With the 6 April deadline for salaried partners to find funding to join their partnerships now passed, the permanent changes HM Revenue & Customs (HMRC) has made to the landscape of the legal profession are becoming clearer.
The path to partnership, taking in salaried partnership along the way, has become more challenging – not just for employees but employers too. It may take time for some firms to be completely comfortable with the idea of all associates stepping up directly to equity partnership without an intermediate stage.
For some firms, further borrowing may have left them with little or no headroom with their bank and no scope to borrow again if they need it. For smaller firms, perhaps those disadvantaged most by these regulations, HMRC has added significantly to the financial burdens heaped on them since the credit crunch.
One issue that remains unclear, however, is why HMRC felt the need to make this change at such breakneck speed, leaving those affected little time to find the most suitable solution. It is still surprising to many that the change was not delayed to allow firms to comply in an orderly fashion, rather than spark the rush for lending that occurred. The full gravity of the situation only became apparent early in the new year, when revisions to the proposed legislation did not include delaying its introduction.
It is likely that few salaried partners had time to shop around for the best funding deal on the market and as such many were forced to accept a ‘cookie cutter’ solution rather than having funding designed for their needs.
The experiences of the firms affected will have varied enormously depending on their size – a 150-partner firm is likely to have found a much more sympathetic ear at the bank than a five-partner firm.
Salaried partners at smaller firms are much more likely to have been met with demands for a second charge on their mortgages – something few will have found palatable. Salaried partners, often younger than their full-equity colleagues, are less likely to have significant equity in their homes and a second charge may also make changing mortgages in the future more difficult and expensive.
We have even heard from clients that some banks have required borrowers to purchase life insurance policies, adding another layer of administration to an already complex process. This led to many firms seeking funding from non-bank lenders who were able to provide Professional Finance Solutions. Short-term unsecured loans to allow salaried partners to buy into their partnerships. Rumours have persisted over the past few weeks that some salaried partners have still not secured such funding, meaning they have either chosen to become employees and take the PAYE and National Insurance costs that come along with it or are hoping that HMRC will show some flexibility over the 6 April deadline.
Another common concern among our clients has been uncertainty over the deadline for the funding to be in place. Three months from 6 April is believed to be the deadline, although the final date is not entirely clear. The relevant legislation, the Finance Bill 2014, is expected to receive Royal Assent in July, which will certainly mark the hard deadline for compliance.
Beyond that, what are the future ramifications of the changes for non-partner lawyers and their firms? The first is simple enough – salaried partnerships will be far less common as an intermediate step between employee and equity partner. This may affect the career trajectories of some lawyers – especially those who are unable to take on loans to join partnerships earlier in their working lives or are less enthusiastic about doing this. Some lawyers have already spoken of their belief that more may avoid partnership by choice, which would be a real shame.
Those who do choose to seek partnership in the future will need to find the funding to do so. Many will find that banks are less able to lend than in the past, due to the capital-holding requirements placed on them by regulators since the credit crunch. Non-bank funders are likely to continue to see elevated demand for unsecured loans to fund new partnerships.
Second, it has reinforced the need for small and mid-sized firms to secure the right funding for their needs – whether that is to cover partnership contributions, VAT bills, practising certificates, professional indemnity Insurance, Schedule D taxes or any of the other regular costs that affect law firms.
Those that develop strong working relationships with funders will be best positioned to focus on growing their practices rather than spending time and energy fighting cashflow problems.