As a form of business vehicle, LLPs are hybrids between companies and partnerships. To better understand the core concept of an LLP, it’s important to understand the differences between companies and partnerships in broad terms.
A partnership (or more specifically a general partnership) is created when two or more people join in a common enterprise with a view to profit. No registration or agreement is required for a partnership to come into existence. Profits and losses of a partnership are taxed directly in the hands of the partners.
In contrast, share companies are legal persons, and are therefore treated as taxable entities separate from their owners, thereby creating a second level of tax when profits are distributed to shareholders via dividends, who must then account for the same as income. The separate legal personality of a company is the basis upon which the law provides a shield against liability for its owners and management vis-à-vis third parties, a benefit which partnerships do not enjoy.
Similarities and Differences among LLPs, LTDs and Partnerships
Unlike partnerships but like companies, LLPs come into existence upon registration at Companies House, and have certain reporting and filing requirements so that their ownership and financial status is open to the public. Moreover, the liability of members of share companies and those of LLPs are both limited albeit in slightly different fashion: company shareholders’ liability 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.
Unlike companies but like partnerships, LLPs are not subject to tax, notwithstanding their separate legal identity. To account for an LLP’s profits and losses for tax purposes, each LLP member files a self-assessment return in respect of her share thereof.
Some distinguishing features of an LLP vis-a-vis a company are: a) a company can be set up by just one person (acting as sole director and shareholder) whereas an LLP must have two members at all times; b) the constitution of a limited company is registered at Companies House, whereas an LLP’s management rules and structures can be described in the private partnership agreement and can be changed at any time without notifying the Registrar of Companies.
As with companies and partnerships, the law provides statutory default governance provisions where no agreement among partners/members exists to manage the relationship. Nevertheless, we highly recommend an agreement be drawn up to fill in the numerous gaps not addressed by the statutory framework.
How is an LLP different from a general partnership?
A general partnership is not a separate legal entity and cannot be a party to leases or other contracts in its own right– any contract made will be signed by the partners or any of them on behalf of the others.
Each partner in a general partnership is jointly and severally liable with the others for the liabilities of a general partnership during the time they are a member. They are also jointly and severally 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 the partners individually.
Advantages of LLPs
LLPs provide the advantage of both limited liability and tax transparency offering the “best of both worlds” as it were between companies and partnerships. LLPs can be thought of as modern version of partnerships insofar as they remove the disadvantage of jointly and severally liability. The less complex regulatory framework of the LLP Act as compared to the Companies Act, makes the burdens of compliance easier to meet.
For example, 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.
The main advantages of an LLP 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 and can agree contracts and employ staff in its own right.
- 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.
If you would like more information about setting up an LLP, please get in touch with our corporate team for a free 30 minute consultation.
The information in this blogpost is provided solely for informational purposes and without warranties of any kind. Whilst this blogpost will be helpful to you when considering the subject matter herein, it does not constitute legal or any other form of advice and must not be relied on as such. It does not provide all the information you may need for effective decision making concerning your business. It is your responsibility to review and conduct your own due diligence on the relevant legislation and rules. You may wish to appoint your own professional advisors to assist you with this. All information in this document is subject to change without notice.
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