Trading stock is one of the most directly controllable variables in an Australian business's taxable income. The rules in Division 70 of the ITAA 1997 require businesses to bring opening and closing stock into the tax calculation — and, crucially, they give taxpayers a choice of three valuation methods for closing stock. That choice is made fresh each year, which means a well-timed stocktake and a deliberate valuation decision can legitimately reduce taxable income in a high-profit year. This guide walks through the legal requirements, the three methods, and how to document write-downs so the ATO cannot challenge them.
The Legal Obligation: Who Must Stocktake at 30 June
Any business that holds trading stock is required to conduct a stocktake at the end of its income year — for most businesses, 30 June. The ATO's simplified trading stock rules under section 70-50 provide an exception: if the difference between opening stock and a reasonable estimate of closing stock is $5,000 or less, the business may choose not to conduct a formal stocktake and instead use the opening stock value for closing stock (meaning no trading stock adjustment to income). This concession is available to businesses with an aggregated turnover under $10 million.
For businesses above the threshold, or those whose stock levels fluctuate significantly, a physical stocktake is mandatory. Count everything the business owns that is intended for sale, including raw materials, work in progress, and finished goods. Goods held on consignment for another business are generally excluded; goods you own but have not yet received (in transit under an FOB shipping point contract) should be included.
Three Valuation Methods — and How to Choose
Once you have the physical count, you choose a valuation method. The three options are:
1. Cost price. The actual cost to acquire or produce the item, including freight, import duties, and direct labour for manufactured goods. This is the default and produces the highest closing stock value in a rising price environment — which means the lowest deduction against income.
2. Market selling value. The price the business would ordinarily receive if it sold the item in the normal course of business at 30 June. For retailers with seasonal stock, this may be lower than cost — think last season's fashion inventory or perishable goods approaching expiry. Where market value is below cost, this method reduces closing stock and therefore increases the opening-minus-closing adjustment, reducing taxable income.
3. Replacement value. The cost to replace the item with an identical item at 30 June. This is most relevant for businesses whose input costs have fallen during the year — a business that bought raw materials in January at a higher price may find the replacement cost at 30 June is lower, making this the most favourable method.
You may apply different methods to different classes of stock within the same entity. A business could value slow-moving finished goods at market selling value and fast-moving raw materials at cost. The choice must be documented in the tax return workpapers and applied consistently within each class — the ATO will question a business that switches methods for the same class of goods year to year without a commercial reason.
In a high-profit year, valuing closing stock at the lowest defensible amount (typically market selling value for slow-moving lines, or replacement value where input prices have dropped) is a fully legal tax minimisation strategy. Engage clients in this conversation before 30 June, not after.
Write-Downs for Damaged and Obsolete Stock
Stock that is damaged, obsolete, or otherwise impaired can be written down to its net realisable value (NRV) — the expected selling price less any costs to sell. This is often more aggressive than the three statutory methods and must be supported by documentation.
The ATO requires:
- A description of the goods and the reason for impairment.
- Evidence of the write-down decision (board or management approval, emails, stocktake notes).
- Confirmation that the goods were still on hand at 30 June (they cannot have been disposed of before the year end and then retrospectively written down).
- Where the NRV is nil (the goods are worthless), confirmation of disposal or destruction after year end.
Common mistakes: Writing down stock that has simply not sold yet (slow-moving is not the same as impaired), or failing to reverse a write-down in a subsequent year when circumstances recover. Both attract ATO attention in review.
GST Implications of Stock Adjustments
The stocktake process can also have GST consequences that feed into the BAS. If trading stock is applied to private use — for example, a café owner takes food home — a deemed taxable supply arises under section 130-5 of the GST Act. The owner must account for GST on the lesser of the cost price or market value of the goods taken.
Pure write-offs (goods destroyed or written off as worthless) do not create a GST liability. However, if the business claimed a GST credit when purchasing those goods, and they are subsequently applied to a non-taxable purpose, an increasing adjustment under Division 129 may be required — particularly for capital items above the $1,000 threshold.
Building the Stocktake Workpaper
A clean stocktake workpaper should include:
- Date of count and who performed it.
- Item-by-item list with quantity on hand, unit cost, and chosen valuation method.
- Total closing stock value reconciled to the general ledger stock account.
- Write-down schedule with NRV calculations and supporting evidence.
- Comparison to prior year closing stock to flag unusual movements.
Store this workpaper with the tax return file. If the ATO requests verification of the trading stock deduction in an income tax review, a well-organised workpaper closes the matter quickly. Missing documentation is the single most common reason a legitimate write-down claim is disallowed.