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What is a Limited Liability Partnership (LLP)?

A limited liability partnership (LLP) is formed when two or more individuals want to start a business and want to be protected from any liabilities that may arise from the business, as well as enjoying some of the benefits that a general partnership offers.

Unlike a general partnership, an LLP is a separate legal entity and its members must apply to Companies House for its formation. An LLP differs from a limited company as it does not have directors are shareholders, only partners.

LLPs are relatively new – they were only introduced to the UK in 2001 – and are not governed by general partnership or by most company law. LLPs have their own legislation, the Limited Liability Partnerships Act 2000, and are also subject to some conditions of the Companies Act 2006.

How to start a limited liability partnership business

An LLP requires at least two members to incorporate, these can be either individuals or companies, and it must be registered with Companies House. It must also be registered with HMRC for tax purposes. As a separate legal entity, an LLP can own assets, employ people and enter into contracts.

Unlike a limited company, an LLP does not require a memorandum or articles of association, directors or shareholders, and cannot issues shares. However, as with general partnerships, it is advisable to create a limited liability partnership agreement when the LLP is formed.

A partnership agreement, which is also known as a deed of partnership or articles of partnership, will typically describe how the LLP will be run and how its profits will be shared. It may also nominate members who are responsible for managing any statutory requirements, such as the tax affairs of the LLP.

Unlike a limited company, an LLP does not require a memorandum or articles of association, directors or shareholders, and cannot issues shares

The partnership agreement will also include details of how much each member has invested, what their roles in the business are, who can agree contracts and how, the leaving procedure for members who want to quit or if a member dies and what happens if there is a dispute or if something goes wrong. It should also detail how any losses will be distributed between members.

If there is no agreement, then the provisions of the Limited Liability Partnerships Act 2000 will apply.

The reporting requirements of an LLP

An LLP has a greater administrative burden than a general partnership and is required to file various items of paperwork with Companies House. Initially, the members must apply to Companies House to incorporate an LLP. The Registrar of Companies must be informed each time a new member joins the LLP, or when a member leaves, within 14 days of the event.

An annual return must be submitted each year that details the LLP’s contact details and a list of its members. An LLP must also file annual accounts that may also require audit if the LLP is large enough. If the business is small and qualifies for exemption, it can file abbreviated accounts.

If the members of an LLP fail to submit an annual return and accounts, the Registrar of Companies may assume that the business no longer exists and will strike-off the LLP. On striking off, all of the LLP’s assets become the property of the Crown.

What tax do LLPs and their members pay?

The LLP must prepare accounts and complete an LLP Tax Return that should include the relevant extracts of the annual accounts and be submitted to HMRC. However, the LLP itself does not pay tax – it passes the profits in the business through to the members. If there are capital gains, such as through the sale of property, these are shared between the members according to their profit share.

The exact profit that comes to each member is determined by the partnership agreement, or they receive equal shares if there is no agreement. Each of the members must then complete a self-assessment tax return that details all of their income, including LLP profits, on which they pay income tax and National Insurance Contributions (NICs) as self-employed individuals.

LLP’s that have sales in excess of £81,000 in a 12 months period must also register for VAT. If a member is a company, it will pay corporation tax on its share of the profits, as if they were any other business income.

Members pay income tax and NICs on their earnings

Members who are not companies are subject to the same income tax bands as sole traders, general partners and employees. Members have a personal allowance of £10,000 on which they pay no income tax. Then they pay the 20% basic rate of income tax on the next £31,865 of profits, the higher rate of 40% on profits of between £31,865 and £150,000, and the additional rate of 45% on any profits over £150,000.

Members also pay two types of National Insurance Contributions (NICs). Class 2 NICs are paid at a rate of £2.75 per week and Class 4 NICs are calculated as part of the self-assessment process, and are based on the member’s earnings.

A member must submit their self-assessment tax return online by 31 January following the end of the tax year, which is 5 April (paper tax returns must be submitted three months earlier, by 31 October). Any tax owed must be paid in full by the 31 January deadline.

Like self-employed sole traders and partners of general partnerships, members are also required to make income tax payments on account. The payment on account is calculated based on the previous year’s earnings. If a member’s income looks like it will be considerably less in a subsequent year, it is possible to negotiate a reduction with HMRC.

The benefits and risks of trading via a partnership

LLPs offer a blend of the simplicity and flexibility of a general partnership with the limited liability of a limited company. All of the profits pass through directly to the members and there is no corporation tax to pay. The internal agreements and management of an LLP are private and there is considerably more flexibility than with a company.

Liability is limited to what the members invested, so they are not personally liable for debts and the poor decisions of their business associates as partners in a general partnership or sole traders will be. Plus an LLP can also raise money for growth by introducing new members.

However, the administration burden of running an LLP is only slightly lighter than a company. An annual return and accounts must be filed alongside tax returns, and business records must be kept. Companies House must be informed each time a member leaves or joins.

Once the profits of the LLP reach a certain level its members will start to pay higher and additional rate income tax on their earnings, alongside NICs. Under certain circumstances, a limited company can offer a more tax efficient structure for highly profitable businesses.

Securing work directly from clients/agencies

LLPs are separate legal entities, so a client or agency will engage the services of the LLP and not the members directly. This situation removes the risk of the individual claiming employment rights, as there is an intermediary in the form of the LLP between the worker and the client.

So, clients and agencies may be more likely to hire a contractor working via an LLP than a partnership or sole tradership. However, because the LLP is an intermediary, the ‘Intermediaries Legislation’, or IR35, could apply.

LLPs can be an ideal solution for some types of business, as this structure offers a unique combination of the flexibility of a partnership and the limited liability of a company. It can also be tax efficient, up to a certain level of income.

Published: Wednesday, 21 January 2015

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