On January 25, 2021, a new partnership law was adopted by parliament. It is part of a raft of legislative reforms spearheaded by Kigali International Financial Centre (KIFC) aimed at promoting and developing Rwanda as a business and financial center for both local and international investment.
What is a Partnership?
A partnership is a relationship between two or more persons carrying on a business in common with a view to making a profit under a partnership agreement. Those persons could be individuals, or legal entities such as companies or trustees.The types of partnerships include general, limited and limited liability partnership.
Rwanda did not have a law on partnerships prior to the new law. As a result of this gap, companies have been the default vehicle for doing business in Rwanda. Many businesses which would be better structured as partnerships are structured as companies while some international ones are simply unable to set up in Rwanda.
This is set to change. With the new law, KIFC hopes to attract international Private Equity (PE) and Venture Capital (VC) funds as they are typically structured as partnerships. Also, many existing professional service entities such as legal firms and audit firms are likely to convert to partnerships as this is more suited to their business. Some smaller business too may follow suit.
Benefits of Partnerships
Below, I discuss why I believe partnerships are going to be popular and why the new law is going to be a game changer in the way businesses are structured.
1. Tax transparence: One of the key advantages of partnerships is that the tax structure for partnerships is tax transparent. This means that the partnership itself is not subject to corporate income tax on its profits. Rather, the profits are distributed to the individual partners, who are then taxed on their share of the profit. Therefore, the profits are only taxed once at the rate of 30%.
Companies on the hand are taxed corporate income tax on their profit and dividend tax on dividends to shareholders. Which would result in an effective tax of 40.5% (30% as corporate income tax + (15% of 70% ( dividends tax). This is double taxation.
Tax transparency is especially important if KIFC is to achieve its key aim of attracting international PE and VC Funds as they typically invest in countries which recognize tax transparency for partnerships (avoiding an extra layer of tax on the fund vehicle itself). The idea is that when their investors use the PE/VC fund to invest in a Rwandan company, the PE/VC Fund investors are not disadvantaged compared to shareholders in that company i.e the PE/VC Fund investors are not penalized with extra tax for pooling capital to achieve scale and diversification which is the very purpose for which tax transparent vehicles were created.
However, for partnerships in Rwanda to benefit from tax transparency, the current Income Tax Law would have to be amended and a clear provision - specific to partnership taxation – introduced. For example, the current Income Tax Law provides that partnerships are required to pay corporate income just like companies. The Income Tax law is currently under review and it is important that the amendments capture the tax transparent nature of partnerships.
2. Fewer regulations: Partnerships are less regulated than companies. They have simpler requirements for joining and exiting. One reason why this can be important is that in a company sometimes disputes may arise between the shareholders. And it can be difficult to get rid of a troublesome minority shareholder who does not want to exit the company since the main mechanisms provided for by the law are buying out his shares (he may refuse to sell) or seeking intervention of the courts and this could be expensive and time consuming. In a partnership, the majority of the other partners can simply dismiss the troublesome partner. Also, partnerships have fewer regulatory filings to submit to the Registrar General compared to Companies.
3. Flexibility: Similarly, the fact that the Partnership law has few mandatory provisions unlike the Companies law means that entrepreneurs have more flexibility to tailor their partnership the way they want.
Unlike in a private company where shareholders are often required to be treated equally, the partners can set the rules on matters such as how the profits are shared, how interests in the partnership are transferred and how the business is conducted.
Moreover, because the owners of a partnership are usually also 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, which must have shareholders and directors all of whom have a say in making major decisions.
4. Legal personality and limited liability: The new partnership law gives partnerships the option of having a legal personality and limited liability just like a company. This is achieved by setting up the partnership as a Limited Liability Partnership (LLP). A legal personality means that partnership is a separate person from its owners. Consequently, it can enter into contracts, sue or be sued in its own name. Limited liability means that if the partnership fails, the creditors of the partnership can only go after the partnership’s assets. The partners’ personal income and property are protected. Limited liability makes entrepreneurship possible. It enables entrepreneurs/investors to enter into businesses which would otherwise be considered risky well knowing that if the business fails, their personal income and property are safe from the business’ creditors. The fact that the partnership law can be structured in such a way that it has many of the advantages of a company and few of the downsides, makes it the ideal vehicle for many businesses.
In light of the above benefits of the new law, the days when the company was the default entity for doing business in Rwanda may be coming to an end. Partnerships will likely be the vehicles of choice for international PE/VC funds, professional service firms and many small businesses. The partnership law is a big boost in Rwanda’s quest to become a business and financial hub. However, for the game changing potential of the Partnership law to be fully realized, it will be necessary for the public to be sensitized about its benefits and for the new Income Tax law to exempt partnerships from corporate income tax.
This article does not constitute legal advice. Please seek legal or other professional advice in relation to any particular matter you may have.
The writer is a business lawyer and Partner at Trust Law Chambers.
The views expressed in this article are of the author.
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