Dentists as Partners (Part 2)
Please note that the information provided herein is not legal advice and is provided for informational and educational purposes only. If you are a dentist and need legal advice, contact me (Michael Carabash) or David Mayzel.
In this blog, I’ll be discussing some noteworthy aspects of dental partnerships – namely, how to go about terminating the partnership, liability of the partners, and taxation.
Terminating the Partnership
Termination by Notice or by Agreement
A partnership can end by notice or by a contractual term in the partnership agreement. This is where section 26(1) and 32(c) of the Partnerships Act becomes relevant.
Section 26(1) of the Partnerships Act provides that, where no fixed term is agreed upon for the duration of the partnership, any partner may determine the partnership at any time by giving notice to all the other partners. This section has been interpreted in Patridge v. Seguin,  O.J. No. 1355 to mean that, where the partnership agreement is silent as to the duration of the partnership, any partner may unilaterally terminate the partnership by giving notice. If, however, the partnership agreement provides for the termination of the partnership, then this section will not apply. As such, this section is subject to any agreement between the partners.
Section 32(c) of the Partnerships Act is similar to section 26(1). Section 32(c) states that, subject to any agreement between the partners, a partnership is dissolved if entered into for an undefined time, by a partner giving notice to the other partners of his intention to dissolve the partnership. This section is subject to any contrary agreement between the partners, whether express or implied. Furthermore, the words “undefined time” used in Section 32(c) does not necessarily mean an “indefinite period” (Keith v. Mathews, Dinsdale and Clark,  O.J. No. 1202). This section has been interpreted in Patridge v. Seguin and Keith v. Mathews, Dinsdale and Clark to mean that, where the term of the partnership is defined, then a partner may not unilaterally terminate the partnership by giving notice under this Section.
Termination by death, insolvency, charge on a partner’s share or illegality of business
A partnership can terminate through death, insolvency, charge on a partner’s share or illegality of business: ss. 33 and 34.
Termination by court order
Third, a partnership can be terminated by court order under section 35 of the Partnerships Act. This method of dissolving a partnership requires that an application be brought because a partner has been found to be mentally incompetent, permanently incapable of performing their duties, or guilty of conduct that prejudicially affects the carrying on of the business. An application to terminate can also be made on the grounds that the partnership can only be carried on at a loss.
In addition to these grounds for bringing an application, s. 35(1)(d) of the Partnerships Act allows a partner to apply to the court for an order dissolving the partnership on the basis that another partner has wilfully or persistently committed a breach of the partnership agreement, or otherwise so conducts himself or herself in matters relating to the partnership business that it is not reasonably practicable for the other partner or partners to carry on the business in partnership with that partner. Courts have set a high threshold for dissolving partnerships in this manner: there must be a breakdown in the relationship as between the partners such that mutual confidence (i.e. trust and reliance) no longer exist. In essence, the partners cannot continue carrying on the partnership business together according to the original agreement: Barnabe v. Touhey,  O.J. No. 96 and Damis Holdings Ltd. v. Briarcrest Apartments Ltd.,  O.J. No. 672. Largely as a consequence of the agency relationship, and the capability of incurring joint and several liability for the remaining partners, partners are entitled to a very high standard of conduct as amongst themselves. Any breakdown in that relationship or conduct, such that the partners could not thereafter have reasonable trust and confidence in their partners, would generally be circumstances permitting the dissolution of the partnership. Keeping erroneous accounts and not entering receipts, refusal to meet on matters of business, continued quarrelling, and such a state of animosity as precludes all reasonable hope of reconciliation and friendly co-operation, have been held sufficient to justify a dissolution: Barnabe v. Touhey.
Finally, section 35(1)(f) of the Partnerships Act allows a partner to apply to the court for an order dissolving the partnership on the basis that circumstances have arisen which render it just and equitable that the partnership be dissolved. To obtain dissolution under this section, it must be established that there been such a complete breakdown and mutual trust and confidence among the partners as would preclude all hope of reconciliation and future co-operation: Barnabe v. Touhey (1992) O.J. No. 96, Kucher v. Moore (1991), 3 B.L.R. (2d) 50, PWA Corp. v. Gemini Group Automated Distribution Systems Inc.,  O.J. No. 723, and Ellerforth Investments Ltd. v. Typhon Group Ltd.,  O.J. No. 3714, aff’d  O.J. No. 1470. It must be impossible for the partners to place that confidence in each other which each has the right to expect and that such impossibility has not been caused by the person seeking to take advantage of it. Evidence of a deadlock or substantial disagreement on questions of day to day management of the operations will suffice: Landford Greens Ltd. v. 746370 Ontario Inc.,  O.J. No. 1311. A court may also order dissolution under this section on the grounds that the parties have very different views as to the future of the partnership; in other words, there has been a material change of circumstances which makes it impossible for the partnership to be carried on in the way the partners had originally contemplated: Ellerforth Investments Ltd. v. Typhon Group Ltd.
In a partnership, all partners are jointly and severally responsible for the liabilities of the partnership up to the total value of their personal assets.
Partnerships and limited partnerships are flow through entities. They are not legal persons. They don’t pay tax. Their income or losses flow through to the partners and are attributed to them. It is the partners who pay taxes, not the partnership or limited partnership. They are disregarded business vehicles. This differs from a corporation, which is considered to be a legal person separate from its owners and managers. Corporations are required to pay income taxes at both the provincial and federal levels.
A partnership or limited partnership is taxed in the following process. First, the parties involved have to recognize that they are operating as a partnership and not some other structure (e.g. joint venture, co-owning property, corporation, franchise, etc.). Then, the parties have to determine the income, losses, and tax credits at the PARTNERSHIP LEVEL. This requires a temporary assumption that the partnership is a separate person resident in Canada. Finally, once you figure out the income, losses, and tax credits, you ALLOCATE them to the partners. It is the individual partners who have to report (and, if applicable, pay taxes on) income, losses, and tax credits.
As per the Canada Income Tax Act, partnerships do not file separate tax returns. They file annual information returns setting out their income and details of the partners who are entitled to that income.
So to recap: the net income of the partners (for income tax purposes) of a limited partnership is determined by figuring out the net income of the limited partnership. To figure out the net income of the limited partnership, the Act says that you look at it as if it were a separate legal person: s. 96(1)(a). So you include income and deduct allowable expenses and other credits. Then, the partnership’s income will be attributed to the partners (usually as per the limited partnership agreement). Each partner must report their income or losses from the partnership and pay taxes accordingly: s. 96(1)(f).
For tax purposes (remember that partnerships must file an annual partnership information return after their fiscal period), the combined effects of ss. 96(1) and 249.1 of the Canada Income Tax Act make it clear that the fiscal period will be determined by the type of taxpayers (e.g. individuals, corporations, etc.) that make up the partnership group. If any member of the partnership is an individual, then the fiscal year end must generally be the calendar year end (with certain limited exceptions). If all of the members of the partnership are corporations, the fiscal year end can be anywhere, so long as the fiscal period does not exceed 53 weeks: s. 249.1(1)(a).