ATO ID 2003/44: Trading Stock: Valuation of Abalone
Date of decision: 21 November 2002
Year of income: Year ended 30 June 2001 Year ended 30 June 2002
Business line: Private Groups and High Wealth Individuals

Issue
Is the 'cost' of abalone for the purposes of paragraph 70-45 (1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) calculated using the full absorption cost method for all expenses of acquisition and production?

Decision
No. The 'cost' of abalone for the purposes of paragraph 70-45 (1)(a) of the ITAA 1997 is not calculated using the full absorption cost method for all expenses of acquisition and production.

Facts
Abalone are being bred in a land based marine operation. A substantial labour force is employed full time in the complex operation of producing mature stock. Breeding stock are taken from their natural environment and are placed in a temperature and light controlled holding area. The breeding stock are then separated by gender and induced to release their eggs and sperm. The eggs and sperm are analysed and then combined for fertilisation. The fertilised eggs are then placed in trays where they hatch into a free swimming larval stage. The larvae then complete the final stage of development and transform into miniature abalone known as spat, which are placed into a nursery where they remain for several months. They are then held in grow out bins until ready for sale. The final grow out stage is the most labour intensive stage with the staff undertaking feeding, cleaning, monitoring and water sampling.

Reasons for decision
Summary: Under subsection 70-45(1) of the ITAA 1997 the taxpayer must elect to value each item of trading stock on hand at the end of the income year at either Trading stock includes livestock (paragraph 70-10(a) of the ITAA 1997). Abalone produced for sale are considered to be trading stock both within the ordinary meaning of the term and as live stock for the purpose of section 70-10 of the ITAA 1997. Taxation Ruling IT 2350 recognises that the courts have established the following general propositions about how a taxpayer values manufactured trading stock at 'cost price' under subsection 31(1) of the Income Tax Assessment Act 1936 (ITAA 1936): Section 70-45 of the ITAA, which replaces subsection 31(1) of the ITAA 1936, is compatible with the case law and rulings relating to subsection 31(1) of the ITAA 1936. Under paragraph 70-45(1)(a) of the ITAA 1997, trading stock is valued at 'cost' rather than 'cost price'. The Commissioner accepts that the production of abalone does not constitute manufacture. However, the same principles of valuing manufactured trading stock apply such that the absorption cost method is the appropriate method to use to include those costs sufficiently associated with the production of trading stock. On this basis, all costs of production in bringing abalone to a saleable condition would need to be added to the acquisition cost of the abalone. However in order to be consistent with accepted practice in relation to the rearing and maintenance of livestock generally, the ongoing production costs will be allowed as a deduction as and when they are incurred in the normal carrying on of the abalone business. As such, 'cost' would include only those expenses incurred up until the abalone reach the spat stage of development and expenses of production thereafter would be deductible as incurred. Accordingly, the 'cost' of abalone for the purposes of paragraph 70-45(1)(a) of the ITAA 1997 does not need to be calculated using the full absorption cost method for all expenses of acquisition and production.

Legislative references: Income Tax Assessment Act 1936 Subsection 31(1)
Case references: Australasian Jam Co Pty Ltd v. Federal Commissioner of Taxation (1953) 88 CLR 23 (1953) 10 ATD 217 (1953) AITR 566.
Related ATO interpretative decisions: ATO ID 2002/756
Subject references: Trading stock