Using Partnerships to Succession Plan
By Eoin Tobin
21 June, 2018
Partnership is basically a way of working together.
When most people think about partnerships they probably think of firms of solicitors or accountants.
In actual fact partnerships can be used in many other ways including as a succession planning tool for business owners and parents.
Partnership is defined in the Partnership Act 1890 as a “relationship which subsists between persons carrying on business in common with a view to a profit”.
Unlike its counterpart, the limited liability company, there can be little formality in setting up a partnership. This can be both a good and a bad thing.
Some advantages to using a partnership are:
- Setting up and running a partnership is quite straightforward.
- The partnership does not have to file public returns or accounts unless it is a limited partnership.
- The partnership is tax transparent with each partner paying tax on their share of profits.
- From a succession planning perspective, partnerships can serve as a useful legal structure to involve children in the business while at the same time the parent / founder retaining control.
Some disadvantages to using a partnership include:
- Partnerships do not attract limited liability. It would therefore be important to maintain appropriate insurances to protect the business. Using a limited partnership can in certain circumstances mitigate this risk.
- The profits and losses of the partnership are shared, without limit, by each of the partners.
- A partner can be made liable for another partner’s acts.
- Partnership law is not as modern in its approach as company law so some of its concepts can be outdated.
- In the absence of a partnership agreement certain “default” provisions from the Partnership Act 1890 can apply which could lead to unintended results.
A major disadvantage of the partnership model is that the partners have joint and several liability for the debts of the partnership. This means if the business incurs debts its creditors can seek recovery from any one (or more) of the partners in full (and not just the partner who may have incurred them on behalf of the partnership). Similarly, the partners are jointly and severally liable for any claims made against the partnership, such as if it was being sued.
To address this disadvantage the concept of a ‘Limited Partnership’ was introduced by legislation in 1907. In a limited partnership there must a general partner (who takes responsibility for managing the running of the business) and limited partners (who effectively are silent investors).
Provided the limited partners do not engage in the running of the business their liability is limited to the amount of funds which they have contributed to the partnership, much in the same way as shareholders in private companies.
The general partner, however, has unlimited liability, and for this reason a limited liability company often acts as the general partner. One disadvantage of limited partnerships is that the limited partners are restricted by tax legislation from claiming loss relief on any losses they may incur.
As limited partners cannot engage in the running of the business a limited partnership may not be suitable for succession planning in the context of a family business where the next generation is being brought on board to learn the ropes. If however the succession planning involves passive investment by family members then the limited partnership model may be the way to go.
The partnership model has become popular in recent times in the farming sector.
Farm partnerships are not a new concept and farmers have been joining forces through partnership arrangements for many years. There are many reasons for entering in such partnerships, but they are used primarily as a strategy to develop larger farm enterprises and increase scale by managing two previously independent enterprises together. Partnerships helped to increase efficiency by consolidating land and facilities and by developing new management strategies and business plans.
There are tax advantages associated with registering a partnership on the Department of Agriculture Food and Marine register of farm partnerships. These include enhanced stock relief and being able to avail of the Succession Farm Partnership Scheme.
Family partnerships, as they are commonly known, have also enjoyed something of a renaissance in recent times. Recovering asset values and a record high capital acquisitions tax take in 2017 are leading individuals and business owners to increasingly think about what they will do with their wealth in the current high tax environment.
A family partnership is a way for the parents and children, or other family members, to work together and hopefully benefit each other in the process. In the family partnership model, parents typically gift cash, assets or investments to their children on the proviso that they are held in a family partnership.
The family partnership is a legal mechanism to allow ownership and control of those assets and investments to be split.
The children will typically own the assets so that any growth in value will be accrue directly to them. This eliminates a layer of tax which would otherwise arise if the parents had to subsequently “gift” the growth to the children.
At the same time the parents will retain control over what is done with the assets and investments so that they manage this part of the venture. This is done by the parents assuming the role of managing partner.
In time the parents can step back from their “protector” role and responsibility for managing the assets and investments can be assumed by the children at a time when they are ready and able for it.
In conclusion, it can be seen from the above snapshot that there are many different ways in which partnerships can be used as a succession planning tool. If you are going to go down any of these routes it is important to put a partnership agreement in place and to take appropriate legal and taxation advice so that the journey starts from the right place, everyone knows where they are going and what they have to do!