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Is your partnership tax-efficient?

Tax efficiency is one of the major deciding factors between different types of companies, particularly for growing businesses which need to minimise costs.

A partnership is one of three main company types that you might choose from, in which two or more people work together to generate a profit. There are three types of partnership:

  • General – The simplest type of partnership, it requires only that owners jointly run the business and share the losses, profits and expenses of the business.
  • Limited – In a limited partnership, there must be at least one general partner who runs the business with unlimited liability and one limited partner, whose liabilities are limited to their initial investment amount as they do not help to run the business.
  • Limited liability – All partners have limited liability, so they are each only liable for the capital they brought to the business.

This is in contrast to a limited company, which has been incorporated, making it a legal entity separate from its shareholders, owners or directors, or a sole trader, which is one individual solely responsible for the running and ownership of a business.

The tax structure of partnerships

Partnerships are not separate entities to their owners, so they themselves are not subject to tax such as Corporation Tax.

Instead, profits are taxed as income via each partner.

Profits may be divided equally among all partners in a business or on a proportional basis determined by the equity each partner has in the firm.

However you choose to divide profits within a partnership, you’ll pay Income Tax and National Insurance on the share of total profits you receive via Self-Assessment.

While this is a straightforward way to run a business and pay tax on earnings, it may not be the most tax efficient business structure, depending on your circumstances.

That said, it is possible to optimise your partnership’s tax setup. Here’s how:

Optimising your tax obligations

Partnerships are designed to be transparent for operational and tax purposes. For this reason, they have a simple tax set up which can be difficult to optimise.

However, you can take the following steps to ensure you aren’t paying more tax than necessary:

  • Plan profit division – In a partnership, you’ll agree with other partners how profits will be divided, so you may want to assess whether your current arrangement takes one or more partners into a higher band of Income Tax.
  • Use all your allowances – Tax is only paid on profits, so ensure you have used your allowable business expenses for costs such as staffing, rents and rates, and operations.
  • Check National Insurance liabilities – Partnerships are not subject to employer National Insurance contributions unless you are part of an LLP with employees, meaning general partnerships can be tax efficient under a certain level of growth.

In the past, a common practice to ensure tax efficiency was known as mixed member partnerships. This is a company structure wherein some of the ‘partners’ were corporations, creating a lower overall tax liability on profits which were then extracted from the company by the individual partner or a relative.

However, bear in mind that this company structure is now subject to anti-avoidance regulations, so you should seek advice if any partners in your business are corporations or non-individuals.

For further advice on making your partnership tax efficient, please contact our expert team today.