Partnerships, Cost Sharing Arrangements and Tax Benefits
The question of what constitutes a general partnership versus a cost sharing arrangement has important tax consequences for professional corporations and is an issue increasingly being reviewed by CRA. The main tax advantage for professionals using a cost sharing arrangement is the ability for each professional to take advantage of the $500, for sale 000 small business deduction. On the other hand, should the professionals be viewed by CRA as being in a partnership, they collectively could only apply for the small business deduction once. This can have a dramatic influence on the tax rate paid by each professional.
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Unfortunately there is no easy to apply rules to determine if the professional corporation would be considered a partnership. The essential question is this – is the relationship between professionals carried on in common. For example:
- Is there a collective sharing of profits and loss?
- Is there a central management or decision making process that all professionals follow?
- Do the professionals jointly own equipment that is used to carry out the practice?
Despite whatever may be written in the business agreement between the parties, if CRA views the relationship as a partnership there could be significant back taxes, interest and penalties incurred by each of the professionals.
If the business arrangement is likely to be deemed a partnership by CRA there are steps that can be put in place to help reduce the tax overall tax burden. For example, each professional could form his or her own professional corporation and those corporations could enter into an arm’s length agreement with a partnership of the same professionals in the same way it might enter into an arm’s length agreement with a landlord and other suppliers. Profits from the partnership could then be distributed to each professional’s own corporation, provided that the amount paid represents the fair market value of the services provided. However, no solution is foolproof and there are always steps that must be taken to satisfy CRA that the partnership and the corporations serve a legitimate purpose.