Mixed member partnerships – targeting profit and loss allocation abuse

As widely expected, today’s Autumn Statement confirmed that anti-avoidance measures are to be introduced to counteract the use of corporate partners to reduce the income tax liabilities of individuals in partnerships. Very broadly, the Government’s concern is that individual partners have been reducing the amounts on which they are taxed at up to 45% (and previously 50%) by arranging for the part of their profits which would be retained in the business to be allocated to a corporate partner taxed at (currently) only 23%; there is no real loss to the individuals as they own shares in the company and benefit indirectly.

The proposals and background to them were described in our earlier blog: http://blogs.olswang.com/budgetblog/2013/07/10/partnerships-and-llp-anti-avoidance-hmrcs-latest-target/  and draft legislation has been published today to implement part of them. 

The legislation will apply where the amount of income profit allocated to a company or other “non-individual partner” exceeds the aggregate of (a) a commercial rate of interest on its financial contribution to the partnership and (b) arm’s length remuneration for its services to the firm. The excess will be reallocated to the individual partners whose profits shares have been deferred by a corresponding amount or who have power to enjoy the profit share of the non-individual partner. Anticipating further attempts at avoidance, the legislation will extend to individuals who provide services to the partnership but are not actually partners if it is reasonable to assume they would have been partners but for this anti avoidance legislation. 

The draft legislation contains very sweeping provisions preventing an individual from claiming loss relief if a trading loss or loss in a property letting business has been allocated to the individual, rather than to a non-individual partner, pursuant to tax avoidance arrangements. 

The profit reallocation provisions are stated to come into force today, 5th December 2013, which appears alarming at first sight, but as currently drafted it appears that they will not apply to periods before 6th April 2014; accounting periods straddling 6th April will be treated as if the period from 6th April were a separate period of account and subject to the new rules. The loss provisions are stated to have effect for losses made on or after 6th April 2014, applying the same provisions for splitting accounting periods which straddle that date. 

From the comments in the Autumn Statement and the published impact assessment it appears that this measure had been primarily targeted at professional partnerships and that the Treasury did not initially have the private equity industry in its sights. It appears to have been pleasantly surprised by the impact on AIF managers and has published an extra line of figures showing how much extra tax this will raise! However, in the case of Alternative Investment Fund (AIF) managers, the impact will be softened by measures already announced to disapply these anti avoidance provisions to amounts of profit required to be deferred in accordance with the Alternative Investment Fund Managers Directive. 

The draft legislation on disguised employment through LLPs is expected to be published separately, probably next week. 

Also worth mentioning is that the draft legislation published today does not refer to capital gains, only to income profits. However there is a wide ranging review of partnership taxation underway so more changes may be in the pipeline.

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