How Do Partners in a Law Firm Get Paid for Tax Purposes

Understanding law firm partnership structures

Before looking at how partners are paid, it is important to understand how law firms are typically structured. Most law firms operate as either:

• Traditional partnerships, where two or more partners jointly own the business and share profits.

• Limited liability partnerships (LLPs), which combine the flexibility of partnerships with limited personal liability.

• Limited companies, where directors or shareholders receive salaries and dividends rather than partnership drawings.

The way a partner is taxed depends on which structure the firm uses and the partner’s role within it.

How partners are paid in a traditional partnership

In a traditional partnership, there are no salaries in the conventional sense. Instead, partners receive a share of the firm’s profits, known as drawings.

Drawings are not the same as wages. They are simply cash withdrawals taken from profits that have already been earned or are expected to be earned during the year. The firm’s profit is calculated after deducting business expenses, and each partner’s share is determined by the partnership agreement.

At the end of the financial year, the total profits are allocated between partners, and each partner is taxed on their share, regardless of how much money they have actually withdrawn.

Tax treatment for traditional partners

Partners in a traditional partnership are treated as self-employed for tax purposes. This means they are not on the payroll and do not receive payslips or PAYE deductions. Instead, they must:

• Register for Self Assessment with HMRC.

• Pay Income Tax on their profit share, not on the drawings taken.

• Pay Class 2 and Class 4 National Insurance contributions (NICs).

Tax is calculated on the profit allocated to the partner for the accounting year, not on the amount physically received.

For example, if a partner’s profit share for the year is £100,000, they pay tax and NICs on that amount, even if they have only withdrawn £80,000.

How partners are paid in a limited liability partnership (LLP)

An LLP operates similarly to a traditional partnership, but it offers limited liability protection to its members (partners). For tax purposes, LLP members are generally treated as self-employed, unless they fall under specific criteria that classify them as salaried members.

Tax treatment for self-employed LLP members

Self-employed members of an LLP are taxed in the same way as partners in a traditional partnership. They report their profit share through Self Assessment, pay Income Tax and National Insurance, and make payments on account for the following year’s tax.

The LLP itself does not pay tax on profits. Instead, profits are allocated among members, and each pays tax individually.

Salaried members in LLPs

HMRC introduced special rules to identify partners who are effectively employees rather than genuine business owners. These are known as salaried members.

A salaried member is taxed as an employee under PAYE if they meet all three of the following conditions:

1. They receive a fixed or guaranteed amount that is not linked to the firm’s overall profits.

2. They do not have significant influence over the firm’s management or decisions.

3. Their capital contribution to the LLP is less than 25% of their fixed pay.

If a partner meets all three tests, the firm must treat them as an employee for tax purposes. PAYE and employer National Insurance apply to their income just as they would for regular staff.

If they fail one or more of these tests, they remain taxed as self-employed.

How partners are paid in incorporated law firms

Some law firms operate as limited companies. In these cases, partners are usually shareholders and directors. They receive income through:

• Salaries, processed through PAYE.

• Dividends, paid from post-tax profits.

This approach can be tax-efficient because dividends are taxed at lower rates than income, although Corporation Tax must first be paid by the company.

Directors can also contribute to pensions and receive other benefits as part of their remuneration package, which can be structured to reduce the overall tax burden.

Profit sharing and drawings

Most law firms distribute profits to partners throughout the year through drawings, which are typically based on forecasted profits. Drawings help partners manage cash flow and pay their tax bills in instalments.

At the year-end, once actual profits are calculated, adjustments are made. If a partner has taken more than their final profit share, they may owe money back to the firm. If they have taken less, they receive a top-up payment.

Accountants monitor these balances carefully to ensure accurate reporting and prevent disputes between partners.

Tax responsibilities for partners

Because partners are self-employed, they must manage their own tax obligations. This includes:

• Registering for Self Assessment and filing tax returns annually.

• Paying Income Tax and National Insurance on profit shares.

• Making payments on account, which are advance payments towards next year’s tax.

• Keeping accurate records of income and expenses.

Many firms provide partners with estimated tax calculations to help them set aside funds throughout the year. However, it remains each partner’s responsibility to file their own tax return.

How accountants help with partner taxation

Tax for law firm partners can be complex, particularly in firms with multiple profit-sharing tiers or varying partner statuses. A specialist accountant can help by:

• Calculating and allocating profit shares accurately.

• Advising on the most tax-efficient partnership or LLP structure.

• Determining whether partners should be treated as self-employed or salaried members.

• Forecasting tax liabilities and managing payments on account.

• Preparing partners’ Self Assessment tax returns.

• Ensuring compliance with both HMRC and SRA financial rules.

They also assist with cash flow planning to ensure partners have enough funds set aside for tax payments, especially during their first year of partnership when payments on account begin.

Common tax challenges for law firm partners

Some of the main tax issues partners face include:

• Misunderstanding that drawings are not automatically deducted for tax.

• Failing to budget for payments on account.

• Errors in profit allocation between partners.

• Late registration for Self Assessment.

• Confusion about salaried versus self-employed member status in LLPs.

Accountants help partners navigate these challenges and avoid unnecessary penalties or cash flow problems.

Final thoughts

Partners in a law firm are usually paid through profit shares rather than salaries, and their tax treatment depends on whether the firm is a partnership, LLP, or limited company. Most partners are self-employed and must report their income through Self Assessment, while salaried members are taxed under PAYE.

A specialist accountant is invaluable for managing profit allocations, ensuring tax efficiency, and maintaining compliance with HMRC and SRA requirements. With expert advice, law firms can structure partner remuneration effectively, reduce tax risks, and maintain clear financial transparency across the partnership.