What is a partnership?
A partnership is two or more people acting jointly in a trade or profession with a view to making a profit. An individual and their spouse/civil partner can be in a partnership, e.g. farmers.
The partnership does not have a separate legal identity. The profits and losses and debts of the partnership are those of the partners personally, in relation to their share of the partnership.
The liability of each partner for the debts of the partnership is unlimited.
Automatic accrual of goodwill
Many professional partnerships, e.g. accountants and solicitors, may have a partnership agreement which provides for automatic accrual of goodwill, i.e.:
- On death or retirement of a partner, no payment is made by the surviving/continuing partners in respect of the partnership goodwill, i.e. no payment is made in respect of the value of the partnership’s ability to generate future profits arising from its established reputation, expertise and client base.
Instead the partnership goodwill is said to accrue from one generation to another without payment, hence the term ‘automatic accrual of goodwill’. Therefore, the partners benefit from the partnership goodwill through their share of the partnership profits only while they are partners.
- To compensate for the loss of entitlement to any goodwill payment on death, each partner may be required under the terms of the partnership agreement to effect and maintain a Section 785 life assurance policy on his or her own life for an agreed minimum level of life cover and/or at a specified level of premium.
- To compensate for the loss of entitlement to any goodwill payment on retirement, each partner may be required under the terms of the partnership agreement to effect and contribute to a pension at a certain minimum level of contribution.
- To ensure that the life insurance policies and pension contracts are maintained at the agreed levels, the relevant premiums and contributions may be paid from a partnership account:
- The amount paid on behalf of each partner is treated as a drawing made by that partner for income tax purposes. It is therefore added back to each partner’s share of the partnership income, for income tax purposes.
- However, each partner may be able to claim income tax relief (but not for USC or PRSI purposes) on the relevant premium/contribution added back to this share of the partnership income.
Therefore, in professional partnerships, a partner’s provision for retirement may be linked in, in part at least, to the partnership.
Some professional partnerships may provide for a ‘partnership pension’ to be paid by the partnership to a retired partner for a limited period, e.g. 5 years, after retirement. This pension is taxable under PAYE in the hands of the recipient.
Retirement provision options
The partner has a number of options with regard to using such income to make financial provision for retirement:
- contribute to a pension, where the contribution is deductible for income tax (but not for PRSI or USC) within the normal Net Relevant Earnings and age related limits.
- reinvest in the business, e.g. a partner who leaves his or her (after tax) profits in the partnership to increase his capital account, with a view to drawing on his or her capital account at retirement.
- accumulate capital from after tax income in one or more savings and investment vehicles, such as:
- property investment, usually with borrowing
- collective investment funds
- individual stocks and shares
- life assurance investment bonds
- pay down personal and/or business debts.
- invest in tax incentivised investments such the Employment & Investment Incentive (EII) schemes.
So there may be a number of positive and negative influencing factors at play in a client’s decision to make or not make a contribution to a pension
|Make contribution now||Don’t make contribution now|
|Age – nearer retirement||Age – further from retirement - defer|
|Reduce income tax liability now||Affordability|
|Perceived tax efficiency||Lack of access|
|Positive personal attitude to financial planning and saving for the future||Negative personal attitude to financial planning and saving for the future|