Question

Tutorial 7

1.         X, Y and Z run a Townsville based import/export business in partnership and have done so for some years. When the business was established they contributed differentially to the capital of the partnership. Their individual contributions were:

X       -                 $80,000

Y       -                 $70,000

Z       -                 $50,000

To take this into account the partnership agreement provided that each partner was to be entitled to receive 10% interest per annum on his or her capital contribution. Residual profits were to be shared in the proportion in which the partners had contributed to capital. The agreement provided that individual partners could, with the consent of their co-partners, draw amounts in excess of those provided for but that, if they did, such drawings would be debited in their current accounts in the books of the partnership and would incur interest at 10% per annum payable to the partnership.

The agreement also provided that each partner is allowed to draw up to $52,000 for the year as an advance against profits.

Last year the partners decided to establish a branch office in Singapore. X agreed to lend the partnership the $250,000 that would be required at 10% per annum, the interest being paid annually as a first charge against profits and the capital being repayable upon demand. The entire capital advance remains outstanding.

Y agreed to manage the new office, leaving X and Z to operate the Townsville main office, and he moved to Singapore with his family last July. It is expected that he will remain in Singapore for at least 3 years though, ultimately, he intends to return to Townsville. To compensate him for the additional costs to which Y will be put his fellow partners agreed that he should receive $1,000 weekly salary in addition to his share of profits rather than as a payment on account of those profits.

During the current tax year the firm’s accounts showed the following receipts and business related (and deductible) outgoings (exclusive of any payments made to partners):

Receipts            Outgoings

Townsville office:                           A$600,000         A$250,000

Singapore office                            A$200,000         A$100,000

            (Note: the outgoings exclude ALL payments to partners.)

They also show a receipt of $4,000 (via a book entry not included in the above figures) being interest debited in Z’s current account on excess drawings of $40,000 during the year to finance extensions to his home.

Calculate:

(a)       the partnership net income; and

(b)       the taxable income of each partner.

Explain in detail why you include or exclude individual amounts in your calculations at each stage.

2.     Hank and Irma have operated a trucking business in partnership since 1990. To establish itself, the partnership initially borrowed heavily and Hank and Irma only contributed a small amount of capital themselves. The partnership now owns a warehouse and leases three trucks. It is very profitable.

Hank and Irma have three children: Tim aged 12, Anne aged 16 and Jane aged 18. Tim is at school, Anne is also at school but is interested in working in the business and Jane is at University.

Hank and Irma have heard that they might be able to reduce their overall tax liability – for BOTH the current year and future years – either by making the children partners in the firm or by making an Everett assignment to an existing discretionary trust in which the children are beneficiaries. It is now late April this year (towards the end of the current tax year). They seek your urgent advice.

Briefly discuss the income and CGT implications of each of those two options.

           

Answer 1

.Answer to question 1:

(a) Since dates have not been given in the qustion we have assumed all the transactions happening on first day of the year. Please find below image for calculation of partnerships net income.

(b) Taxable income of each partner: (Please refer image for interest amounts)

Partner x : Interest received on initial capital contribution = $8,000

Interest received on additional capital contributed = $25,000

Taxable income = $ 33,000

Partner y : Interest received on initial capital contribution = $7,000

Taxable income = $7,000

Partner z : Interest received on initial capital contribution = $5,000

Salary paid in form of compensation = $52,000

($1,000 * 52 weeks)   

Interest paid on excess capital withdrawl = ($4,000)

Taxable income = $53,000  

Note : Share of profit is exempt in hands of partner, hence it is not considered while calculating partners taxable income.