Limited Partnerships & Limited Liability Partnerships
In B.C., we have had “limited partnerships” for some time - these are defined under the Income Tax Act. Basically, they are partnerships in which a particular partner’s liability for the debts of the partnership are limited (usually to the partner’s invested capital). These vehicles are commonly used to finance and operate a wide variety of commercial ventures involving numbers of unrelated investors. Real estate projects are commonly structured as limited partnerships.
One feature of limited partnerships that many overlook is that of the calculation of the “adjusted cost base” of the limited partnership interest itself.
According to rules contained in the Income Tax Act, adjusted cost basis is calculated as follows: Opening equity + Contributions + Income allocation from prior year – Draws – Loss allocation from prior year = Ending equity balance (usually, calculated as of December 31st of each year).
As you can see, the annual income allocations made to limited partners do not get added to the cost base of their partnership interest until the first day of the following year. If limited partnership interests go negative at any time, a deemed capital gain results, which can be costly.
Such is not the case for “general partnerships” - for these, annual income is added on the last day of the partnership fiscal year, thus usually avoiding negative cost basis (and even if there was, a negative cost base in an interest in a general partnership does not result in deemed capital gain).
It happens that in the past year or two, B.C. has enacted new “limited liability partnership” legislation, which has been enthusiastically adopted by many firms which had previously operated as general partnerships. Many law firms and, indeed, Lohn Caulder itself, have made the switch to LLP status.
There are two types of LLPs that exist within BC, “Full Shield” LLPs and “Partial Shield” LLPs. Full Shield LLP’s are more protective than Partial Shield LLPs and can potentially even protect a partner from the day to day business liabilities owing by the partnership. We are told that most of the new LLPs in B.C. are of the “full shield” variety.
Since there is “limitation” in the new arrangement, the question arises: are full-shield LLPs subject to the same adjusted cost base calculation rules as ordinary LPs?
It appears that the answer is, technically “yes”, but that a legislative “fix” is coming.
The Canada Revenue Agency has gone on record as saying that they consider Full Shield LLP’s to fall into the definition of “limited partnership” as defined in the Income Tax Act. However, CRA has obviously received some "feedback" on this policy, and CRA has issued a “comfort letter” advising that in the case of full shield LLP’s, CRA will allow the income allocation to be added to the equity balance on the last day of the tax year (versus the first day of the following tax year - thus avoiding, in most cases, a negative result and a capital gain).
Note that this rule has not yet been legislated, but CRA has sent a letter to the Department of Finance requesting this change be made.