When you purchase a business, thought needs to be given to how you will value assets like stock, property and financial arrangements. Inland Revenue has brought in Purchase Price Allocation Rules to standardise the process. The rules apply from 1 July 2021 and will ensure that both the purchaser and the vendor account for valuations on the same basis.
Until now, there has been no requirement whatsoever for vendors or purchasers to agree on the allocated purchase price when buying and selling a business. Not surprisingly, vendors and purchasers have often chosen purchase prices that best suit their needs to minimise tax liabilities or maximises their tax advantages. Typically a higher proportion of taxable and depreciable assets will benefit the buyer the most as expenses and depreciation can be deducted in future. Conversely, for the vendor, a higher proportion of non-taxable assets is of benefit as it reduces their taxable income.
So just what’s included in the new rules?
- taxable (revenue) assets like trading stock, accounts receivable, personal property bought for resale, or patents;
- depreciable (capital) assets like property or plant or machinery; and
- non-taxable (capital) assets like business goodwill.
From 1 July 2021, the two parties to the sale should allocate market value to the assets. This may differ from book value and so consideration should be given to how the assets are valued.
If the vendor and purchaser agree on how the sale price is to be allocated for these assets (prior to filing the first tax return), there is no need to inform Inland Revenue. Of course both parties need to use the agreed allocations with their first tax return after settlement. Note however that Inland Revenue reserves the right to cite the agreement and might disagree on the way values have been allocated.
So what if the parties don’t agree?
Here’s where it gets interesting.
If the total purchase price exceeds $1 million, or where the assets are residential land with a purchase price exceeding $7.5m, new rules apply.
Assuming an agreement on the purchase price allocation isn’t struck between the parties, the vendor (seller) may determine the allocation unilaterally within 3 months of the sale. In other words, the purchaser wouldn’t get a say and the vendor’s decision would be binding on the purchaser. The purchase price allocation must then be notified to both the purchaser and Inland Revenue.
What if that doesn’t happen?
Well, the purchaser can then determine the purchase price allocation in months four to six following the settlement. They would notify the vendor and Inland Revenue.
Failing either party making a unilateral decision, Inland Revenue then has the right to make the decision for them. The purchaser would not be entitled to make any deductions until this decision has been made.
As with all business transactions, it’s essential you seek professional advice early. Generate Accounting is able to advise you through the process to ensure that you don’t have any unwelcome news down the track.