Do you have to auto-enrol LLP members?

July 2014 | EXPERT BRIEFING | BOARDROOM INTELLIGENCE

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Following the Supreme Court’s recent decision in Clyde & Co LLP v Bates van Winkelhof, many commentators have suggested that an LLP must now automatically enrol (and pay contributions in respect of) its members into a pension scheme. The position is not that clear cut, and we have set out below some guidance for LLPs on the matter.

Statutory test/qualifying requirements

An employer must automatically enrol ‘eligible jobholders’ into a qualifying pension scheme. An eligible jobholder is a ‘worker’ who works or ordinarily works in Great Britain, is aged between 22 and state pension age and receives ‘qualifying earnings’ which exceed the £10,000 annual earnings trigger for auto-enrolment.

Prior to the Supreme Court’s decision in the Bates van Winkelhof case, it was widely accepted (on the basis of the Court of Appeal’s decision) that LLP members would not fall within the definition of worker for auto-enrolment purposes.

However, as a result of the Supreme Court’s decision, LLP members are now deemed to be workers for whistleblowing legislation purposes. The Pensions Act 2008 uses a very similar definition for ‘worker’ to the whistleblowing legislation, and on this basis it is very likely that in the majority of LLPs, their members will be ‘workers’.

Accordingly, until the Pensions Regulator says otherwise, or the law changes, it would be safest to assume that LLP members are workers for the purposes of the auto-enrolment legislation.

LLPs then need to assess whether their members meet the other auto-enrolment eligibility requirements; namely, do they ordinarily work in Great Britain, fit within the age brackets and satisfy the ‘qualifying earnings’ test?

Qualifying earnings

We have assumed for the purposes of this article that it will be easy to verify the first two conditions. Qualifying earnings is a bit trickier to determine, however.

Qualifying earnings means salary, wages, commission, bonuses, overtime and statutory payments such as statutory sick pay and family leave pay, between £5772 and £41,865 per year. Since the HMRC-inspired changes to LLP member remuneration in April 2014, more and more LLP members are likely to be remunerated on a profit share, not fixed share, basis. Unless specifically prescribed by statutory instrument in the future, on a strict reading of the current relevant definition, a pure ‘profit share’ arrangement does not appear to count as ‘qualifying earnings’.

However, in other UK legislation (the Employment Rights Act) the term ‘wages’ includes any ‘emoluments’, and in the Taxes Act the term ‘emolument’ includes ‘any profits whatsoever’. Also, from a tax perspective, ‘earnings’ can describe both employment and self-employment income. One notable example is in the context of income tax relief on an individual’s pension contributions. So it is safer to assume that qualifying earnings could include pure profit share arrangements.

What level of LLP contribution is required?

If a profit share arrangement does constitute qualifying earnings for auto-enrolment purposes, which we suspect that it does (although this may not have been the government’s intention), the LLP will need to decide how to calculate the relevant amount on which pension contributions should be assessed. This is challenging when profit shares are entirely variable. There are several options around this, but by far the easiest method would be to adopt the definition of ‘qualifying earnings’ as the basis for pension calculations, and base the LLP’s contributions on the qualifying amount (which is earnings between £5772 and £41,865) only. This would limit an LLP’s contributions in respect of each member to a minimum of 3 percent of £36,093 being £1082.79 per year (although these figures will be amended each year by the government).

Where do you take the money from?

The auto-enrolment legislation permits an employer to deduct a worker’s contributions to the pension scheme from that worker’s ‘remuneration’. However, if the LLP deducts an LLP member’s contributions from money due to that LLP member, it may nevertheless be open to a breach of contract claim. Accordingly, the LLP should seek agreement from its members before making deductions. If a member does not agree, he/she can opt out.

Inducement to opt out?

There is a general prohibition on employers not to influence or seek to influence a worker’s decision to opt out of a pension scheme. It may well be an inducement to opt out to allocate more profit to partners who opt out of auto-enrolment. The Regulator will look at the sole or main purpose – is it to encourage them to opt out (in which case it will be an inducement) or to offer an equal and alternative remuneration structure between partners, like flexible benefit packages for employees (in which case the intention is not to get partners to opt out)?

There is also a possible risk that members who have registered for protection in relation to the lifetime allowance may fail to opt out in time and so lose the protection. Our view is that warnings from the LLP to its members about the need to opt out swiftly to preserve protection would not amount to an inducement to opt out.

Tax

If the LLP makes contributions in respect of its members, would the LLP’s/employer’s contributions (say, at 3 percent) be a cost to be deducted before the calculation of profits (and pre-allocation of profit to LLP members who are then taxed on it, so it results in a ‘tax saving’ for the individual member) – i.e., an ‘above the line deduction’ – or after profits are calculated and allocated such that each member would in effect make the 3 percent employer’s contribution from their own share of profits?

Only expenditure wholly incurred for the purposes of the trade or profession by the LLP is allowable as a deduction when computing the profits. Deductions are not available for interest or salaries paid by the LLP to its members – such payments are instead treated as part of the allocation of the LLP’s profit and not as an expense – i.e., a below the line deduction.

Our view is that it is arguable that a compulsory pension contribution, imposed by law (even if that contribution is made to a member’s pension scheme) is an above the line deduction, on the basis that it is wholly incurred for the purposes of the trade/profession. The LLP’s accountants should be consulted on this matter if contributions are going to be made.

Practical guidance as to what an LLP should do

There has been a lot of panic, but our guidance is as follows:

Does the LLP engage employees through a service company? Some LLPs will have employees and other workers employed or engaged through a service company, which may have reached its staging date – but the LLP itself may not yet have a staging date (as it has no employees on payroll). If so, this may mean that no action is required yet.

Is the LLP about to reach its staging date? If so, the LLP could send out a communication to its members saying that it does not believe it needs to enrol them but, without prejudice to that position, give the prescribed statutory notification to them that it is postponing auto-enrolment for three months – pending clarification from the Regulator.

What if the LLP has reached its staging date already? We would recommend holding firm pending clarification of the position from the Regulator. If it becomes definitive that LLP members must be automatically enrolled, the Regulator can require the LLP to make back payment pension contributions in respect of its members dating back to the LLP’s staging date, but is unlikely to receive any other sanction than this.

Christopher Hitchins is a partner at Lewis Silkin LLP. He can be contacted on +44 (0)20 7074 8027 or by email: christopher.hitchins@lewissilkin.com.

Christopher Hitchins

Lewis Silkin LLP