This article from our back to basics series on different company vehicles looks at limited liability partnerships.
Here we'll be covering:
- What is a limited liability partnership?
- How is a limited liability partnership different from a limited company?
- How is a limited liability partnership different from a general partnership?
- What are the advantages and disadvantages?
- Limited liability partnership agreements
- Members of limited liability partnerships
- Naming your limited liability partnership
- Disclosure requirements for LLPs
- Winding up limited liability partnerships
What is a limited liability partnership?
A limited liability partnership (LLP) is a way in which individuals decide to do business together, either for a particular project, or more generally for their business activities. Many law and accountancy firms and medical practices operate as partnerships. Partnerships can be informal or be organised under a detailed written agreement describing how they will be managed and operated.
Partners in ‘traditional’ or general partnerships have full legal and unlimited liability for the debts of the partnership, which means that their homes and assets are on the line if the partnership becomes insolvent. With a limited liability partnership, responsibility for these debts is limited to the amount paid into the business.
Here are the main characteristics of a limited liability partnership (LLP):
- It is a legal entity in its own right, can own property and enter into contracts with third parties
- It must be a profit-making enterprise, and can’t be a charity or not-for-profit
- There must be two members at all times
- It is registered as a legal body at Companies House, and its accounts are filed and open to inspection by the public
- Its members do not have legal responsibility for its liabilities, except in certain limited circumstances
- LLPs don’t file tax returns or pay corporation tax
- It is taxed in the same way as a general partnership, in that each partner pays tax on their share of the profits
- Members of the partnership decide how the partnership will be run, and its organisational documents do not have to be published (unlike for limited companies)
Each LLP must have at least two Designated Members who are responsible for the formal requirements of the LLP, such as filing accounts at the Registrar of Companies. They must also notify the registrar of changes to membership, and make any application to be struck off the register.
How is a limited liability partnership different from a limited company?
LLPs are similar to limited companies, in that they have to be registered at Companies House, and have certain reporting and filing requirements so that their ownership and financial status can be inspected by members of the public.
However, only one person can set up a company, being both the sole shareholder and director, whereas an LLP must have two members at all times. The liability of members of a company is limited to the nominal value of their shares, whereas the liability of the members of an LLP is as agreed between them in the partnership agreement.
The constitution of a limited company is registered at Companies House, and can be viewed by the public, whereas an LLP’s management rules and structures can be described in the private partnership agreement. This can be changed at any time without notification to the Registrar of Companies.
Limited companies can be not for profit, limited by share or guarantee, and can be charities, whereas LLPs must be run as profit-making businesses.
Limited companies file annual returns of their trading activities at Companies House, and pay corporation tax on their profits, whereas an LLP is not subject to a tax on the business. Instead, each LLP member files a self-assessment return, and they all pay tax on their share of the profits of the LLP.
How is a limited liability partnership different from a general partnership?
A general partnership is not a separate legal entity, and cannot enter into leases or other contracts itself – any contract made will be signed by a particular partner or partners, or all of the partners.
Each partner in a general partnership is jointly liable with the others for the liabilities of a general partnership during the time they are a member. They are also jointly as well as individually liable for losses or damages caused by the business of the partnership while it is operating.
If a person were to sue a general partnership (for medical negligence for example), they could choose to sue individual partners or all of the partners.
What are the advantages and disadvantages?
The main advantages of a limited liability partnership are:
- The LLP itself doesn’t pay tax. Whether each partner is liable to tax, and the rate they pay, depends on the individual’s personal circumstances.
- An LLP is a legal entity in its own right, and can enter into contracts and employ staff directly.
- Its name is protected in law, so that a rival business cannot have a similar name.
- Its members have limited liability, so they are not responsible for the debts of the business.
- An LLP does not have any restrictions on how it distributes profits to its members. It can make loans to them, and return cash to them, with very little formality required, whereas a limited company must have available profits before it declares a dividend.
- New members can be admitted, and members removed, relatively easily compared to a limited company.
- An LLP can keep its organisational structure and arrangements for the distribution of profits to partners secret, as it does not have to publish its constitution. It has more flexibility in its arrangements for joining and leaving, and the way it conducts its affairs, as it does not have to file details of its procedural requirements at Companies House.
An LLP’s disadvantages are:
- In an LLP, profits cannot be retained within the business, and are taxed immediately if they arise. Limited companies pay corporation tax but can retain profits within the business for investment or as working capital, rather than paying dividends to members that may be subject to tax at higher marginal rates than the marginal corporation tax rate.
- An LLP is not suitable if you are in business on your own, or you wish to grow your business and raise capital through the issue of shares. It’s a more suitable structure for general partners who want legal protection from liabilities arising in the course of business, such as doctors or lawyers.
- As an LLP is a legal entity, it has certain disclosure requirements. An LLP has to file accounts at Companies House, and this means that profits are open to inspection.
Limited liability partnership agreements
While an LLP does not have to have a formal partnership agreement, it is advisable to have a written agreement to regulate the way the LLP conducts its affairs, and to avoid future disputes among the members. Here are the kinds of matters that can be included in an LLP agreement:
- Name, registered office and place of business
- Who owns the intellectual property of the LLP
- How accounts will be drawn up, how profits and losses will be distributed, and who the auditors will be
- How capital will be invested in the LLP
- Who the Designated Members will be, and how members will join and leave
- The duties of members and any restrictions on their activities
- How insurance and liabilities will be dealt with
- What happens when members leave or die
- Confidentiality obligations, and what happens on liquidation
- How disputes among members will be dealt with
Members of limited liability partnerships
LLPs are owned by the individual members, of which there must be at least two. They are most commonly referred to as partners, although they must make clear that liability is limited, and that they are not operating as a general partnership.
The initial members are those signing the original incorporation document, and those that subsequently join. They may be individuals or companies, and can be minors. A person can cease to be an LLP member if:
- They die
- If they are a legal entity in themselves, they can cease to be a member if they are dissolved or cease to exist
- By agreement
- By reasonable notice to the other members.
They can only be expelled by the other members of the LLP if this is by express agreement.
Once a member leaves, they must end their involvement in the business of the LLP, but they can still receive any payment due to them.
There must be at least two Designated Members of an LLP. If none have been designated by the LLP, then all members will be deemed to be Designated Members, with certain responsibilities described above.
While individual members of an LLP cannot be employees, they will be treated as employees for tax and National Insurance purposes if they:
- Have significant influence over the affairs of the partnership
- They are receiving a ‘disguised salary’ in return for certain duties where payment is fixed regardless of the profits of the LLP
- Their capital contributions are significantly less than the ‘disguised salary’
Naming your limited liability partnership
When you incorporate an LLP, you must register its full name with Companies House. When you choose a name for your LLP, you are subject to similar rules as when you choose a name for your company, for example it cannot be similar to another organisation. Equally, the name of the LLP must be disclosed at the registered office and trading addresses, on invoices, letters and other business correspondence, and on its websites.
The name of the LLP must include the words ‘Limited Liability Partnership’, the abbreviation LLP or its Welsh equivalent. The name must exclude certain prohibited words and not be offensive or misleading.
Certain names require prior approval, such as ‘dental’, ‘banking’ and ‘polytechnic’, or require consultation with certain authorities such as ‘building society’, ‘patent agent’ or ‘veterinary’.
Disclosure requirements for LLPs
LLPs must file annual accounts with Companies House every year, and any changes to its registered details must be reported. In certain circumstances, the name of every LLP member must be disclosed in business letters.
In a similar way to limited companies, LLPs must file certain information at Companies House:
- A confirmation statement
- Annual accounts
- Changes to membership
- Changes to the registered office
- Changes to members’ status (as a Designated Partner for example)
- Details of any mortgage or charge created by the LLP
Winding up limited liability partnerships
The law regarding the insolvency of limited liability partnerships is similar to that regarding limited companies.
An insolvent LLP may enter administration, be liquidated, or enter into a voluntary arrangement with its creditors. In limited circumstances it may enter into administrative receivership. The holder of a fixed charge over an asset of the LLP may appoint a receiver for that asset.
In certain circumstances, capital withdrawn by members can be clawed back in an insolvency by the person administering the affairs of the LLP.
When an LLP is wound up, past and present members may have to contribute to the assets of the LLP where they have agreed to do so in the Limited Liability Partnership agreement, or if they are guilty of fraudulent or wrongful trading.