We often come across partnerships in the context of farming families. These are usually general partnerships, although occasionally they are Limited Liability Partnerships (LLPs). The benefit of an LLP is that it limits the personal lability of the partners; however LLPs require more administration than general partnerships (for example annual accounts must be submitted to Companies House). An LLP might be particularly appropriate where trustees act as partners.
Why use a partnership?
Partnerships offer both flexibility and tax efficiency without the need for a corporate structure.
A partnership structure is, for example, a good way of involving younger members of the family in the farming business, enabling them to receive an income but without necessarily having an interest in the land, which the senior generation(s) of the family may wish to retain for the time being. The partners can agree to alter the income and capital shares of each partner over time, which allows income to be allocated on a tax efficient basis within a family and for capital to be passed to the next generation smoothly.
Written or unwritten?
It is possible for a partnership to exist without a written agreement; the partnership would be governed by the terms of the Partnership Act 1890 (the 1890 Act). However, as this legislation is 130 years old it generally does not reflect the requirements of modern partnerships. For example, under the 1890 Act, if a partner dies, the partnership automatically comes to an end, which is unlikely to be desirable. So we would strongly advise that a written Partnership Agreement is used. This can provide that the partnership should continue after the death of a partner and should set out the arrangements for dealing with the deceased partner's interest (see further below). The Partnership Agreement should have clear provisions about each partner's income and capital interests and the partners' obligations to each other, which will help avoid disagreements between the partners in the future.
Is the land that is farmed by the partnership a partnership asset?
It is also important to be clear in the Partnership Agreement whether the land farmed by the partnership is a partnership asset, or is owned separately by individual partners but used by the partnership. HMRC may ask for written evidence of how the land is held and partnership accounts are not sufficient evidence. This is because, under the Law of Property Act 1925, an interest in land can only be disposed of in writing, signed by the person disposing of it. Therefore showing the land on the partnership's Balance Sheet will not be enough, by itself, to demonstrate that the land is a partnership asset.
The distinction is important because if the land is owned by the partnership, and the partnership is accepted by HMRC as wholly or mainly trading, then Business Property Relief (BPR) from Inheritance Tax will normally be available at the full rate of 100%. However, if the land is owned by a partner and used by the partnership, BPR will be only be available at the lower rate of 50%.
While Agricultural Property Relief (APR) will usually provide relief from Inheritance Tax for farmland, this applies only to the agricultural value of the land, which may be much less than the actual market value of the land. Any 'non-agricultural' value in the land (for example development value) cannot be relieved by APR, but could be relieved by BPR. It can be important, therefore, to ensure that the land is held by the partnership (rather than simply owned by an individual partner), so that the full rate of BPR is available, if needed.
Death of a partner
Careful thought needs to be given to the consequences of the death of a partner.
It is likely that a partner will want their interest in the partnership to be dealt with under the terms of their Will. It is important to remember that a partner cannot leave specific partnership assets by Will, only their interest in the partnership. This needs to be thought about before assets are added to the partnership. If there is, for example, a wish to leave a specific property by means of the Will, it may be better that it does not become a partnership asset at all, though the implications for Inheritance Tax and loss of 100% BPR need to be considered.
It is vital that the Will and Partnership Agreement work in tandem. For example, the Partnership Agreement should usually include a provision to allow anyone to whom a partner leaves their interest to become a partner themselves. Without such a provision, the other partners would need to consent to that person becoming a partner. There may, however, be circumstances where the partners wish to restrict who can become a partner, for example, to the surviving spouse or children of a deceased partner. If one of the partners made a Will leaving their partnership interest to, say, a niece or nephew, then the terms of the Partnership Agreement would prevail and the niece or nephew would not be able to become a partner, unless the remaining partners agreed.
A partner may wish, in their Will, to leave their interest in the partnership to a Trust for the benefit of members of their family. If so, it is important to make sure that the Partnership Agreement allows trustees to be partners and that appropriate provisions are included to govern the trustees' involvement as partners. For example, usually there will be two or more people acting as trustee partners, but the trustees, as a body, should be given only one vote on partnership matters.
All the above points illustrate the importance of having a written Partnership Agreement and the care and expertise which is needed when drawing one up. The best outcome will likely be achieved if the Partnership Agreement is drawn up by your lawyer in close consultation with your accountant and, if appropriate, any land agent. This will ensure that the land ownership arrangements are clear and that the accounts, Will and Partnership Agreement all work together in harmony.
Our experienced and pragmatic team would be very happy to help.
The law is complex and the advice you require will depend on your personal circumstances. This article is for general guidance only. We cannot, therefore, accept any responsibility for actions taken on the basis of this article alone.