Estate Planner September/October 2006
When planning their estates, many people focus on stocks, bonds and real estate, and pay little attention to personal property. But it’s not unusual for collectibles – such as art, jewelry, antiques, automobiles, coins and stamps – to make up a significant portion of one’s wealth.
If your estate includes valuable collectibles, there are a number of estate tax planning challenges to be aware of and opportunities to consider.
Whether you give collectibles to family members or donate them to charity, it’s critical to obtain a qualified appraisal. The value of property for federal gift, estate and income tax purposes is its fair market value; thus, it’s vital to establish this value.
Given the subjective nature of art valuation, and the potential for abuse, IRS auditors are required to refer gifts of art valued at $20,000 or more to the IRS Art Advisory Panel. The findings of the panel – which includes top curators, dealers and other experts – become the IRS’s official position on the art’s value. To obtain the best possible outcome, include a comprehensive appraisal by a qualified expert with your return.
An appraisal also can give you some peace of mind with regard to federal gift taxes. The statute of limitations for gift tax purposes doesn’t begin to run until you file a gift tax return that satisfies the IRS’s adequate disclosure rules. A qualified appraisal fulfills many of the rules’ requirements.
For additional comfort, ask the IRS for an advance ruling on the value of personal property for tax purposes. To obtain such a ruling, you must:
· Make the request after you transfer the property,
· Obtain a qualified appraisal,
· Transfer at least one item whose value is $50,000 or more, and
· Attach copies of Form 8283 and the appraisal to the ruling request.
Bear in mind that there is a fee of $2,500 for the first three items and $250 for each additional item.
Making testamentary gifts
If you plan to leave collectibles to your heirs in your living trust or will, it’s usually best to make specific bequests. If you transfer collectibles through residual gifts – that is, as part of the property that’s left after other beneficiaries receive their bequests – the recipient also may inherit some unwelcome tax liabilities in the form of being responsible to the estate for the share of tax related to the item.
Some people’s wills allow their beneficiaries to choose the personal property they’d like to keep and provide for the remainder to be sold. If the beneficiary is a surviving spouse, however, there’s a risk the gift won’t qualify for the marital deduction. (Ordinarily, the marital deduction defers estate taxes on an unlimited amount of property you transfer to your spouse, as long as he or she is a U.S. citizen.)
There’s some authority for the proposition that the marital deduction applies as long as the spouse is required to choose the collectibles he or she wants to keep within the time period for making a qualified disclaimer. (Qualified disclaimers are used to refuse a bequest and allow the property to pass to someone else without adverse tax consequences.) But a safer approach is to bequeath all collectibles to the spouse and allow him or her to disclaim any unwanted items.
You also can make testamentary gifts to charity, but, as discussed below, lifetime charitable gifts are preferable because they generate significant income tax benefits.
Donating to charity
Art and other collectibles are ideal assets for charitable giving, particularly if they’ve appreciated significantly in value. When you donate appreciated property to charity, you avoid capital gains taxes – a big advantage for collectibles, which are taxed at a hefty 28% rate. (Long-term gains on most capital assets are currently taxed at 15%.)
If the charity’s use of the donated property is related to its tax-exempt purpose, you’re also entitled to a charitable income tax deduction equal to the property’s fair market value – up to 30% of your adjusted gross income (AGI). Otherwise, your deduction is limited to your cost basis (up to 50% of AGI). If you donate a painting to a museum for display, for example, or to a university for use in art classes, the use is related to the charity’s exempt purpose. If the charity sells the painting and uses the proceeds, however, it’s not used for a related purpose.
Keep in mind that, if you donate art or other copyrighted property and you own the copyright, you’re entitled to a charitable deduction only if you transfer the copyright along with the work. This rule creates a tax trap for unwary donors. For works created before 1978, purchased art includes the copyright unless the seller specifically reserves it. But under the Copyright Act of 1976, the copyright is presumed to stay with the seller unless it’s specifically transferred to the buyer.
Offering fractional gifts
Fractional giving is a great way to generate income tax savings while continuing to enjoy your art – at least for part of the year. Say you donate a 25% interest in your art collection to a local museum. The museum gains the right to display the collection for three months each year. You deduct 25% of the collection’s fair market value immediately, while continuing to display the art in your home for the remaining nine months. Most museums will accept fractional gifts only if you agree that the work eventually will become the museum’s exclusive property.
If the art continues to appreciate, your deductions will grow with each donation. Giving art away gradually also can help you avoid losing deductions that exceed the 30%-of-AGI limit. Although excess deductions can be carried forward for up to five years, the deductions may be lost permanently if a work or collection is extremely valuable.
Collecting your thoughts
These are just a few of the many strategies you can use to transfer art and other collectibles in a tax-efficient manner. Other options for charitable giving include charitable trusts, artwork loans and bargain sales. Techniques for sharing collectibles with your family include trusts, family limited partnerships and family limited liability companies.
Whichever strategies you choose, if you own valuable collectibles it’s important to include them in your estate plan.