Payments by Surviving Partners to Retired Partner or to Estate of Deceased Partner
15.51. A professional partnership agreement may provide that payments be made to a retired partner or to the estate of a deceased partner out of fees received after the retirement or death, the amounts of the payments being determined by reference to the individual interest of the former partner in work in progress at the date of his retirement or death. In the Committee's view there should be express provisions making the amounts income of the retired partner or net income of the estate. At the same time it should be made clear that these amounts are not net income of the partnership of the remaining partners.
15.52. Where the partnership agreement or a new agreement provides for payments to a retired partner or to the estate of the deceased partner which amount to a share of profits derived after the date of retirement or death, the share of profits may be taxed twice. It may be taxed as income of the retired partner, or of the estate, as a series of periodical receipts. It will be taxed also as net income of the partnership of the remaining partners. There is a contrast with the consequences that flow where payments of a similar kind are made by a company to a retired executive or to the dependants of a deceased executive. They will be income of the retired executive or the dependants but may be deductible by the company. They will be deductible as a business expense or under section 78(1)(c), in the latter case to the extent to which, in the opinion of the Commissioner, they are sums paid in good faith in consideration of the past services of the employee in business operation carried on by the company. It may appear anomalous that the company is differentially treated. The company may be no more than a partnership that has adopted a different legal form. It will be anomalous if a company is so treated and a company elects, in accordance with the proposals in Chapter 16, to be taxed as a partnership. In the Committee's view there should be a provision under which a deduction will be allowable to a partnership for payments made to a retired partner. A number of conditions ought to be imposed. One condition would follow the model of section 78(1)(c) and require that the Commissioner form the opinion that the payment was made in good faith in consideration of past services to the partnership. Another would require that the payment be in a form making it income of the person receiving it: in this respect the condition would be more restrictive than that imposed by section 78(1)(c).
15.53. Alternatively, provisions might be adopted that would follow the United States law, whereby the retiring partner continues to be a partner for income tax purposes until all payments to which he is entitled have been received. In this event, there would need to be some provision requiring a re-allocation of partnership income where the payment is excessive having regard to past services.