The phrase, “LLP conversion”, is often used to describe a change in the legal form of an existing general partnership or a limited company to a limited liability partnership (LLP). It may sound like a simple switch from one status to another, but it is in fact an internal restructuring project that requires careful planning, consideration of the legal and tax implications for both the firm and its partners and significant management time in determining and implementing the relevant changes.
We set out below an overview of a typical LLP conversion process for a professional services firm and the key factors for partners to consider before embarking on an LLP conversion project.
1. Structure and project planning
The leadership team of the existing firm should identify and agree on the objectives to be achieved from a proposed LLP conversion. This will drive the firm’s new legal, management and governance structure as an LLP. If the existing firm is a general partnership formed under the Partnership Act 1890, the main driver for conversion to LLP is often the limited liability enjoyed by members of an LLP.
Once the structure is determined, the existing firm will need to review its constitution to ensure that the existing firm and its partners are able to proceed with the LLP conversion. The focus is often on terms relating to:
- decision-making powers and procedures to approve the LLP conversion
- partner exit terms
- ownership of real and intellectual property
- power of attorney for agreements to be executed by nominated individuals on behalf of all of the partners
The firm should also consider whether any third-party approval is required for conversion to LLP, for example from its bank, landlord or professional regulatory body. Any third-party approval requirement should be factored into the timetable for the LLP conversion.
All partners in the existing firm usually become the members of a newly incorporated LLP and the business of the existing firm is transferred to the LLP.
2. Partner communication and approval
The members of the LLP will usually enter into an LLP members’ agreement and may also need to be signatories to agreements to be entered into by the existing firm.
The proposed terms of the LLP members’ agreement may be substantially similar to the partnership agreement (in the case of a general partnership) or the shareholders’ agreement (in the case of a limited company) of the existing firm. However, firms often view the LLP conversion as an opportunity to introduce changes to the firm’s constitutional arrangements. If changes are to be made, management may need to invest significant time and effort in consulting with partners to ensure they are onboard with the proposed changes.
Effective communications with partners will enable management to identify, at an early stage, any potential deal breakers. In our experience, the most common sticking points arise when changes are proposed to:
- the firm’s profit-sharing structure
- partner exit terms (including restrictions on resignation, powers of compulsory retirement and financial entitlements on exit)
- decision-making powers
Management will need to be prepared for negotiating with any dissenting or influential partners who have the potential to block the LLP conversion or refuse to become a member of the LLP.
3. LLP incorporation
An LLP is essentially a hybrid entity which incorporates the features of a partnership (e.g. tax transparency) and the features of a company (e.g. separate legal personality and limited liability).
As with a company, the LLP will need to:
- be incorporated and registered at Companies House
- comply with rules governing the LLP’s registered details (including its name, registered office address and company number)
- comply with disclosure and filing requirements under the Companies Act 2006 (including public disclosure of the identity of the LLP’s members and persons with significant control over the LLP)
- file a copy of the LLP’s annual accounts (which may also need to be audited)
4. Business transfer to the LLP
The business of the existing firm (usually comprising its name, any goodwill, employees, liabilities and assets such as property and work-in-progress) will be transferred to the LLP. The business transfer is effected by:
- a business transfer agreement for the transfer of the existing firm’s business to the LLP
- a deed of assignment of the intellectual property rights of the existing firm to the LLP
- the Transfer of Undertakings (Protection of Employment) Regulations 2006 (in respect of the employees to be transferred to the LLP)
- novation agreements, assignment agreements and consent in respect of existing contracts with the existing firm and third parties
The existing firm will also need to call and hold a partner meeting and prepare partner resolutions to approve the business transfer and LLP conversion.
5. Legal and regulatory compliance
Operational changes will be required to comply with the law and regulations applicable to the LLP. The firm should prepare in advance of the completion of the business transfer for such changes, including the following:
- appointment of the LLP’s auditor (if required)
- notifications to the firm’s bank, landlord and insurer
- notifications or application to any relevant regulatory body and to HMRC
- registration of a VAT number for the LLP
- updating the LLP’s website and email signatures
- updating client engagement letters and terms of business
The LLP will also need to appoint designated members who will be responsible for ensuring the LLP’s compliance with certain administrative obligations under the Companies Act 2006 (including notifications to Companies House of changes to the LLP and maintaining a register of members of the LLP).
6. Dissolution and winding-up of the existing firm
The existing firm will usually be dissolved and wound-up at the end of a run-off period.
In the case of a general partnership, dissolution may be by the agreement of the remaining partners in the existing firm and will require a public notice of the dissolution. The business is then wound up by valuing any remaining assets and settling any remaining liabilities. Any surplus assets will then be distributed to the remaining partners.
If you are interested in converting to an LLP or have any queries regarding the issues discussed in this article, please contact one of our experienced partnership structuring lawyers, Zulon Begum or Wendy Chung, both of whom specialise in non-contentious partnership issues affecting partnerships, LLPs and partners.