Potential issue with partnership and limited company?

[Aidan Smyth]

I recently took on a small surveying practice as a client. They bought the practice about 18 years ago for £400k. They wanted to incorporate at the time and could but didn’t want to lose the benefit of the long established trading name and bank overdraft facility which they could not get in a new corporate name. The bank were allowing them a £50k overdraft as a partnership.

The previous accountants set up a new company owned by the three purchasers and formally transferred the staff contracts and drew up a deed of assignment for the cost of the goodwill over the new company. There were about 10 staff - 4 clerical and 6 fee earning. The partnership was the face of the business to the outside world so from a client’s perspective nothing had changed. All new staff contracts are in the name of ABC Limited t/a ABC & Co.

On the basis the company owned the goodwill (always been shown in company accounts as goodwill at cost) it was entitled to charge the partnership a fair market fee rate for its staff time. Each month the company raised an invoice to the partnership for the staff time which for clerical staff was the modest 5% for clerical staff (per HMRC BIM manual) but for fee earners was X 2 times which was what they would charge clients if dealing with them directly. VAT was always accounted for as output tax in the company on the value of supplies and input tax recovered by the partnership. The recharge methodology has been consistently applied throughout the last 17 years. The invoices were paid each month and there was never and inter company / partnership loan issues etc.

The result of the recharges was that the fee income came into the partnership but it then incurred the staff recharges which invariably still left a profit in the partnership. One or two small losses were incurred over the years but nothing of any major significance.

The company income was the recharges less it’s staff costs and it always paid corporate tax on that.

The recharges were always shown as management fees not staff costs on the partnership tax returns.

I don’t know if this structure works? It was done for commercial reasons such as retaining the name so clients would stay and obtaining the bank overdraft etc. The owners though wanted the benefit of lower corporate tax rates and whilst it gave them an advantage it wasn’t huge and they could have incorporated the practice from day one anyway but didn’t want to change the face of the business too much to the outside world.

Does anyone have any thoughts on this structure - would HMRC object on any grounds such as the level of recharges - they seem reasonable enough or does it fall foul of any of the new partnership anti avoidance provisions. It’s not as if the Ltd company is a partner and there are no issues with the 2014 salaried partners etc.

Would it best to continue as is or just end it and incorporate one new business.

Thank you in advance.

[bd6759]

I don't understand why the goodwill was transferred to the company. If the partnership "sold" its goodwill, how could it carry on trading? What did the compmay do with the goodwil it apparently acquired? Did the partners pay CGT on the disposal?

The scheme seems convoluted and serves little purpose.

[Aidan Smyth]

Thank you - effectively the partnership is acting as undisclosed agent on behalf of the company. It bills the work and collects fees and then pays them over to the company. The aim was to keep the name and ensure a smooth transition to the new owners. Does the partnership need the goodwill to trade - many entities trade without owning any goodwill? The idea was I think that because the company owned the goodwill it could earn the profit from the staff time.

The partners transferred the goodwill very soon after acquiring it so there would have been no gain but they think it was disclosed as a capital disposal.

[bd6759]

Sorry, but you clearly do not understand the concept of goodwill.