It was announced in the 2013 Budget that a consultation document would be published, which focused on two main aspects of partnership tax. The areas under consultation were profit and loss allocations in mixed partnerships and the automatic assumption that LLP members are self-employed for tax and national insurance purposes.
Following the consultation period and Decembers “Autumn” Statement, draft legislation has now been published which targets these arrangements and our comments are provided below. In your review it is also worth noting that:
- The new rules will take effect in relation to all accounting periods ending on or after 6 April 2014, and;
- Anti-avoidance measures have also been introduced which were effective from 5 December 2013, designed to catch tax motivated profit allocation structures.
This note focuses on profit and loss arrangements for mixed partnerships.
Profit allocation arrangements
The first piece of draft legislation counters the allocation of profits to a non-individual member of a partnership (usually a company) through the reallocation to certain individual members.
The rules will be applied where profit allocations are deemed to be excessive and individual members connected to the non-individual member have the “power to enjoy” those profits.
Her Majesty's Revenue and Customs (HM Revenue and Customs or HMRC) is a non-ministerial department of the UK Government responsible for the collection of taxes, the payment of some forms of state support and the administration of other regulatory regimes including the national minimum wage.... have published examples of how this will work in practice. One of these examples could prove to be useful for partnerships where non-individual partners were trading before they transferred into an LLP – potentially justifying a larger profit share for the non-individual partner.
The rules will also apply where the profits allocated represent deferred profit of an individual member. Where it is reasonable to assume that the individuals profit share is lower as a result of these arrangements the profits will be reallocated to the individual member.
The purpose of these rules and reallocation of profits is to ensure tax is paid at the higher rates of income tax.
Loss allocation arrangements
In addition, new rules will be introduced that will seek to prevent arrangements whereby ‘excess’ losses are allocated to a member that pays a higher rate of tax, again using a partnership with mixed members.
An example might be a business which has just commenced trading and is loss making. Some partnerships have arrangements in place which allocate those losses to individual members allowing them to obtain income tax relief, in return for a capital contribution.
These rules will deny loss relief for individual members, in cases where a ‘loss allocation arrangement’ has resulted in losses being allocated to the individual member.
‘Tax attribute’ schemes
Finally a further rule will also take effect in order to prevent ‘tax attribute’ schemes.
This type of tax planning involves the transfer of assets or income streams through, or by, partnerships where the main purpose, or one of the main purposes, is to secure a tax advantage.
These measures are intended to apply in relation to all partnerships, not just those with mixed members.
They will apply where an individual disposes of an asset or income stream, by or through a partnership in cases where the transferor and transferee involved are, at any time, members of the relevant partnership, or an associated partnership.
If any tax advantage arises as a result of the differing tax attributes of the members involved, the consideration received will be treated as income of the transferor member (and subject to tax as relevant partnership profits). If the consideration received is substantially less than the market value of the asset transferred, then the market value will be used instead.
These changes are far reaching and are designed to catch any tax advantages that arise as a result of a mixed partnership arrangement. This is regardless of any commercial justification for the trading structures affected.
Therefore, if you are trading through a mixed member partnership arrangement it is inevitable that new legislation will have tax implications for you and your fellow LLP members or partners.
These mixed partnerships have generally been used in order to provide valuable working capital and cash flow advantages to business and this will no doubt have a significant effect on how such businesses trade going forward, potentially disturbing growth and a negative impact on the wider economy.
How TAP Can Help
If you are a partnership with mixed memberships you will need to review your profit allocation arrangements carefully.
We have considerable expertise and experience in advising on corporate and business tax issues. We are offering our services to carry out a formal review of your business structure with reference to the draft legislation. This review will identify any areas at risk, we will then propose practical solutions should they be necessary
Given the far and wide reach of this new legislation we strongly suggest that you action should be taken in regard to this matter as soon as possible since there is little time between now and 6 April 2014 to implement any appropriate tax planning.