Salaried Member rules: first judicial decision

Since April 2014, LLPs have had to consider the salaried member rules, in determining whether partners are self-employed individuals or employees.

Until now there have been no judicial decisions relating to the salaried member rules. However, the recent First-tier Tribunal (FTT) case, BlueCrest Capital Management (UK) LLP v HMRC, has provided some potentially useful interpretation of these rules, though recognising that this is a non-binding FTT case.

As a reminder, the salaried member rules treat a member of a UK LLP as an employee for tax purposes unless they fail one of the following tests:

• Condition A: at least 80% of their income is of disguised salary
• Condition B: they do not have significant influence over the affairs of the LLP
• Condition C: their capital is not at least 25% of their disguised salary.

If the answer to at least one of the above tests is 'no', the member should be taxed as a self-employed partner.

The BlueCrest FTT case considered whether the members of the LLP in question failed either condition A or condition B (it was agreed that condition C was met and not in question). The judge decided that condition A was met but certain members failed condition B.

The key findings

The key findings of the case were as follows:

• Condition A
  • When considering disguised salary any variable profit share needs to be directly linked with the overall profits and losses of the LLP. The fact that a member is rewarded for personal performance but that this is then potentially reduced based on the overall performance of the firm is not a sufficient link, and the personal performance reward will be categorised as disguised salary.
• Condition B
  • Significant influence is not limited to just managerial influence, but also the influence the partner has over financial and operational aspects.
  • A member does not need to have significant influence over all aspects of the firm but needs to demonstrate significant influence over part of the firm that makes a key contribution to the LLPs business.

Although the BlueCrest case is based upon the facts of an investment manager firm there will be parallels for all professional service firms. For example, the decision could be seen to imply that the heads of fee earning departments within a law firm may exert “significant influence” even if they are not on the firm’s management board.

Actions to take

Where a firm is relying on members failing Condition A, the case emphasises the need to make sure that any bonus or performance share does vary with the LLPs profits.

For those looking at whether Condition B is the key condition, the case suggests that the interpretation of who exercises significant influence might cover more members than HMRC has previously suggested.

In all circumstances firms should continue to have in place, and document, a robust procedure in evidencing that they fail one of the conditions in respect of the salaried member rules and to re-validate their conclusion at each relevant re-test date.