Planning for Collections & Collectibles
Collectors collect. It’s what they do. There are very few “static” collections. Cars come, cars go. Collections expand and contract. Because collecting is so dynamic, it can be very costly from a tax perspective if the collector isn’t very carefully planning their buys and sells. There are many ways to balance passion and practicality but the best way is planning in anticipation of future events. Planning for collections & collectibles is a large piece of your financial planning puzzle.
Classic automobiles are nothing more than tangible personal property to the IRS. That means when a collector buys that prize Ferrari for $1,000,000 and sells it five years later for $5,000,000, Uncle Sam will want 28% of the profit. That’s $1,120,000. And then there’s the state. Talk about taking the bloom off the rose. Ick.
Income & Estate Tax Planning for Collections & Collectibles
There are many ways that collectors can plan for both income and estate taxes for their collections. There is no right or wrong way, per se. Well, not planning would be wrong, but you know that. The purpose of this white paper is to describe a planning methodology that is not frequently discussed simply because most professionals really aren’t familiar with it: that is the use of a Total Return Pooled Income Fund (TRPIF).
What is a TRPIF? Organized by a non-profit under §642(c)(5), it is a trust to which property is contributed in exchange for units of ownership. One of the elements that is making TRPIFs extremely attractive now, is the very high charitable deduction available to the donor with a charitable structure that will still distribute income over his lifetime. In fact, it is so attractive, that it is possible to produce multi-generational incomes and still receive a deduction of 50-55%. There is a philanthropic component to this strategy, thus it is imperative that the collector have some charitable bones in his body. However, if the charity of choice is currently the IRS, this isn’t too big a leap for many to make.
Without getting into all the gritty details, here is how this structure may benefit a car collector. The vehicles need to be owned by an entity first. Probably a Limited Liability Company (LLC) is best suited for this arrangement. In fact, a series LLC, one in which each car is in its own individual LLC would be ideal. The collector is named as the “manager” of the LLC so the decisions regarding the acquisition, disposition, insurance, maintenance, etc. remains in his control. Then, prior to engaging in any sale transaction, LLC interests are transferred to the TRPIF. The LLC interest can represent 100% of the collection or some smaller fraction. That’s entirely up to the collector and the value that he wants to consider transferring.
Since we’re dealing with tangible personal property as mentioned above, there is no current charitable income tax deduction available. That will come when the vehicle is sold. However, when the LLC interests are transferred there is a completed gift and the value is out of the collector’s estate, which may be a desired outcome. Upon sale, two positive events occur for the collector. The charitable income tax deduction becomes available to be used on the collector’s individual income tax return. Since this is tangible personal property, the deduction is limited the cost basis. The collector, depending on his tax status and other factors, can utilize the deduction up to 30% of his Adjusted Gross Income (AGI). Any unused deduction may be carried forward and utilized over the next five tax years. The next good thing that happens, or better, doesn’t happen, is that there is no capital gains tax to be paid by the seller. The sales proceeds are inside the LLC which is owned by the TRPIF but the collector can use them to purchase another car for the collection, if so desired.
For the collector looking to monetize his collection, the TRPIF might be a great exit plan. As the collection is sold, the funds can be re-invested in traditional or non-traditional investments and all income is distributed to the collector for the rest of his life. As suggested above, the income may even follow down to the second generation for their lives. Ultimately the funds will be distributed to the charities of the collector’s choosing but a lot of other good things can happen in the meantime.
There are many intricacies and planning nuances available for collectors who are interested in selling or expanding their collection by utilizing a TRPI. Many are beyond this discussion but the possibilities are exciting. Strangely, there are only a few advisors who are aware of this concept and utilize it regularly. For those who do, it produces powerful results.
To find out more information on planning for your collections & collectibles, contact Two Hawks Consulting today!