Statement of practice D12: full text
This statement of practice was originally issued by The Commissioners for HMRC on 17 January 1975 following discussions with the Law Society and the Allied Accountancy Bodies on the Capital Gains Tax treatment of partnerships. This statement sets out a number of points of general practice which have been agreed in respect of partnerships to which TCGA92/S59 applies.
The enactment of the Limited Liability Partnership Act 2000, has created, from April 2001, the concept of limited liability partnerships (as bodies corporate) in UK law. In conjunction with this, new Capital Gains Tax provisions dealing with such partnerships have been introduced through TCGA92/S59A. TCGA92/S59A(1) mirrors TCGA92/S59 in treating any dealings in chargeable assets by a limited liability partnership as dealings by the individual members, as partners, for Capital Gains Tax purposes. Each member of a limited liability partnership to which TCGA92/S59A(1) applies has therefore to be regarded, like a partner in any other (non-corporate) partnership, as owning a fractional share of each of the partnership assets and not an interest in the partnership itself.
This statement of practice has therefore been extended to limited liability partnerships which meet the requirements of TCGA92/S59A(1), such that capital gains of a partnership fall to be charged on its members as partners. Accordingly, in the text of the statement of practice, all references to a ‘partnership’ or ‘firm’ include reference to limited liability partnerships to which TCGA92/S59A(1) applies, and all references to ‘partner’ include reference to a member of a limited liability partnership to which TCGA92/S59A(1) applies.
For the avoidance of doubt, this statement of practice does not apply to the members of a limited liability partnership which ceases to be ‘fiscally transparent’ by reason of its not being, or its no longer being, within TCGA92/S59A(1).
Valuation Of A Partner’s Share In A Partnership Asset
Where it is necessary to ascertain the market value of a partner’s share in a partnership asset for Capital Gains Tax purposes, it will be taken as a fraction of the value of the total partnership interest in the asset without any discount for the size of his share. If, for example, a partnership owned all the issued shares in a company, the value of the interest in that holding of a partner with a one-tenth share would be one-tenth of the value of the partnership’s 100 per cent holding.
Disposals Of Assets By A Partnership
Where an asset is disposed of by a partnership to an outside party each of the partners will be treated as disposing of his fractional share of the asset. In computing gains or losses the proceeds of disposal will be allocated between the partners in the ratio of their share in asset surpluses at the time of disposal. Where this is not specifically laid down the allocation will follow the actual destination of the surplus as shown in the partnership accounts; regard will of course have to be paid to any agreement outside the accounts. If the surplus is not allocated among the partners but, for example, put to a common reserve, regard will be had to the ordinary profit sharing ratio in the absence of a specified asset-surplus-sharing ratio. Expenditure on the acquisition of assets by a partnership will be allocated between the partners in the same way at the time of the acquisition. This allocation may require adjustment, however, if there is a subsequent change in the partnership sharing ratios (see paragraph 4).
Partnership Assets Divided In Kind Among The Partners
Where a partnership distributes an asset in kind to one or more of the partners, for example on dissolution, a partner who receives the asset will not be regarded as disposing of his fractional share in it. A computation will first be necessary of the gains which would be chargeable on the individual partners if the asset had been disposed of at its current market value. Where this results in a gain being attributed to a partner not receiving the asset the gain will be charged at the time of the distribution of the asset. Where, however, the gain is allocated to a partner receiving the asset concerned there will be no charge on distribution. Instead, his Capital Gains Tax cost to be carried forward will be the market value of the asset at the date of distribution as reduced by the amount of his gain. The same principles will be applied where the computation results in a loss.
Changes In Partnership Sharing Ratios
An occasion of charge also arises when there is a change in partnership sharing ratios including changes arising from a partner joining or leaving the partnership. In these circumstances a partner who reduces or gives up his share in asset surpluses will be treated as disposing of part of the whole of his share in each of the partnership assets and a partner who increases his share will be treated as making a similar acquisition. Subject to the qualifications mentioned at 6 and 7 below the disposal consideration will be a fraction (equal to the fractional share changing hands) of the current balance sheet value of each chargeable asset provided there is no direct payment of consideration outside the partnership. Where no adjustment is made through the partnership accounts (for example, by revaluation of the assets coupled with a corresponding increase or decrease in the partner’s current or capital account at some date between the partner’s acquisition and the reduction in his share) the disposal is treated as made for a consideration equal to his Capital Gains Tax cost and thus there will be neither a chargeable gain nor an allowable loss at that point. A partner whose share reduces will carry forward a smaller proportion of cost to set against a subsequent disposal of the asset and a partner whose share increases will carry forward a larger proportion of cost.
The general rules in TCGA92/S42 for apportioning the total acquisition cost on a part-disposal of an asset will not be applied in the case of a partner reducing his asset-surplus share. Instead, the cost of the part disposed of will be calculated on a fractional basis.
Adjustment Through The Accounts
Where a partnership asset is revalued a partner will be credited in his current or capital account with a sum equal to his fractional share of the increase in value. An upward revaluation of chargeable assets is not itself an occasion of charge. If, however, there were to be a subsequent reduction in the partner’s asset-surplus share, the effect would be to reduce his potential liability to Capital Gains Tax on the eventual disposal of the assets without an equivalent reduction of the credit he has received in the accounts. Consequently at the time of the reduction in sharing ratio he will be regarded as disposing of the fractional share of the partnership asset represented by the difference between his old and his new share for a consideration equal to that fraction of the increased value at the revaluation. The partner whose share correspondingly increases will have his acquisition cost to be carried forward for the asset increased by the same amount. The same principles will be applied in the case of a downward revaluation.
Payments Outside The Accounts
Where on a change of partnership sharing ratios payments are made directly between two or more partners outside the framework of the partnership accounts, the payments represent consideration for the disposal of the whole or part of a partner’s share in partnership assets in addition to any consideration calculated on the basis described in 4 and 5 above. Often such payments will be for goodwill not included in the balance sheet. In such cases the partner receiving the payment will have no Capital Gains Tax cost to set against it unless he made a similar payment for his share in the asset (for example, on entering the partnership) or elects to have the market value at 6 April 1965 treated as his acquisition cost. The partner making the payment will only be allowed to deduct the amount in computing gains or losses on a subsequent disposal of his share in the asset. He will be able to claim a loss when he finally leaves the partnership or when his share is reduced provided that he then receives either no consideration or a lesser consideration for his share of the asset. Where the payment clearly constitutes payment for a share in assets included in the partnership accounts, the partner receiving it will be able to deduct the amount of the partnership acquisition cost represented by the fraction he is disposing of. Special treatment, as outlined in 7 below, may be necessary for transfers between persons not at arm’s length.
Transfers Between Persons Not At Arm’s Length
Where no payment is made either through or outside the accounts in connection with a change in partnership sharing ratio, a Capital Gains Tax charge will only arise if the transaction is otherwise than by way of a bargain made at arm’s length and falls therefore within TCGA92/S17 extended by TCGA92/S18 for transactions between connected persons. Under TCGA92/S286(4) transfers of partnership assets between partners are not regarded as transactions between connected persons if they are pursuant to genuine commercial arrangements. This treatment will also be given to transactions between an incoming partner and the existing partners.
Where the partners (including incoming partners) are connected other than by partnership (for example, father and son) or are otherwise not at arm’s length (for example, uncle and nephew) the transfer of a share in the partnership assets may fall to be treated as having been made at market value. Market value will not be substituted, however, if nothing would have been paid had the parties been at arm’s length. Similarly if consideration of less than market value passes between partners connected other than by partnership or otherwise not at arm’s length, the transfer will only be regarded as having been made for full market value if the consideration actually paid was less than that which would have been paid by parties at arm’s length. Where a transfer has to be treated as if it had taken place for market value, the deemed disposal will fall to be treated in the same way as payments outside the accounts.
Annuities Provided By Partnerships
A lump sum which is paid to a partner on leaving the partnership or on a reduction of his share in the partnership represents consideration for the disposal by the partner concerned of the whole or part of his share in the partnership assets and will be subject to the rules in 6 above. The same treatment will apply when a partnership buys a purchased life annuity for a partner, the measure of the consideration being the actual costs of the annuity.
Where a partnership makes annual payments to a retired partner (whether under covenant or not) the capitalised value of the annuity will only be treated as consideration for the disposal of his share in the partnership assets under TCGA92/S37(3), if it is more than can be regarded as a reasonable recognition of the past contribution of work and effort by the partner to the partnership. Provided that the former partner had been in the partnership for at least ten years an annuity will be regarded as reasonable for this purpose if it is no more than two-thirds of his average share of the profits in the best three of the last seven years in which he was required to devote substantially the whole of this time to acting as a partner. In arriving at a partner’s share of the profits regard will be had to the partnership profits assessed before deduction of any capital allowances or charges. The ten year period will include any period during which the partner was a member of another firm whose business has been merged with that of the present firm. For lesser periods the following fractions will be used instead of two-thirds:
|Complete years in partnership||Fraction|
|1 - 5||1/60 for each year|
Where the capitalised value of an annuity is treated as consideration received by the retired partner, it will also be regarded as allowable expenditure by the remaining partners on the acquisition of their fractional shares in partnership assets from him.
Where the members of two or more existing partnerships come together to form a new one, the Capital Gains Tax treatment will follow the same lines as that for changes in partnership sharing ratios. If gains arise for reasons similar to those covered in 5 and 6 above, it may be possible for roll-over relief under TCGA92/S152 to be claimed by any partner continuing in the partnership insofar as he disposes of part of his share in the assets of the old firm and acquires a share in other assets put into the ‘merged’ firm. Where, however, in such cases the consideration given for the shares in chargeable assets acquired is less than the consideration for those disposed of, relief will be restricted under TCGA92/S153.
Shares Acquired In Stages
Where a share in a partnership is acquired in stages wholly after 5 April 1965, the acquisition costs of the various chargeable assets will be calculated by pooling the expenditure relating to each asset. Where a share built up in stages was acquired wholly or partly before 6 April 1965 the rules in TCGA92/Sch2/Para18, will normally be followed to identify the acquisition cost of the share in each asset which is disposed of on the occasion of a reduction in the partnership’s share; that is, the disposal will normally be identified with shares acquired on a ‘first in, first out’ basis. Special consideration will be given, however, to any case in which this rule appears to produce an unreasonable result when applied to temporary changes in the shares in a partnership, for example those occurring when a partner’s departure and a new partner’s arrival are out of step by a few months.
Elections Under TCGA92/SCH2/Para4
Where the assets disposed of are quoted securities eligible for a pooling election under paragraph 4 of TCGA92/Sch2, partners will be allowed to make separate elections in respect of shares or fixed interest securities held by the partnership as distinct from shares and securities which they hold on a personal basis. Each partner will have a separate right of election for his proportion of the partnership securities and the time limit for the purposes of Schedule 2 will run from the earlier of -
- the first relevant disposal of shares or securities by the partnership and
- the first reduction of the particular partner’s share in the partnership assets after 19 March 1968.
Partnership Goodwill And Taper Relief
This paragraph applies where the value of goodwill which a partnership generates in the conduct of its business is not recognised in its balance sheet and where, as a matter of consistent practice, no value is placed on that goodwill in dealings between the partners. In such circumstances, the partnership goodwill will not be regarded as a ‘fungible asset’ (and, therefore, will not be within the definition of ‘securities’ in section TCGA92/S104(3) for the purpose of Capital Gains Tax taper relief under TCGA92/S2A. Accordingly, on a disposal for actual consideration of any particular partner’s interest in the goodwill of such a partnership, that interest will be treated as the same asset (or, in the case of a part disposal, a part of the same asset) as was originally acquired by that partner when first becoming entitled to a share in the goodwill of that partnership.
The treatment described in the preceding paragraph will also be applied to goodwill acquired for consideration by a partnership but which is not, at any time, recognised in the partnership balance sheet at a value exceeding its cost of acquisition nor otherwise taken into account in dealings between partners. However, such purchased goodwill will continue to be treated for the purpose of computing capital gains tax taper relief as assets separate from the partnership’s self- generated goodwill. On a disposal or part disposal for actual consideration of an interest in such purchased goodwill by any particular partner, that interest shall be treated for taper relief purposes as acquired either on the date of purchase by the partnership or on the date on which the disposing partner first became entitled to a share in that goodwill, whichever is the later.