Edited version of your written advice

Authorisation Number: 1012896031660

Date of advice: 29 October 2015

Ruling

Subject: Business structure

Question

Were you carrying on a business as a partner in a partnership for tax purposes?

Answer

No.

This ruling applies for the following periods:

Year ended 30 June 2012

Year ended 30 June 2013

Year ended 30 June 2014

Year ended 30 June 2015

The scheme commenced on

1 July 2011

Relevant facts

Z and Y are spouses who had decided to start a business.

They received advice from an accountant to establish the business as a sole trader in Z's name and then decide on whether that was appropriate as the business progressed. This avoided any conflicts of interest with Y's employer as Y worked in the same industry in which the business was to operate.

Z and Y have presented the business to suppliers, customers and other external parties as 'our business'. The business is conducted under trading and brand names, rather than as 'Z' so there is no external promotion of the business being a sole trader affair. The business card has both Z and Y's names.

The business bank accounts are legally held by Z in the name of the business. The merchant facility bears the trading name of the business for the benefit of customers checking their credit card statements.

Y is a signatory to the main business account and has electronic access.

Business accounts are held separately from private finances.

The loan used to finance working capital of the business is jointly held. As business finance was not possible for a start-up business, the loan is a home loan secured against jointly owned real estate.

Z and Y are both involved in the business on a daily basis with some tasks jointly managed and others usually the role of one of them.

Y's involvement during business hours is limited due to his employment.

When the business was started, it was intended the profits would assist the family. As spouses, they made no formal partnership agreement about sharing of net profits.

Y's employment income has also been important in providing working capital for the business.

As spouses, the couple converse daily about the business. There are no formal minutes of meetings.

The formal business records are recorded in Z's name as a sole trader, including tax returns.

No partnership tax returns or Business Activity Statements (BAS) have been lodged.

The BAS for the business have been lodged under the sole trader ABN.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 995.

Reasons for decision

The definition of a partnership under subsection 995-1(1) of the Income Tax Assessment Act 1997 (ITAA 1997) states:

(a) an association of persons (other than a company or a limited partnership) carrying on a business as partners or in receipt of ordinary income or statutory income jointly; or

(b) a limited partnership.

Taxation Ruling TR 94/8 Income tax: whether business is carried on in partnership (including 'husband and wife' partnerships) outlines the factors taken into account in determining whether persons are carrying on a business as partners for income tax purposes.

There are no statutory rules in the income tax law for deciding whether persons are carrying on a business as partners. The question of whether a partnership exists is one of fact.

The following factors are relevant in deciding whether persons are carrying on a business as partners in a given year of income.

Intention

(a) the mutual assent and intention of the parties

Conduct

(a) joint ownership of business assets

(b) registration of business name

(c) joint business account and the power to operate it

(d) extent to which parties are involved in the conduct of the business

(e) extent of capital contributions

(f) entitlements to a share of the profits

(g) business records

(h) trading in joint names and public recognition of the partnership.

The weight to be given to these factors varies with the individual circumstances. The above list of factors is not exhaustive and no single factor is decisive, although an entitlement to a share of net profits is essential.

We will now apply the above factors to the present case:

Intention

Z and Y state that they intended to operate a business together. However, there is no formal written partnership agreement. No formal agreement was made with respect to the sharing of net profits.

Conduct

(a) joint ownership of business assets
Formal business records including leases are in Z's name as a sole trader.

(b) registration of business name
The business name is registered in Z's name as a sole trader. ABN registration is also in Z's individual name.

(c) joint business account and the power to operate it
A joint bank loan account was used to finance the working capital of the business. The other business bank accounts are in Z's name only. Y is signatory to the main business account.

(d) extent to which parties are involved in the conduct of the business.
Z and Y were both involved in the setting up of the business and both undertake tasks for the business.

(e) extent of capital contributions
An initial joint loan was used to finance the working capital of the business.

(f) entitlement to a share of net profits
There is no evidence of how the business income will be shared.

(g) business records
All formal business records are in Z's name. Tax returns and BAS have been lodged under Z's ABN as a sole trader. No tax returns, BAS or other business records are kept in the name of the partnership.

(h) trading in joint names and public recognition of the partnership.
The lease is in Z's name. Customers and other parties deal with both Z and Y.

Although Z and Y state that it was their intention to operate a partnership, this is not sufficient in itself to establish a partnership. As stated in TR 94/8, 'the intention must be manifested by conduct'. That is, the actions of the relevant persons involved must be consistent with a partnership having been established.

Some of those actions in this case may be interpreted as being consistent with this, being Y's involvement in the business by contributing funds and assisting with the running of the business. However, these actions are also consistent with him simply wanting to help Z succeed in the business. Therefore, we must look at Z and Y's other actions in relation to the business.

The first and most important action that was taken is in relation to how the business was set up. Rather than structuring the business as a partnership, in order to avoid any conflict of interest with Y's employer, the business was set up with Z being a sole trader. This was a conscious decision by Z and Y after taking advice from an accountant.

Although the couple's current accountant has described their actions in establishing the business as a sole trader as being misguided, nevertheless this is what occurred. As they made a conscious decision to operate the business as a sole trader, Y's involvement in the business is considered to be that of a person helping their spouse in their sole trader business rather than as a partner carrying on a business in partnership.

Although the couple may have intended to review whether this structure was still appropriate as the business progressed, no action has been taken to change the structure. Rather, Y has simply continued to help with the business as he always has. If the structure was no longer appropriate they could have amended the business name registration and ABN records to add Y as a partner. However, as this has not occurred, any parties with dealings or potential dealings with the business who looked up the business on ASIC's registers to confirm who the business owner was would still find that Z owned the business as a sole trader.

It has been contended that the fact that formal documents such as leases and tax returns have been completed in accordance with the business being operated as a sole trader is not significant as this was a necessary consequence of the 'misguided' establishment of the business in Z's name only. However, if at any time when completing these documents, it was felt that the operation of the business was not being accurately recorded, Z and Y could have taken action, as mentioned above, to have the relevant records amended to add Y as a partner.

It has also been argued that the record keeping was not changed due to various personal and financial circumstances. Nevertheless, the fact that the business has been conducted for several years with the formal documents during that time being completed in accordance with the business being operated as a sole trader is considered to be significant.

It is common for couples to be involved in a business. This does not mean that all of these businesses are operated as partnerships. In some cases the couple may decide to operate the business as a partnership while in other cases they may decide that one of the spouses should operate the business as a sole trader with the other spouse providing assistance.

In this case the facts indicate that Z and Y decided on the latter and their actions subsequent to this are all consistent with that decision. However, now they have been advised that the initial guidance that they relied on to make that original decision was flawed and the business should be operated as a partnership.

Once they have chosen to change the business structure and taken action to carry out that change (such as, altering the business registration) then the business will be considered to be operating as a partnership from that time.

However, they are not able to backdate that change to when the business commenced. The fact remains that although they may now view the original advice they received as flawed, they chose to follow the advice at the time and established the business as a sole trader. Their subsequent behaviour such as signing leases and recording all the business's tax affairs in Z's name only was consistent with this.

Therefore it is considered that the business has not been carried on in partnership for tax purposes. Rather Z has been operating as a sole trader and as such all income and deductions relating to the business should be declared on their individual tax returns. Y is not entitled to any share of the business income or expenses.

For future years, if Z and Y wish to operate the business as a partnership, the ABN and business name registration should be amended accordingly. Invoices and other business documents should be issued under the partnership ABN. From the time this occurs it will be accepted that the business is operating as a partnership.