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From the CEO: Taxation and incorporated legal practice

Every Issue

Cite as: December 2009 83(12) LIJ, p.6


Incorporated legal practice has emerged as a favourable alternative to the traditional partnership model, although tax issues do exist.

The choice of practising structure is assuming increasing critical importance in the business modelling and growth potential of legal practices, regardless of their history and market profile.

The structure of a practice is founded on a common set of principles which ordinarily include structuring for equity, control and taxation. Liability and risk are also essential management tools to be modelled into each practice structure.

A practice model should be adaptive to each constructive commercial circumstance, including effective taxation positioning. For LIV members considering a practice structure, incorporated legal practices (ILPs) may be ideally suited to their commercial goals and growth ambition.

Changes to the structure of legal practice regulation in Victoria have seen the emergence of ILPs as a favoured alternative to the traditional partnership model.

In their most simplistic design, ILPs do not present too many complex issues for intending practitioners. In most cases they are a simple proprietary business vehicle limited by script or guarantee. Rarely do firms opt for a public listing, which is also permissible. However, in all cases, specialist taxation advice is essential.

The LIV, working with other professional bodies, continues to make representations about concerns regarding taxation treatment of ILPs by the Australian Tax Office (ATO). In particular, the LIV considers the lack of taxation certainty surrounding the transfer of partnership shares to a nominated ILP is a major issue.

The LIV favours a baseline “no goodwill” transfer position whereby the treatment of partnership shares can be nominated as having “no goodwill” value for the purposes of the transfer, thereby attracting no consequential capital gains liability.

Our argument rests with the fact that the legal services market functions within a highly regulated and constricted investment supply model whereby the transition of share structuring is available to a limited range of participants.

Moreover, shares in most partnerships are limited by the allowable participation class and likely subscribers. This will ordinarily imply that “no goodwill” can be assigned within a universally accepted methodology. On this basis, ILPs mostly involve shares of no identifiable goodwill being transferred as or part of entitlement to a new ILP structure.

It is not the position of the LIV to argue against the concept of a readily acceptable and defined measure of goodwill between private parties involved in the transition to a new ILP. But this must be a choice for these same parties.

The LIV does not believe the ATO should impose a notion of goodwill in the restructuring of legal practices involving the allocation of shares in the new entity based on the entitlement to shares or equity in a previous partnership structure. Unfortunately, the ATO does not share this position and we still await a public ruling in support of greater market certainty for our members.

The reasons for a practice restructuring will always depend on individual circumstances. Practitioners should seek a range of advice before electing to extinguish a traditional partnership structure and shift to an ILP. Taxation will often form a strong link in the decision-making process with the obvious liability and other risk-positioning factors. Practitioners should consider equity participation and share structuring well beyond the initial transfer.

The mere assignment of a “no goodwill” election in a deed transferring shares from the existing partnership to a new ILP may not necessarily absolve participating subscribers from capital gains liability.

The ATO has consistently flagged its intention to deem valuation in participating shares where it considers this appropriate. Part 4A treatment is always a probable risk, depending on the Commissioner’s view of a taxpayer’s motivation and structure.

The LIV will continue to lobby to have the ATO provide more substantive guidance to the treatment of ILP share structures.

The more complex the equity participation in emerging ILPs, the more caution taxpayers will need to exercise to ensure they obtain appropriate advice from accredited taxation specialists. The LIV is able to assist in this regard with referrals and guidance through our Commercial Law Section.


As the holiday season approaches, I wish to thank LIV president Danny Barlow for his work and commitment to the LIV during its 150th year.

All our presidents bring different strengths and experiences to the role, but Danny deserves a special mention because of the regional perspective he brought to the role. With his practice in Shepparton, Danny has had to do a lot more travelling than most.

I would also like to thank the LIV membership, Council and executive (including incoming president Steven Stevens of Freehills) and the LIV staff for their efforts in 2009.

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