Estate & Gift Planning For Collectors. Fredric M. Sanders (212)

Transcription

1 Estate & Gift Planning For Collectors Fredric M. Sanders (212)

2 2010 Tax Act Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 ( 2010 Tax Act ) Major provisions Extended lower income tax rates Extended lower capital gains rates Extended lower dividend tax rate Estate, gift and generation skipping transfer taxes Provisions all scheduled to expire on 12/31/12 2

3 Federal Estate Tax Exemptions & Rates NEW TAX ACT AFTER SUNSET Estate Exemption Equivalent Choice of no estate tax, or $5,000,000 $5,000,000 Indexed for Inflation $1,000,000 Maximum Rate Choice of no estate tax, or 35% 35% 55% Basis Treatment Modified Carry-Over or Step-Up Step-Up Step-Up 3

4 Estate Tax Exemption & Portability Portability Taxpayers no longer face use it or lose it situation. Upon death of first spouse, a credit shelter trust is NOT required to preserve the deceased spouse s exemption. Must file estate tax return upon death of first spouse. 4

5 Portability & Limitations Portability is stop-gap for those who fail to plan Not indexed for inflation after first spouse s death Appreciation of assets that could have been placed in trust could face 55% estate tax Loss of asset protection No portability for Generation Skipping Transfer Tax Only applicable through 12/31/2012 It will be some time before regulations are issued 5

6 Working with Portability Provisions The provision is very complicated since it deals with the subsequent re-marriage and death of a new spouse. Portability will not replace the planning needed for unified credit trusts to freeze the estate of the surviving spouse and to keep these assets out of the surviving spouse s estate for state taxation purposes. The provision lasts for 2 years and then the estate tax returns in 2013 in its prior form. 6

7 Federal Gift and GST Exemptions & Rates NEW TAX ACT AFTER SUNSET Gift Tax Lifetime Exemption $1,000,000 $5,000,000 $1,000,000 Gift Tax Maximum Rate 35% 35% 55% GST Tax Exemption No GST tax $5,000,000 $1,000,000 Adjusted for Cost of Living since

8 Estate And Gift Tax Sunset Estate $5M/35% $1M/55% Gift $5M/35% $1M/55% GST $5M/35% $1.4m/55%* Sunset Uncertainty Above the Line Use it or lose It lifetime gift strategies Already maxed $1M exemption Asset Protection *1.4M GST is approximate as it is indexed to the CPI. The 55% GST does not include the estate tax. 8

9 $5M Lifetime Gift Exemption: Use it or Lose it Window of opportunity to make gifts to family of up to $5M (single) $10M (married) for high net worth individuals Asset Protection on gifted assets through trusts Very helpful for people who have already maximized the previous exemption amount of $1M per spouse 9

10 Strategies for Art and Collectibles The tax law provides favorable deductions for donors who contribute art to museums, educational institutions and other qualified organizations. Art and Collectibles includes paintings, sculpture, prints, drawings, jewelry, ceramics, antiques, textiles, stamps, coins and, of course, glass art. A qualified organization is a public charity or a private operating foundation, but not a private non-operating foundation. Typically, major collections are given to museums or educational institutions that have public charity status for example the donation of the Heineman Collection to the Corning Museum. 10

11 Strategies for Art and Collectibles Generally, art and collectibles held by a collector are considered capital gain property, the sale of which results in capital gain long or short term depending on whether the property has been held for more or less than 1 year. The capital gain rule does not apply to the artist who created the work or to dealers selling inventory. Glass art held for more than 1 year contributed to a qualified charity results in a charitable deduction for federal income tax purposes equal to the fair market value of the property, provided that the contributed property meets the related use rule. 11

12 Strategies for Art and Collectibles The related use rule requires the charity to use the donated art in a manner consistent with the charity s exempt purpose. If not so used, then the deduction is limited to the donor s cost of the property (or its fair market value if it is less than cost basis). Thus, the gift of art to a college that will display the work and retain it, would result in a full fair market value deduction, whereas a gift to a charity that immediately sells the property would result in a deduction limited to the donor s basis. The applicable Regulations provide reporting requirements for qualified organizations that sell contributed property within 3 years of making the gift. Such a disposition may result in the revision of the donor s charitable deduction, unless the charity can show that the intended use of the property became impossible or unfeasible to implement. 12

13 What the Charities Want Museums want to acquire works of the highest quality. Many museums have a wish list of works by particular artists to fill gaps in their collections. Collectors must understand the needs of the institution; those needs may not allow the museum to acquire an entire collection a museum has to be selective and will cherry pick. The museums have storage and insurance issues. Museums looking to build a glass art collection will be more flexible and will work with collectors looking to downsize or who are looking for a current charitable deduction for the gift. Some institutions may seek a financial contribution for maintenance of the collection, lighting, or exhibitions. Generally, institutions won t accept gifts that require display, exhibition or retention, except in the case of major gifts. 13

14 Valuation of Art and Collectibles The general rule for federal estate, gift, and income taxes is that property is valued at fair market value - the price between a willing buyer and a willing seller, neither being under any compulsion to buy or sell and both having reasonable knowledge of the relevant facts. A variety of factors may be relevant to valuation, including the cost or sale of the property, sale prices of comparable items, and expert opinions. For federal estate tax purposes, the IRS considers a sale of a collection at public auction or via classified advertisement within a reasonable time after death as generally setting the value for estate tax purposes. In other cases, it will be necessary to obtain an appraisal of the transferred property. Appraisals must be prepared by an expert under oath and must include the appraiser s qualifications. Generally, appraisals are required to support a charitable deduction of more than $5,000. Cost of an appraisal can vary from place to place. Charges may be based on a percentage of value of the pieces being appraised or a fixed price per piece or for an entire collection. If the deduction is $20,000 or more, a copy of the appraisal must be attached to the tax return. 14

15 Valuation of Art and Collectibles For gifts valued at more than $50,000, the taxpayer can request a Statement of Value from the IRS before filing a return. The IRS has an Office of Art Appraisal Services which reviews fair market value claims in cases under examination and supervises the Art Advisory Panel. The Art Advisory Panel consists of 25 volunteers who are nationally prominent art museum directors, curators, scholars, art dealers, auction representatives and appraisers. Valuation cases involving property worth $50,000 or more are referred to the Art Advisory Panel for determination. There are significant penalties that may be imposed for substantial valuation misstatements. 15

16 Partial Interest Gifts Abuse by taxpayers of partial interest gifts resulted in legislation changing the rules dramatically. An income tax deduction is not allowed for an outright gift of less than the donor s entire interest in the property. A deduction is allowed, however, when a donor gives a fraction or percentage of each and every substantial interest or right the donor has in the property. The charity must have the artwork in its possession for a portion of the year (e.g. 10% if it has a 10% undivided interest) generally, a charity will accept an undivided interest only if it is assured that it will ultimately receive full ownership of the property. Under recent legislation, the full property must be given to the charity at the earlier of 10 years from the date of the initial gift or the donor s death. There are limitations on the value of future charitable contributions of the property. Future gifts of additional undivided interests will be valued at the fair market value of the property at the initial gift of the undivided interest. 16

17 Lifetime Gifts Remain Important The $5M exemption presents an opportunity to transfer substantial assets to future generations without incurring gift or generation skipping taxes. Gifts should be made by the end of 2012 to take advantage of the increased exemption. Use valuation discounts to transfer assets as efficiently as possible. Both spouses should take advantage of the new exemption amounts. The $5M exemption can be used to correct and repair previous estate planning efforts that may not have worked out as originally contemplated. Gift tax returns will still be required for annual gifts in excess of $13,000 and for gifts of property. Estate tax returns will be required for the portability provisions to be used by the estate of the surviving spouse. Preparation of a federal estate tax return may be required by certain States that have independent estate tax statutes. 17

18 Bargain Sale to Charity A bargain sale is a sale of art to a qualified charity for less than its fair market value. This generates some cash to the donor and a charitable deduction for the discount. The charitable deduction is subject to the same substantiation and related use requirements of an outright gift. The donor must allocate the cost basis of the object between the sale and the gift portions. The donor s intention to make a gift of the discount to the qualified charity should be clear. 18

19 Charitable Remainder Trusts Tangible personal property can sometimes be an appropriate asset to fund a charitable remainder trust (CRT). A CRT is an irrevocable trust that provides distributions to individuals during their lives with the remainder going to charity. Because a CRT is a tax-exempt entity it can be used for diversification of highly-appreciated assets. When the contributed assets are sold by the CRT, no capital gains are payable at the time of the sale resulting in all of the proceeds being reinvested and generating income for the donor. The donor will be entitled to a charitable deduction equal to the present value of the charity s remainder interest, but the deduction cannot be taken until the property is actually sold by the CRT. The deduction will be limited to the lesser of the property s fair market value or its cost basis, since the CRT does not meet the related use test. There are many technical hurdles to consider and because of limitations and complexity, CRT may only be useful where the donor is truly interested in the financial well-being of the charity and is seeking a taxefficient way to convert an illiquid asset into an income-producing portfolio. 19

20 Private Operating Foundations The Private Operating Foundation (POF) is an option for larger collections where a donor wishes to establish his own museum for the collection. The donor is entitled to a deduction for the fair market value of the gift, but gets to retain control as a member of the board of directors of the POF. To be classified as a POF, a private foundation must directly operate an active charitable program and must expend or dedicate a sufficient amount of its resources to that program. The donor must apply to the IRS and meet various tests. 20

21 Testamentary Non-charitable Planning A bequest of art or collectibles should be clear and unambiguous to avoid conflicts among beneficiaries. Payment of storage charges and delivery costs should be set out clearly as to whether such costs should be paid out of the estate or by the beneficiary. Generally, collections should be specifically bequeathed rather than passing as part of the residue to avoid income tax issues. If the collection is to be sold, the Will should be drafted to support a deduction for sale expenses. Generally, these expenses are deductible for sales needed to pay debts, expenses or taxes, to preserve the estate, or to effect distribution. For works of modest value, use of the $13,000 annual gift tax exclusion can remove items from the taxable estate. 21

22 Lifetime Non-charitable Planning For items of greater value, gifts to an irrevocable trust containing Crummy withdrawal rights may be considered if the donor has a large number of children and grandchildren. Use of a trust may allow keeping the collection together for future generations. The lifetime unified credit can also be used to fund a trust. An aggressive strategy for lifetime transfers is for the transferor to place the property in a family limited partnership or limited liability company (Art LLC). The Art LLC is a convenient vehicle to manage and control the collection regardless of who the owners of the interests in the Art LLC may be. The gifting of LLC interests may be done using discounts for lack of marketability and lack of control. Note: this is an area of close IRS scrutiny. 22

23 Lifetime Non-charitable Planning On a more sophisticated level, a sale to an intentionally defective grantor trust can be used for more valuable collections. Such sales are made to a trust in return for an interest-bearing promissory note. Funding is required to pay the current interest on the note with a balloon payment at the end of the term. Needless to say, this is fairly aggressive plan that is complex and subject to IRS scrutiny. 23

24 Conclusion Many techniques are available for both charitable and noncharitable dispositions. Intelligent decisions regarding disposition of the collection should be made while the owners are still alive -- before the family pulls up the van to remove valuable art and collectibles. 24