By David A. Levitt & Nancy E. McGlamery, Adler & Colvin – San Francisco, Guest Columnists

Those who own works of art can use that art effectively to support charity.  Individual donors may be eligible for an income tax deduction for the charitable gift of the artwork and may also avoid paying tax on capital gain if the art has appreciated in value.  Donors must follow certain steps to secure a charitable income tax deduction, and the donor may want to consider different options depending on the circumstances of the gift.

Art Gallery

What are charitable giving options for clients who own art?

1.  Donate the art directly to a charity.

In order to claim a charitable income tax deduction, the donor must itemize deductions.  The 2017 Tax Cuts and Jobs Act increased the standard deduction and limited many itemized deductions, so some taxpayers who previously itemized may no longer choose to do so.

For those who do itemize and want to donate a work of art to a qualifying charity, a deduction may be available that is equal to the fair market value of the artwork at the time it is donated, but only if certain requirements are met.

If the donor has a work of art that she has inherited or held for more than one year and that has appreciated in value, donating the art to charity also avoids paying capital gains tax on a sale that otherwise would be owed on the difference between the current fair market value of the artwork and the owner’s cost basis.

Note we are also assuming that the donor did not hold the artwork as business inventory; for example, the deduction rules would be less favorable if the donor had held the artwork primarily for potential sale to customers as part of her business.

For a fair market value deduction, the donation must be made to a public charity or a private operating foundation.

A donation to a public charity can qualify for a full fair-market-value deduction, if certain conditions are met (described below).  Donation of art to a private operating foundation may also qualify for a full fair-market-value deduction.  Therefore, a donor who contributes to (or even establishes) a small museum that qualifies for exemption as a private operating foundation may take advantage of this deduction.  The charitable income tax deduction for a donation of art to a private foundation that is not a private operating foundation will be limited to the donor’s cost basis.

The donated art must be used by the recipient charity for a related use.

In order for a donation to a public charity or private operating foundation to be eligible for a fair market value deduction, the recipient charity’s use of the donated artwork must be related to the recipient’s tax-exempt purpose. Donating a painting to a museum for display, for instance, should qualify.  If the recipient charity instead sells the art, for example in an auction, the donation will not meet the related use requirement, even if the proceeds of the sale will further the recipient charity’s charitable purposes.  Thus, donating a painting to a donor advised fund (DAF) sponsor typically does not qualify, since the DAF sponsor is likely to sell the art to generate funds to make distributions.  In that case, the donor may deduct only the lesser of its cost basis or the fair market value of the artwork.

The amount of the charitable deduction that the donor can use in one year will depend on the type of charity that receives the gift, but excess charitable contributions may be carried forward.

Whether the potential deduction is fair market value or basis, the portion of the potential deduction that the donor may actually deduct may be limited in any tax year:  For donations of art to a public charity or private operating foundation that is not for a related use, the deduction is capped at 50% of the donor’s adjusted gross income (AGI).  (A different AGI limit may apply for a related use.)  If the art is donated to a private foundation that is not a private operating foundation, the deduction is capped at a lower percentage (either 20 or 30%) of the donor’s AGI.  If a donor has charitable contributions in excess of these percentage limitations, the excess deductions may be carried forward to one or more of the five tax years immediately succeeding the year of the original charitable contribution.

An appraisal of the value of the donated artwork (and additional tax filings) may be required.

For noncash donations such as a work of art, the donor must obtain a qualified appraisal if the claimed deduction is $5,000 or more.  Therefore, if the donor will donate the art directly, the donor may need a qualified appraisal of the donated artwork conducted by a qualified appraiser.  The federal tax law includes detailed requirements for the qualifications of the appraiser and the contents of the appraisal.  If the value of the donated art is $20,000 or more, the taxpayer also must attach a complete copy of the signed appraisal to her return. If a tax return is selected for audit by the IRS and includes an appraisal for a single work of art valued at $50,000 or more, the IRS is required to refer the matter to an IRS Art Advisory Panel composed of independent subject matter experts.  Following these IRS requirements for a donation of art is critical to claim the charitable income tax deduction.

In addition, if the claimed value of the donated artwork is more than $500, the donor also must file a Form 8283 with the IRS.  The Form 8283 includes a description of the property, name and address of the donee, the date of the contribution, and the value of the property.  If the claimed deduction is more than $5,000, the donor must summarize information about the appraisal described above on the Form 8283, and if the claimed deduction for a donation of artwork is more than $20,000, a copy of the appraisal must be attached.  If the recipient charity sells, exchanges, or otherwise disposes of the donated artwork within three years of receipt, it must file a Form 8282 with the IRS to report the amount the charity received in the sale of the artwork. The charity is also obligated to send a copy of the Form 8282 to the donor. As a result of a sale by the charity, the donor’s contribution deduction could be reduced (e.g., if the art was not put to a related use).

Be wary of any donor restrictions.

If the donor imposes any restrictions or conditions on the contribution, the amount of the deduction that otherwise would be available may be reduced to an amount lower than the unrestricted fair market value of the art contributed.  Therefore, the donor should consider the impact of any requirements on the use of the donated artwork before placing restrictions on donated property.

The artist may be limited to a less favorable deduction.

If the donor of the art is the creator of the work, rather than a collector, the art is not considered a capital asset in his or her hands.  In that case, the donor may only deduct the cost of the materials used to create the art, because proceeds from the sale are considered to be ordinary income. The cost basis of the art is based on the cost of the materials used to create it, which may be zero if the artist has already deducted those expenses.

2.  Sell the art and donate the proceeds to charity.

Given the rules summarized above, a fair market value deduction for the value of the work of art may either be unavailable or may be challenging or costly to obtain.  The donor could instead sell the art and donate the proceeds to a charity, taking advantage of a potentially more favorable deduction for cash and requiring no appraisal.   While the donor may then owe tax on the capital gain from the sale, the donor might be able to offset that income with the charitable deduction.  The donation in that case could be made to a DAF or to a private foundation, and the potential deduction could be equal to the fair market value of the art, without concern about any related use or appraisal requirements.  In addition, the value of the art also would be removed from the donor’s estate.

Families should plan in advance and discuss whether heirs will want certain pieces of art or collections before the parents downsize or are no longer living. The donation of art or the sale and subsequent donation of the after-tax proceeds can help families create a charitable legacy and support numerous causes and charities.

At American Endowment Foundation, we look forward to helping donors and advisors determine the best strategies for their charitable giving. Please contact us or call at 1-888-966-8170 with any questions.

This blog is for general informational purposes only.  It should not be construed as legal advice or substitute for consultation with qualified legal counsel, nor does it create an attorney/client relationship between the blog author or publisher and any readers or recipients.  Readers are urged to consult their own legal counsel to discuss any specific questions concerning their individual circumstances.

David A. Levitt is a Principal at the San Francisco law firm of Adler & Colvin.  Mr. Levitt practice focuses on the representation of nonprofit and tax-exempt organizations, with an emphasis on program-related investments, social enterprise, political advocacy, and nonprofit corporate governance.  He is the chair of the firm’s Social Enterprise Team.

Nancy E. McGlamery is also a  Principal at Adler & Colvin.. Ms. McGlamery’s clients include public charities, private foundations, grantmakers, nonprofit service providers, individual and corporate donors, nonprofit advocacy groups, and others. Her practice emphasizes corporate governance and federal and state tax law matters unique to nonprofit and tax-exempt organizations. Ms. McGlamery co-chairs Adler & Colvin’s Family Office Philanthropy Group.