The ATO has changed how risks are assessed in relation to profit allocation within professional services firms. While the changes are not a ruling, they will affect tax returns lodged in FY2015 and will target schemes that purposely avoid tax (Part IVA). This post outlines the tax changes for law firm partners.
Background
In the past, most professional firms were partnerships of natural persons. However since 2008, the ATO has observed an increase in the use of partnerships of discretionary trusts and similar structures to direct income from the professional firm to associated entities for the natural persons who are the principals of the firm.
Between 2010-12, the ATO undertook a number of reviews to understand the commercial drivers for implementing these arrangements, how they were being implemented and how they operated in practice. The reviews found that there are certain compliance risks that flow from these arrangements.
The ATO’s concerns
- These commercial arrangements are not being implemented effectively. This is due to either poor records or even a complete lack of documentation governing the arrangement
- Some Individual Professional Practitioners (IPPs) are not acting in accordance with the terms of their legal agreements
- Some firms that change from a natural person partnership to a partnership of trustees of discretionary trusts overnight are not changing their business operations
- Partners are restructuring without accounting for CGT consequence
- The income returned by the IPP would be significantly decreased compared to what they reported prior to the restructure. This was despite the IPP’s level of involvement and responsibilities within the firm remaining the same
Does this apply to me – what is an IPP?
An Individual Professional Practitioner:
- Holds a stake in a professional services structure (firm) which derives income from its business structure
- Holds their stake either directly or indirectly with / via associated entities
- Provides services to firm clients and / or the firm itself
Reducing your risk
Satisfying any one of the following risk factors is likely to be sufficient to minimise the risk of "Part IVA" applying:
1. The IPP’s personal assessable income from the firm is at or above one of the following remuneration amounts:
2. The IPP’s personal assessable income from the firm represents greater than 50% of the total assessable income from the firm derived by:
3. Determining that an overall minimum 30% effective tax rate has been paid on firm income by the IPP in combination with their associated entities
More information for partners of professional services firms
Instantly download the FREE Archer Gowland Guide (below) "Wealth Creation to Fund Your Ideal Lifestyle - A FREE Guide for Partners of Professional Services Firms". We provide an indication of how much you will need at retirement, the changes in ATO interpretation of partner remuneration, how to generate tax efficiencies, market opportunities, a self-assessment of your financial situation and how to establish your own personal wealth plan.
You are also welcome to contact Ian Walker from Archer Gowland on 07 3002 2699 for a free and confidential discussion regarding your personal situation.
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