not they are distributed (at a headline rate of 47%), whereas companies are subject to the (significantly) lower corporation tax rate of tax of 25% (and no tax arises on their shareholders, until the company returns the profits to them).
- Retain the LLP but make individuals employees. Under this route, the only members of the LLP would be two companies. This route could also be used to facilitate reinvestment, as the corporate members could reinvest their profit allocation (again subject to the 25% corporation tax charge they will have suffered on it).
Of course, the ability to more efficiently reinvest profits is far from the only consideration relevant to the question of whether to restructure an LLP. For example, employment and regulatory law considerations will also come into play, as well as more practical business and commercial considerations. In this regard, some private capital management businesses headquartered overseas find that UK LLPs add complexity to their structure, and so may see restructuring as a way of simplifying their affairs.
If an LLP is to be converted to a corporate structure (option 1 above), this can be achieved in different ways, for example, a transfer of the business to a new company. Which route is appropriate is likely to depend on the structure and preferences of specific private capital manager involved. However, various issues will need to be considered, including:
- tax neutrality - it will be important that the conversion process generates little or no tax leakage; and
- regulatory authorisation – where the LLP is regulated, the successor company will also need Financial Conduct Authority (FCA) authorisation (a process that can take months and will require it to disclose its controllers and their financial details). If the company carries out regulated activities in advance of this, it may commit a criminal offence and potentially render its client agreements unenforceable. In addition, the LLP will need to cancel its existing authorisation before it can be wound down, which will require it to demonstrate that it has ceased all regulated business and there is adequate provision for its existing customers.
