Partners joining and leaving: the tax consequences

Q: How are payments to a retiring partner taxed?

It depends on what the payment is. Final or "special" profit share. Partnership agreements often pay a leaver an additional profit share. The firm does not deduct it; it is allocated to the leaver in the partnership statement and taxed as their profit. A leaver may argue that a payment is really compensation rather than profit; PM163440 notes that this depends on the facts and that tribunals have decided both ways. Retirement annuity. Annual payments to a retired partner are made after deduction of basic rate income tax under section 900 of the Income Tax Act 2007. The continuing partners get income tax relief for the payments under section 448 of that Act on their own returns, not as a partnership expense (PM163405, PM163410). Relief is not available where the obligation to pay was taken on as part of the price for acquiring a business (PM163410). Capital gains on an annuity. Under SP D12 paragraph 9.2, the capitalised value of an annuity is only treated as disposal proceeds if it is more than a reasonable recognition of the partner's past work. For a partner of at least ten years, paragraph 9.3 accepts as reasonable an annuity of up to two thirds of their average share of profits in the best three of the last seven years, with smaller fractions for shorter service. Lump sum. A lump sum paid on leaving, or on a reduction in share, is consideration for the disposal of the partner's share in partnership assets (SP D12 paragraph 9.1).

When a partner joins or leaves, the firm’s trade normally carries on for tax as long as at least one partner is there both before and after the change. The tax effect falls on the individual: the joiner starts being taxed on their share from the day they join, the leaver stops on the day they leave, and a leaver can face an accelerated charge on transition profit, a capital gains disposal of their share of the firm’s assets, and tax on any retirement payments.

Tax investigation insurance from £108.75 a year (£9.06 a month).Pays up to £100,000 of your accountant's fees if HMRC opens an enquiry. No excess. Buy online in a few minutes.

See my price in 2 questions How the cover works Accountant? Offer cover to your clients or call 01795 841 310

Does the partnership’s trade stop when a partner joins or leaves?

Usually not. HMRC’s Partnership Tax Return Guide (SA850) says the business carried on by a partnership is regarded as continuous despite a change in membership, provided at least one partner is a member on both sides of the change. Only a complete change of ownership is treated as a cessation and recommencement of the business (BIM82225). For capital allowances, a change in the people carrying on the activity through a partnership can normally be ignored under section 263 of the Capital Allowances Act 2001 (PM163220), so the pools carry on.

The same HMRC guidance says, however, that the commencement and cessation rules apply to each individual partner who joins or leaves. In other words, the firm continues but each partner’s own position starts and stops. The partnership return does not need a separate set of pages just because membership changed, but the partner details and profit shares must show who was a partner for which part of the period.

How is a new partner taxed in their first year?

Since 2024 to 2025, individuals have been taxed on the profits arising in the tax year, with accounts apportioned (normally by days) where the accounting year does not end between 31 March and 5 April (BIM81201). A new partner is therefore taxed on their share of profit from the date they join to 5 April. There is no longer an “overlap” period taxed twice in the opening years. The background is in basis period reform explained.

The practical difficulty is timing. A partner who joins part way through the firm’s accounting year may have no partnership statement covering their first months by the time their own return is due. The SA104S notes say a partner may need details of their share for an accounting period for which no statement has yet been prepared, and HMRC’s guidance (BIM81201) allows provisional figures that are amended once the actual figures are known.

Illustration only. Priya joins a firm with a 31 December year end on 1 October 2026. Her share of profit for 1 October to 31 December 2026 is £12,000 and her share for calendar 2027 is expected to be £60,000. Her 2026 to 2027 taxable profit is £12,000 plus £60,000 × 95/365 (1 January to 5 April 2027), which is £15,616, giving £27,616. The 2027 element is provisional until the 2027 accounts are signed off.

A new partner must also:

register for Self Assessment as a partner, by 5 October after the end of the tax year in which they joined (form SA401 if not registering online); see registering for Self Assessment;
give the nominated partner their UTR, because the partnership return is incomplete without it;
enter their joining date in box 3 of the partnership pages of their own return.

Interest on a personal loan taken out to buy a share in the firm or to contribute capital is not a partnership expense, but it can qualify for relief under sections 398 to 400 of the Income Tax Act 2007 (SAIM10280); see qualifying loan interest relief.

Run an accountancy or bookkeeping practice? Solar Protect runs fee protection schemes for practices, so the cost of dealing with an HMRC enquiry into a client is covered rather than written off.

See how our accountant schemes work or call 01795 841 310.

How is a leaving partner taxed?

A leaving partner is taxed on their share of profit from 6 April to the date they leave, again apportioned from the firm’s accounts. They enter the leaving date in box 4 of the partnership pages and should tell HMRC they have stopped being self employed so that their National Insurance position is right.

Partners who were in business before the 2023 to 2024 transition year may still have transition profit being spread. Under paragraph 72 of Schedule 1 to the Finance Act 2022, transition profit is taxed in five slices up to 2027 to 2028, but if the person permanently ceases to carry on the trade before it has all been charged, the balance is taxed in the year of cessation (BIM81310). Because HMRC applies the cessation rules to a partner who leaves (BIM82225), a partner retiring in 2026 to 2027 should expect the remaining transition profit to be taxed in that year, on top of their final profit share.

A leaver’s final share is still allocated through the partnership statement, so the firm’s SA800 must include them for the period they were a partner; see partnership tax returns (SA800).

Are there capital gains consequences?

HMRC’s Statement of Practice D12 treats a change in partnership sharing ratios, including one caused by a partner joining or leaving, as an occasion of charge. A partner whose share of asset surpluses falls is treated as disposing of part of their share in each partnership asset, and a partner whose share rises as acquiring it (paragraph 4.1). Where no payment is made outside the partnership, the disposal value is the fraction of the asset’s current balance sheet value changing hands. This often produces neither gain nor loss, but not where assets have been revalued in the accounts (paragraphs 4.2 and 6.2).

Payments made directly between partners outside the accounts, often for goodwill, are extra consideration for the disposal (paragraph 7.1). Transfers between partners are not treated as between connected persons if they are genuine commercial arrangements, and this extends to an incoming partner (paragraph 8.2), but family members joining a firm may be treated as acquiring at market value (paragraph 8.3). A partner who has been a business partner for at least two years may be able to claim Business Asset Disposal Relief, which taxes qualifying gains at 18% for disposals from 6 April 2026.

How are payments to a retiring partner taxed?

It depends on what the payment is.

Final or “special” profit share. Partnership agreements often pay a leaver an additional profit share. The firm does not deduct it; it is allocated to the leaver in the partnership statement and taxed as their profit. A leaver may argue that a payment is really compensation rather than profit; PM163440 notes that this depends on the facts and that tribunals have decided both ways.
Retirement annuity. Annual payments to a retired partner are made after deduction of basic rate income tax under section 900 of the Income Tax Act 2007. The continuing partners get income tax relief for the payments under section 448 of that Act on their own returns, not as a partnership expense (PM163405, PM163410). Relief is not available where the obligation to pay was taken on as part of the price for acquiring a business (PM163410).
Capital gains on an annuity. Under SP D12 paragraph 9.2, the capitalised value of an annuity is only treated as disposal proceeds if it is more than a reasonable recognition of the partner’s past work. For a partner of at least ten years, paragraph 9.3 accepts as reasonable an annuity of up to two thirds of their average share of profits in the best three of the last seven years, with smaller fractions for shorter service.
Lump sum. A lump sum paid on leaving, or on a reduction in share, is consideration for the disposal of the partner’s share in partnership assets (SP D12 paragraph 9.1).

What mistakes come up when partners change?

A new partner not registering for Self Assessment in time, or not giving the firm a UTR, which holds up the partnership return.
Leaving the departing partner off the partnership statement for the months they were a partner.
Forgetting the accelerated transition profit charge when budgeting a retiring partner’s final tax bill.
Paying goodwill directly between partners without considering the capital gains position under SP D12.
Calling a retirement payment “compensation” in the hope of avoiding income tax, when the agreement makes it a profit share.

How the shares themselves are calculated, including salaries and notional losses, is covered in how partnership profits are shared for tax.

If HMRC opens a check into your return, tax investigation insurance pays your accountant’s fees. Solar Protect cover pays up to £100,000 with no excess; it never pays tax, interest or penalties. Read how our cover works or get a quote.

Related Accountapedia entries

Sources

Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 8 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.