HMRC has revised its guidance on the application of the targeted anti-avoidance rule (TAAR) to Condition C of the salaried member rules. The new guidance states that HMRC accepts that a "genuine contribution made by [an] individual to the LLP, intended to be enduring and giving rise to real risk" will not trigger the TAAR. The consequence of this change of view by HMRC should be that, in most cases, a "top-up" contribution to the LLP made by an individual in order to ensure that Condition C is failed – such that the individual is not a salaried member – will not be caught by the TAAR.
In a recent Alert, we discussed the decision of the Court of Appeal in HMRC v BlueCrest Capital Management UK LLP on the interpretation of Condition B of the salaried member rules (the "significant influence" test). Given the difficulties and uncertainties created by that Court of Appeal decision for LLPs relying on Condition B, it is possible that there might be a renewal of interest amongst investment manager LLPs in relying on Condition C in their salaried member analysis. In this context, HMRC's more sensible interpretation of Condition C – as set out in the revised guidance – is most welcome.
Condition C and the TAAR
Condition C is not met – such that an individual is not a salaried member – if the individual has made a capital contribution to the LLP and it is expected that this capital contribution will be 25 percent or more of the individual's "disguised salary" for the relevant period. (By way of reminder, "disguised salary" is remuneration that is fixed or does not vary by reference to the overall profits of the LLP.)
However, the salaried member rules also include a targeted anti-avoidance rule (TAAR) which states that no regard is to be had to any arrangements "...the main purpose, or one of the main purposes of which, is to secure that the individual...is not a salaried member"1
HMRC Guidance
In August 2024, HMRC (without warning) revised its published guidance to state that HMRC believed that an arrangement under which "...members increase their capital contributions periodically in response to their expected disguised salary, in order to avoid meeting Condition C...will trigger the TAAR..." and that "...no regard can be had to [an amount of capital contributed as part of such a "top-up arrangement"] when considering whether [a member] meets Condition C...". By implication, this would, in HMRC's view, be the case even though such a "top-up" contribution represented a genuine commercial arrangement between member and LLP and gave rise to real economic risk for the member.
These changes caused significant concern amongst LLPs and their members that HMRC had changed its approach, and would now invoke the TAAR to treat members as salaried members in cases where members had (in reliance on HMRC's pre-revision guidance) made periodic "top-up" contributions in order to fail the minimum 25 percent of "disguised salary" requirement of Condition C.
In response to these concerns, HMRC has now revised its guidance a second time in an attempt to clarify when it will seek to apply the TAAR in the context of Condition C.
HMRC Guidance – the Latest Changes
The latest guidance sets out a more sensible approach to the application of the TAAR in the context of Condition C, and effectively disregards the potentially TAAR-triggering purpose in certain circumstances. The guidance now confirms that HMRC accepts that "...a genuine contribution made by the individual to the LLP, intended to be enduring and giving rise to real risk, will not trigger the TAAR...".
The revised guidance suggests that we should look to "the ordinary meaning of [the] words" in interpreting this phrase, and that "all the facts and circumstances should be taken into account". More helpfully, it goes on to state that "real risk refers to whether the individual is personally at actual risk of losing the contribution...in the event that the LLP makes a loss or becomes insolvent, rather than whether the LLP itself is really at risk of making a loss. The fact that an LLP is well capitalised, such that practical risk of insolvency is very low, would not mean that the contribution is not at real risk."
HMRC's guidance thus now addresses the important question of what an LLP is required to do with a capital contribution for that capital contribution to be considered "enduring and intended to be genuine and at real risk". It confirms that HMRC would not consider that a contribution was not genuine or at real risk "...if the LLP did not require additional capital before it was made..." and that "HMRC recognises that LLPs may put contributions to a variety of uses..." The guidance then goes on "But if the contribution is not intended to provide funding which is available for use by the LLP, for example because it is ringfenced for the benefit of the member(s) or the reality is that the money makes its way back to the member(s) as part of a circular arrangement, that would indicate it is not a genuine contribution or at real risk."
The revised guidance should therefore now alleviate concerns over the application of the TAAR to Condition C in a common scenario in the asset management sector. This is where an LLP has no requirement for additional capital for its ordinary business purposes, but members of the LLP nonetheless make capital contributions to the LLP in order to ensure that the Condition C requirement is met. In this case, the LLP is likely to invest this surplus capital, either in the funds which it manages or in other investments. But a capital contributions used in this way, provided that it is not "ringfenced for the benefit of the member(s)" – as distinct from the LLP itself – and does not "make its way back to the member(s) as part of a circular arrangement", should, on the terms of the revised guidance, still be regarded as "enduring and intended to be genuine and at real risk", notwithstanding that it is surplus capital to the LLP which is invested by the LLP for the benefit of the LLP.2
HMRC's guidance in relation to what counts as a capital contribution in the first place has not changed. Nonetheless it is worth revisiting here. Thus it remains clear that, in HMRC's view, if a member makes a capital contribution but is or may in certain circumstances be entitled to withdraw an amount of that capital without ceasing to be a member of the LLP – say, where a member may be entitled to withdraw an amount of their capital contribution if the LLP reaches a certain level of profitability – that amount which is potentially refundable does not count as part of the capital contribution for purposes of Condition C. Similarly, if a member is or may be entitled to require someone else to reimburse them for a part of their capital contribution in certain circumstances, or if they are insured for the loss of their capital contribution, then this amount does not count as part of their capital contribution. As acknowledged above, this has always been part of HMRC's guidance, but it would be easy to overlook this when considering the terms upon which members make capital contributions to the LLP and the impact of setting out potential circumstances in which they might be entitled to a return of their contributed capital.
Conclusion
This more sensible approach to the TAAR in the context of Condition C now set out in HMRC's revised guidance is clearly welcome. It is also in line with the guidance generally understood to apply prior to the changes made by HMRC in August 2024, albeit with the TAAR as it potentially applies to Condition C having been substantially de-fanged.
Perhaps what we should take away from this to-and-fro over HMRC's guidance on Condition C, and the back-and-forth in the courts over the meaning of "significant influence" in Condition B, is the fundamental importance of an LLP thinking in-depth about its approach to the salaried member rules, and the Condition(s) it is seeking to rely on, and then carefully documenting that analysis and the basis for its conclusions. Without that as a minimum, it is very possible that an LLP could be caught up in the shifting sands of the salaried member rules.
Footnotes
1. The TAAR is relevant to each of the three conditions of the salaried member rules (including Condition B as considered in the recent BlueCrest decision). However, we are concerned here only with its application to Condition C.
2. However, we also note the potential risk of total reliance on HMRC guidance in light of the recent BlueCrest case.
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