2. Bob and Alison are married and are both New Zealand tax residents.

They decide to
invest in a muffin and pastry manufacturing business. They also have a retail café on the
premises. They operate the business as a partnership. After the application of the
appropriate taxation laws the partnership has a net income from the business of $400,000
before any distributions to the partners. Bob has withdrawn $140,000 during the income
year, and Alison has withdrawn $180,000. The partnership is required to file an income
tax return for the year ended 31 March 2018.

Required: How does a partnership tax return differ from other income tax returns? Why?
In law, partnerships are not legal entities, unlike companies. This means that they have no
legal existence separate from the individual partners that comprise them. As such assets of the
partnership are vested in (ie owned by) all the partners together in accordance with the
partnership agreement. Each partner is jointly and severally liable for the liabilities of the
partnership. Note: a partnership is treated as a distinct commercial entity for accounting
purposes.

Through partnership tax there is a different approach which is called principle of transparency.
According to this approach, a partner and not the partnership will be treated as:
(i) carrying on the activity carried on by the partnership; and
(ii) holding property that the partnership holds in proportion to the partner’s “partnership
share”: s HG 2 ITA 2007.

Under the transparency approach:

(i) Individual partners, and not the partnership, are treated as deriving the (overall) income
or incurring the losses in respect of the partnership business in proportion to their
“partnership share”.

(ii) All tax credits received by the partnership will flow through to the partners (as if they
were derived directly by them).

3. With respect to Question 2 above, how will any salaries and partnership profits be taxed
if Bob and Alison have no other income? What other tax returns are required to complete
Bob and Alison’s tax compliance requirements?

Under the Partnership Act, partners are not entitled to interest on capital (money) initially
contributed by that person to the partnership but may be entitled to interest on other advances
or loans to the partnership. For tax purposes, similarly in determining the net income of the
partnership no deduction is allowed for interest on the initial capital, because this is treated as
a distribution of profits to the partner. However, a deduction is allowed in calculating the
partnership’s income for interest on subsequent advances or loans made to the partnership
(including interest on undrawn profits left in the partnership).
The steps that they must take is that they must file a tax return (an IR 7) separately from the
individual partners under section 42 of the Tax Administration Act 1994. The purpose
 for filing a partnership tax return is not to make the partnership liable to tax, but rather
to provide information:
(a) as to the amount and type of taxable income derived (or loss incurred) by the
partnership, and,
(b) how each type of income (or loss) of the partnership is allocated between each
partner (ie the partners’ share of the particular income/loss). The partnership tax return
shows net income computed as for an individual i.e. deductions are offset against
income, giving rise to either a net income or a net loss figure. The general deductibility
rules in s DA 1 ITA 2007 and s DA 2 ITA 2007 apply in determining the net income or
loss of the partnership.

As mentioned, each individual partner is required to make a separate return of their own net
income (or loss) including their share of the income or loss from the partnership. If a partner is
unable to fully absorb that loss against other income, the loss may be carried forward and offset
against income from later income years.

4. Taxation of Partnerships

Alice and Brian are in partnership together. The partnership derives income (before
expenses) of $125,000 for the year. Payments were made as follows:
$
Rates on the building 5,000
Wages to employees 30,000
Advances (loans) to Alice 24,000
Advances (loans) to Brian 8,000
Repairs and maintenance on the building 15,000
Lease payments on two cars 4,000
Accounting fees 3,000
Electricity 5,000

Alice and Brian share profits in the ratio 3:1 (based on their respective partnership
shares). Both cars are of the same value and are used for business purposes. Alice,
however, also uses her car 50% of the time for private purposes. The lease agreements
do not qualify as finance leases (i.e. they do not have the opportunity to acquire these
vehicles).

Required:
(i) Calculate the net income of the partnership for tax purposes and income
attributable to the partners of the partnership (if any).

(ii) Briefly outline why a partnership must file a tax return.

ii) It must file a tax return (an IR 7) separately from the individual partners: s 42 Tax
Administration Act 1994. The purpose for filing a partnership tax return is not to make
the partnership liable to tax, but rather to provide information:
(a) as to the amount and type of taxable income derived (or loss incurred) by the
partnership, and,
(b) how each type of income (or loss) of the partnership is allocated between each
partner (ie the partners’ share of the particular income/loss). The partnership tax return
shows net income computed as for an individual i.e. deductions are offset against
income, giving rise to either a net income or a net loss figure. The general deductibility
rules in s DA 1 ITA 2007 and s DA 2 ITA 2007 apply in determining the net income or
loss of the partnership.