Converting to a limited liability partnership can be attractive, but partners need to carefully consider objectives, preparation and the transfer of business
By Zulon Begum and Wendy Chung, partner and senior associate, CM Murray.
A limited liability partnership (LLP) is a legal entity that has some of the features of a traditional partnership and some of the features of a private limited company. Many accountancy practices have already converted to or been established as an LLP, while a few have chosen to stick with the traditional partnership structure. Given evolving working practices and changing attitudes of the younger generation of accountants, many practice managers are asking if they should consider converting to an LLP and how to do so.
When should you consider converting to an LLP?
A partnership structure is often desirable for accountancy firms that wish to:
• Keep their financial accounts confidential from their clients, suppliers and competitors. LLPs need to produce and disclose annual financial accounts and other information relating to the ownership interests of its members.
• Encourage a more collegiate ethos between partners who have duties of good faith to each other and are connected by joint and several liability for the debts of the partnership. There is a perception that members of LLPs tend to have a weaker collegiate culture due to the absence of an automatic duty of good faith between the members and the safety net of limited liability for the members.
However, there are three scenarios where an accountancy firm should consider converting to an LLP:
- The partner numbers have increased and the partnership structure has become more complicated. As a partnership grows, the partners are often divided into different classes with differing capital interests, profit-sharing rights and management responsibilities. Junior partners tend to have a fixed profit share with relatively limited voting and decision-making powers, whereas equity partners tend to have the largest profit shares and greater voting and decision-making powers and responsibilities. The collegiate ethos between the different classes of partners may become weaker, which can reduce the attractiveness of the partnership structure, especially for junior partners whose perception may be that the risks of joint and several liability are outweighed by the rewards.
- The firm’s clients become larger and generate higher levels of fee income and/or the firm takes on greater financial liability, for example, a longterm and expensive lease. The level of financial risk from a successful negligence claim against the partnership or the potential inability of the firm to meet its financial obligations then becomes a major personal risk for the partners and can deter new partners from joining the firm and/or cause existing partners to move to another firm that can offer limited liability protection. This scenario can stifle opportunities or even reverse the firm’s expansion plans.
- A firm that intends to sell or merge with another firm may find the process easier and that they are a more attractive merger partner as an LLP rather than as a partnership. This is because a partnership is not a body with a separate legal identity from its partners, which often complicates the merger or sale.
How do you convert to an LLP?
To ensure that the conversion process runs as smoothly and as efficiently as possible, you must devote time and resources to properly consider and plan for any issues that may arise. The planning phase will involve:
• a review of the existing partnership agreement to ensure that the conversion is likely to be approved by the requisite majority of partners;
• a review of the partnership’s existing contracts with suppliers, clients, employees and any landlord to deal with any restrictions that would prevent the conversion;
• and consideration of any prior approval or clearance required from a regulator or lender.
A new members’ agreement will need to be drawn up for the LLP. The LLP agreement will need to be approved and signed by each of the partners who are to become members of the LLP. There should be no issues if the LLP agreement substantially replicates the existing partnership agreement. However, it is not uncommon for partners to take the opportunity to renegotiate terms and for management to try to introduce new terms. This can involve significant management time and effort in consulting and negotiating with the partners.
Incorporation of the LLP
Unlike a partnership, the LLP is a separate legal entity that needs to be formed by making an application at Companies House. This will involve a small fee and can be done in one day, but some time will need to be invested in preparing the relevant application form.
The business of the partnership will be transferred to the LLP pursuant to a business transfer agreement. The employees of the partnership will be transferred to the LLP pursuant to legislation, which may require employee consultations to be held and specific information to be given to the employees.
The partnership’s existing contracts will need to be assigned or novated. If the terms of a client engagement allow for the client contract to be transferred automatically in the event of a business transfer, the client will simply need to be notified by a letter or email.
Legal and regulatory compliance
Time will need to be invested in preparing for and ensuring the LLP’s ongoing compliance with laws and regulations, which may not have previously applied to the firm as a partnership.
The LLP will need to:
• file and make notifications to Companies House;
• prepare and submit annual financial accounts; and
• update its website, emails, business letters and documents and its business premises with its new name and registration details.
LLPs are required to have at least two designated members who are personally responsible for ensuring the LLP’s compliance with relevant administrative obligations under the Companies Act 2006.
Dissolution and winding-up of the partnership
The partnership may be retained for a short run-off period to deal with any remaining liabilities that were not transferred to the LLP.
After the end of the run-off period, the partnership will be dissolved and any surplus assets after payment of any liabilities will be distributed to the remaining partners
AAT Comment offers news and opinion on the world of business and finance from the Association of Accounting Technicians.