Plant & Machinery Valuations
How do you know if your Quantity Surveyor is doing a good job?
The demands on Quantity Surveyors has changed over the years, changing legislation, taxation regulations also bring the requirement that Quantity Surveyors need to stay up to date to ensure that they provide their clients with best service possible. One of the important skills for a QS is the knowledge of construction cost and estimating principals. Please refer to The Australian Institute of Quantity Surveyors (AIQS) web page at www.aiqs.com.au/What_is_QS/index.htm to find out more information about the role of a QS.
To complete a Tax Depreciation Report a QS needs to have a thorough understanding in the following three key areas:
- Plant & equipment valuation experience;
- Construction cost knowledge;
- Knowledge of tax legislation with regards to real estate.
In this article we will be focusing our attention on the principals of sound plant & equipment practice.
This article focuses on the knowledge required for Plant and Equipment valuations. The valuation of Plant and Equipment is a highly specialised discipline, requiring detailed knowledge of a wide range of plant and equipment across a diverse industry base. This knowledge has generally come from years of practical experience, backed by constant research, which is then logged in a Plant and Equipment Valuation Database.
This article has been tailored to cover plant and equipment valuations specific to investment properties and thus has been simplified due to the nature of plant typically found in rental properties. However the fundamentals are the same regardless of what type of plant is being valued.
Types of Valuations
There are 3 basic types of valuation methodologies:
- Insurance Valuations
- Financial Valuations
- Open Market Valuations
Insurance Valuations are prepared on the basis of Replacement with New (RWN). The basic valuation technique is to establish a current new price for the item being valued with a generally similar asset accounting for capacity and quality, allowing for transportation, installation and commissioning costs. For large specialised plant, additional costs may also include for foundations and consultants fees.
Even in the case of simple plant such as a refrigerator, the valuer/QS will need to recognize which features on the refrigerator are standard issue and which items were supplied as an extra cost over an above the base price for the particular model.
Where refrigerators similar to one being valued are no longer available or where the current models incorporate additional features (otherwise known as betterment) when compared to the existing asset, it will be necessary to make adjustments in the replacement with new price in respect of obsolescence. For example, if the asset being valued has a capacity of 300L but the current model similar asset is now only manufactured with a 400L capacity with a new replacement cost of $1000. Then the replacement with new value for the plant could be:
Purchase price for 400L capacity model $1,000
Less betterment say 15% $ 150
Add for installation, transport $ 100
Replacement with new value $ 950
Financial Valuations otherwise known as existing use value or market value insitu is the technique adopted when preparing tax depreciation schedules. With these valuations, the valuer/QS will assume that the plant being valued will continue in its present existing use in the business or investment property.
The required basis of value is value to the business or existing use / going concern. The process to determine value is done in two stages. First establish the replacement with new value as described above for insurance purposes and then depreciate the new cost base taking into account age, condition etc in order to reflect the value attributable to the remaining economic working life of the asset.
For new plant, the opening written down value (OWDV) will be the RWN value as described above for insurance valuations. For second hand plant often encountered in investment properties, the OWDV will be the depreciated replacement cost (DRC), which is the RWN value less an amount for depreciation.
Depreciation must take into account the following:
· Physical life of asset;
· Engineering information;
· Manufactures specification;
· The way in which asset is currently being used;
· Past experience of the user of the asset;
· The level of repairs and maintenance;
· Industry standards;
· The use of the asset by different users;
· Retention periods;
· Scrapping or abandonment practices;
· Lease period of asset;
· Market value if asset is available for purchase in open second hand market.
The last point is very important and it is essential to cross reference the DRC value calculated with market evidence where possible so that they are at least within a reasonable range.
For example if we are valuing a second hand dishwasher in an investment property and taking into account standard manufactures specification and usage of the plant typical of a rental property:
Replacement with new value $1,200
Economic life 10 years
Age 3 years
Remaining life 7 years
DRC (7/10 x 1,200) $840
If the item being valued has an open market value of $500 and after adding a portion of the depreciated cost for installation and transport say $210 (7/10x$300), brings the existing use value up to $710 which is in line with the DRC illustrated above. For practical purposes, one might adopt a value somewhere in the middle say $770.
Open market valuations is the last technique used which was briefly described above. Estimates of open market value or Fair Value can only be determined upon research of market evidence of transactions which can be sourced from auction sales, classifieds, trading post etc. Care must be taken when comparing sales evidence to the subject plant ensuring that comparisons are being made with like assets with similar capacities, quality and condition etc.
At Property Wealth we ensure depreciation reports are complied correctly, detailed site notes are required to be taken in order to form a sound foundation for a correctly assessed report. Coupled with plant and equipment valuation knowledge, you can be assured that the report will not only be correct, but will also stand up to any ATO scrutiny.