HMRC wants to abolish the tax return. Abolish in this context means they want to obtain as much information about your income as possible from the people who pay it to you and put it online for you to check and fill in the bits they don’t already know.
So the partnership changes are to enable HMRC to prepopulate partners’ tax returns. In this context, they make sense. Change one, if a partner is a nominee he needs to disclose to the partnership the identity of the beneficial owner so that the profit-share can be allocated to the beneficial owner, not the nominee. This change is a commercial nuisance as it may require a rethink on structuring, but has no tax effect at all.
Change two, the major change is aimed at chains of partnerships. Suppose partnership A has three equal partners, Mr A, Mr B and partnership C. Partnership C has two equal partners, Mr D and partnership E. Partnership E has two equal partners Mr F and G Ltd. What HMRC really want is for partnership A to split its profits 33.33% Mr A, 33.33% Mr B, 16.67% Mr C, 8.33% Mr F and 8.33% G Ltd. That was their original proposal, but consultees said it was impractical. The new version is that partnership A will have to do its tax return on four alternative assumptions.
Why? Go back to the original proposal. If one looks through partnerships A to C, then G Ltd is beneficially a partner of partnership A. Where a partnership includes both individuals and companies, the rules require the partnership profit to be calculated on corporation tax principles. That means that currently when partnership A completes its tax return, it declares the wrong figure to HMRC because none of its own members are companies. HMRC however can see the whole picture. They know about G Ltd. Accordingly they need the tax return of partnership A to be prepared on a corporation tax basis.
If partnership A knows who the ultimate beneficial owners of its profits are, it does not need to prepare four computations. It need prepare only the “right” one. Thus, if partnership A knows about G Ltd, it need to prepare only one computation, the one that is based on corporation tax principles. Of course, if it thinks it knows – but partnership C gave it incorrect information – then it risks HMRC penalising it for not having taken reasonable care.
Change three is that the division of partnership profits has to be expressed in decimals, not fractions or figures. Presumably because HMRC’s computer is an EU computer and cannot readily cope with fractions – or possibly because it can be a lot of extra work for HMRC to convert profit shares into decimals where the partnership agreement divides profits by reference to a formula and, if someone has to do this work, it ought to be the taxpayer who chose to use the complicated formula.
Change four is that, in a chain, the profits of partnership A have to be ringfenced, i.e. kept separate from anything else the “partner” does. This follows logically from pre-population as for it to work the partnership A profits need to be capable of being traced through to the ultimate beneficial owners. This is the nasty bit. What if partnership B incurs expenses? Currently it offsets these against its share of partnership profits. But if that share has to be ring-fenced it cannot continue to do so. That means relief will cease to be available for the expenses of partnership C and partnership E unless they can persuade partnership A to bring their expenses into its profit computation and allocate them to D, F and G Ltd respectively (which is of course the rule that has applied to partnerships for the last 20 years).
Finally, if partnership A chooses to understand the chain rather than prepare four computations each year, there is a risk it could get it wrong, so Mr D, Mr F and G Ltd need to be able to challenge the allocation. They are accordingly given a new right of appeal to the First-Tier Tribunal over this. However, they have no right of appeal over the profit calculation itself because the partnership rules say that the only person entitled to challenge this is the nominated partner of partnership A.
Robert Maas is a chartered accountant, consultant to the Tax Consultancy Department and is one of the UK's leading tax experts.