On 17 January 2012 the Australian Taxation Office published a “Valuation Issues Paper” in collaboration with the Australian Property Institute and the Australian Valuation Office (link).  In light of this it is worthwhile recapping on the current requirements for approved valuations for GST margin scheme calculations, and considering what this Issues Paper may add.

There are several situations in which calculations of GST payable under the margin scheme for supplies of real property under Division 75 of the A New Tax System (Goods and Services Tax) Act 1999 require an “approved valuation” of a property interest as at 1 July 2000 or some later date when a particular event occurs (eg the date of GST registration).

Section 75-35 allows the Commissioner to determine in writing the requirements for making such a valuation, and has issued a number of legislative determinations in this regard.  The latest is MSV 2009/1 (link) applying to sales of real property from 1 March 2010.  Typically a taxpayer will adopt Method 1 of engaging a professional valuer.

Paragraph 13 of MSV 2009/1 lists various requirements for a valuation by a professional valuer to be an approved valuation for the purposes of Division 75.  Essentially the valuation must determine the market value of the property interest as at the applicable valuation date and must be made in a manner that is not contrary to the professional standards recognised in Australia for the making of real property valuations.  It also must satisfy certain procedural requirements, including a certificate specifying certain things (including the valuation approach and the valuation calculation) and when the valuation must be made.

The decision of the Federal Court in the Brady King case (link) is authority for the Commissioner being able to challenge margin scheme valuations (ie where the Commissioner considers the valuation is too high so the GST payable is too low) where the terms of the applicable legislative determination have not been complied with.

To successfully challenge a professional valuation the Commissioner would need to show that it did not comply with the requirements of MSV 2009/1.  Provided the signed certificate sets out the requisite matters and other procedural matters are followed, the Commissioner would need to argue that as a matter of fact the valuation was not a market value determination made in accordance with the professional standards recognised in Australia for the making of real property valuations.

While MSV 2009/1 is not all that descriptive about what factors need to considered or disregarded in undertaking the valuation, the need to set out in the valuation certificate the valuation approach and the valuation calculation gives the ATO and AVO potential nits to pick.

The Federal Court in the Brady King case acknowledged that within any valuation there will be matters of subjective judgement undertaken by the professional valuer based upon his or her expertise and experience.  The Court commented that just because another valuer may come to a different valuation figure does not mean that the valuation relied on may not be compliant, and indicated that only where there was a fundamental error would the valuation be invalid (such as in that case ignoring post 1 July 2000 sales data), and that minor errors would not be sufficient.

The ATO in the recent Valuation Issues Paper now talks about valuations falling within a “reasonable range”.  This at least appears to be a step forward from the more pedantic and inflexible ATO/AVO approach that taxpayers have experienced in the past, although the Issues Paper does discuss a number of recurring issues which the ATO says have been appearing in non-complying valuations.  I won’t run through all of these in detail, but broadly they relate to:

• using profit and risk ratios well below what it considered reasonable
• not using open market interest rates
• unrealistic project timelines
• not including important development costs in a hypothetical development valuation
• assuming nil contamination where evidence indicates a probability the property is contaminated
• unreasonably assuming nil or minimal risk associated with site characteristics
• comparable sales data not withstanding objective scrutiny of their comparability
• not using pre-sale prices if determining a gross realisation value (particularly when property prices have risen)
• the impact of post valuation date knowledge or events
• valuing the real property interest that is being sold rather than the interest that existed at the valuation date.

In respect of post valuation date knowledge or events, the Issues Paper states that post valuation information which clarifies the state of the property as at the valuation date may be considered in the valuation as it is expected that a prudent purchaser would undertake appropriate investigation to limit their risk.

However, where post valuation date information changes the state of what existed as at the valuation date then this information should not be used, eg a development application has been lodged and approved, although the ATO does appear to leave the door open to including post valuation date knowledge and events which can enhance values as long as relevant risk weightings or other reasonable adjustments are included. Risk-adjusted rezoning potential as at the valuation date may therefore still be able to be taken into account.

Where there is possible contamination the ATO comments that the valuer may provide a qualified valuation excluding the impact of contamination and revise their valuation once the full extent of contamination is known. In most cases the full contamination reports and remediation costs should be available before the property is sold, and the ATO would expect a revised valuation be issued and then used for the GST calculations. However in some cases the property will be sold and GST accounted for before the full financial impact of contamination is known, where indemnity issues may be important.

Time will tell, but it does appear that the ATO may have become a little more relaxed about complying margin scheme valuations.  Ten recurring errors have been identified in the Issues Paper, but whether they are errors in each specific circumstance could be arguable on the facts and it will be their effect on the “reasonable range” that is important.  Material assumptions may need to be justified, and preferably should be explained properly upfront in the valuation certificate to avoid drawn-out and costly disputes with the ATO.  Copies of instructions and supporting documents must be maintained.  But clearly taxpayers also should not just roll over if challenged by the ATO where they think that the approach used is reasonable and justifiable.