Partnerships and the new capital gains tax in practice

What is the capital gains tax?

A capital gain arises when a financial asset is sold for a price higher than its acquisition value. The difference between the two amounts is subject to tax.

Importantly, the tax only applies where there is a transfer of ownership for consideration. In other words, a sale, exchange or other transfer for which compensation is paid. Gifts and inheritances fall outside the scope of the tax because no consideration is involved.

A partition of jointly owned assets may also be treated for tax purposes as a transfer for consideration and may therefore trigger capital gains tax. However, a statutory exemption applies between heirs where the partition takes place within three years of a death. If the division occurs after that period, capital gains tax may in principle become payable.

For a detailed overview of the applicable rates, scope and exemptions, we refer to our previously published article on capital gains tax.

A closer look at partnerships

A partnership without legal personality is a widely used instrument for managing family wealth. Parents may, for example, contribute their investment portfolio to a partnership and subsequently transfer the partnership interests to their children, while retaining management and/or control rights through their position as managing partners.

However, partnerships are not immune to the impact of the new capital gains tax.

Below, we examine three situations that may trigger the tax:

• the contribution of assets to a partnership;

• transactions carried out during the lifetime of the partnership;

• the dissolution of the partnership.

1. Contribution to a partnership

When an individual contributes financial assets to a partnership and receives partnership interests in return, a transfer for consideration generally takes place. This may result in a taxable capital gain.

However, several important exceptions exist where no capital gains tax is due.

No effective transfer of ownership

Where no economic transfer of ownership takes place, no taxable capital gain arises.

For example, where two spouses each own 50% of an investment portfolio, contribute it to a partnership and each receive 50% of the partnership interests.

Contribution without the issuance of new partnership interests

Assume a mother and her child each hold half of the partnership interests. If the mother subsequently contributes an investment portfolio without any new interests being issued, there is a transfer, but not one for consideration.

In practice, this constitutes an indirect gift in favour of the child.

Contribution of shares

The contribution of shares themselves benefits from a statutory exemption from capital gains tax.

The actual tax consequences therefore depend largely on how the contribution is structured from a legal perspective.

2. Transactions carried out through the partnership

During its existence, the partnership manages the family wealth contributed to it.

Importantly, the partnership itself is not a taxpayer. It is fiscally transparent, meaning that all transactions are attributed directly to the partners for tax purposes.

Many transactions must now be assessed in light of the new capital gains tax.

For example, transfers for consideration of financial assets held within a partnership fall within the scope of the tax. A typical example is the sale of listed securities held in a portfolio owned by the partnership.

According to the Minister, the same applies to the transfer of partnership interests issued by the partnership itself during its lifetime.

An effective capital gains tax charge presupposes that a gain is realised because:

• an asset leaves the estate; and

• another asset of higher value is acquired.

Where the partnership realises such a gain, it will be taxable at the level of the partners.

3. Dissolution of the partnership

Particular care is also required when dissolving a partnership.

Where assets are distributed, in whole or in part, among the partners, the tax authorities may regard this as a transfer for consideration. As a result, capital gains tax may become due again, even if no sale takes place and no cash is received.

For example, where an investment portfolio previously contributed to the partnership is allocated among the partners upon dissolution, that allocation may in principle trigger capital gains tax.

One possible way to avoid this outcome is to maintain joint ownership of the portfolio among the partners after the dissolution, without carrying out an actual division. Whether this is desirable in practice will depend on the specific family and wealth-planning circumstances involved.

Conclusion

If you currently use a partnership as part of your family wealth planning strategy, it is important to assess not only the existing structure but also any future transactions and the implications of a potential dissolution.

A prior analysis can help avoid unexpected tax consequences and ensure that your wealth planning remains aligned with the new legislation.