Business Law & Compliance

Advantages And Disadvantages Of Running An LLP

Luisa Ddakis | 11 October 2022 | 2 years ago

Advantages And Disadvantages Of Running An LLP

An LLP, or a limited liability partnership, is a common business structure in the UK. However, there are both advantages and disadvantages of running an LLP that you need to be aware of before deciding whether this legal structure is right for your business.

In this article, we’ll explain what an LLP company is, as well as exploring some of the pros and cons of this legal structure.

What Is An LLP Company?

An LLP is a Limited Liability Partnership. To explain what that means, let’s break it down a bit further, by exploring what limited liability means, and what exactly a partnership is.

A partnership is simply a business structure where two or more people come together to run a company. These partners can be individuals, companies, or other LLPs.

The ‘limited liability’ part of LLP means that each partner’s liability is limited to their own actions and investments into the partnership – meaning that they are not personally responsible for any debts or losses that the company incurs.

So, an LLP is a business structure that combines the features of both a partnership and a limited liability company.

This is a popular legal structure for companies in the UK, especially for professional service businesses, like accountants and solicitors.

How Does An LLP Work?

Now that we’ve answered the question ‘what is an LLP’, let’s move on to exploring how they work.

An LLP must have at least two partners, who can be individuals, companies, or other LLPs.

Each partner has what is known as ‘limited liability’, which means that they are only responsible for their own actions and investments, and are not personally liable for any debts or losses that the company incurs.

However, it’s important to note that partners are still liable for any wrongful actions that they personally carry out – meaning that an LLP offers protection from business debts, but not from criminal acts.

Another key feature of LLPs is that they have ‘pass-through taxation’. This means that the LLP itself is not taxed on its profits – instead, the taxes are paid by the individual partners. So, each partner is treated as a self employed individual for tax purposes. This can be a big advantage, as it can help to reduce the overall tax burden on the company.

What Is The Difference Between A Limited Liability Partnership And A Traditional Partnership?

As we’ve already discussed, a partnership is simply a business structure where two or more people come together to run a company. However, there are two different types of partnership: a traditional partnership and a limited liability partnership.

The key difference between these two types of partnership is liability.

A traditional partnership is what’s known as an ‘unincorporated association’. This means that the partnership itself does not have a separate legal identity to its partners. So, if the business incurs any debts, the partners are personally liable for these. This can put the personal assets of the partners at risk.

A limited liability partnership, on the other hand, does have a separate legal identity to its partners. This means that the LLP itself is liable for any debts that it incurs, rather than the individual partners.

This offers greater protection to the partners, as their personal assets are not at risk if the business incurs any debts.

What Is The Difference Between An LLP And Ltd Company?

Now that we’ve answered the question ‘what is an LLP’, let’s take a look at how it compares to another common business structure in the UK – the Ltd company.

The key difference between an LLP and a Ltd company is that limited companies have ‘members’ instead of ‘partners’. These members have limited liability, which means that they are not personally responsible for any debts or losses that the company incurs.

Another key difference is that limited companies are taxed as a separate entity, while LLPs are ‘pass-through’ entities – meaning that the taxes are paid by the individual partners, and not by the LLP itself. This means that LLPs are not subject to corporation tax – instead, each partner will register as a self employed individual.

Benefits Of LLP Companies

There are a number of advantages that come with running an LLP, which is why it’s such a popular legal structure for business partnerships in the UK. These include:

  • Limited liability
  • Pass-through taxation
  • Flexible profit sharing
  • Simplified admin
Let’s take a look at these benefits in more detail.

Limited Liability

As we’ve already mentioned, one of the biggest advantages of running an LLP is that the partners have limited liability. This means that they are not personally responsible for any debts or losses that the company incurs.

This offers significant protection for partners, as they will not be held liable for any wrongful actions that are carried out by the company. It’s also worth noting that LLPs offer protection from business debts, but not from criminal acts.

Pass-Through Taxation

Another big advantage of LLPs is that they have ‘pass-through taxation’. Each partner in the business is treated as a self employed individual for tax purposes, completing an annual self assessment tax return to determine their tax liabilities.

This can be a big advantage, as it can help to reduce the overall tax burden on the company.

Flexible Profit Sharing

LLPs also offer a lot of flexibility when it comes to profit sharing. Partners can decide how profits are distributed amongst themselves, and this can be based on a number of different factors – for example, each partner’s level of investment, or the amount of work they have put in.

This flexibility can be a big advantage, as it allows partners to tailor the profit sharing arrangement to their own individual needs and preferences.

Simplified Admin

Another benefit of LLPs is that they are relatively simple to administer. This is because there is no need to prepare and file annual accounts with Companies House – instead, LLPs only need to submit an annual self assessment tax return.

This can save a lot of time and money, as it reduces the amount of paperwork that need to be completed.

What Is An LLP Company

Disadvantages Of LLP Companies

Whilst there are many advantages of LLP companies, it’s important to note that there are also several disadvantages. These should be carefully weighed up before deciding whether an LLP is the right legal structure for your business partnership.

Disadvantages of LLP companies include:

  • Profits can be taxed heavily
  • Losses can’t be offset against personal income
  • Limited life expectancy
Let’s take a look at the drawbacks of LLPs in more detail.

Profits Can Be Taxed Heavily

One of the key disadvantages of LLPs is that profits can be taxed heavily. This is because each partner in the business is treated as a self employed individual for tax purposes, and so they are subject to income tax at their marginal rate.

This can result in a significant amount of tax being payable, and it’s something that should be carefully considered before starting an LLP.

Losses Can’t Be Offset Against Personal Income

Another disadvantage of LLPs is that losses incurred by the business can’t be offset against personal income. This means that partners can’t use any losses that the company makes to reduce their own personal tax bill.

This can be a big disadvantage, as it means that partners could end up paying more tax than they would if the company was structured as a limited company.

There’s also the potential for LLP losses to be ‘ring-fenced’, meaning that they can only offset against future profits made by the same LLP. This is something that should be considered before setting up an LLP.

Limited Life Expectancy

LLPs also have a limited life expectancy, as they can only continue to exist while there are at least two partners in the business. This means that if one partner leaves the LLP, it will need to be dissolved and wound up.

This can be a big disadvantage, as it can make LLPs less stable than other business structures.

How To Set Up An LLP

If you’ve decided that an LLP is the right legal structure for your business partnership, then you’ll need to follow a few simple steps to get it up and running.

Firstly, you’ll need to choose a name for your LLP. This should be something that is unique and memorable, as it will be used on all official documents and correspondence.

Once you’ve decided on a name, you’ll need to register it with Companies House. This can be done online, and you’ll need to pay a registration fee of £40.

After your LLP has been registered, you’ll need to prepare and sign a partnership agreement. This is a legal document that sets out the roles and responsibilities of each partner, as well as how profits will be distributed.

It’s important to have a partnership agreement in place, as it can help to avoid disagreements and disputes between partners further down the line.

Once you’ve registered your LLP and prepared a partnership agreement, you’ll need to open a business bank account. This is so that you can keep your personal and business finances separate.

Each partner will also need to register for self assessment with HMRC, as this will ensure that you pay the correct amount of tax on your LLP’s profits.

How to Set Up an LLP

How Many People Are In An LLP?

A limited liability partnership needs to have at least 2 partners – after all, you can’t be a single partner. There is no maximum number of partners that can be part of an LLP.

It is possible to form an LLP on your own. However, you’ll need to have a second partner. This could be a dormant company that you have set up. This would mean that you would be a 2-member LLP.

It’s important to note that each partner in the business will need to be registered with HMRC for self assessment purposes.

Do LLPs Need A Partnership Agreement?

A partnership agreement is not a legal requirement for setting up an LLP. However, it is strongly recommended that you have one in place.

A partnership agreement sets out the roles and responsibilities of each partner, as well as how profits will be distributed. This can help to avoid disagreements and disputes between partners further down the line.

If you’re not sure how to prepare a partnership agreement, then it’s a good idea to speak to a qualified lawyer for advice.

How Is An LLP taxed?

An LLP is taxed as a partnership, which means that profits are shared between the partners and each partner pays tax on their share of the profits. To do this, you’ll each need to register for self assessment with HMRC, in the same way that you would if you were self employed. You’ll then complete an annual self assessment tax return to declare your earnings.

The tax rates that you’ll pay on your share of the profits will depend on how much you earn and what other income you have. For example, if you’re a higher rate taxpayer, then you’ll pay 40% tax on any profits that take you over the £50,000 threshold.

Is An LLP Right For Your Business?

As you can see, there are both advantages and disadvantages of LLP partnerships. These should be carefully considered before deciding whether an LLP is the right legal structure for your business partnership.

If you’re still not sure whether an LLP is right for you, then it’s a good idea to speak to a qualified accountant, who will be able to offer more guidance and advise you on the best way forward for your individual circumstances.

In Summary

LLPs can be a great option for business partnerships, offering a number of advantages such as limited liability and pass-through taxation. However, there are also some disadvantages that should be considered before setting up an LLP. Ultimately, the decision of whether or not to form an LLP should be based on what is best for your specific business partnership.

If you’re unsure of the best legal structure for your business, we’d always recommend seeking the advice of a qualified accountant. They are best placed to advise you on the right way forward for your business, including taking into account which option will be most tax efficient.

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