Valuation of goodwill in trade related properties – importance for apportionments
06 December 2011
The question of how to identify and value goodwill in the transfer of a business carried on from a 'trade related property' has been the subject of debate and discussion for a number of years now, between HMRC, taxpayers, their advisers and various professional bodies. Trade related properties include restaurants, pubs, hotels, care homes etc.
Goodwill is not subject to stamp duty land tax and so any consideration which can be apportioned to goodwill will be advantageous to the purchaser. The consideration has to be apportioned on a 'just and reasonable basis' under the SDLT legislation.
We understand that there are currently many outstanding HMRC enquiries into SDLT returns which seek to challenge the amount apportioned to separate goodwill.
As well as SDLT, the question of how goodwill should be valued is relevant for a number of other taxes.
In addition, and as a more general point, different assets attract different treatment for tax purposes (capital gains, VAT, capital allowances and SDLT) and therefore it is important to address any apportionment of purchase price to these different assets at an early stage.
In order to arrive at the value of any 'free' (i.e. not part of the property) goodwill HMRC's approach is to separately value all of the tangible assets and deduct the total cost from the overall consideration, and the figure which is left can be attributed to goodwill.
For this purpose, in valuing any trade related property (as one of the tangible assets), HMRC broadly follow the guidance in the RICS Red Book at GN2. This requires the trading potential of the property to be taken into account in the value, which broadly means estimating the profits which can be generated from the property by a 'reasonably efficient operator' carrying on the same type of business, capitalising the profits and deducting the value of the chattels. Therefore it is not simply the value of the bricks and mortar which can be deducted from the overall price.
An alternative approach
The other 'mainstream' approach to valuing trade related property businesses is to attempt to put a value on separate goodwill (based on a multiplier of profits), along with the other separately identifiable assets and then to apportion the overall consideration to each element pro-rata.
HMRC do not like this approach and in particular say that if the total value of the separate assets comes to more than the overall sale price, this simply shows that one or more of the assets is overvalued, and this is most likely to be the goodwill.
How to approach the matter
It is very difficult for taxpayers to know how to approach this matter whilst there is still so much uncertainty about the correct method of coming up with a 'just and reasonable' apportionment.
The cautious approach would be to obtain a valuation of the property from a Chartered Surveyor based on the Red Book GN2 (even though this explicitly states that an apportionment for tax purposes is outside its scope!) and use HMRC's method to determine any 'excess' goodwill.
Alternatively, many commentators think that the alternative approach mentioned above is 'just and reasonable', but a cautious approach still requires the property to be valued on the same basis as described above.
If it is not possible, or too costly, to obtain separate valuations, then taxpayers will simply need to consider how best to come up with a reasonable apportionment based on their knowledge of the business and property, and be prepared to justify this to HMRC.
What is clear, is that the apportionment should be considered early on in a transaction and discussed between the seller and the buyer and reflected in the agreement. Whilst HMRC are not bound by the apportionment agreed between seller and buyer if it is unreasonable, it is important as evidence to show that the parties agreed that goodwill exists as a separate asset.