The rules are designed to ensure that where a sale and purchase agreement strikes an overall price that includes two or more different categories of asset, the vendor and purchasers’ tax position with respect to the allocation of price between the asset classes must be aligned.

The IRD believes that historically there have been issues with vendors and purchasers taking different tax positions on the values allocated to assets acquired together that have led to slippage in the tax system.

An example of this might include the vendor of a commercial building disposing of fitout assets at book value and avoiding a depreciation recovery where the purchaser engages a valuer to value the fitout and allocates more value to the fitout items depreciated than the vendor has.

The new rules cover commercial property transactions over $1,000,000 and residential transactions over $7,500,000.

The rules will also capture business sale transactions and farm sales. The new law requires the parties to approach the allocation of value with respect to the market values of the assets.

There are two methods by which values can be allocated.

1. By agreement between parties.
2. Where the parties don’t agree, by applying a “unilateral allocation” where the first right to allocate values falls to the vendor and if they don’t make a unilateral allocation, the right falls to the purchaser. The law provides the IRD with an overriding power to require the parties to adopt a different allocation if they consider the agreed allocation doesn’t reflect the market value of the assets.

The new rules do not require value to be allocated to individual asset items. Only to six specific classes of asset. These classes are:

1. trading stock
2. timber or the right to take timber
3. buildings
4. depreciable property other than buildings (fitout items)
5. financial arrangements
6. property for which sale does not give rise to taxable income for vendor or purchaser, eg land.

The ADLS agreement for sale and purchase of real estate is being updated to reflect the ability to allocate value across the asset classes, but this may not be released before the law comes into effect.

It will be best practice to reach agreement on price allocation in the sale and purchase agreement but this is not a requirement. Parties can reach agreement any time before the date for filing their tax returns.

If parties fail to agree the vendor has the first right to make a unilateral price allocation under section GC21. This right runs for three months from the settlement date.

If the vendor fails to file a unilateral allocation within their three-month deadline the right passes to the purchaser.

Under a unilateral allocation, no value can be allocated to depreciated property below its tax book value, meaning the vendor will lose the opportunity to claim a loss on disposal if assets are worth less than their book values.

If nobody notifies an allocation the commissioner will determine allocation. In this situation the purchaser is denied any deductions until the year after IRD confirms allocation. This rule is designed to incentivise parties to resolve allocation.

A unilateral allocation notification must contain:

1. name and IRD numbers for both parties
2. date of agreement and settlement
3. total consideration paid
4. amounts allocated to each asset class including zero if some have no allocation
5. a statement that amounts are allocated in accordance with GC21.

These new rules could have widereaching impacts during negotiation. The vendor has the upper hand given they can draw up auction terms and conditions and have first go at a unilateral allocation.

Problems could also develop if the parties aren’t clear about who owns the fitout items. In many cases, fitout will have been paid for and owned by the tenant and ownership does not transfer with a land sale.

Parties to property transactions should seek independent tax advice.

Mark and his team specialise in advising on property-related transactions, valuation and restructure services, and tax planning. Withers Tsang & Co Phone 09 376 8860, www.wt.co.nz