Growing interest in LLPs
A growing number of companies are approaching RM2 for advice in setting up flexible equity reward structures through Limited Liability Partnerships (LLPs). There are several benefits from doing so.
Offering an equity interest in a partnership is often easier and more tax efficient than providing interests in the shares of a company. If the partnership is set up correctly, it is usually possible to admit a new partner without tax implications. In a company, by contrast, if shares are provided to an employee they will generally be treated as a gift and subject to income tax. A company may be able to avoid this by offering share options, which are not subject to an immediate tax charge. However, unless a government sponsored option scheme is used such as the Enterprise Management Incentive (EMI), any gains on the options will be subject to income tax (and quite possibly NICs as well). Not all companies can offer government sponsored schemes and the schemes are in any event subject to regulations and limitations on the amounts of benefit that can be offered.
In a partnership, key team members will be taxed as self-employed. This will result in substantially lower payments of national insurance contributions than would be the case for company employees and also a more benign regime for claiming expenses against taxable income.
When a partnership interest is sold, whether back to the other partners or on sale of the whole business, the gains will normally qualify for Entrepreneurs' Relief. This reduces the effective rate of tax to just 10% on the first £5 million of gains, provided the interest has been held for at least one year. Gains on company shares, however, qualify for Entrepreneurs' Relief only if at least 5% of the share capital carrying 5% of the voting rights has been held over the year. Entrepreneurs' Relief is not available on share options. Accordingly the tax payable on the sale of company shares will generally be the full rate of 28%, particularly (as is often the case) if the shares have been acquired through option exercise and held only briefly before sale.
Partnership interests can be made to reflect many of the features of a conventional share option scheme. For example, the partnership entitlement can be made to vary in relation to the achievement of performance conditions. Underperforming partners can also be expelled from partnership.
There are no perfect solutions in life, of course, and one drawback is that the transfer of an existing business to an LLP may crystallise a charge to capital gains tax on the value of the existing business. However, it may be possible to exploit new business opportunities through a partnership while continuing to run-off existing contracts through the existing company. Other possible solutions include licensing arrangements and the use of an LLP as a vehicle to collect management charges.
For more information on how an LLP structure could help your business, call one of our advisers today on 020 8949 5522. We will be happy to speak to you informally and without obligation.