A new partnership law was passed by parliament on January 25, 2021. It is part of a series of legislative reforms led by the Kigali International Financial Center (KIFC) aimed at promoting and developing Rwanda as a business and financial center for local and international investment.
What is a partnership?
A partnership is a relationship between two or more people who run a business together for the purpose of making a profit under a partnership agreement. These people can be individuals or legal entities such as companies or trustees. The types of partnership include limited liability and limited liability companies.
Rwanda had no law on partnerships before the new law. As a result of this loophole, corporations have been the standard tool for doing business in Rwanda. Many companies that would be better structured as partnerships are structured as corporations, while some international companies simply cannot be incorporated in Rwanda.
This is about to change. With the new law, KIFC hopes to attract international private equity (PE) and venture capital (VC) funds, as these are typically structured as partnerships. Many existing professional service companies such as law firms and accounting firms are likely to move into partnerships as it is more suitable for their business. Some smaller companies could follow suit as well.
Benefits of partnerships
Below I discuss why I believe partnerships are becoming popular and why the new law will fundamentally change the structure of companies.
1. Tax transparency: One of the main advantages of partnerships is that the tax structure for partnerships is tax transparent. This means that the partnership itself is not subject to corporate tax on its profits. Rather, the profits are distributed to the individual partners, who are then taxed on their profit share. Therefore, the profits are only taxed once at 30%.
Corporations, on the other hand, are taxed on their profits with corporation tax and on dividends to shareholders with dividends. This would result in an effective tax of 40.5% (30% as corporation tax + (15% of 70% (dividend tax)), which is double taxation.
Tax transparency is especially important if KIFC is to achieve its main goal of attracting international PE and VC funds, as these typically invest in countries that recognize tax transparency for partnerships (avoiding an additional tax tier for the fund vehicle itself). The idea is that if their investors use the PE / VC fund to invest in a Rwandan company, then the PE / VC fund investors will not be penalized compared to the shareholders of that company i.e. the PE / VC fund investors Funds are not penalized with additional taxes for pooling capital to achieve scalability and diversification, for which tax-transparent vehicles were created.
In order for partnerships in Rwanda to benefit from tax transparency, the current income tax law would have to be changed and a clear provision – specifically for the taxation of partnerships – introduced. For example, the current Income Tax Act stipulates that partnerships such as corporations are required to pay corporate income. The Income Tax Act is currently under review and it is important that the changes take into account the tax-transparent nature of partnerships.
2. Less regulation: Partnerships are less regulated than companies. They have simpler requirements for getting in and out. One reason this can be important is that sometimes disputes can arise between shareholders in a company. And getting rid of a pesky minority shareholder who does not want to leave the company can be tough, as the main mechanisms provided by law are to buy his shares (he may refuse to sell them) or seek court intervention which could be expensive and be time consuming. In a partnership, the majority of the other partners can simply fire the problematic partner. In addition, partnerships have fewer applications to submit to the Registrar General compared to companies.
3. Flexibility: Likewise, the fact that the Partnership Act, in contrast to the Company Act, contains few binding provisions means that entrepreneurs have more flexibility to adapt their partnership to their wishes.
Unlike in a private company, where shareholders often have to be treated equally, partners can set rules such as profit-sharing, transferring stakes in the partnership, and running the business.
In addition, since the owners of a partnership are usually its managers, especially in small businesses, the partnership is fairly easy to manage and decisions can be made quickly without unnecessary bureaucracy. This is not the case with companies that must have shareholders and directors who all have a say in making important decisions.
4. Legal personality and limited liability: The new partnership law gives partnerships the option of having legal personality and limited liability like a company. This is achieved by establishing the partnership as a Limited Liability Partnership (LLP). A legal personality means that the partnership is a separate person from its owners. As a result, it can contract, sue, or be sued on its own behalf. Limited liability means that if the partnership fails, the partnership’s creditors can only draw on the partnership’s assets. The partners’ personal income and property are protected. Limited liability enables entrepreneurship. It enables entrepreneurs / investors to do business that would otherwise be considered risky knowing that their personal income and property will be safe from the company’s creditors if the deal fails. The fact that the Partnership Act can be structured to have many of the advantages of a business and some of the disadvantages makes it an ideal vehicle for many businesses.
Given the above benefits of the new law, the days when the company was the default company to do business in Rwanda may be drawing to a close. Partnerships are likely to be the tool of choice for international PE / VC funds, professional service companies, and many small businesses. The Partnership Act is a huge boost to Rwanda’s drive to become a business and financial center. In order for the breakthrough potential of the Partnership Act to be fully realized, the public must be made aware of its benefits and the new Income Tax Act must exempt partnerships from corporate tax.
This article does not constitute legal advice. Please seek legal or other professional advice regarding any specific matter you may have.
The author is a corporate attorney and a partner at Trust Law Chambers.
The views expressed in this article are from the author.
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