A general law partnership is an association of two or more individuals or entities that carry on business in common with a view to making a profit or gain.
A partnership agreement should be entered into which sets out the contractual relationship between the parties. It can be a verbal agreement, or it can be put into writing. While a verbal agreement may suffice at law, a written agreement is preferable.
In New Zealand, a limited partnership is a separate legal entity but is treated as a general partnership from an income tax perspective. A limited partnership must have at least one limited partner and one general partner and parties are required to enter into a written partnership agreement. Restrictions in relation to the management of the partnership may well restrict the ability of CPA Australia members to utilise such a structure and legal advice should be sought in this regard.
CPA Australia requirements
Under CPA Australia By-Law 9.3(a)(i), the partners of the partnership should be:
- “only Members who hold a Public Practice Certificate; or
- at least one Member who holds a Public Practice Certificate together with only the following persons (Approved Controllers):
- Members (who do not hold a Public Practice Certificate but who are also members of a body specified in Appendix 1 and are permitted by the constitution of such body to provide Public Accounting Services);
- such members of a body specified in Appendix 2 as shall be permitted by the constitution of such body to provide Public Accounting Services; and/or
- such other person or entity as the Board may, upon such terms and conditions as the Board may in the discretion of the Board determine, approve either generally or in any particular case taking into account, in the case of a natural person, the following matters:
- the tertiary or other professional qualifications possessed by the person;
- competence, experience or skill demonstrated by the person in their profession or calling;
- the commercial, community or educational status of the person; and
- such other matters as the Board may prescribe either generally or in any particular case;
- a body corporate or bodies corporate complying with By-Law 9.3(b); and/or
- a trust or trusts complying with By-Law 9.3(c).”
Individual partners are exposed to the risk of joint and several liability for the debts of the partnership and their liability is unlimited. In the event that the partnership is sued, the assets of the individual partners will potentially be available to litigants and creditors.
Partnerships do not provide for easy passing of control between generations. Where partnerships are used significant tax planning and the use of tax elections must be relied upon to cost-effectively pass control to the next generation.
In Australia, the ATO will treat a changed partnership as a reconstituted continuing entity if the original partnership agreement incorporated a provision for a change in membership of the partnership and a number of factors are met. In other circumstances, where an existing partner retires or a new partner is admitted, the partnership is deemed to cease and a new partnership created. This requires two tax returns to be lodged in the income year the change occurs, among other steps.
In New Zealand, ITA 2007 provisions provide for safe harbour and thresholds as to when a disposal of a partner’s interest will result in tax liabilities.
Method of accounting
For Australian entities, if the practice consists solely of the income producing activities of the partners, then the cash method of accounting should be adopted. If the practice is conducting an accounting business with multiple employees, then the accruals method of accounting is most likely to be appropriate.
For New Zealand entities, the cash method is inappropriate for professional service firms conducted through a general partnership.
Tax losses are allocated to the partners, generally in the same proportions as partnership income is distributed. In certain circumstances in Australia, the application of the non-commercial loss rules will need to be considered.
A partnership is required to register if its projected annual turnover meets the registration turnover threshold, which is currently $75,000 for business taxpayers in Australia and NZ$60,000 in New Zealand.
Further, in Australia, the ATO’s view is that, with the exception of a partnership carrying on an activity without a reasonable expectation of profit or gain, a general law partnership carries on an enterprise and may register for GST from the time it is formed. Upon formation, the partners each acquire an interest in the entity. The partners’ consideration for their interests can include capital contributions or the promise to provide services, labour or skills.
In Australia, individual partners can claim a deduction for personal superannuation contributions made to a complying superannuation fund, subject to conditions, including capping concessional contributions to $25,000.
Alternatively, individual partners can set up administration companies to provide themselves with access to employer-sponsored superannuation contributions, as long as the company is established for the purpose of providing employer-sponsored superannuation benefits for professional practitioners. Individuals automatically include an amount equal to the sum of any excess concessional contributions in their assessable income but can claim a non-refundable tax offset equal to 15 per cent of their excess concessional contributions.
In Australia, capital contributions can be made from after-tax profits of each partner. Interest deductions on borrowed funds are available where a general law partnership borrows money to refinance partnership capital. Only the partners’ contributed capital can be refinanced using interest deductible loans. Interest incurred on borrowings used to finance a distribution from an asset revaluation reserve or an unrealised profit is not deductible.
In New Zealand, interest deductions are available where a nexus exists between incurring an interest expense and deriving assessable income.
CPA Australia regulations restrict partnerships to suitably qualified parties holding a public practice certificate. Partnerships otherwise meet all form of regulatory requirements simply.
In Australia, as most partnerships have the size to meet the taxation business test, taxation planning through the use of service trusts (or other service entities) is typically possible. Individual income tax rates apply to a partner’s share of a partnership’s net income but CGT rollovers and exemptions are potentially available.
In New Zealand, individual income tax rates apply and there is unlimited liability of individual partners for the debts of the partnership.
See the tax considerations section below.