HMT’s proposed changes to the UK’s limited partnership laws

On 23 July 2015, HM Treasury (HMT) published a consultation paper, "Proposal on using Legislative Reform Order to change partnership legislation for private equity investments" (the CP) consulting on the impact of its proposed changes to the Limited Partnership Act 1907 (the LPA 1907) so far as they apply to UK limited partnerships formed as part of a private fund structure.

At the same time as the CP, HMT published a draft statutory instrument (the Legislative Reform (Limited Partnerships) Order 2015) (the Draft Order), which sets out the specific amendments it is proposing to make to the LPA 1907.

The consultation period closed on 05 October 2015. HMT will now review responses received and publish a final version of the Order in due course.

Simmons & Simmons joined with a number of other law firms (listed at the start of the response) to submit a joint response to the CP.

Why is HMT consulting?

In 2013, HM Government launched its Investment Management Strategy, intended to retain and improve the UK’s competiveness in this sector. The measures proposed included a commitment to consult on technical changes to partnership legislation as it applied to funds, with a view to removing unnecessary legal complexity and administrative burdens.

More particularly, the CP looks at possible changes to limited partnership legislation which might make it easier to accommodate the use of limited partnerships for private equity investments.

At present, the UK private equity and venture capital industry remains the largest in Europe. The European Private Equity and Venture Capital Association has estimated that, of the €53.6bn raised in Europe in 2013, about 64% (€34.4bn) was raised by funds managed in the UK.

Although HMT notes that the UK’s limited partnership structure has a number of benefits (notably, its flexibility, transparency for UK tax purposes and the limited liability protection that it affords to investors), there is the danger that existing UK legislation in this area - which is based primarily on the (the LPA 1907) - has failed properly to accommodate the needs of the (relatively modern) private equity and venture capital funds industry.

At the same time, competing funds jurisdictions have either already introduced, or are in the process of introducing, new laws which offer private fund sponsors the flexibility to structure funds in the most efficient way and to avoid incurring unnecessary costs and administrative burdens. Unless the UK adapts its own regime, HMT recognises that it risks becoming a less attractive domicile for funds.

What is HMT trying to achieve with the CP?

As a result, HMT has proposed a series of amendments to the LPA 1907, with a view to eliminating “many of the uncertainties and inconveniences associated with existing UK limited partnership law so as to ensure that the UK limited partnership remains the market standard structure for European private equity and venture capital funds and other types of private fund”.

The purpose of the CP is for HMT to understand the impacts of these proposed amendments so far as they apply to UK limited partnerships which are formed as part of a private fund structure. These structures may include a number of entities that use limited partnerships including the main fund vehicle, a parallel fund, a feeder fund, a co-investment vehicle and a carried interest vehicle.

What entity would HMT’s amendments affect?

The amendments would apply to a UK limited partnership which

• is a “collective investment scheme” under Section 235 of the Financial Services and Markets Act 2000, but
• is not a scheme authorised by the Financial Conduct Authority.

What changes does the CP propose?

Designation as a private fund limited partnership

The Draft Order provides a process whereby limited partnerships which are private fund vehicles would be designated as such on the register of limited partnerships (the register) at the point of registration.

Limited partnerships which are already in existence would have the option of becoming designated as private fund limited partnerships within a year of the changes coming into effect.

Amending the register

At the moment, there is no procedure for removing a limited partnership from the register. Even though private equity and venture capital funds often have a fixed life cycle and are subsequently wound down, a partnership would remain on the register in perpetuity. As a result, not only does the register become increasingly out of date, it prevents the reuse of names of dissolved limited partnerships.

HMT’s amendments would permit the Registrar of Companies to remove entries following an application by the partnership or where the partnership is no longer operating.

White list activities for limited partners

Under the LPA 1907, to avoid the possibility of being liable for all the debts and obligations of the partnership, a limited partner has to ensure that he/she/it does not “take part in the management of the partnership business”. The Act, however, does not expressly state what actions would or would not amount to “taking part in the management of the partnership business”. As the CP says, private equity and venture capital investors, though generally passive, may actively monitor and assess the fund’s performance.

The Draft Order sets out a non-exhaustive "white list" of activities that a limited partner in a private fund limited partnership can undertake without being considered to take part in the management of the business, (and, so, without running the risk of losing limited liability).

Capital contributions

The LPA 1907 requires that:

• when a limited partner enters into partnership, he/she/it must contribute a capital sum (for which no amount is stipulated) and
• the limited partner does not draw out or receive back any part of this capital contribution during the lifetime of the partnership (or else, he/she/it will be liable be liable for the partnership’s debts and obligations up to the amount drawn out or received back).

These restrictions only apply to capital contributions and, in the words of HMT, “[i]t is […] not clear what purpose is served by requiring that a limited partner make a capital contribution no matter how small”.

In the context of private equity and venture capital funds formed as limited partnerships, however, a typical model is for the investor to have its total funding commitment split between (a) a nominal capital contribution (to meet the requirement in the LPA 1907) and (b) an undertaking to fund the balance of the commitment through interest free loans or advances.

In practice, where an investor may want to withdraw part of their contribution prior to the end of the fund’s life and not be liable for any fund debts and/or obligations, the majority of the commitment will be made through loans rather than through capital investment. This results in considerable complications and can be confusing for those unfamiliar with UK limited partnership law.

The Draft Order proposes the removal of both the requirement that limited partners in private funds would have to make a capital contribution and the liability of such partners in respect of capital contributions that have been withdrawn.

Winding up a limited partnership

Private equity and venture capital funds formed as partnerships are commonly granted the right to remove the sole general partner and dissolve the partnership in certain situations. However, where the sole general partner of a limited partnership is removed and the partnership is to be dissolved, the remaining limited partners have to apply for a court order confirming that the affairs of the partnership should be wound up under the supervision of the court.

This, clearly, imposes significant delays and administrative burdens on the limited partners.

Under HMT’s proposals, the partners (and, where there is no general partner, just the limited partners) in a private fund would be able to agree among themselves who should wind up the limited partnership without having to obtain a court order.

Registering a limited partnership

A limited partner only benefits from limited liability once the limited partnership is established, the certificate of registration is proof that the limited partnership came into existence on the date of registration.

When making an application to register a limited partnership, certain specified details must be provided (for example, the general nature of the partnership business, the name of each general and each limited partner and the amount of each limited partner’s capital contribution). In addition, any change to the details provided must be registered within seven days of the change.

Since, even where unsatisfied liabilities arose on the part of the partnership, there would be no recourse to the limited partner, HMT regards the need to include the limited partner’s capital contribution as unnecessary - in addition, such disclosure could allow others to track investment decisions which may be market sensitive

HMT’s proposals would simplify the way in which a private fund which is established as a limited partnership is registered by removing the requirement to provide details of (a) the general nature of the partnership business, (b) the capital contribution of each limited partner or (c) the term for which the limited partnership is to be entered into.

Notifying changes in the Gazette

Currently, where a general partner becomes a limited partner or a limited partner assigns his/her/its limited partnership interest to another person, this change only has effect when it is advertised in the relevant Gazette (London, Edinburgh or Belfast, as appropriate).

The Draft Order removes this requirement in respect of private funds.

Exemption from statutory duties

Under UK partnership law, a limited partner is subject to certain duties which are applicable to partners generally. These include the duty to render accounts and information to other partners and the duty to account for profits made in competing businesses (under, respectively, Section 28 and Section 30 of the Partnership Act 1890).

HMT recognises that these seem inconsistent with the position of a largely passive investor who may have investments in a number of funds, some of which may fund competing businesses and the Draft Order would exempt limited partners in private funds from these duties.

Interaction with authorised fund limited partnerships

The Collective Investment in Transferable Securities (Contractual Scheme) Regulations 2013 (the Regulations) introduced the Authorised Contractual Scheme - this enabled limited partnerships to be used as vehicles for FCA-authorised funds and Regulation 16 modified the application of LPA 1907 to these schemes.

HMT’s proposed amendments in respect of private fund limited partnerships would amend some provisions of the LPA 1907 which are already subject to modifications by Regulations. In order to preserve the effect of the Regulations following HMT’s amendments to the LPA 1907, the Draft Order also makes consequential amendments to Regulation 16 of the Regulations.