Future Returns: How the Proposed Tax Changes Could Affect Art Collectors
Wealthy individuals who collect works of art should pay close attention to the US $ 3.5 trillion budget reconciliation bill before the US Congress, as proposed tax changes in the law could have big implications for how of which they manage their collections.
Those who own works of art and collectibles often don’t see their treasures the same way investments in stocks and bonds do. They want to wear the jewelry they own, display their paintings and continue to drive their sports cars, says Monica Heslington, head of the art and collectibles advisory team at Goldman Sachs Family Office.
“It’s much easier to get clients to plan with financial assets than with works of art and objects that are important to them,” says Heslington.
But the proposed changes to the U.S. tax code should prompt customers to take notice. Penta recently spoke with Heslington about proposals that could affect current sales of art and collectibles and the use of grantor trusts to pass art on to heirs, and approaches investors may consider in response.
Taxes on sales of works of art
Sales of works of art and collectibles are currently subject to a 28% long-term federal capital gains tax rate, a fact that in itself may be surprising news for some collectors.
This is because the maximum federal tax rate for long-term capital gains from the sale of financial assets is only 20%. In both cases, high-income earners must also pay a net investment income tax of 3.8%. State taxes may also apply.
Initially, Democratic lawmakers considered a proposal to increase the rate of long-term capital gains on the sale of any asset – collectibles included – to 39.6%, a level that would prompt many collectors to suspend the optional sale of an item, Heslington said. .
But this proposal was dropped in favor of increasing the maximum long-term capital gains rate from 20% to 25%, and maintaining the 28% rate for the sale of collectibles. While collectors are happy that the higher rate is no longer being considered, a new proposal would add a 3% surtax to collection sales for those with income over US $ 5 million or for a trust or estate with an income of more than 100,000 US dollars. , she says.
It is not clear, however, whether a 3% surcharge will be high enough to deter collectors looking to sell, Heslington says.
While the aftermarket offering of art is primarily driven by death, divorce, and bankruptcy, people also sell art for other reasons – perhaps their tastes change over time or that they just want to improve their collection, says Heslington.
However, many of these collectors can plan their sales, and they might choose to wait and hope for a future change in the law. How this plays out could affect the secondary art market, especially among dealers and galleries, who are more motivated by these voluntary sales than auction houses.
There is precedent for how a change in the tax code can affect sales of works of art. In 2017, U.S. tax reform legislation eliminated so-called like-for-like exchanges for personal property, including works of art, which had allowed those who owned works of art as an asset to investment to sell a work and defer the associated capital gains and income taxes if they subsequently purchased. similar work.
“When the similar exchanges disappeared, it had a chilling effect on the art world,” Heslington said.
The impact of potential changes on trusts and estates
Today, a collector can give their child, for example, a $ 10 million painting without paying inheritance tax upon death. Under the proposed change to the exemption, the donor in this example would be liable for a 40% gift tax on the US $ 4 million in excess of the exemption, Heslington says.
Once the gift tax exemption is satisfied, wealthy individuals and families will protect their assets from inheritance taxes by selling them to assignee trusts. For those who wish to keep works of art and collectibles in their homes throughout their lives, while saving their heirs’ estate taxes, typically sell their valuables to a trust and ‘rent’ them out duty-free tax, she said.
But with the proposals currently before Congress, “these techniques are going to become much more expensive, or not be as easy as they used to be,” Heslington says.
Currently, for example, collectors can sell works of art to a grantor trust vehicle without incurring taxes, and that work of art can appreciate without adding to the estate’s value. an individual.
But under the proposed legislation, if a US $ 10 million artwork in a grantor’s trust appreciates to US $ 15 million, the US $ 5 million of appreciation will be returned to the estate, “Unrolling the purpose of doing the planning,” Heslington said.
If passed, these tax law changes could force collectors to talk to their children about whether they want the art, and if they don’t – which they often do – one option is. to give her charity, she said. Works of art can be directly transferred to a non-profit association or to a private foundation of an individual, which in both cases allows them to be passed on with a full tax deduction.
Such transactions could help the art market, as foundations or associations are likely to sell works to raise funds.
Since all of these proposals are still under consideration, many details, such as whether grandfathered transferor trusts would allow certain transactions, remain unclear. But the reassessment gives collectors a reason to start thinking about their options, whether the rules change or not.