When your Tax requires valuations of property

Certain times arise when obtaining a valuation is essential, especially when needing to evaluate the associated costs for transactions not at arm’s length (or those where no physical money changes hands).

Valuations commonly occur with respect to property, and particularly with transactions that require a valuation for compliance with tax regulations.

As an example, let us say Mr Peters hands over one of his existing rental properties to his son John for zero consideration. Australian tax law, Capital Gains Tax (CGT) rules to be precise, specifies that this transfer needs to occur based on “market value”. Mr Peters has owned the property many years when the transfer takes place and it has increased considerably in value. If that is the case, then he may be subject to a large CGT bill. This can occur even after the applicable general discount is applied. Even though Mr Peters did not receive any monetary payment at all from his son as the property was gifted, the CGT rules still apply.

This is the type of situation when valuations of property need to occur. To calculate the amount of capital gain that may have occurred, Mr Peters would need to source a valuation of his property ensuring that it correctly echoes the arm’s-length value.

In the past, warnings have been issued by the ATO advising of potential penalties valuations are conducted incorrectly. In order to ensure your annual assessment doesn’t contain any nasty surprises, generalized knowledge of ATO expectations surrounding completion of valuations may be required.

For ATO purposes, what are considered appropriate valuations of property?

Valuation professionals recognise, and it has also been examined in our courts, that there are certain valuation processes which are more suited than others. The process for valuations of property is determined based on any available information at the time.

Whilst the ATO acknowledges that the methods for valuations of property or assets can vary from simple up to complex methodology, the main principles remain the same. One constant is the notion that market value is to be based on highest and best use of any assets involved.

Any market value needs to be determined by the use of the most applicable valuation method. With commodity products, using comparative arm’s-length sale figures is deemed the most suitable process, whereas for mature companies, either a multiple of Earnings Before Income Tax (EBIT) or discounted cash flow are considered to be more appropriate. Many valuations can also use secondary methods so a cross-check of the determined value obtained using the initial method can be performed.

Where there is a market for the asset, the market is commonly considered the best verification of the assets market value (i.e this would be an amount the market would be prepared to pay).

Valuations of property

In the majority of cases when providing valuations of property, the determination would find the most suitable process being the “highest & best use” method.

The “highest & best use” concept for valuations of property within a market means considering any prospective use that can provide higher value than that of the existing property use. Development potential (if council approvals were obtained) is an example of this. Property condition, present-day market transactions or market trends are factors that need to be considered when using this method for valuations of property.

In regard to valuations of property, all valuations should be performed by suitably experienced and qualified valuers such as those from GANTPMV. Full documentation explaining how a value was derived should also be supplied.

As is the case with various tax issues, substantiating a value is very important. You may find that the ATO won’t accept the determined market value if any documents are not “fit for purpose”.

Fallback – grey zone safety

If ATO submissions are not quite correct but your intentions were to do things according to the rules, the ATO advises that there may be a degree of fallback available for people in these situations.

“The majority of taxpayers who use a qualified valuer or equivalent professional for taxation purposes will generally not be liable for a penalty if they have provided the valuer with accurate information where the valuation ultimately proves to be deficient,” the ATO says.

The example used is when valuations of property are prepared by qualified valuers, or the cost estimate of an historical building was provided by a qualified quantity surveyor. The ATO states that these matters are more than likely over and above the skill set or professional capability of either an individual taxpayer or regular tax agent. “Relying in good faith on advice of this nature is consistent with the taking of reasonable care,” says the ATO, “even though the advice later proves to be deficient.”

Beware – Fallbacks won’t cover everything

Even when you use the services provided by qualified professionals, according to the ATO, potential penalties can still be enforced if it can be determined that a misleading or false statement has been made, or for treating purposes under tax laws “in a manner that is not reasonably arguable”.

These penalties may be enforced if the case is that:

– the taxpayer hasn’t provided enough correct and true information to allow a valuer to accurately and correctly estimate the worth (value) of an item covering a required period

– the agent of the taxpayer or even the taxpayer themselves were found to have reasonably known any information that was provided by a valuer which was incorrectly supplied

– the valuation hypothesis or the methodology used by qualified valuers has been based on loose, unsettled interpretations of tax laws provisions or based on unclear facts

Valuations of property and other valuations are matters that GANTPMV can assist you with. However, as this field is largely based on informed judgement, taxpayers are also advised to secure the services of a professional tax agent who will assist with documenting the required facts and details as you are proceeding through the valuation process.