Funding A Charitable Remainder Trust With Artwork

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The Art Basel and UBS Global Art Market Report for 2022 reports that the global art market saw pandemic recovery with robust sales of art and antiques by dealers and auction houses, reaching an estimated US$65.1 billion, up 29% from 2020 (US$50.1 billion), and exceeding pre-pandemic 2019 values. Public auction sales of fine and decorative arts and antiques rose by 47% compared to 2020, reaching an estimated US$26.3 billion. Private sales in the auction sector also saw a steady uptick of 32%, reaching US$4.1 billion, of which Sotheby’s and Christie’s auction houses make up US$3.0 billion alone.

As your stock portfolio has been hammered by the recent Bear Market and your artwork has appreciated, you may want to sell your Artwork and reinvest into investments, but with the growth of the value of your artwork comes the tax cost of all of that appreciation. The tax rate on capital gains on artwork is 28%, plus the 3.8% Net Investment Income Tax means that the federal tax alone on the gains will be 31.8%. A way of avoiding paying the tax when you sell your artwork is to sell the artwork through a Charitable Remainder Trust, which will also give you an immediate income tax deduction of approximately 10% of the value of the artwork.

When you fund a CRT with an appreciated but hard-to-value asset like artwork, it is to your benefit to set the value of such an asset as high as possible. Doing so increases both the amount of the charitable income tax deduction and the amount of the annuity or unitrust payment. To prevent donors from overstating the value of these assets, the IRS imposes special requirements for assessing the value of all “unmarketable assets” transferred to or otherwise owned by a CRT, including artwork.

There are two methods for valuing unmarketable assets. First, an “independent trustee” can appraise the property. An independent trustee is someone other than the maker of the CRT, a noncharitable beneficiary of the CRT, or a “related or subordinate party” to the maker, the maker’s spouse, or a noncharitable beneficiary. The regulations impose no requirement on how an independent trustee determines the value of the property, nor do they require the independent trustee to have any special skill in appraising unmarketable property. In addition, the regulations do not specify who appoints the independent trustee. Presumably then, the independent trustee can be selected by you as the maker and identified in the trust instrument. Alternatively, the trustee can be authorized in the document to appoint an independent trustee when needed. Under the second method, the trustee uses a “qualified appraisal” obtained from a “qualified appraiser” to fix the value of the artwork, if the value exceeds $5,000.

While this rule applies only so long as the CRT holds the artwork so, as a practical matter, the art need only be appraised when transferred to the trust and, if the art is unsold by the end of the year, the annual revaluation of the CRT. Once the art is sold, and the proceeds are either cash or publicly traded stocks and bonds, there is no requirement for an appraisal.

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Under IRC section 170, a “qualified appraiser” is an individual who has earned an appraisal designation from a recognized professional appraiser organization or has otherwise met minimum education and experience requirements set forth in regulations prescribed by the Secretary, regularly performs appraisals for which the individual receives compensation, and meets such other requirements as may be prescribed by the Secretary in regulations or other guidance. This person must also demonstrate that relative to this specific work of Art, they have verifiable education and experience in valuing this type and genre of artwork and they have not been prohibited from practicing before the Internal Revenue Service by the Secretary at any time during the 3-year period ending on the date of the appraisal.

A “qualified appraisal” is a written document that complies with the Uniform Standards of Professional Appraisal Practice (USPAP) and since this is artwork, the standards of the Art Advisory Panel of the Internal Revenue Service. At a minimum, this means the document includes:

• The identity of the owner,
• The intended use of the appraisal,
• That your objectives have not biased the appraiser’s opinions,
• The type and definition of value and the most probable Fair Market Value at the time of the donation in terms of Cash, Financial arrangements equivalent to cash, and any other terms and any nonmarket financial conditions or incentives, that, in the appraiser’s opinion, has a negative influence on value developed from market data.
• The date of the appraiser’s opinions and conclusions
• The characteristics of the property sufficient to identify the item including:
• The name of the artist or culture,
• The title or subject matter of the artwork,
• The medium, such as oil or canvas, or watercolor on paper,
• The date the artwork was created,
• The size,
• Any marks, signatures, or labels on the item of art, on the back of the item of art, or affixed to the frame,
• The history (provenance) of the item, including proof of authenticity, if that information is available,
• A record of any exhibitions at which the item was displayed,
• Any reference source citing the item,
• The physical condition of the item;
• A professional quality photograph of a size and quality fully showing the item, preferably an 8 × 10 inch color photograph or a color transparency not smaller than 4 × 5 inches,
• The quality of the item within its type,
• Other physical and economic attributes that have a material effect on the value,
• The ownership interest valued, if more than one owner exists,
• Known restrictions on the item, and
• Any other item, such a frame, associated with the item.

Also, there should be a Contemporaneous Written Acknowledgement (CWA) from the CRT to you that the artwork was received and, other than the annual payments required by the CRT, no goods or services have or will be received. This means that, once the artwork is donated, the artwork cannot remain on display in your residence as the display would be considered goods or services retained by you when the artwork was donated. You could wait until you are about to consign the artwork for sale, or if a private treaty sale, then just before the purchase and sale agreement is executed, to make the transfer to the CRT. That way, once the Deed of Gift is executed, then the artwork is removed and placed in the hands of the dealer or auction house that is going to sell the Artwork.

Using a CRT for tax deferral on artwork is a useful tool, but does require that you follow all of the regulations and requirements. This is especially true in valuation of artwork donated to the CRT.