HMRC have published a practice note explaining their new views on the valuation of goodwill in connection with trade-related properties. It goes on for 13 pages, and the essence of the note is to say that they intend to attribute a greater value to the property element in a business sale than has previously been the case. They say that when a business is sold as a going concern, the sale price will reflect the combined value of the tangible assets together with the benefit of other business assets (i.e., goodwill). Substantial value can be realised by combining the tangible and intangible assets, and they conclude that in the past an inadequate amount of value has been attributed to the property assets.

It seems entirely right for HMRC to say that for tax purposes it is necessary to recognise the contribution that each asset makes to the combined value – but there seems to be something not quite right about their analysis.

It starts with the proposition that property-trade-related businesses are rarely, if ever, transferred without any form of property rights. Of course this is circular. A trade-related property will naturally be one that is sold together with the business, and a property related to a business that would not normally be sold with the business would not be a trade-related property. Circular definitions do not achieve anything – except, in this case, it reveals that HMRC are wanting to identify a class of assets being trade-related properties and to make a special case for their valuation.

The implication is that a property from which a successful business trades has some goodwill of its own – but this surely must be a misunderstanding. The goodwill value attaches to the business, and the property value attaches to the property. The fact that some businesses are conducted from properties in key locations does not create goodwill in the property. The value of the property is determined by a number of elements, and everybody knows that the first three most important elements are location, location and location.

If a business succeeds at a particular location, all that means is that there is a successful business carried on from this property. The property is valuable (but the property is valuable anyway), and the owners of the business have been able to run a successful business. The property does not grow in value by reason of the success of the business. Conversely, a valuable property is still a valuable property, even if the business does not succeed.

Another area of confusion derives from the proposition that you find a home for any difference in sale price over the underlying valuations. For example, a business might be sold for £100. The property may be valued at £35, the chattels valued at £10 and goodwill valued at £45. There is a £10 difference, which has to be attributed somewhere.

However, in reality there is no difference. It is just that you have got your values wrong. It could be that the property has been undervalued – and if it has, the value needs to be corrected. This would be unusual, because there is an extensive database relating to the real values of property. (Just at the moment it may be impossible to value anything – but you cannot draw principles from chaos.) In normal times, property values will be pretty accurately determined by those experienced in the field having regard to the characteristics of the particular property and the prices prevailing in that area at that time. If it is a public house or a cinema located in a particular place where a profitable trade might be expected to be generated, that is a function of its location and will be reflected in the property value. Goodwill, on the other hand, is notoriously difficult to value, because it is so subjective and no matter how many calculations you can do, somebody will come along and either pay more or less. However scientific your calculations, they will be wrong.

So, in the above example, assuming the property value is accurate, it is simply the case that the goodwill has been undervalued, because, although the valuer might have thought it was worth £45, it is obviously worth £55. It is not a question of wondering where to attribute the difference. It is a question of putting the figures right.

The flaw in the overall reasoning is to suggest that some part of the profitability of the business should be attributed to the property; however, this is no more correct that saying the business is more valuable than it merits by excluding part of the property value and attributing to the business – for example, the location.

I note from the press release that discussions are continuing with professional bodies on this issue, and I daresay we will receive further information in due course.