TOPIC 1

PARTNERS AND
PARTNERSHIPS

(THE TOP 10 POINTS)

CHOOSING A
BUSINESS
STRUCTURE
Please watch the video on the Bb site
OVERVIEW
• The key issues in this topic are grouped as follows:

Taxation of
Partnerships

Taxation of Variation and

Definition of a
Partnership Dissolution of
Partnership
Income Partnerships

• General taxation rules of partnerships are contained in Div 5 Pt III

ITAA36.
 •General law partnership
• Contractual relationship
between two or more people
who wish to conduct a
1. DEFINITION business in common with a
OF A view to profit.
– State based statutory law
PARTNERSHIP and the general law

– See, Ruling TR 94/8.

– Not a separate legal entity.

DEFINITION OF A PARTNERSHIP
•Tax law partnership
• A partnership at tax law as defined in s 995-1 ITAA97:
(a) An association of persons (other than a company or a limited partnership)
carrying on business as partners or in receipt of ordinary income or statutory
income jointly; or
(b) A limited partnership.
• Note, broader definition under tax law than general law:
– The definition of a tax law partnership includes “… receipt of ordinary income
or statutory income jointly”, therefore includes passive investments, eg, joint
bank accounts.
– Like a general law partnership, not a separate legal entity.
TAX LAW PARTNERSHIP
• Implications of a tax law partnership:
• Sharing of profits or losses cannot be varied by agreement.
• Allocation of profits or losses is based on the partners ownership interests in
the underlying property.

Case Note: FCT v McDonald (1987)

• Husband and wife owned investment properties as joint tenants
• Partnership agreement:
• Wife 75% of profits;
• Husband 25% of profits and 100% for losses
• Held:
• Not a general law partnership (not carrying on a business)
• Profits and losses split by ownership interest (ie, 50/50) as it was a
tax law partnership, not a partnership at general law.
DOES A BUSINESS
PARTNERSHIP EXIST?
• Whether or not a partnership exists is a question of fact.

• The Commissioner has issued Taxation Ruling TR 94/8 which outlines

the factors he considers relevant to determine whether a partnership
exists.

• While none of the factors in themselves are determinative, a

conclusion on whether a partnership exists may be drawn from an
examination of the above factors.
 • A partnership does not
pay tax, but must lodge a
tax return: s 91.
• A tax file number is
2. COMPLIANCE provided for each
partnership
OBLIGATIONS OF • The tax return sets out,
A PARTNERSHIP among other things, the net
income or loss of the
partnership and its
attribution to each partner.
TAXATION OF PARTNERSHIPS
• Partnerships do not pay tax and any partnership income is included in
the tax returns of the individual partners, as follows:

1. Calculate the partnership’s net income or loss

2. Determine each partner’s share of the net

income or loss

3. Adjust the partner’s assessment income or loss

for (examples):

Interest payments Capital gains and

Dividends of
Partner’s salaries to / from losses on
partnerships
partnerships partnership assets
 3. NET INCOME AND LOSS OF A
PARTNERSHIP

Assessable income
Allowable
calculated as if
Net Income deductions (certain
taxpayer is a
exclusions apply)
resident

• “Net income” of a partnership is broadly (s 90 ITAA36):

• A capital gain is not included in the partnership’s assessable income.
• “Net loss” of a partnership is broadly the excess of the allowable
deductions over the assessable income, calculated as if the partnership
taxpayer is a resident.
• Exempt income derived by a partnership is attributed to the partners, thus may
affect amount of loss deductions available to the partners: s 92(3) ITAA36.
 PARTNER’S SHARE OF NET INCOME OR LOSS

• Attribution / look through model:

• Assessable income of the partner includes the individual interest of the
partner in the “net income of the partnership”.
• Deduction is allowed to the partner representing the individual’s interest in
the “partnership loss”.

Partner A
“Net Income” or
“Partnership Loss”

Partner B
 • A partner’s salary is not
regarded as an expense as a
partnership is not a separate
legal entity, and thus not
deductible.

4. PARTNERS’ • This principle applies even if

partners are paid extra
SALARIES amounts over the share of
partnership profits.
• Treated as an allocation of
profits and losses
– See, Re Scott v FCT
(2002).
EXAMPLE
• Christine and Julia formed a partnership under
which it was agreed that they share the profits and
losses of the partnership equally.

• The partnership agreement provided that in

addition to this Christine would be entitled to draw
$20,000 a year for managing the business.

• The year’s net (accounting) loss, after paying

Christine’s salary, was $10,000.

• Determination of the net income, for the purpose of

completing the Statement of Distribution on the
Partnership return, is as follows:
• Answer
 – Interest paid to a partner on capital
contributed to the partnership is not
regarded as an expense and not
deductible.
5. INTEREST
– Interest incurred by a partnership on a
PAYMENTS
loan used for working capital is
BETWEEN A deductible
PARTNERSHIP – Applies even if the loan is used to repay
AND ITS capital contributions of partners,
PARTNERS provided the borrowings are used to
refinance funds employed in the
partnership business
– See, FCT v Roberts and Smith (1992)
and TR 95/25.
 – Concessional employer
superannuation
contributions are not
deductible because partners
cannot employ themselves.
6. – Partners can make
SUPERANNUATION concessional contributions
FOR PARTNERS based on the superannuation
regime.
– See Superannuation Topic
 7. DIVIDENDS RECEIVED BY THE
PARTNERSHIP
– A partnership includes in assessable income the amount of a dividend
received plus imputation credit: s 207-35.
– On distribution as part of the “net income of the partnership”, the
dividend and imputation credit retains its same character.

Partner’s share of dividend &

imputation credit
Partner A
Dividend &
imputation credit
Partnership’s
Assessable Income

Partner’s share of dividend &

imputation credit Partner B
 – Capital gains and capital losses
arising from a CGT event in
respect of a partnership or one of
its CGT assets is made by the
partners individually: s 106-5
ITAA97.

8. CAPITAL
– CGT consequences on new
partner admissions and
retirement:
GAINS TAX – Admissions: existing
partners treated as disposing
their interest in partnership
assets.
– Retirement: remaining
partners treated as acquiring
a share of the departing
partner’s interest in
partnership assets.
EXAMPLE

• A partnership consists of A and B (50:50).

• The partnership owns a block of land
purchased in 2005 for $100,000.
– A CGT Asset – CB - $50,000
– B CGT Asset – CB - $50,000

• If the partnership sells the land A and B each

have a CGT event / liability

• Partnership does not have a CGT liability

 Example
Assume that two new partners - C and D - are admitted in January.
Then, the market value of the land was $120,000 and C and D each
paid $30,000 to A and B to join the partnership.

Partner Opening Aqn % Disposal Closing

balance % % balance %

A 50   25 25 (CB
25K)
B 50   25 25 (CB
25K)
C   25 0 25 (CB
 
  30K)
D   25 0 25 (CB
30K)
 9. VARIATION OR DISSOLUTION OF
PARTNERSHIPS
– Partnership agreement should be drafted so that the business
continues when death, retirement or admission of a new partner,
otherwise a new partnership and tax return are required.
– Implications on key items:

Item Income tax treatment

Work in Progress Outgoing partner may sell the WIP to existing partners:
assessable under s 15-50.
Trading Stock Deemed to be notionally disposed at market value:
s 70-100.
Depreciating Roll-over relief: s 40-340.
Assets
 – Definition:
• “an association of persons
(other than a company)
carrying on businesses as
partners … where the
liability of at least one of

10. LIMITED
those persons is limited”:
s 995-1 ITAA97

PARTNERSHIPS – Generally taxed as

companies: Div 5A Part III
ITAA 36.
 NEXT
WEDNESDAY
Q&A SESSION TO
DISCUSS THE 4
QUESTIONS ON THE
BB SITE UNDER THE
PA R T N E R S H I P S
TOPIC.
 ANY
QUESTIONS