Mr Edward O'Hara (Knowsley South, Labour)

With this it will be convenient to take the following: Government new clause 17—Limited liability partnerships: investments LLPs and property investment LLPs.

Government new schedule 2—Limited liability partnerships: investment LLPs and property investment LLPs.

Ms Dawn Primarolo (Paymaster General, HM Treasury; Bristol South, Labour)

I understand the Committee's enthusiasm to conclude its business this evening, but it is appropriate for me to make a few comments on Government new clauses 16 and 17 and Government new schedule 2. The hon. Member for Torridge and West Devon (Mr. Burnett) raised some points on the Floor of the House earlier today, which I am sure that he will be anxious to put on the record in Committee, and to which I shall reply.

New clause 16 confirms that, in general, limited liability partnerships will be treated for tax purposes as partnerships. It will stop chargeable gains held over on business gifts from falling out of charge when the LLP goes into liquidation. The Government's intention has always been to ensure that existing trading and professional partnerships can convert to LLP status without generally incurring a tax penalty or obtaining a tax advantage. If LLPs were taxed as companies, partnerships would face tax complications and possibly tax penalties on conversion to LLPs.

New clause 16 amends some of the tax legislation originally introduced by the Limited Liability Partnership Act 2000 to give greater certainty for businesses adopting LLP status. It clarifies and makes explicit the general rule introduced by the Act so that, in general, LLPs are treated as partnerships for tax purposes. It gives clear legal backing to the exceptions to that rule. The new clause does not represent a change in our policy on the taxation of LLPs carrying on a trade or profession. That is illustrated by the fact that the guidance published by the Inland Revenue in the December edition of ``Tax Bulletin'' about LLPs that carry on a trade or profession with a view to profit remains unchanged. That guidance was issued after discussions between the Revenue and accountancy bodies. It has been well received.

There is a tidying-up provision in new clause 16 to deal with held-over gains on business gifts. It has a similar effect to the existing legislation introduced by the Limited Liability Partnership Act relating to gains deferred under the business asset roll-over relief provision. The new measure ensures that any gains deferred on the gift of business assets to partners do not fall out of charge when the LLP ceases to carry on a trade or other businesses with a view to profit. Without the measure, tax on the deferred gain would be lost.

When the guidance was sent to the parliamentary draftsman for inclusion in the Bill, there was discussion about how extensive the legislation needed to be. Parliamentary counsel considered that, even though new clause 16 represented the practice and translated it, it was not adequately underpinned with the necessary legislative backing. At the time, I was confronted with a large piece of legislation to be added to the Bill. Knowing how members of the Committee take exception to long pieces of legislation that may be unnecessary, I took some time to be convinced that the longer route now before us was correct. I apologise to the Committee, because that means that we have had to discuss the procedure today under a Ways and Means motion. I hope that members of the Committee will agree that, taking on board the comments that they have made to me over many years when discussing the Finance Bill, I needed to be sure that that was how we should proceed. The lesson that I have learned is that parliamentary draftsmen are always right. I follow their advice.

New clause 17 and new schedule 2 are designed to prevent tax loss when an LLP carries on the business of making investments generally, and property investments in particular. The Limited Liability Partnership Act 2000 sets out the rules for the registration and conduct of LLPs, although it does not restrict the sort of business that may be carried on by an LLP. It has never been the Government's intention that LLPs should provide opportunities for tax savings over the current entities used by business.

New clause 17 and its associated schedule are intended to prevent tax loss through investment and property investment LLPs. The provisions have no relevance to LLPs whose principal income is derived from carrying on a trade or profession.

Everyone appreciates that wide consultation has taken place on the proposals, and they have been welcomed. If a comment was made, it was about why the provision was not included in the Finance Bill when originally published. I hope that the Committee will accept that my role in creating that delay was motivated by the best interests of all members of the Committee in considering a long Bill. I commend Government new clauses 16 and 17 and new schedule 2 to the Committee.

Mr Richard Ottaway (Croydon South, Conservative)

The Paymaster General is right that considerable consultation has taken place; the industry has a fair idea of what is coming. She is also right that the matter caused some problems. She has been gracious in her apology for what happened, and I am happy to accept that apology. I leave it to the industry for its reaction.

To touch on new clause 16, any change involves a law of unintended consequences. In this case, it is quite serious when a limited liability partnership tries to issue eurobonds. LLP legislation was designed to modernise the legal framework within which major international partnerships and joint ventures operate. As the Paymaster General will be aware, such partnerships rely heavily on several different methods of raising capital. One method for a United Kingdom plc to raise capital is through the eurobond market, to which it has ready access without difficulty.

The Paymaster General will be aware that in proposed new section 59A(2)(c),

``references to a company do not include ... a limited liability partnership''.

Therefore, a limited liability partnership that tries to raise money on the eurobond market will not be competitive, as it will not qualify for the UK withholding tax exemption for interest payments on those bonds—legislation precludes that. Is that intended? Is it an oversight? Is it a matter of policy? If not, the problem could be easily remedied by an amendment on Report tomorrow, placing the words

``except for eurobonds in section 59A(2)''

in the preamble. It is absurd that a major UK PLC should be able to access the eurobond market but a substantial partnership should not be. I hope that the Paymaster General will take that point on board.

My second point relates to new clause 17 and new schedule 2. As the Paymaster General said, the proposal is designed to prevent such partnerships being used by property investors, perhaps along the lines of the real estate investment trusts that are widely and commonly used in the United States. However, new schedule 2 leaves it open to non-UK taxpayers and non-UK tax-exempt partnerships to enjoy the benefit of investment in real estate through a UK LLP. She will be aware that tax returns to partner level. If the partner is offshore, that partner is exempt.

It is odd that a UK partnership will be precluded by proposed new schedule 2 from enjoying the possible tax-exempt benefits, yet an offshore company operating through a UK limited liability partnership will be caught. Is it the Paymaster General's intention to give that advantage to offshore companies, rather than to UK companies? If that is not her intention—I fully accept that it is difficult to anticipate all such arguments—we will happily table an amendment to be debated tomorrow.

Mr John Burnett (Torridge & West Devon, Liberal Democrat)

I am grateful to the Paymaster General for referring to the points that I raised on the Floor of the House earlier today. I shall add only one or two points to those.

The Paymaster General referred to when capital gains are deferred because of held-over relief. In those circumstances, the gains, by virtue of new clause 16, become charged when the business of the LLP comes to an end. I assume that the same goes for assets that receive roll-over relief, and when cash has been applied to the purchase of a business asset used by the LLP. Is the Paymaster General telling us that if the trade of the LLP comes to an end, the assets that have been rolled over will incur a charge to capital gains tax? Does the charge to capital gains tax arise if the asset in question is still used for a trade that may not be the trade of an LLP?

I do not know whether I have explained that adequately to the Paymaster General. Let me try again. If assets are purchased by a LLP and roll-over relief is applied for and given, what is the tax position of those assets when the LLP comes to an end? That is the simple question.

Additionally, will the Paymaster General comment on assets for which there is a deferred gain, for example because of a hold-over relief claim? Will she confirm that if the LLP changes its business rather than ceases to trade, there will be no attempt by the Inland Revenue to charge capital gains tax? Does the deferred charge tax crystallise only if and when the LLP ceases to trade, not if it changes its trade?

I raised one or two other points on the Floor of the House, and I am glad that the Paymaster General has confirmed that the tax principles behind LLPs should mirror those of existing partnerships. She will remember the 1998 Finance Act, when changes were made to the taxation of professions that were on the cash basis of assessment. In those circumstances, such professions must go on to the full earnings basis, and there are transitional provisions in that connection. In fact, the professions go on to a full earnings basis from a cash basis during a transitional period of about eight years.

Will the Paymaster General confirm that if a professional group—for example, a firm of solicitors—is four years down the road in that transitional period and becomes a limited liability partnership, there will be no adverse tax consequences, and transitional relief will still apply? I should say at this stage that I am a solicitor and was a partner in a firm. We were assessed on the cash basis, but I have not practised for some three years. I do not have a personal stake, but the points have been made to me by other members of my profession. Will she also confirm that members of an LLP will be taxed under capital gains tax in accordance with their beneficial interests in the disposed assets, rather than on their shares in the LLP?

[Dr. Michael Clark in the Chair]

I welcome you to the Chair, Dr. Clark.

Finally, certain extra-statutory concessions and statements of practice apply to partnerships. Will the Paymaster General confirm that they will still apply to LLPs? I ask particularly about assets that are owned by a member of an LLP and leased to that LLP. I hope that if the other conditions apply, those assets will attract 100 per cent. business or agricultural property inheritance tax relief. Similarly, on capital gains tax, I hope that those leased business assets will comply with and qualify for roll-over relief as well. Those are a couple of the fairly esoteric points that have been made to me about taxation of LLPs, and, as I mentioned them about an hour ago, I look forward to hearing the Paymaster General's response.

Mr Howard Flight (Arundel & South Downs, Conservative)

I want to raise one other important point, because the clause deals with the taxation of LLPs. The LLP structure was put in place for the use of law firms, but I noticed that several leading London law firms have used a Delaware vehicle to achieve limited liability, so I made inquiries to find out why. One factor behind the substantial expansion of UK law firms into continental Europe—in essence, the acquisition of law firms in the EU by London companies—has been that under the partnership structure, when, for example, a company merges with a German law firm, the German lawyers joining the partnership may choose to pay UK tax, which is lower than prevailing rates in the EU. Indeed, that is one factor that has driven the aggregation of the mergers of law firms. For reasons that I do not fully understand, that does not work if the new LLP structure is used, which is why the Delaware vehicle is being used as an alternative.

It is quite important because this commercial development has been wholly in the interests of the UK, and UK law firms are acquiring businesses and considerable power in continental Europe. The LLP is intended to be useful and effective specifically for professional businesses, but on a rather important tax issue that underpins everything that is happening, it loses the structure that was previously available to partnerships.

The issue is not necessarily UK taxation, but tax treaty agreements between the UK and continental Europe. However, the Paymaster General and her advisers could usefully consider the matter, because unless we can achieve what is already in place, LLPs will not be much use for their primary objective.

Ms Dawn Primarolo (Paymaster General, HM Treasury; Bristol South, Labour)

We could usefully consider the hon. Gentleman's point and we shall—subsequently.

The hon. Member for Croydon, South (Mr. Ottaway) talked about unintended consequences for eurobonds. In general, LLPs will be treated as partnerships for tax purposes. The tax consequences concerning eurobonds will be the same for LLPs as for current partnerships. The LLP changes are not designed to change the rules for eurobonds. The hon. Gentleman might want to press for more detail on that point. I think that he suggested an amendment. If, after consideration, I find that that is not the case, he is right that I have a route to deal with it.

The hon. Gentleman also made a point about offshore partners. An offshore partner or member will not necessarily be exempt if the property is in the UK. The same consequences will follow for offshore members of an LLP as for offshore partners in a normal partnership. He talked about discrimination, which is not there.

The hon. Member for Torridge and West Devon described his points as esoteric. I am not sure that I would describe them as such, but I will do my best to cover the details. My hon. Friend the Financial Secretary has offered to write to the hon. Gentleman, so perhaps I should leave it to him. He is right that we have had time to consider his points, so I can give him some answers on the record. If he is not satisfied, he can say so at the end. If he is satisfied, my hon. Friend will not have to rush back to the office and pen a letter to him before he is allowed to go home this evening.

The first question related to the transitional rules for abolition on a cash basis. If, on a conversion, the LLP succeeds to the business previously carried on by an old partnership, the spreading rules for catching upcharge will continue to apply as if the conversion had not occurred.

On the second point, while an LLP is carrying on a trade or business with a view to profit, capital gains will be computed according to the members' beneficial interests in the partnership's assets. Partners in a conventional partnership are taxed on exactly the same basis.

On the question of extra-statutory concessions and a statement of practice to cover LLPs, they will be amended when the law is settled. In particular, the Inland Revenue guidance in the tax bulletin, which I mentioned at the beginning of the debate, referred to the statement of practice D12 and extra-statutory concession A43, which will need amending for the reasons that the hon. Gentleman advanced on the Floor of the House. When gains are deferred under rollover relief, the gains will be clawed back when the LLP ceases to trade with a view to profit; that measure was included in the LLP Act. Gains deferred under gifts relief or rollover relief will be clawed back only when the LLP ceases to trade with a view to profit. If it switches from one trade to another, there will be no clawback.

I think that that covers the points raised by the hon. Gentleman, but if it does not spare my hon. Friend the Financial Secretary from writing to him, perhaps he could say so now so that I can pass the baton to him and a letter can be dispatched this evening.

Mr John Burnett (Torridge & West Devon, Liberal Democrat)

It dealt admirably with my points, and I am grateful to the Paymaster General. However, I have an extra point, which is slightly tedious. A cash basis firm in transition may merge with a firm that is not in transition to form an LLP. Will the Financial Secretary or Paymaster General confirm, in due course, that there is no clawback in such a case?

I am especially pleased to note that under general law principles there should not be a problem for rollover relief in any event if a trade is changed. I am glad to hear that the gain will not be crystallised if the LLP changes its trade and there is a holdover gain.

Mr Richard Ottaway (Croydon South, Conservative)

I put two clear points to the Paymaster General, to which she gave two clear responses, from which I can only conclude that the Government intend to pursue the policy they have advanced. All I would say is that it will erode Britain's competitive position and UK plcs will suffer to the advantage of offshore property companies and in the eurobond market.

Question put and agreed to.

Clause read a Second time, and added to the Bill.