Taxing issue of family partnerships

Since this spring’s budget announcement by the Chancellor that HMRC is to undertake a review of the tax rules surrounding partnerships, much has been discussed by accountants and tax advisers over what this will mean for businesses operated by family partnerships — which, of course, covers many farming operations.

The publicity generated by highprofile companies and individuals who are perceived to be utilising tax schemes to avoid UK taxes has prompted this move by HMRC.

But there is always the danger that new legislation causes issues for a much wider range of taxpayers than originally targeted, and the main targets continue to use offshore strategies which HMRC cannot counter without international cooperation.

Partnerships can consist of partners who pay tax at different rates for various reasons such as age, other income and, if a partner is a company, are subject to corporation tax rather than income tax.

HMRC’s proposals include the power for it to decide what is a “just and reasonable basis” for allocating profits amongst partners where the partnership includes companies or trusts.

It would be no surprise that HMRC would favour allocating the profits to the partner paying tax at the highest rate.

For losses, HMRC would like to disallow the set-off of partnership losses against other income and capital gains completely.

In the particular case of partnerships with companies as partners, HMRC has expressed the view that it believes these arrangements are in place to exploit the increasing difference between income tax and corporation tax rates.

However, the converse view is that HMRC could overcome these arrangements by taxing partnerships in a similar way to companies, and at comparable tax rates.

Farming in particular is a very capitalintensive business and, over the past few years, the increase in the costs of land, breeding livestock, machinery, fuel, fertilisers etc has been well above inflation, meaning more money is tied up in the business in the form of fixed assets and stock.

In the company situation, corporation tax is payable on the profits at 20%, and additional tax charges may arise on funds withdrawn from the company by the shareholders when that money is extracted.

In a partnership, the profit is taxed at income tax rates up to 45%, plus 2% national insurance, and there is no reduction in tax payable where the profits are retained in the business or drawn by the owners.

The use of a company in the partnershiphasallowedsomepartnershipsto maintain lower tax rates where the profits are reinvested in the business. If part of the Government’s aim is to stimulate business investment, and its moves to reduce corporation tax rates supports this initiative, then it would appear to be a contradiction to then increase the tax burden on businesses run by partnerships.

If HMRC goes ahead with its proposals in full, the outcome may be for more farming businesses to move all or part of their trading operation into a limited company, whereby HMRC will not raise any further taxes but businesses will have more regulation to contend with, thus breaching another Government aim to reduce ‘red tape’.

It is to be hoped HMRC will be able to make an announcement in the autumn after its period of consultation, detailing what changes to legislation are going to be proposed, which will let businesses make firm plans for the future.

Robin Dandie is head of agriculture at Johnston Carmichael.

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