This is on behalf of a client. When I said I'd ask online for clarification, they asked me to post anonymously.
In a partnership, not LLP, can one partner receive 100% of the profit? One partner is stepping back entirely, but the other can't afford to buy their share. So they'd like to keep their 50% until they can be bought out, but receive no share of the profit in the meantime. The business is growing, so they hope that their share will increase in value whilst they wait. They'd also retain voting rights by remaining equal partner, as their assets are tied up in the business.
I always believed that profit split can be agreed on between partners as and how they see fit?
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yes, that's my view too - unless any agreement says otherwise.
As usual get it in writing.
Yes - I've done that quite a lot over the years. It can happen, for example, where a partner is entitled to a salary but the profits aren't sufficient to cover it.
That was the example that came to mind
But in principle partners can change ratios every day of the week
Only likely to be challenged as genuine if the person getting nothing is high rate and other basic rate
The drawings details could be requested
Is the buyer happy to work on the business, increasing its value, for him to then pay the seller for a share of the value he has added?
I'd recommend getting the agreement in writing now to avoid arguments later.
Conversely, whatever the answer to the question*, does the retiring partner want to keep the risks of partnership without a say in the business? Legal advice, as you say, would be prudent.
*I don't know the answer. Lion' and Paul's example isn't comparable - the partnership not making profits to divvy up is not the same as one 'partner' having no entitlement to share in any profits that are made.
Conversely, whatever the answer to the question*, does the retiring partner want to keep the risks of partnership without a say in the business? Legal advice, as you say, would be prudent.
*I don't know the answer. Lion' and Paul's example isn't comparable - the partnership not making profits to divvy up is not the same as one 'partner' having no entitlement to share in any profits that are made.
I take your point. I note that the outgoing partner is hoping that his pay out will increase, which suggests that there is hope value in some of the partnership's capital assets. The agreement would need to be very carefully drawn to distinguish between trading profits and capital profits. Whilst it's not impossible, if I were this outgoing partner, I'd be thinking very carefully about what I wanted from this deal.
I note that the outgoing partner is hoping that his pay out will increase, which suggests that there is hope value in some of the partnership's capital assets.
Hope value. Thanks. I did wonder* how the pay out might increase without it being from sharing in profits.
*Not too hard. .Anon.
The direct answer to the OP’s question is “Yes”.
One has difficulty in further commenting, inasmuch as the OP presumably will wish to remain “Anonymous”, and will thus not respond to my asking who exactly is their client [eg the Partnership; one of the Partners; or (I surmise this is the most likely) the Partnership AND both Partners]. Whichever it be, the appropriate advice is for the Partnership Agreement to be amended to account for the “100%/0%” profit split – if there is no written agreement then it is ESSENTISAL that a Partnership Agreement now be prepared.
It is perfectly in order for a Partnership Agreement to be prepared such that there are different “splits” of (a) Income and (b) Capital (to such end, it is normal to “ringfence” Property and Goodwill in the Financial Statements). It will probably also be an opportune time to review how the Partnership Agreement determines the Goodwill calculation, upon any change(s) in personnel.
Whilst unlikely to be a problem, a “100%/0%” split of Income MAY be challenged (by one of the partners, or by HMRC or other third parties) on the grounds that the business does not comply with the essential aspect of a Partnership, ie the SHARING of profits: to avoid such possibility, the simplest method is for a NOMINAL amount to be attributed to the effective “0%” partner, say 0.1% of Profits or a Partner’s Salary of say £50 and the remainder to the other Partner.
As I have intimated above, and especially if the OP acts for the Partnership and the Partners, simply advising the client to amend (or, if not inexistence already, have professionally prepared) a written Partnership Agreement, is the way forward.
Basil.
a “100%/0%” split of Income MAY be challenged (by one of the partners, or by HMRC or other third parties) on the grounds that the business does not comply with the essential aspect of a Partnership, ie the SHARING of profits
Oh Basil I think I love you.
Definition: Partnership means the SHARING of profits
Scenario: Profits are not shared
Possible consequence: might not be a partnership
Suggestion: share profits
Nevertheless, answer: “Yes”
Alternative suggestion: move to Texas... http://www.northtexasseclawyer.com/2011/05/little-known-facts-zero-perce...
I thought a partner needed to receive £1 (and, also, can never have a loss when the other gets a profit).
I have a few partnerships with varying arrangements. They started off intending to be equal but various circumstances happened which led to them not being. What matters is that there is something in writing - as official as you can - before the chance of fallout happens (if it ever does).
If its going to be a regular arrangement then they could get the partnership agreement revised with legal advice. It would make sense to as if the value of the business rises - or falls - then that could cause issues later on. So, better that be covered now as well as advised above in detail.
Could the remaining partner buy now but with an interest free/low interest payment over time?
Re the loss profit point is that not just re tax rather than re accounts?
Indeed it is. For example, profits £15000, salary to partner A £20000, balance equally between A and B..
Accounts
A £17500 (£20000 - £2500)
B £ 2500 loss
Taxable
A £15000
Yes, strange that all the exercises/questions at university have appropriation accounts with interest on capital, salaries and profit shares yet my reality, in over thirty five years of work ,is that I never actually came across a real partnership with more than two out of the three.
Yes, strange that all the exercises/questions at university have appropriation accounts with interest on capital, salaries and profit shares yet my reality, in over thirty five years of work ,is that I never actually came across a real partnership with more than two out of the three.
Never seen interest on capital in real life.
Or indeed, separate capital and current accounts.
I have, my father's legal firm had interest on capital and partner salaries for non profit earning partners (salaried partners), the salaried partner was step one to becoming an equity partner post being a qualified assistant for a few years.
My father started as such in the late 50s, became a salaried/equity partner after two years and by 1982, when he effectively packed up , was the largest partner, though by that time there were no salaried partners, by then new aspirants were initially not made partners and the firm had withered from five equity partners to two.
They also had strange and wonderful partnership agreement rights for the younger equity partners to be able to use part of their shares of profits to each year purchase an additional share of the business, this was expressed as a function of the previous x years profits and a fixed multiple and is how my father over time purchased his eventual majority share in the firm.
They also operated both current and capital accounts, share of profits allocated to current account, any residue not drawn within the year might then be used to buy equity per the then agreement- one of the reasons my father lived on a personal overdraft with his bank for years as this meant he could restrict his drawings in year so be permitted to purchase a bigger amount of equity when the accounts were struck. (This bought him both a share in the "Goodwill" of the business and also a share of its Edinburgh New Town office)
I have, my father's legal firm had interest on capital and partner salaries for non profit earning partners (salaried partners), the salaried partner was step one to becoming an equity partner post being a qualified assistant for a few years.
My father started as such in the late 50s, became a salaried/equity partner after two years and by 1982, when he effectively packed up , was the largest partner, though by that time there were no salaried partners, by then new aspirants were initially not made partners and the firm had withered from five equity partners to two.
They also had strange and wonderful partnership agreement rights for the younger equity partners to be able to use part of their shares of profits to each year purchase an additional share of the business, this was expressed as a function of the previous x years profits and a fixed multiple and is how my father over time purchased his eventual majority share in the firm.
They also operated both current and capital accounts, share of profits allocated to current account, any residue not drawn within the year might then be used to buy equity per the then agreement- one of the reasons my father lived on a personal overdraft with his bank for years as this meant he could restrict his drawings in year so be permitted to purchase a bigger amount of equity when the accounts were struck. (This bought him both a share in the "Goodwill" of the business and also a share of its Edinburgh New Town office)
From a practical point of view, you'd definitely need separate capital and current accounts unless the transaction count was very low.
No idea, doubt that many, but they had a cashroom team of five to manage the day to day firm/client accounting as they handled a lot of client money so that would have been their problem.
I always felt sorry for the cashroom staff, the apprentices and qualifieds were up on the second floor in passable light, two partners and secretaries/typists on the first floor (secretaries/filing room was the largest and best room across the entire front, the partners the two smaller rooms to the rear), then ground floor my dad's room, mail room (briefly my domain as temporary mail clerk) and client waiting room. Accounts/cashroom got the rear, north facing, basement which was somewhat Dickensian, with the lower ground having the strongroom and access to the back garden/mews garages.
+1
But cannot think of any occasion where I have come across it in the last 20 Years
There aren't that many partnerships about.
I had a few, in fact slightly more partnerships than I had limited companies, then again I never had that many clients in the first place. I also know that one group of five family partnerships that were my clients are now a single, larger ,limited company.
@ Tax Dragon (your 14.21 post).
With respect, and if I interpret your post correctly, you are contending that there is an inconsistency in my last post: such is NOT the case.
I pointed out that a “100%/0%” profit split does NOT, per se, disqualify the business from being a Partnership.
I did however, also advise that it was PRUDENT to award a nominal profit share, to the “0%” Partner, to avoid any INCORRECT claims that there was a valid Partnership. Such INCORRECT claims could cause material difficulties in relation to the hassle/inconvenience in disproving them.
The concept in my previous paragraph, occurs frequently in life (not just in matters financial/taxation). One draws an equation between (i) the minimal “cost” (whether in time and/or money) of an action and (ii) the cost/hassle/inconvenience which may arise if such action is not performed: one indeed frequently draws this equation subconsciously.
I apologise of course if this point was not entirely clear from my last post.
Whilst I appreciate your opening amorous advances, I am sure that, on reflection, you would agree that your (as so interpreted) affections towards me might be inadvertently misinterpreted by other parties:)
Basil.
Not for the first time Basil I had missed the nuances of your assertions.
I am breaking my own .Anon 3-post rule* to record my appreciation of your clarification. (And that's the kindest rebuff I can remember, too.)
*I had said all I wanted to say, viz that what's required here** is independent legal advice, not an Aweb discussion***.
**IMHO even if this is a family partnership [we are, of course, not told] - I've seen them go just as horribly wrong (if not worse) as when the parties are not otherwise connected.
***Educational as that has been.
Maybe because they are star- crossed lovers.
“A pair of star-crossed lovers take their life, / Whose misadventured piteous overthrows / Doth with their death bury their parents’ strife.”
I call that a happy ending; surviving Montagues and Capulets at peace. Dearly bought but peace nevertheless.
This is on behalf of a client. When I said I'd ask online for clarification, they asked me to post anonymously.
hahahhahahaahhahhaa surely not
The Partnership Act defines a partnership as 'Partnership is the relation which subsists between persons carrying on a business in common with a view of profit.' I'm therefore not sure whether there is a partnership any longer. Not only has one so-called partner stopped receiving a share of profits but he has also 'stepped back', i.e. he might not be 'carrying on a business in common'.
In any case, the active partner should be concerned about the possibility that the passive partner still has the ability to bind the firm, and the passive partner should be concerned about his exposure, as has already been pointed out.
The Partnership Act defines a partnership as 'Partnership is the relation which subsists between persons carrying on a business in common with a view of profit.' I'm therefore not sure whether there is a partnership any longer. Not only has one so-called partner stopped receiving a share of profits but he has also 'stepped back', i.e. he might not be 'carrying on a business in common'.
In any case, the active partner should be concerned about the possibility that the passive partner still has the ability to bind the firm, and the passive partner should be concerned about his exposure, as has already been pointed out.
Interesting view. It depends how many backward steps have been taken. The outgoer still, apparently, has an interest in increasing the capital assets at least. You could argue that either way. I would suggest, however, that "with a view to profit" relates to the partnership, rather than the individual partners.
I deal with a lot of family partnerships who do this all the time to save tax. Depending on the results one year might be 100:0 and next 0:100. As long as it is genuinely a partnership then no problem. Get the partners to sign the accounts.
Not on mine they wont
Joint partnership account
But I do not have many, and trying to get even less
Companies just better all round
Not on mine they wont
Joint partnership account
Just a hunch, but I reckon your technical analysis there would not stand up to serious scrutiny. Joint account probably adds to HMRC's possible lines of attack.
Quote:
Not on mine they wont
Joint partnership accountJust a hunch, but I reckon your technical analysis there would not stand up to serious scrutiny. Joint account probably adds to HMRC's possible lines of attack.
Only if they ask for the accounts.
SA800 shows a joint capital account (which somehow adds weight to the argument that it's grand).
And, of course, there's no obligation to include a Balance Sheet.
SA800 shows a joint capital account (which somehow adds weight to the argument that it's grand).
I'm not 100% on what mean by either "it" or "grand". Assuming you mean "it" to mean "retrospective profit allocation" and "grand" to mean "wholly supported by law/legal precedence" or similar, then HMRC does not think it's grand. See PM137000. (Also somewhere in BIM that I don't remember.)
But this has been discussed at length in here before, for example https://www.accountingweb.co.uk/any-answers/partnership-profit-shares (and probably more recently). So... I'm not expressing a view (Hugo doesn't like that); just pointing you to where you might find out about the law.
Hugo loves views (especially when they're cogent and relevant) ... and if supported by a ref or two then that's the proverbial icing on the cake!
I even enjoy those with which I disagree (lockdown has enforced a need for a bit of virtual discussion or argument) ... unlike some OPs who appear solely to be seeking endorsement (however random or unqualified) of their initial preconception.