Q: I am in a trading partnership which requires substantial borrowings in the short to medium term. Will the partnership receive income tax relief for interest paid on the borrowings?

 

A: In the normal course of events interest relief would be expected in one form or another, but there are potential pitfalls to avoid.

If the money is to be borrowed by the partners personally and then injected into the partnership as partnership capital or by way of loan, then they will claim relief on their personal SA returns. Depending on the partnership’s accounting reference date, borrowing by individual partners rather than by the partnership might enable tax relief to be claimed earlier. If a partner has part of his capital or loan repaid by the partnership then he is deemed to have repaid an equivalent amount of his borrowings and tax relief on interest will be restricted accordingly.

Interest paid on loans taken by the partnership itself will qualify for tax relief as an expense in the accounts if it is incurred wholly and exclusively for the purposes of the business. It should be noted that interest on capital paid to a partner is not an allowable deduction; it is an allocation of profit, irrespective of how it is treated in the partnership accounts.

Problems may arise if a partner’s account with the partnership becomes overdrawn. Arguably, the interest is incurred by virtue of funding the partner’s drawings rather than being incurred for the purpose of the business.
Finally, various restrictions and anti-avoidance provisions may need to be borne in mind including the often overlooked rule which states that tax relief will be denied if the sole or main purpose of a transaction or transactions is the obtaining of such relief.

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