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| Partnerships and GST |
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Contact: Peter Hill
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Partnerships are concepts, not things. But any person engaged in an activity in partnership with others needs to understand how those activities will be affected by GST. This is because, for GST purposes, a partnership will indeed be a thing. Here we explore the main GST issues for partnerships.
Who registers?
Before GST registration can occur, there has to be an entity and there has to be at least one enterprise carried on by the entity. It is the entity that registers for GST.
Partners in a partnership will normally be entities for GST purposes. But what is the enterprise? Partners in a law practice, for example, provide professional legal services, but the activity of providing those services is not an activity the partners perform as individuals or individual entities.
Instead, such a person is performing services as a partner in a partnership, and on behalf of all partners. Therefore, and in respect of the professional legal services supplied to clients, it is the partnership which registers for GST, not the individual partners. Though not a common law entity in its own right, the partnership is able to register because the GST law specifically defines "entity" to include a partnership, at s 184 of the main GST Act. (For GST purposes, a partnership has the same meaning as it does for income tax purposes.)
This means that all compliance obligations and entitlements are focused at the partnership level.
Example - Registration
Pradip and Sachin operate a electronic appliance repair business in partnership. Both actively participate in the business by performing the actual repair services. These services, while performed by Pradip and Sachin personally, are not done in their own individual right. Instead, their services are being performed in the capacity of partners in partnership.
Pradip and Sachin are each an entity for GST purposes, being individuals. But so is their partnership. The enterprise is the repair business. As this is being carried on by the individuals in partnership, it is the partnership which registers for GST, not Pradip or Sachin.
Multiple enterprises
Is the holding of an interest in partnership assets an enterprise? Is being a partner in a partnership an enterprise?
If the answer is "yes" to either question, then GST registration will involve an unwieldy doubling up of compliance issues. This is because the transactions giving rise to a GST liability at the partnership level would essentially be the same transactions leading to GST liabilities at the partner level, which is clearly not intended by the legislation.
Some partners will also be carrying on an enterprise in their own right, that is, they may have other business interests apart from being involved in a partnership. When the annual turnover generated by such interests is below the GST registration threshold of $50,000, it is important to be able to recognise the limits of the threshold test.
Example - Multiple enterprises
Lucio is a 50% partner in a trading partnership generating $70,000 in annual turnover. He also owns 2 rental properties. One is a commercial rental property generating $35,000 and the other is a residential property generating $20,000. Does Lucio have to register for GST?
Lucio is not obliged to register for GST. Firstly, the partnership will be registering in relation to the enterprise Lucio carries on in partnership. Lucio is not obliged to register himself in respect of the same enterprise.
Lucio is carrying on an enterprise, being the leases he holds as lessor. But the residential property lease is an input taxed supply and is therefore excluded from the definition of "annual turnover" in Division 188 of the main GST Act. This means Lucio's annual turnover is only $35,000.
Can a partnership be grouped?
Many partnerships, especially professional services partnerships, engage other non-arm's length entities to take care of, for example, the administration of the professional partnership's business. The administration entity charges a fee for performing those services at a mark-up on actual costs. Such transactions will now involve the added cost of GST on the administration fee, thereby creating an adverse cash flow impact.
Partnerships facing GST on the mark-up charged by their service and administration entities will therefore have an inducement to use the grouping concession, which was extended during the passage of the legislation through Federal Parliament to include groups of partnerships and trusts, as well as mixtures of the two and indeed companies.
The actual parameters of the partnership grouping concession will be set by regulation and none have been gazetted as yet. There is a significant risk those regulations will not actually allow a lot of professional partnerships to be grouped with their service entities. This is because many such arrangements do not reflect at least a 90% beneficial ownership in the service or administration entity by the individual partners. Currently, companies can only group for GST purposes if that 90% threshold exists and only at the company level .
Partner expenses
In the absence of special rules, any partner incurring expenditure in their own right, but in relation to their partnership activities, would not be entitled to an input tax credit. Nor would the partnership be entitled to an input tax credit if reimbursing the partner.
Rather than create the need to reorganise partner costs, the Government inserted new Division 111, dealing with reimbursed expenditure, into the GST Act during its passage through Parliament. The rule, which is a concession, works like this:
Step 1 A partner incurs an expense that is directly related to their activities as a partner in the partnership. It is a taxable supply to the partner by the third party, so the partner has incurred a GST-inclusive cost.
Step 2 The partner is reimbursed by the partnership for the expenditure. The amount reimbursed is the GST-inclusive cost. This means the partner's net cost is zero.
Step 3 The partnership claims an input tax credit for the amount of the reimbursement. The entitlement arises in the tax period in which the reimbursement occurs, but the GST return reflecting the input tax credit cannot be lodged before the partnership "holds" the tax invoice originally issued to the partner incurring the original cost.
There are several practical issues associated with the way the reimbursement concession works for partnerships.
First, does the partnership have to actually pay the partner in cash as reimbursement before the partnership can claim the input tax credit?
Mere crediting of the relevant partner's account may not be sufficient to constitute reimbursement because no legal entitlement arises at that point in time. (In other words, if the partnership dissolved immediately after crediting the partner's account, the partner has no legal right of recovery as against the other partners.) The ATO may instead consider that for reimbursement to occur, the partner's next drawdown amount must reflect in part the amount of the reimbursement.
The second practical issue is just how does a partnership "hold" a tax invoice for the purposes of claiming an input tax credit? Not easy when there is no real entity to do the holding. This problem is solved by a special rule that each partner shares the same obligation under the GST law as the partnership does, but any partner can discharge those obligations. This is the effect of section 50(1) of the Taxation Administration Act 1953.
Technically, the partner who originally incurred the reimbursed expenditure can satisfy the obligation of the partnership to hold the tax invoice before claiming the input tax credit by simply... holding onto the tax invoice!
Practically, however, it will be better for the person charged with the responsibility of lodging the partnership's Business Activity Statement (which incorporates the GST return) to be the holder of all tax invoices (issued and received) reflected in each BAS.
GST liability and recovery
The GST law operates on the basis that the partnership has the primary liability to GST, not the partners. This is consistent with liability to FBT but not income tax. Since a partnership is not a legal entity (except limited liability partnerships allowed by some States), actual recovery of GST is targeted at the partners.
This means that all partners are jointly and severally liable to pay any GST payable by the partnership. (Note that any refunds of GST will be paid directly into a bank account nominated by the partnership.) Moreover, each partner is taken to have committed any offence committed by the partnership.
Subsequent legislative and regulatory changes may have impacted upon the subject matter of this article.
Peter Hill
BBus MTax FTIA
Managing Writer - ATP
ATP - GST
October 1999
March, 2001
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