Members are taxed on the profit the firm allocates to them, whether or not the cash ever reaches their account. And a member who looks like an employee may be one for tax. Both are decided by the figures long before anyone reads the return.
An LLP is transparent for tax. The LLP pays nothing on its trading profit; each member is taxed individually on the profit share allocated to them, and drawings are not a taxable event. That single fact explains most of the tax pain in a law firm partnership.
Allocate £180,000 to a member and pay them £110,000 in monthly drawings, and you have handed that member a tax bill on £70,000 that is still sitting in work in progress and debtors. Nobody has done anything wrong. The money simply has not been collected yet, and HM Revenue & Customs does not wait for it. This is why lockup is a partner-level problem in a law firm and not an accounts-department one — see law firm owners and the lockup calculator.
The arithmetic on a profit share is unforgiving. Income tax runs at 20% on the first £37,700 of taxable income, 40% up to £125,140 and 45% above it, and Class 4 National Insurance runs on the same profits at 6% between £12,570 and £50,270 and 2% above. The marginal cost of profit share is therefore 42% above £50,270 and 47% above £125,140 for 2026/27. Between £100,000 and £125,140 it is worse still, because the £12,570 personal allowance tapers by £1 for every £2 over £100,000. All of those thresholds are frozen until 5 April 2031, following the three-year extension announced at Budget 2025 on 26 November 2025.
Illustrative. Allocate an extra £10,000 to a member already above £125,140 and £4,700 of it goes in income tax and Class 4 National Insurance, leaving £5,300 — and the whole £4,700 is payable whether or not a penny of the £10,000 was drawn. Illustrative figures on 2026/27 rates, not a computation of anyone's actual position.
Payments on account then fall on 31 January and 31 July, set by reference to the year just filed. New members feel it hardest in their second year, when the balancing payment for year one arrives on the same 31 January as the first instalment towards year two. We hold the reserve at firm level and forecast both dates in advance — see partner tax and drawings and the drawings calculator.
Still in the numbers
2023/24 was the transition year, and every unincorporated business — including the members of a partnership or an LLP — has been taxed on a tax-year basis since 2024/25. The transition profit left over after overlap relief is spread over five tax years, from 2023/24 to 2027/28, with at least 20% taxed in 2023/24 and the remainder spread equally across the following four.
So any firm whose accounting date is not 31 March or 5 April is still adding a slice of transition profit to each member's return in 2026/27 and again in 2027/28. It is real cash out of the reserve and it is the item most often missing from a partner's own forecast, because it does not correspond to anything that happened in the current year's trading.
One more consequence worth knowing before anyone sets a date: if the business ceases on or before 5 April 2027, all remaining untaxed transition profit is brought into charge in the year of cessation. Mergers, incorporations and planned retirements all deserve to be modelled against that.
The salaried members rules live in sections 863A to 863G of ITTOIA 2005, inserted by Finance Act 2014 and in force from 6 April 2014. If all three conditions are met, the member is treated for income tax purposes as an employee of the LLP under a contract of service: PAYE on their remuneration, and employer's National Insurance at 15% for the firm.
Fail any one condition and the member stays self-employed. Condition C is the lever most firms reach for, because it is the only one that can be moved by a bank transfer rather than by rewriting the members' agreement. Illustrative: a fixed-share member expected to receive £90,000 of disguised salary needs a capital contribution of at least £22,500 to sit outside Condition C.
HMRC's Spotlight 66 targets LLP arrangements used to disguise employment income, so a capital contribution funded by the LLP itself, or one that can be withdrawn again shortly afterwards, is precisely what is being looked at. The contribution has to be real and it has to be tested every year — a member whose disguised salary rises without a matching contribution can fall inside Condition C without anyone noticing. If the rules do bite, the member goes on the payroll: see law firm payroll.
A useful piece of good news
Making Tax Digital for Income Tax applies to sole traders and landlords with qualifying income over £50,000 from 6 April 2026, over £30,000 from 6 April 2027 and over £20,000 from 6 April 2028, each tested on the return for the tax year two years before.
Partnerships and LLPs are not in scope. HMRC's published position is that partnerships will need to use Making Tax Digital for Income Tax in future and that the timeline will be set out later — no date has been given, and the previously announced date was dropped. Separately, a partner's share of partnership profits is not qualifying income for that partner's own MTD test, so a member with a substantial profit share and nothing else has no obligation at all. A member only signs up if they have separate self-employment or property income over the threshold in their own right.
It is worth saying clearly inside the firm, because the assumption runs the other way. A sole practitioner solicitor is in scope from 6 April 2026, and so is a self-employed barrister — see sole practitioners and barristers and chambers. An equity member of the LLP instructing that barrister may have no MTD obligation whatsoever.
For accounting periods beginning on or after 6 April 2025, the audit exemption thresholds are met where at least two of three tests apply: turnover not more than £15 million, balance sheet total not more than £7.5 million, and not more than 50 employees. Those thresholds apply to LLPs as well as companies, and the great majority of law firm LLPs sit well below them and have no statutory audit at all.
That has nothing to do with the annual report the SRA requires. A firm that holds client money and does not fall inside the Rule 12.2 exemption — average client account balance not exceeding £10,000 and maximum not exceeding £250,000, both limbs — must obtain an accountant's report within six months of its accounting period end, whatever its size. And that report has to be prepared and signed by an accountant who is a member of one of the chartered accountancy bodies and who is, or works for, a registered auditor. A firm can therefore be far too small to need an audit and still need a registered auditor's signature once a year.
Client account bookkeeping and the five-weekly three-way reconciliation. The firm's annual accounts, the partnership or corporation tax return, partner tax reserves and drawings, payroll, VAT and the management figures you run the firm on. All the preparation that decides whether the report is clean.
Buzz Accounting Ltd is licensed by the AAT and a member of the ICPA. It is not a chartered accountancy firm and not a registered auditor.
Colin Ellis, ICAEW and a Responsible Individual, prepares and signs the SRA Accountant's Report itself. Rule 12.5 of the SRA Accounts Rules requires a member of ICAEW, ICAS, ACCA or ICAI who is, or works for, a registered auditor — and only that person can sign it.
Anstey Bond LLP is a separate firm, registered for audit by the ICAEW. Companies House OC360626.
The rest of partnership life
Members' capital and current accounts are where most partnership disputes actually live: what a member contributed, what has been allocated to them, what they have drawn, and what the firm owes them on the day they leave. We keep them so that the answer is a number rather than an argument, and so that a retiring member's exit does not become a six-month reconciliation exercise.
Three structural points are worth having in front of you:
Whether an LLP is still the right wrapper is a live question in 2026, because the dividend rates changed on 6 April 2026 and the comparison moved with them. We model it rather than opine on it: see LLP versus limited company and the comparison calculator.
Done by people who have read the members' agreement, because the profit-sharing clauses decide the numbers long before the accounts do.
Statutory accounts for Companies House, the partnership return, and members' capital and current accounts kept straight all year.
Accounts and taxAllocation run to the agreement, tax reserved at firm level, and both payment on account dates forecast before they arrive.
Partner tax and drawingsConditions A, B and C tested for each fixed-share member each year, with the payroll consequence handled if the rules bite.
Law firm payrollLedgers, the five-weekly three-way reconciliation and the evidence trail behind every transfer to the office account.
Client account bookkeepingArranged with a registered auditor and prepared for properly, so the report reflects a year that was done right rather than tidied late.
SRA Accountant's ReportLLP, limited company or partnership, modelled on your figures with the tax, the PII and the SRA authorisation consequences named.
LLP vs limited companyBecause an LLP is transparent for tax. The LLP itself pays no tax on its trading profit; each member is taxed on the profit share allocated to them, and drawings are not a taxable event at all. So a firm that allocates £180,000 to a member and pays out £110,000 in monthly drawings has handed that member a tax liability on money still sitting in the firm's work in progress and debtors. The practical answer is to hold the tax reserve at firm level rather than expecting each member to put it aside, and to set drawings from a policy rather than from what the bank balance looks like in March. It also makes lockup a partner-level issue rather than an accounts-department one.
For 2026/27, a member already above £125,140 pays income tax at 45% plus Class 4 National Insurance at 2% on the additional profits, so £4,700 of an extra £10,000 goes in tax and NIC and £5,300 remains. Between £50,270 and £125,140 the combined marginal rate is 42%. Between £100,000 and £125,140 it is worse again, because the £12,570 personal allowance tapers away by £1 for every £2 of income above £100,000. Those thresholds are frozen until 5 April 2031 following the extension announced at Budget 2025. This is an illustrative calculation on 2026/27 rates, not a computation of any particular member's position.
They are if all three salaried members conditions in ITTOIA 2005 sections 863A to 863G are met — the rules inserted by Finance Act 2014 and in force from 6 April 2014. Condition A is that at least 80% of what the LLP is expected to pay for the member's services is disguised salary. Condition B is that the member has no significant influence over the affairs of the partnership. Condition C is that the member's capital contribution is less than 25% of the expected disguised salary. All three must be met; fail any one and the member remains self-employed. If all three are met the member is taxed as an employee, with PAYE and employer's National Insurance at 15% for the firm.
Not from their partnership profit share, and this is the point most commonly got wrong. Partnerships and LLPs are not in scope of Making Tax Digital for Income Tax and HMRC has not set a date, stating only that partnerships will need to use it in future and that the timeline will be set out later. Separately, a partner's share of partnership profits is not qualifying income for their own MTD test. So an equity member with a large profit share signs up only if they have other self-employment or property income above the threshold in their own right. Sole traders, including sole practitioner solicitors and self-employed barristers, are in scope from 6 April 2026 above £50,000.
Probably not, and it is a separate question from the SRA Accountant's Report. For accounting periods beginning on or after 6 April 2025 the audit exemption thresholds are met where at least two of three apply: turnover not more than £15 million, balance sheet total not more than £7.5 million, and not more than 50 employees. Those thresholds apply to LLPs as well as companies, and most law firm LLPs sit comfortably below them. A firm that holds client money above the rule 12.2 exemption limits still needs its annual SRA Accountant's Report regardless, and that report has to be signed by an accountant who is, or works for, a registered auditor.
If the firm's accounting date is not 31 March or 5 April, it is still adding profit to each member's return. Everyone unincorporated moved to a tax-year basis from 2024/25, and the transition profit left over after overlap relief is spread across five tax years from 2023/24 to 2027/28, with at least 20% taxed in 2023/24 and the remainder spread equally over the four years after that. So 2026/27 and 2027/28 each still carry an extra slice. If the business ceases on or before 5 April 2027, all the untaxed transition profit is brought into the year of cessation, which is worth knowing before anyone plans a merger or a retirement date.
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