Allocation of partnership profits

Partnership income is computed for the whole partnership by reference to the various sources of income for each accounting period. However, the legislation also says that for each tax year in which a firm carries on a trade, each partner’s share of the firm’s trading profits or losses is treated, for the purposes of the Income Tax (Trading and Other Income) Act 2005 (ITTOIA 2005), as profits or losses of a trade carried on by the partner alone (referred to as the “notional trade”) (ITTOIA 2005, s 852).

The “notional trade” is treated as commencing when the firm starts to carry on the actual trade or, if later, the date the partner becomes a partner in the firm. It is treated as ceasing when the firm ceases to trade or, if earlier, the date the partner ceases to be a partner in the firm. But if the partner carries on the partnership business as a sole trader either before others join him in partnership or after all other partners retire from the partnership, the partner is treated as starting to trade on the date the earlier sole trade starts and as ceasing when the later sole trade ceases, as the case may be.Profits are allocated to the partners in accordance with the profit sharing arrangements agreed between them and in force during the relevant period. These cannot be varied retrospectively.It follows that an established partner in an established partnership will pay tax by reference to the share of profits earned in the partnership’s accounting year ending in the relevant tax year. For example, an established partner in an established partnership with a year end of 31 August will be taxed in 2018/19 on the share of tax-adjusted trading profits and other untaxed profits for the year ending on 31 August 2018. Special rules apply on commencement and cessation of the partner’s notional trade and any change of accounting date of the notional trade (which will occur if there is a change in the accounting date of the ‘actual trade’ carried on by the partnership).The partnership is required to make a return of its taxable income under each income heading to HMRC. The division of the profits between the partners will be shown in a partnership statement:

Claims and elections which affect the computation of the partnership profits must be made in the partnership return. This includes claims for pre-trading expenses and capital allowances, where appropriate. It therefore follows that individual partners cannot make supplementary capital allowances claims; rather, they must all be included in the partnership claim.

Claims and elections which only affect the tax liability of an individual partner must be made by that partner in his or her personal tax return. This includes claims for loss relief.

The time limit for making claims, where not otherwise specified, is four years from the end of the tax year to which the claim relates (Taxes Management Act 1970, s 43). Supplementary claims can be made where an error or mistake has been discovered, provided that the time limit for making the original claim has not expired.

From 2013/14 onwards, eligible partnerships may choose to use the ‘cash basis’ (broadly, where they are taxed on the basis of the cash that passes through their books, rather than being asked to spend their time doing calculations designed for big businesses) when calculating taxable profit. In essence, most claims procedures should be simplified, if not eliminated, for those using the scheme.