If you are an art collector interested in giving a piece of art to a charity, what factors should you consider in order to maximize your income tax deduction?
Short Answer: If a person as a collector contributes highly appreciated art purchased and held over one year to a qualified public charity and reports the contribution along with a supporting appraisal (if the art exceeds $5,000.00 in value) the person will avoid recognizing the built in capital gains, avoid paying inheritance and estate taxes and the person will be able to deduct the full fair market value of the donation as of the date of the contribution.
Long Answer: The Tax Code encourages the contribution of art to tax exempt organizations by allowing deductions against income for the gift. The size of the deduction will depend on several factors.
Owner’s Status: The first step in examining the tax consequences of gifting art is to determine if the taxpayer is classified as a collector, a dealer, the artist or an investor. Much larger deductions are available for collectors, while the tax advantages of charitable donations by dealers, the original artist and investors are more limited.
Gains in value of Art held for more than one year are considered long-term capital gains if the person is collector, while those same gains are considered ordinary income if the owner is a dealer who holds the art as part of his business inventory. A collector’s donation of artwork with built-in capital gains generates an income tax deduction valued at the artwork’s full fair market value.
The income tax deduction is limited to the person’s basis in the property if the sale of the artwork would generate ordinary income, which is the case with an art dealer, someone who has held the art for less than one year (short-term capital gains property) or the artist herself. So, for example, if an art dealer in Philadelphia purchased a work of art for $100,000 that was really worth $500,000, and subsequently contributed that art to the Philadelphia Museum of Art, the dealer would only receive an income tax deduction of $100,000. Using the same facts, an art collector who made the purchase and held the art over a year would receive a $500,000 income tax deduction. If the original artist contributed the $500,000 work to the museum, she would only receive a deduction for the materials used in creating the work.
Public Charity: The gift must be to a public charity recognized as such by the IRS. Most of these charities are listed in IRS Pub. 78, and public charities are usually more than happy to provide the potential contributor with proof of their public charity status. Contributions to private charities are generally limited to the giver’s basis.
Related Use: To qualify for the maximum deduction, the gifted art must be something normally retained and exhibited by the public charity and relate to purpose or function constituting the basis the charity’s status as a public charity.
Creating the Paperwork: Generally, if the public charity wants the art being offered as a gift the staff will create the necessary paperwork proving that it is a public charity and that the artwork being donated satisfies the related use rule. The contributor will include the paperwork along with Form 8283 (Noncash Charitable Contributions) on the collector’s personal income tax.
If the value of the art being donated is greater than $5,000, the taxpayer must obtain a “qualified appraisal” no more than sixty days before the donation according to IRC Section 170(f)(11)(C). This qualified appraisal must be attached to the taxpayer’s tax return, as it is the value the IRS can accept as the deduction. A qualified appraisal must be conducted by a “qualified appraiser,” who must meet the following criteria, found in IRC Section 170(f)(11)(E)(ii): (1) he must have earned an appraisal designation from a recognized professional appraiser organization or have met professional education and experience standards; (2) he must regularly perform appraisals and receive compensation for such appraisals; and (3) he must meet other guidelines as prescribed by the IRS (there are several). It is important to select wisely, because if the appraisal is rejected the resulting reduction of income tax deduction can easily result in additional income taxes, interest and potentially penalties.
All qualified appraisals are reviewed by the IRS’ Office of Art Appraisal Services, who may or may not choose to accept the qualified appraisal value. If the Office does not accept the value, or if the value of the art is appraised at greater than $20,000, the matter is referred to the Commissioner’s Art Advisory Panel. The Panel is comprised of twenty-five art experts who evaluate the art without being told of the tax implications of their valuation (for example, if the art was being deducted as a charitable contribution on an income tax return, the taxpayer would benefit from a higher appraisal, and if the art was being evaluated for estate tax purposes, the taxpayer would benefit from a lower appraisal). The findings of the Panel will be accepted by the IRS as the final value of the art for tax purposes. Statistics from 2008 show that the IRS accepted approximately 42% of qualified appraisals submitted without Panel review, and recommended adjustments of approximately 56% of the matters referred to the Panel.
Statement of Value: If the contributed art exceeds $50,000 in value the donor may request that the IRS issue a Statement of Value. The donor may rely on a Statement of Value, avoiding potential penalties. The request must be made prior to filing the tax return that reports the donation and includes a $2,500 fee for the first 3 artworks ($250 for each subsequent).
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