Understanding the differences between partnership profits, taxable profits, and drawings

One common source of confusion for partners is that the profits reported in the accounts, the taxable profits shown on tax returns, and the drawings taken from the business are usually all different figures. Here's how they differ – and why it matters.

Partnership profits

Partnership profits are the earnings generated by the business over a specific period – usually the financial year. These are shown in the partnership accounts and reflect the overall financial performance of the business.

The figure includes all income earned and expenses incurred during the year. But it’s important to remember that this is not necessarily the same as the taxable profits reported to HMRC.

Income

Income includes revenue from goods sold and services provided, interest received, and any other income sources.

Expenses

Expenses cover the costs of running the business, including staff costs, supplies, rent, and other overheads. Depreciation is also included – this is an accounting adjustment that reflects the reduction in value of business assets over time.

Taxable profits

Taxable profits are what each partner pays tax on. These are calculated differently from the profits shown in the accounts, because tax rules don’t always match accounting rules. Several adjustments are made to turn accounting profit into taxable profit. Here are the main ones.

Depreciation and capital allowances

Depreciation isn’t allowed for tax purposes. Instead, HMRC provides tax relief through capital allowances – a separate set of rates and rules for assets like equipment or buildings. Because the methods differ, this often leads to differences between accounting and taxable profit figures.

Non-taxable income and disallowable expenses

Some types of income aren’t taxable – for example, certain grants or interest payments. Similarly, some expenses can’t be deducted for tax purposes – such as business entertaining, depreciation, and costs that are capital rather than revenue in nature.

These adjustments must be made when calculating taxable profit.

Personal expense claims

If a partner incurs business expenses personally, and not through the partnership, they may still claim tax relief, provided the costs were wholly and exclusively for business purposes. These don’t appear in the partnership accounts but are included when working out the taxable share of profits.

Drawings

Drawings are amounts taken out of the partnership by the partners. These aren’t the same as profits – they’re simply cash withdrawals. A partner can only draw from what’s available in the business, and drawings might be fixed monthly amounts or vary based on the practice’s cashflow.

Drawings might also be reduced if the partnership:

• pays pension contributions on behalf of partners
• needs to retain cash for tax payments
• wants to build capital within the business.

At the end of the year, drawings are reconciled against actual profits. This helps determine whether further drawings can be taken, or whether a partner has already drawn too much.

It’s important to note that drawings don’t affect profit calculations. They’re payments on account of profit, and they reduce the capital or current account of each partner, but they’re not business expenses.

A partnership could be profitable on paper but still limit drawings to preserve cash. For example, to buy equipment, repay loans, or fund a retiring partner’s exit.

Need help?

Understanding the difference between profits, taxable income and drawings is essential to managing your partnership finances and planning ahead. If you’d like to talk through your figures or check you’re on track, we’re here to help.

Get in touch with your usual Larking Gowen contact or email enquiry@larking-gowen.co.uk

George Crowe