English Court of Appeal narrows interpretation of 'significant influence' in the salaried members rules for limited liability partnerships

On 17 January 2025 the Court of Appeal released its decision in the case of BlueCrest Capital Management (UK) LLP, ruling in favour of HMRC and significantly narrowing the interpretation of what constitutes "significant influence" for the purposes of Condition B of the salaried members rules.

The court ruled that the First-Tier Tribunal (FTT) and Upper Tribunal (UT) erred in law when accepting a wider construction of Condition B. Both had held that significant influence could include not only rights in the limited liability partnership (LLP) agreement but also any de facto or wider arrangements and could also include influence over part of the business (which HMRC had not disputed).

Instead the court has ruled that significant influence (1) applies to the affairs of the LLP generally (looking at the business as a whole) with a focus on strategic influence and (2) should be limited to influence grounded in the legally binding constitutional framework of the LLP (that is, the LLP agreement).

The interpretation that significant influence should be limited to influence derived from the rights and duties of members set out in the constitutional framework of the LLP is a new focus when looking at significant influence, and historically has not been HMRC's interpretation based on its guidance.

The court's ruling means that the FTT must remake its decision based on a narrower interpretation of Condition B in the rules with a particular new focus on whether the significant influence derives from the rights and duties of members set out in the limited liability partnership constitutional documents.

Background to the salaried members rules

Despite the separate corporate identity of LLPs, their treatment for the purposes of income tax and national insurance contributions (NICs) is generally the same as that of traditional partnerships (which lack any form of corporate identity). Consequently, members of an LLP are generally treated for income tax and NIC purposes as self-employed, in the same way as members of a traditional, non-corporate partnership.

The salaried members rules were introduced to remove the presumption of self-employment for some LLP members, to tackle the perceived problem of disguised employment relationships through LLP membership.

Three conditions to meet

The rules set out three different conditions that, if met, determine that an individual member of an LLP should be treated as an employee for the purposes of employment taxes (meaning that LLP profit shares and drawings are taxed via PAYE, and attract an employer's NIC cost, and carried interest returns paid to the relevant LLP member may also be taxed as employment income, unless certain conditions were met at the time the carry was issued).

The rules provide that where all of the conditions A to C are met, an individual member of an LLP is treated as a salaried member with the income tax and NICs treatment applying as they would to an ordinary employee:

Condition A: the member is to perform services for the LLP in their capacity as a member, and is expected to be wholly or substantially rewarded through a “disguised salary” that is fixed or, if varied, varied without reference to the profits or losses of the LLP;

Condition B: the mutual rights and duties of the members of the LLP and of the partnership and its members do not give the member significant influence over the affairs of the partnership; and

Condition C: the member’s capital contribution to the LLP is less than 25% of the disguised salary.

Consequently where a member fails one (or more) of the conditions above, the member will fall outside the salaried members rules and will be treated as self-employed.

Previous hearings

At both the FTT and UT hearings, the courts agreed with the taxpayer that Condition B had a wide construction (as reflected in HMRC's published guidance). This meant that one could look at the significant influence test taking into account not only agreements between the partner and the firm, the LLP agreement and any contracts between the firm and its investors, but also how the LLP operates in practice. The HMRC guidance even highlighted that the LLP agreement includes not only the written agreement but also verbal or implied agreements.

The FTT also agreed with BlueCrest’s submissions that the influence referred to in Condition B is not limited to managerial influence, and such influence could be over one or more aspects of the LLP’s affairs, and it need not be over the affairs of the partnership as a whole.

Narrower scope of Condition B

The Court of Appeal has now held that the test for Condition B is not this wide and the FTT and UT should have undertaken a close examination of the terms of the LLP agreement as the main source of influence.

It held that "significant influence over the affairs of the partnership" contemplated by Condition B "must derive from, and have its source in, the mutual rights and duties of the members of the LLP (both horizontally, as between the members themselves, and vertically, as between the members and the LLP) as conferred by the statutory and contractual framework which governs the operation of the LLP". In this case this meant that the main focus was on the terms of the LLP agreement itself.

The court held that influence over the affairs of the LLP that lacks an identifiable contractual source in the specified rights and duties is excluded from consideration of the kind of influence which counts (although it held this kind of influence remains material in deciding whether influence that does qualify for the salaried member rules is significant when assessed in light of all types of influence).

It also held that the requisite influence must be exerted over the affairs of the partnership as a whole and in the wider context of the group rather than just a part of it (in line with HMRC's longstanding view of how Condition B should be interpreted). A focus on decision-making at a strategic level, rather than on how individual members perform their duties in conducting the business, seemed to the court to accord better with the basic purpose of Condition B.

Osborne Clarke comment

While the case has not yet reached its conclusion – as the FTT must remake the decision based on the Court of Appeal's narrower interpretation (and the case could still be appealed to the Supreme Court) – the judgment reduces the circumstances in which a member may be considered to have significant influence.

Given the new focus on the requirement for significant influence to be grounded in the legal rights and duties of members, it would be worth LLPs undertaking a health check of those arrangements that rely on falling outside of Condition B to ensure that the partner's significant influence is embedded in the LLP agreement (given the narrow interpretation of this which historically has never been HMRC's position).

Further clarity may be provided around Condition B as the case progresses to its conclusion, as the Court of Appeal judgment appears out of kilter with market practice, which is based on HMRC guidance of the rules. 

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