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  • Allocating value to underlying assets

    For some tax purposes, it may be necessary to determine the value of a whole asset (such as an entire business) and the component assets that form the whole.

    An allocation of value occurs when you allocate values to underlying assets out of a single whole amount – for example:

    • composite transactions – such as a sale of a franchise operation involving the sale of the land, fixtures and fittings, stock on hand, right to operate the franchise, and goodwill
    • bundled asset transactions – a sale of several operational franchises where you may need to allocate a value to each operation, then to each underlying asset of each operation
    • consolidation events – here, the cost-setting process requires you to determine the allocable cost amount (ACA) that you then allocate to underlying assets on the basis of proportionate market values – using the method outlined in the legislation.

    Under tax law, you need to allocate value to underlying assets on a reasonable basis. You can use the allocation process outlined below, which includes the residual value method where goodwill is involved.

    On this page:

    Is there goodwill?

    If the price paid for a business is more than the market value of the tangible assets and the identifiable intangible assets, the excess or premium is the goodwill. This means the market value of tangible and identified intangible assets will be less than the value of the enterprise. The Murry case and TR 1999/16 support the residual value approach in calculating goodwill, and that goodwill attaches to a relevant business.

    See also:

    Allocation process

    You need to identify all assets before you allocate values to each one. You also need to consider whether there are any transactions related to the transaction giving rise to the allocation, such as related agreements. Related transactions may impact on the total transaction value to be allocated, and assets to be valued.

    You should sort identified assets into the classes listed below:

    • Cash and cash equivalents – such as cash and bank deposits that are taken at face value.
    • Assets that are actively traded – such as foreign currency, bonds, debentures, derivatives and listed securities. These assets tend to have a transparent value due to the existence of a ready market.
    • Inventory (that is, trading stock or property held primarily for sale in the ordinary course of business). This asset class is identified separately due to its rate of turnover. Any allocated value is deductible in the ordinary course of business.
    • Other tangible assets – such as depreciating assets and realty (land and improvements). This will capture all other tangible assets.
    • Identifiable intangible assets except goodwill – such as patents, brand names and software.
    • Goodwill (or going-concern value). This is the residual value after all other asset values have been allocated.

    If a business has been acquired as a going concern and is generally profitable, you should include a value for goodwill. If a valuation does not include a value for goodwill, you should consider whether the allocation process has been reasonable, and the reasons behind the absence of a goodwill valuation. The absence of goodwill in a value allocation may indicate that:

    • the business does not generate economic profit
    • the sale price was undervalued (and hence the purchaser did not pay a component for goodwill)
    • excessive value has been allocated to other assets.

    See also:

    Step-by-step allocation of value

    Some assets have a statutory value other than market value for tax purposes. Each of these assets needs to be allocated its market value, not its statutory value, in both the residual value and apportionment methods.

    For example, Division 43 of the ITAA 1997 sets out particular methods for establishing asset values for tax purposes in rental properties. Such assets would therefore have those values for tax purposes, but for allocation to other assets under the apportionment or residual value methods they still need to be valued at market value.

    Step 1

    Identify all assets transferred as part of the overall transaction.

    Step 2

    Group assets by the following classes in this order:

    1. cash and cash equivalents
    2. actively traded assets
    3. inventories
    4. all other tangible assets
    5. identifiable intangible assets (other than goodwill).

    Step 3

    Assign the market value to each asset in classes 1 and 2. The market values for these assets remain unadjusted regardless of whether goodwill exists.

    Step 4

    Add up the market values of all assets in classes 1 and 2 to get a total market value for all class 1 and 2 assets.

    Step 5

    Assign the market value to each asset in classes 3 to 5.

    Step 6

    Add up the market values of all assets in classes 3 to 5 to get a total market value for these assets.

    Step 7

    Add your step 4 and step 6 answers to get a total assigned market value of all assets for classes 1 to 5.

    If this amount:

    • is less than the total transaction amount, the market value assigned to the class 3 to 5 assets is the allocated value and there is also goodwill – go to step 8(a) to calculate goodwill
    • is equal to the total transaction amount, the market value assigned to the class 3 to 5 assets is the allocated value and there is no goodwill
    • exceeds the total transaction amount, go to step 8(b) to determine the adjusted allocated values for each asset in classes 3 to 5.

    Step 8(a) – Goodwill

    Where the result at step 7 is less than the total transaction amount, the residual amount represents goodwill. Establish the value of goodwill as follows:

    • Overall transaction amount minus the total assigned market value of all assets (step 7 answer).

    Step 8(b) – Apportionment

    Where the step 7 amount exceeds the total transaction amount, there is no goodwill and you need to establish the adjusted transaction value for each asset in classes 3 to 5. Calculate this as follows:

    (i) Overall transaction amount minus your step 4 answer (ie minus total market value of assets in classes 1 and 2)

    (ii) Answer to (i) multiplied by the market value of each asset from classes 3 to 5 divided by your step 6 answer.

    See also:

      Last modified: 18 Aug 2017QC 21245