The pros and cons of operating as an LLP

An LLP, or limited liability partnership, is a popular type of business model that is incorporated at Companies House with two or more partners, known as LLP members. By operating your business as an LLP, you can enjoy the essential characteristics of a traditional partnership whilst also benefiting from some of the key elements of a limited company.

In this post, we provide an overview of the main pros and cons of the LLP structure, leaving you with a better understanding and balanced view of this hybrid corporate structure.

Benefits of a limited liability partnership

Since its introduction in 2001, the limited liability partnership model has been a dominant business structure among certain types of professional services firms, such as solicitors, accountants, architects, and surveyors.

Historically, people working in these types of occupations would form a general (traditional) partnership. This enabled like-minded professionals to pool their resources and share the workload and risks. But, crucially, each partner could participate independently and pay personal tax on their share of the profit.

However, one of the key drawbacks of a general partnership is that each partner has unlimited personal liability for the debts of the firm, including any fraudulent or negligent acts of other partners.

The issue of joint and several liability within business partnerships was the driving force behind the creation of the LLP model, which combines the organisational flexibility and tax treatment of a traditional partnership with the limited liability protection and corporate status of a limited company.

Let’s take a closer look at the main benefits of an LLP in the UK.

1. Limited liability protection

Limited liability is the most notable benefit of the LLP model. This feature means that LLP members have limited personal liability for the debts and actions of the partnership.

If the LLP becomes insolvent or is sued, the personal assets of its members are protected. Unlike the partners in a traditional partnership, who are jointly and severally liable for the debts and obligations of the entire business, the liability of LLP members is limited to:

the amount of money they invest in the business, and/or
the sum, if any, that they agree to contribute to the winding up of the LLP, and/or
the sum of any personal guarantees provided against business loans or other contractual agreements of the LLP

This limited liability protection is possible because an LLP exists as a legal person, meaning that it is entirely separate from its members.

Whilst greatly beneficial to all members, limited liability is particularly reassuring to LLP members who are not actively involved in the management side of the business, or are not privy to the LLP’s financial health.

However, the insolvency regime for limited liability partnerships is broadly the same as that which applies to limited companies. Consequently, members of an insolvent LLP can be held personally liable if they are guilty of certain acts, such as fraud, negligence, or wrongful trading.

LLPs are also subject to a clawback provision in the Insolvency Act (section 214A), which requires members to repay all drawings taken from the LLP in the two-year period prior to insolvency or liquidation, if they knew, or ought to have known, there was no reasonable prospect that the LLP would avoid insolvent liquidation.

2. Flexible internal arrangements

One of the main attractions of an LLP is that it allows for greater organisational flexibility. Specifically, it allows different ownership and management arrangements, members’ rights and responsibilities, decision-making powers and procedures, profit allocation, and the introduction and removal of LLP members.

This is in contrast to general partnerships, in which all partners share equal rights and responsibilities. And unlike companies, LLPs do not have to adopt articles of association or operate in accordance with the Companies Act 2006.

Instead, they are subject to LLP legislation, which is less restrictive and allows LLP members to agree on internal affairs and governance between themselves.

The importance of an LLP agreement

Most LLPs choose to set out their internal rules and arrangements in a written LLP agreement. This is a private contractual agreement, so there is no requirement to file a copy with Companies House. Consequently, members can alter an LLP agreement with relative ease, if and when any such need arises.

Should an LLP operate without an LLP agreement, the default provisions in the Limited Liability Partnership Regulations 2001 will apply.

3. Tax treatment

Like general partnerships, limited liability partnerships are ‘tax transparent’, meaning that an LLP itself is not liable to Corporation Tax on its profits. Instead, the tax system ‘looks through’ the LLP, and taxes each member directly on their individual share of the profits.

As such, most LLP members are treated as self-employed for tax purposes, and are responsible for reporting and paying tax on their profits. This involves registering with HMRC for Self Assessment, filing an annual Self Assessment tax return, and paying Income Tax and National Insurance contributions (NIC) on the earnings they receive from the LLP.

Each member is treated as receiving their share of the profits (or losses) in the tax year they arise, even if they choose to leave some or all of the profits in the business. However, when paying tax through Self Assessment, members benefit from a delay between the receipt of their profit share and the payment of tax and NIC.

Additionally, LLPs do not pay Employers’ National Insurance contributions on the profits they distribute to members, with the exception of distributions paid to any member who is subject to the LLP Salaried Member rules. Such members are regarded as employees for tax and NIC purposes, so they must be taxed through Pay As You Earn (PAYE).

4. Separate legal personality

An LLP is an incorporated structure that exists independently of its members. As such, it is deemed to be a legal person. According to the Limited Liability Partnerships Act 2000:

The limited liability partnership will be a separate legal entity with unlimited capacity. This means that an LLP can do anything that a natural person could do. It has the ability to enter into contracts and hold property, and will continue in existence in spite of any change in membership. The LLP’s existence as a separate legal entity makes it more closely akin to a company than to a partnership (except insofar as the internal relations are governed by agreement between the members…)

This legal separation between an LLP and its members is the reason why members enjoy limited liability for the LLP’s debts and obligations.

5. LLP names are protected

Upon incorporation, an LLP’s name is legally protected. No other limited liability partnership or company can be registered with the same name or one that is too similar. General partnerships do not enjoy the same level of protection with regard to their business names.

6. Easy to set up

In the UK, forming an LLP is a fairly straightforward and inexpensive process, especially when using the services of an online company formation agent.

To set up an LLP, you must complete an application form for Companies House, providing a unique LLP name, a registered office address, and the details of all LLP members (minimum of two required) and people with significant control (PSCs).

Typically, most online applications are processed and approved by Companies House within 24 hours.

7. Confidentiality

Whilst LLPs and limited companies are subject to many of the same disclosure requirements, including filing annual accounts and maintaining statutory registers, LLPs enjoy a little more confidentiality with regard to internal arrangements.

When you form a company, the articles of association become publicly available in the central register at Companies House. Whereas, the internal rules and arrangements set out in an LLP agreement remain private.

8. Greater credibility and prestige

An LLP, rather than a general partnership, can enhance the credibility of a business. As a body corporate with stringent registration and disclosure requirements, the LLP structure is highly regarded and trusted by potential clients, lenders, and suppliers.

Disadvantages of a limited liability partnership

As with all types of business structures, there are a few potential disadvantages to an LLP rather than a company or general partnership.

1. Administrative obligations

LLPs have more administrative obligations to fulfil than general partnerships. These include:

maintaining a registered office address
keeping statutory LLP registers, including a PSC register
filing an annual confirmation statement
preparing LLP accounts for Companies House
telling Companies House about any changes to the LLP (e.g. change or registered office, members’ details, and PSCs)

Designated members are responsible for ensuring that an LLP adheres to these requirements. LLPs must have a minimum of two designated members at all times.

2. Disclosure requirements

In exchange for limited liability and corporate status, limited liability partnerships are subject to the same disclosure requirements as limited companies.

When you form an LLP, the following information will be made publicly available on the central register at Companies House:

registered office address
details of LLP members – name, service address, month and year of birth, country/state of residence
details of people with significant control (PSCs) – name, service address, month and year of birth, country/state of residence, nationality, and their nature of control over the LLP

Additionally, limited liability partnerships must adhere to the following disclosure requirements:

keeping statutory LLP registers up to date and making them publicly available at the registered office address or single alternative inspection location (SAIL address)
displaying a sign showing the LLP name at the registered office and anywhere else the business operates
including certain LLP information on business documents, publicity, letters, and websites
submitting LLP accounts for the public record at Companies House

The designated members of the LLP are responsible for providing the required information to Companies House and ensuring that the LLP complies with all statutory disclosure requirements.

3. Tax efficiency

In contrast to limited companies, LLPs are typically less tax efficient. The reason is that all profit is taxed in the year it is earned, regardless of whether it is distributed to members or retained in the business.

Consequently, there is less flexibility to retain profit in an LLP for investment, as working capital, or for future distribution to members who wish to avoid higher or additional rates of Income Tax in a particular tax year.

Form an LLP online today

Forming an LLP is an easy process if you use the services of an online company formation agent like 1st Formations. Simply select our LLP Package, choose a unique LLP name, check out, and complete our online application form.

We will then send your LLP application to Companies House via secure electronic filing. Most incorporations are processed and approved by Companies House in just 3 to 6 working hours, but it may take longer.

Our limited liability partnership formation package costs £74.99 +VAT and includes:

a free draft LLP agreement
digital and printed LLP documents
digital LLP statutory registers
a free business bank account (optional)
access to our Online Company Manager, which you can use to view, maintain, and update your LLP’s details

We also offer a range of additional services, including a London Registered Office Address, Service Address, Confirmation Statement Service and VAT Registration.

Wrapping up

Overall, an LLP provides the flexibility and tax transparency of a general partnership, with the added benefit of limited liability protection, corporate status, and enhanced professional prestige.

It’s the best of both worlds, making it the ideal business structure for certain professions that prefer to operate as a partnership.

If you have any questions about this post, or would like to find out more about setting up an LLP, please comment below or contact our company formation team.

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The pros and cons of operating as an LLP