A “mixed partnership” is a partnership or Limited Liability Partnership (LLP) that includes at least one non-individual. An excess profits allocation rule applies if a mixed partnership makes a taxable profit and either of the following conditions apply:
- Condition X: the profits represent deferred profit of an individual member (A), or
- Condition Y: an individual partner A meets the power to enjoy condition, in relation to any element of the profit share allocated to the non-individual partner, and
- As a result, an individual member’s profit share and their relevant tax amount are lower than they would have been, had the profits been allocated to him or her, rather than the non-individual.
- In respect of Conditions X and Y it must be “reasonable to assume” that:
- A’s profit share is less than it would be in the absence of the profit deferral arrangements or the circumstances that lead to the power to enjoy condition being met, and
- Less tax is paid as a result of the allocation of profits to the non-individual.
The intention of the legislation is to tax the individual:
- On the profit shares that would have been allocated to him or her had the profit deferral arrangements not existed, or
- That reflects a taxpayer’s power to enjoy the profits.
For non-deferred profit arrangements, the additional taxable profit is the non-individual’s “excess profit”, which is the appropriate notional profit of the non-individual less the profit allocated to that non-individual under the arrangement.
When the legislation applies
Condition X applies if an individual member’s deferred profits are included in the non-individual member’s profit share, and
Condition Y applies if:
- A profit share is more than its appropriate notional profit
- The individual member has the power to enjoy the profit share allocated to the non-individual member, and
- It is reasonable to assume that the non-individual member’s profit share is (in part or in full) attributable to the individual’s power to enjoy it.
A non-individual partner is a partner of a general partnership or LLP that is anything, which is not a natural person and therefore includes:
- LLPs, and
- Individuals acting as trustees.
The term does not include an alternative investment fund manager, if that fund manager has elected to be treated as a partner itself.
“Appropriate notional profit”
This term has two aspects:
- The appropriate notional return on capital, which is the commercial rate of interest on the capital contributed; and, as such, is not a set rate, but merely reflects the level of risk involved, and
- The appropriate notional consideration for services, which is the arm’s length value of the services provided, less any amount received by the relevant individual for those services.