Forming a farming partnership: tax advice

• Income tax
• Capital gains tax
• Inheritance tax
• Stamp duty land tax
• Annual tax on enveloped dwellings
• Long-term tax planning
• Partnerships and VAT
• Accounting start-up checklist

A partnership may be formed where you are starting a completely new business or where you wish to introduce other people (or entities, such as trusts or companies) into an existing farming business.

Nicola Anderson
Partner
PEM

Once established, the partnership will need to operate like any other business, with a formal business plan and regular partners’ meetings.

Formal accounts should be prepared and an annual partnership tax return must be made. Failure to complete the tax return results in penalties.

Apart from questions concerning who is to be a partner and with what responsibilities and shares, there are several important administrative points.

These include notifying HMRC, setting up the VAT registration and payroll schemes, opening a partnership bank account, drawing up a partnership agreement and ensuring legal documents correctly reflect the partnership (see “Accounting start-up checklist”).

There are many aspects of tax to consider and some can be complicated, so it is important to allow plenty of time for the correct decisions to be made for the family and for the business.

What is beneficial for one aspect of tax can sometimes conflict with what is desirable in the light of another.

A partnership offers income tax flexibility, especially in a family situation where several members across different generations are involved.

It can permit personal allowances to be used to the full, reducing the overall tax burden.

The partnership is treated as transparent for income tax, national insurance and capital gains tax; this means that each partner is effectively treated as carrying on the business on their own account.

While the partnership produces tax accounts, it does not pay tax itself. The partnership tax return reports how income, profits, losses and any capital proceeds are shared.

These figures are then reported on individual partners’ tax returns and it is their responsibility to pay the tax and class 4 national insurance due on their share.

A partner’s taxable income is usually different from the amount he or she has drawn from the partnership during its accounting year.

The partners will typically draw a regular weekly or monthly sum from the partnership account into their personal accounts, while their shares of the taxable profit will not be known until annual accounts and tax computations have been prepared after the accounting year-end.

Beware when introducing an asset to a partnership as this may create tax liabilities even if no money changes hands. Professional advice should be sought to avoid these unexpected liabilities.

Assets that will be used by the partnership but could be sold in the short-term may be better held outside of the partnership.

For example, the disposal of an asset held personally at the same time as a partner partly or fully withdraws from the partnership may qualify for entrepreneur’s relief (ER) from CGT, whereas an asset owned by the partnership may not.

The benefit of a successful claim for ER is that tax could be payable at 10% on the capital gain (up to a lifetime limit of £10m) rather than at a maximum rate of 28%.

This is an area currently under scrutiny by HMRC and it is important to take advice if you have assets that may be sold producing a significant gain, as structuring correctly may avoid large potential tax liabilities.

The majority of farming assets will qualify for either agricultural property relief (APR) or business property relief (BPR) from inheritance tax.

The rates of relief for both APR and BPR are either 50% or 100%.

APR is generally available to an individual at 100% unless that person owns land let on a pre-1995 tenancy (often the case within family partnerships, where the partnership is the tenant).

Where this is the case, seek advice to confirm the rate of relief in your circumstances.

The lower rate of BPR will apply where assets are held outside of the partnership.

The rate at which BPR is due could be improved by holding assets in the partnership.

There can also be benefits from including assets not used in the farming trade in the partnership –for example, a let property business – if the overall business is mainly the farming trade.

A review of the business and succession plan should be made at the outset to understand what the family’s intentions are so that the tax aspects can be put in place.

Introducing land into the partnership could trigger an SDLT liability even though no money changes hands.

Generally speaking, land can be moved into family partnerships without incurring any SDLT; however, if any partners are not “connected” for tax purposes, SDLT may be due.

For example, this could apply in a partnership comprising an uncle and nephew as they would not meet the “connected persons” test.

Some partnerships include a company as a partner either due to historical structures or perhaps where a company has been introduced to try to reduce potential tax liabilities for the partners.

Where this is the case, care is needed if any of the residential properties owned by the partnership are worth more than £500,000, as ATED is an annual tax on larger-value houses owned by companies or businesses associated with them.

Reliefs from the ATED charge may be available, but regardless of these, a return must be filed to avoid penalties.

There can be tax advantages in having separate partnerships with different partners farming parts of your farm or carrying on separate activities.

For example, you may want to set up a separate land partnership to farm a specific area of the land with development potential, with a view to securing ER from CGT on the eventual sale.

A carefully structured disposal qualifying for ER can reduce the tax rate on the gain to 10% compared with a charge of up to 28% in other circumstances.

In this type of scenario it is possible to include partners who are not historically working full-time on the farm but who you would like to benefit should the development potential be realised.

This type of structuring requires careful planning as several points need to be considered well in advance of any disposal to ensure the relief is available.

Existing sole trade businesses

If the partnership has been created by introducing additional people into an existing farming business, there is likely to be what is known as a “transfer of a going concern” for VAT purposes.

Under this, the original business owner can transfer all of its assets and liabilities to the partnership without having to account for any VAT on the disposal.

The original proprietor may need to deregister from VAT, in which case the partnership could take on the VAT number of the original business.

New businesses

Although a new partnership may not breach the compulsory VAT registration threshold (of £82,000 turnover) for some time, it is likely to be in the partnership’s interest to voluntarily register for VAT as early as possible.

VAT registration will enable the partnership to reduce its costs by recovering the VAT it incurs on its expenses – including a generous recovery of VAT against repairs, maintenance and even alteration of the farmhouse and of any accommodation provided for employees.

– Notify HMRC of the business within three months of commencement; failure to do so can lead to penalties. The notification process will register you with HMRC for NI contributions and for submission of partnership tax returns.

– Consider whether to register for VAT (see “Partnerships and VAT”).

– If there are employees, you must register as an employer and a PAYE scheme must be set up.

– Draw up a partnership agreement setting out the terms of the partnership.

– Separate partnership bank accounts must be set up for the business.

– Formal documentation, such as leases and land registry, need to correctly identify the partnership as the tenant/owner if this is the case.

– Annual accounts and tax returns will need to be submitted by the partnership. Failure to submit the partnership return will incur penalties.

PEM is an accountants based in Cambridge with a specialist agriculture division.