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Sunday, May 5, 2024
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Case Studies |
Getting Back to the "Art of the Matter," Part 5
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Case:
Paulo Frambini, 45, is a talented artist and a self-proclaimed leader of the art purist movement. He lives, breathes and eats art history and culture. Paulo refuses to be characterized as any one particular type of artist. Accordingly, Paulo's artistic creations are very diverse and varied. In fact, during the past year, he painted a traditional 17th century landscape piece and he sculpted a giant dolphin out of a 2000-pound marble block. In addition, he also purchased a modern abstract piece made entirely out of used car parts.
Not surprisingly, Paulo strongly supports the arts in his community. He frequently gives workshops and tours at the local art museum. In addition, Paulo also is fond of the local art college where young new talent is groomed and developed everyday.
Paulo desires to make a substantial contribution to charity. Specifically, he would like to give one of his work of arts, but also wants to receive income for a period of ten years to help supplement his inconsistent income. He wants to take full advantage of the tax benefits associated with charitable giving.
Question:
What are the tax consequences if Paulo gives the modern abstract piece to a charitable remainder unitrust with the remainder to an art museum? Does it matter whether the art museum wants to have the piece? Why or why not?
Solution:
Gift of Artwork to CRUT: When dealing with gifts of artwork, the first step is to determine the type of asset being contributed as defined by the tax code. If a donor is the creator of the work of art, then it is an ordinary income asset to the donor. Alternatively, if a collector holds the work of art for investment purposes, then it is a capital asset.
Second, since art is tangible personal property, the charitable deduction for a gift of art will depend also upon whether the property is put to a "related" or "unrelated use." A related use gift occurs when the charity actually makes use of the property in a manner consistent with its exempt purpose.
In this case, Paulo purchased the modern abstract piece as an investment. Therefore, the artwork is deemed a capital asset. Assuming he purchased the property at least a year and one day ago, the art would further be classified as a long-term capital asset. Paulo purchased the artwork for $10,000 and, due to its creator's death, it has since appreciated in value to $100,000.
If the property qualifies as related use property, then the gift of an appreciated artwork produces a charitable deduction equal to its fair market value. However, a gift of tangible personal property for an unrelated use produces a deduction only for cost basis, so long as the cost basis does not exceed the fair market value.
In this case, the art museum strongly wants the piece and intends to purchase it from the CRT. Therefore, it would appear that Paulo's transfer to a CRT of his investment artwork would produce a fair market value deduction under the related use exception. However, gifts of tangible personal property to a unitrust are generally deemed an unrelated use. See Reg. 1.170A-4(b)(3). The rationale underlying the regulation is that the trust does not intend to use the property, but instead intends to sell the property. The fact that the proceeds of the sale would be used to benefit the charity does not alter the result. Thus, Paulo's transfer of his piece to a CRT would be deemed an unrelated use, and consequently, his deduction would be based upon his cost basis of only $10,000.
After considering his desire to help the museum, his income needs and his modest gross income each year, Paulo decides to move forward with the CRT plan. Therefore, Paulo creates a 6% Flip CRUT for 10 years with the modern piece. The Flip CRUT will give Paulo flexibility in the event the piece does not sell immediately. The driving force behind the gift was helping charity and increased income not the income tax deduction. Thus, Paulo is wonderfully pleased with this gift arrangement that benefits both charity and him.
Editor's Note: One special rule with respect to CRTs and tangible personal property should be noted. In short, the rule disallows a current tax deduction until the donor is divested of all rights to possession or enjoyment of the property. See Sec. 170(a)(3). Therefore, under the "intervening interest rule," Paulo would not be entitled to a charitable contribution deduction until the trustee sold the piece. Accordingly, the gift would be deemed made at that time under Sec. 170.
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