Uncorrelated – September 2017

UK Management Companies and Hedge Funds, LLP or Ltd: a quick start guide for first time managers


In this Uncorrelated article we look at the two most common UK vehicles for operating a UK-based hedge fund management business (i) the private limited company (“UK company”) and (ii) the limited liability partnership (“LLP”). The key drivers behind choosing which management entity to adopt are primarily tax-driven but also include certain commercial considerations particularly related to the flexibility of use.

Limited Liability Partnerships

An LLP is a hybrid between a partnership and a UK company. It is treated as a partnership for tax purposes, and a company (body corporate) for commercial / contractual purposes.  Crucially, unlike ordinary limited partnerships, LLP members are able to participate in the management of the LLP’s business while benefitting from limited liability status.

Generally, the tax principle for bodies corporate is that they are tax opaque with the entity taxed on its profits and shareholders taxed on their profit share (the dividend), resulting in double taxation.  One key driver behind the creation of the LLP was the ability to offer tax transparency.  This means that the separate legal entity status of the LLP for commercial transactions is disregarded for tax purposes.  Thus, it is the members who are liable for tax on the LLP’s profits, rather than the LLP itself (although the LLP must file a partnership tax return with HMRC).  The main exception is VAT, where the LLP is a vatable entity in its own right.

Members’ Tax Liability

Except as provided below, each member in an LLP is treated as if they have personally received income or capital gains realised by the LLP in proportion to their profit share in the LLP.  This is the case regardless of whether or not that profit share is actually distributed.  Therefore, profits realised by an LLP are only subject to a single layer of taxation: UK corporation tax in the case of a corporate member (presently 19%; scheduled to decrease to 17% in 2020), and income tax and national insurance contribution (“NIC”) for individual members (of up to 45% and 2% respectively), with an aggregate maximum tax charge of up to 47%.

Company Tax

Profits of a UK company are subject to UK corporation tax at presently 19%.  If the profits are distributed to the company’s shareholders (typically, via a dividend), a further layer of tax is imposed on such dividends (the dividend tax) for individual shareholders at a rate of up to 38.1% (at its highest).  The combined corporation tax and additional rate of dividend tax results in a total tax charge of up to approximately 49.86%. However, UK corporate shareholders are normally exempt from tax on dividends, so that it is only the 19% corporation tax which applies here.

The tax cost becomes worse where, instead of profit extraction via dividend, the UK company pays salaries or bonuses to its employees and directors: in addition to the individual liability of up to 45% income tax and 2% NICs payable by the employees and directors, the UK company must also pay 13.8% employer’s NICs on such amounts. This employer’s NIC in particular was the reason why, in the past, many hedge fund businesses chose the LLP as their UK operating vehicle since there is no corresponding NIC liability for payment of partnership profit to members (making the company 13.8% more expensive).

Worked example – UK Companies

Assuming the highest rate of tax and no tax allowances, profit of £100 would suffer corporation tax of £19 at UK company level. The resulting £81 dividend to individual shareholders would suffer dividend tax of 38.1% at £30.86 – resulting in an aggregate tax liability of £49.86.

If, rather than extracting profit by dividend, the UK company chose to pay a bonus of £100 (thereby avoiding corporation tax as bonuses are tax-deductible) then the employee will be taxable at 47%. However, the UK company will also bear employer’s NICs at 13.8% (which, as a tax-deductible item, and assuming relevant profit, equals a further net £11 liability).  In other words, because of the employer’s NICs, it costs the UK company £111 to pay a bonus of £100.  With the employee receiving a net £53, the total tax payable by the UK company and individual is £58.

Worked example – LLP

For LLPs, the calculation is somewhat simpler: for individual members, £100 of income will be subject to a combined income tax and NIC liability of up to 47% (leaving £53 of net profit).  Capital gains, arising on the disposal of partnership assets, is typically taxed at 20%.[1]  Corporate members are liable to 19% tax, so that £81 remain available for distribution. [1] Other than carried interest, which – to the extent it is not income based – should be taxable at 28%.


In the last few years, HM Revenue and Customs (“HMRC”) have enacted a number of significant anti-avoidance rules aimed at LLPs which can affect the above tax analysis.  In particular the so-called ‘salaried member’ provisions contain fairly complex rules for when an individual ‘member’ of an LLP is treated for tax purposes as an employee, rather than a partner (the principal tax consequence being the imposition of the 13.8% employer’s NICs).  Further, until ‘the mixed membership’ rules were introduced in 2014, it was common for LLPs with ‘mixed memberships’ (i.e., LLPs with both corporate and individual members) to allocate annual profit between individual and corporate members to benefit from the differential in personal and corporation tax rates. As a result, individual members could extract LLP profit at personal income tax rates, while retained profit would be allocated to corporate members and taxed at the lower corporation tax rate.  This route is now difficult to achieve, and a key reason why hedge fund businesses wishing to reinvest significant amounts of operating profit may, at least initially, be better advised to operate a UK company rather than an LLP.


A UK company potentially offers similar tax efficiency to an LLP to the extent earnings are not paid out by way of salaries but by way of dividend.  This will, however, only suit those individuals who are shareholders which, typically, is only a small group of individuals. It should also be noted that there are restrictions on the payment of dividends for UK companies, such as the requirement for distributable reserves. Payments of salaries or bonuses to employees, officers and directors attract the 13.8% employer’s NICs which are not applicable to profit distributions for LLP members.

A significant tax benefit of UK companies lies in the ability to create working capital at the 19% corporation tax rate.  Thus, to the extent that a UK company has ‘excess’ profits (i.e. earnings not distributed to UK resident employee shareholders) these can be stored up within the UK company at a tax cost of only 19% with further tax being deferred until the UK company declares a dividend or pays salaries or bonuses to such UK resident individuals.

By contrast, the LLP is likely to be the more attractive vehicle where substantial current year income is envisaged to be paid out to UK resident tax payers. For an LLP this results in 45% income tax rate and 2% member national insurance (a total of 47%) compared to the combined corporation tax and dividend rates of 49.86% for UK companies. Crucially for a UK company there is an additional 13.8% of employer’s NICs that apply to salary and bonus payments for employees, officers and directors.  It is, in particular, the 13.8% employer’s NICs liability which has led many investment management businesses to move away from a UK company model towards the LLP.

1. Other than carried interest, which – to the extent it is not income based – should be taxable at 28%.

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