When trying to decide on the best trading structure for your business, you’ll encounter a lot of complex terms and confusing tax rules.
It can be especially difficult to understand the differences in the tax treatment for structures such as Limited Liability Partnerships (LLPs) and companies.
Let’s break this down and answer the question, “Do Limited Liability Partnerships pay Corporation Tax?”.
We will cover:
- How different company structures affect your tax liability
- The most recent changes in tax rates
What is an LLP?
A lot of small businesses are operated by single individuals, often referred to as sole traders.
If two or more people join forces, they may opt to form a partnership.
A Limited Liability Partnership (LLP), a type of partnership that limits the liability of its partners, is a common choice because it combines the flexibility of a partnership with the security of limited liability.
In contrast, some people prefer to do business via a company, which is a distinct legal entity from its owners.
What does this mean in terms of taxes?
Partnerships, including LLPs, have what’s known as tax transparency.
This simply means that the partnership itself doesn’t pay taxes.
Instead, each partner pays tax on their share of the profits.
If a partner is an individual, they also pay Class 2 and 4 National Insurance.
If a partner is a company, it pays Corporation Tax on its profit share.
Do Limited Liability Partnerships pay Corporation Tax?
An LLP can lose its tax transparency under certain circumstances, such as if it stops doing business with the intent of making a profit.
In these cases, the LLP’s profits become subject to Corporation Tax, much like a company.
In contrast, companies are not tax transparent.
The company itself pays Corporation Tax on its profits.
Then, any money taken out of the company by its owners – through salary or dividends – is subject to Income Tax (and National Insurance Contributions, where applicable).
There’s also an additional cost if owners choose to pay themselves a salary: the company must also pay employers’ National Insurance Contributions.
One advantage of a corporation, though, is that it can help to shield profits from higher rates of Income Tax.
Profits taxed at the corporate level may be taxed at a lower rate than those of an individual.
However, recent increases in Corporation Tax rates may make this advantage less significant.
Benefits of LLPs
LLPs, which were introduced in 2002 in the UK, have become quite popular, largely because they offer flexibility.
Partners can join an LLP without being taxed and can borrow money from the partnership.
The LLP can also hold luxury assets, like boats or jets, without incurring a benefits charge, though associated expenses may not be tax-deductible.
On the other hand, if you don’t need to withdraw all your profits right away, a corporation can act as a kind of ‘money box’, protecting profits from higher rates of Income Tax.
Changes in Tax Rates
In recent years, there have been some changes to the tax landscape. As of 6 April 2023, the Additional Rate Threshold for Income Tax dropped to £125,140 (from £150,000).
The dividend allowance, which is the amount you can earn from dividends before you start paying tax, has also been reduced: from £2,000 to £1,000 in 2023, and it will go down to £500 in 2024.
Finally, there have been adjustments to the Corporation Tax rates starting from 1 April 2023.
Now, companies with taxable profits above £250,000 are subject to a 25% tax rate.
Meanwhile, companies with profits below £50,000 continue to enjoy the 19% rate.
For companies with profits between £50,000 and £250,000, the 25% rate applies, but with some relief.
In conclusion, yes, Limited Liability Companies do pay corporation tax, and so can LLPs under certain conditions.
The tax implications of your chosen trading structure are a significant factor to consider when setting up your business.
To ensure you make the best decision for your specific situation, contact us.
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Kind regards Ilyas