The difficulty in dealing with partnership taxation is that there are no separate rules and those present are not located in one place. What rules there are have not been updated for over 40 years, making it difficult to get an overview of the tax position.
Partnerships are governed by the Partnership Act 1890, which defines a partnership as being ‘the relation which subsists between persons carrying on a business in common with a view of profit‘, meaning that a formal partnership agreement is not required (though advisable) to be taxed as a partnership. Each partner is taxed on their share of the trade or business and treated as carrying on a ‘notional business’. The tax rules apply after the allocation of the profit or loss between the partners has been calculated regardless of whether the profits have been withdrawn from the business. Therefore, the usual rules apply upon the cessation of a partnership as with a sole trader.
However, partnerships are rarely static creatures and may merge, demerge or cease altogether. Provided that there is at least one partner common to the business before and after the change then the partnership will automatically continue.
Change in partners
A partnership’s membership may change with the admission, death or retirement of a partner. Such a situation causes no particular tax problems – the new partner will be deemed to commence a new trade and the leaving partner is subject to the normal cessation of trade rules. The partnership will continue provided there is at least one partner common to the business before and after the change.
Problems may arise on merger or demerger of the partnership or when the business closes.
In most demerger cases, where a business is split into two separate parts, the old partnership ceases and the cessation rules apply to the partners. As a general rule, a succession will only be deemed to have taken place when one of the new partnerships is so large in relation to the other(s) that it is recognisably still the same business (e.g., where one business has retained large numbers of customers and assets). In such a case, that partnership will be deemed to continue. The partners in the other new partnership(s) will be subject to the normal cessation and commencement rules.
- Where two partnerships merge which are different in nature then a merger may create a larger business. In this situation, the old partnerships cease and a new partnership starts; the normal commencement and cessation rules apply.
- Where two businesses under different ownership merge but carry on the same or similar activities, the total activities of both partnerships are deemed to continue but as a separate partnership. As the business is deemed to continue, the tax treatment of any trading losses brought forward is unaffected.
- Where the owners of one partnership acquire only the assets of another partnership there is no change of ownership. Therefore the ‘merged’ partnership is merely an enlarged version of the first partnership.
Should a partnership cease and assets qualifying for capital allowances are taken over by one or more of the partners, these assets are deemed to be disposed of and immediately reacquired at market value. Balancing allowances may be claimed if the written down value exceeds the market value. It is possible to make an election to transfer the assets at written down value if there is a succession to the partnership business and a connection between the two.
Partnership Manual 135000
Statement of Practice 9/86
s266 CAA 2001
s1 Partnership Act 1890