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HMRC internal manual

Savings and Investment Manual

Relief for interest paid: interest in a partnership: return of partnership capital

Return of partnership capital

Capital contributed by a partner may appear in the balance sheet as a credit item separate from his current or drawings account or there may be a single account for both capital and drawings. Where separate accounts are maintained, repayments of capital will usually be apparent and should be dealt with in accordance with SAIM10310. It should not normally be contended that a reduction in the credit balance on the current or drawings account amounts to a constructive repayment of capital, even though the account moves temporarily into debit. Where there is only a single account, drawings should be treated as coming primarily from profits (including past profits and capital profits) credited to it, and to that extent as not being a return of capital.

Example 1

Harry, on becoming a partner in Tom, Dick and Harry on 1 January 2000, pays £5,000 into the firm met partly by a loan of £4,000 on which he pays interest. The £5,000 is credited to an account with the firm used also to record Harry’s share of profits and drawings.

The balance on the account at 31 December 2001 is £7,000, the increase of £2,000 representing undrawn profits. In the year to 31 December 2002, the account is credited with £2,000, Harry’s share of business profits, and £1,000, his share of capital profit. Drawings of £4,000 are debited, leaving a balance of £6,000.

There is no return of capital in 2002, the balance of £6,000 includes the original capital of £5,000 and there is no restriction of the interest claim.

Example 2

The facts are the same as in Example 1, except that in the year to 31 December 2003 the account is credited with £1,000, being a share of business profits, and debited with drawings of £4,000, leaving a balance of £3,000.

£2,000 of the capital has, therefore, been returned (£5,000 less balance of £3,000) and Harry is treated as if he had repaid £2,000 of his £4,000 loan with a consequent restriction of relief for subsequent payments of interest.