Tax Options For Estate Planning

"Taxes are usually underpaid out of intent, but overpaid out of ignorance."

Once again, the United States tax code has run amok. Much as casino gambling rules are written to favor the house, so is the tax code written to favor the government. The core advantage is that the government's representatives can claim you owe virtually anything, and the burden of proving otherwise is on you. Throw in the continuing annual "im-provements," Congressionally mandated exceptions, exemptions and "simplifications," and the result is well beyond the understanding of most if not all Americans. Indeed, even IRS employees manning the Tax Help Hotline give incorrect advice roughly 20% of the time.

It is both ironic and symptomatic that the IRS does not accept financial responsibility for those errors. Similarly, while the IRS may recalculate a mathematical error in your favor, they will not point out legitimate deductions that would have reduced your tax bill. Nor will they advise you on how both your financial holdings and estate can be legally structured and positioned to minimize the tax bites of capital gains and estate taxes. That is your responsibility and right or wrong, it is a reality you need to face. If your holdings are substantial, it is well worth the expense of engaging experts to lead you through the fiscal minefield.

This chapter deals with some of the options available for estates with collections. Depending on your personal circumstances, the decisions you make may impact the amount of ordinary income, capital gains, gift and/or estate taxes that you or your heirs have to pay. This chapter is provided solely to improve your general understanding, for we cannot know or advise how any of the options would apply to your personal situation or holdings. We strongly recommend that after studying this information, you engage the services of a competent legal professional, preferably an attorney who is board-certified in Real Estate, Trusts and Probate by your state, or a tax advisor, preferably a CPA who specializes in taxes. Feel free to ask as many questions as it takes to address your interests and concerns, and between the two of you, you should be able to create the plan that best fits your needs and wishes.

Most of the tax-saving options can be accomplished only during your lifetime. If you have ceased actively collecting, there are definite advantages to early disposition. If not, there are also some compromise positions that can allow you to enjoy some control of the collection and some tax benefits as well.

Is Your Collection Worth More Today Than When You Purchased It?

Many collections appreciate over time, but there are exceptions. If you were unfortunate enough to have been the victim of an unscrupulous seller, a current appraisal may show you to be in a loss position. If so and disposition is your intention, you may sell the collection by any method and use the loss to offset an equal amount of capital gains, and you may currently deduct up to $3,000 of excess capital loss annually as well. If, more typically, the collection has appreciated, many other issues come
into play.

Give Portions of Your Collection to Your Heirs Now

Estate taxes can be punitive. There is an exemption as of 1999 of $650,000 with indexed increases into the future, but tax rates on the balance of your estate could be as much as 55%. You can reduce your taxable estate through gifts to your heirs during your lifetime: $10,000 annually (per recipient) is permissible without incurring gift taxes. The gift could be appraised portions of your collection or other assets. Recipients must be relatives, but the guidelines are quite liberal. Your advisor will be able to tell you how far the allowance extends.

Donate Your Collection to a Public Charity

If your collection has appreciated, you may be able to enjoy some fiscal benefit while avoiding the trauma of seeing it broken up and sold, through a charitable donation to a public charity. For example, say the cost of your collection was $10,000, but the current fair market value is $60,000. You donate the collection to a qualifying charity. If you are in the 39.6% tax bracket, your tax savings are $23,760— still a great improvement on your basis with all the positive intangibles of charitable giving. Here's what it takes to qualify:

• The collection is qualified capital gain property. This means essentially that everything included has been in the collection for at least a year, was not created by you, nor was it a gift from the creator. The last portions of those qualifications are based on art law, but if you have medallic art (i.e., medals or tokens)or other privately issued exonumia (items related to coin production) in your collection, they might apply.

• The donee organization is a qualified public charity. Public charities generally receive at least part of their support from the public. Examples might be churches, schools, museums and so on. Private foundations, on the other hand, do not qualify for the deduction of fair market value for your collection. You would need verification from the intended donee on its exemption ruling under both section 501(C)(3) and section 509(A). Typically, you will receive a deduction of only your cost for a donation to a private charity versus full fair market value for a donation made to a public charity.

• The donee organization must be able to make "related use" of your donation. Your gift of tangible personal property must relate to the donee organization's mission or purpose that resulted in their section 501 exemption. For example, you could donate a coin collection to the ANA or ANS to expand their museum collections and receive a deduction of fair market value. Obviously, a coin collection would relate to missions of increasing the knowledge and enjoyment of coin collecting. You could not donate such a collection to a hospital and deduct the fair market value. The deduction would be reduced by 100% of the appreciation above your cost.

• The collection has a "qualified appraisal" — Essentially, a qualified appraisal is one that is performed by a "qualified appraiser." That is an individual who holds himself out to the public as an appraiser and who is expert in the particular type of property being evaluated; is cognizant of the civil penalties possible for a fraudulent overstatement of value; and is totally independent of the property and parties to the donation. There is a checklist of information required; your advisor and appraiser will be familiar with this.

  Your advisor will also counsel you on allowable percentages of your contribution base, section 68 limitations, and possible Alternative Minimum Tax consequences.

Donate a Fractional Interest in Your Collection to a Public Charity

Don't want to give up your collection interests, but still want some tax relief now? You might consider donating an undivided fractional interest in your collection to a qualified charity. Let's say, for example, that you donate one half interest in the collection to a qualifying museum. Each of you gets to keep the collection for six months of each year and you get to deduct half the fair market value of the collection in the year of the donation. This would be ideal if you collect during the cooler months, but gravitate toward the outdoors in summertime. This is also a good technique of charitable contribution when your contribution base (adjusted gross income) is not large enough to support the entire donation because of percentage limitations.

Some donors structure their contribution to give, say 25% of their collection now, 25% in five years, a third 25% in ten years and the remainder at their death. Any percentage of the collection not donated will become part of your estate. If you perceive the possibility of friction between the charity and your heirs over the remaining divided interest, you may wish to complete the donation as part of your will. This method also allows the value of the collection to continue appreciating, so each subsequent donation may be for a greater amount than the previous ones. Interim appraisals would, of course, be necessary.

Charitable Remainder Trusts

A charitable remainder trust is of great value if you are in need of both income and a tax deduction, and are prepared to give up your collection now. It is particularly advantageous if the collection has enjoyed significant appreciation since purchase. In this arrangement, the donation is made to the qualifying charity in trust. The charity agrees to pay you annually either a fixed amount of money (annuity trust) or a percentage of the trust's total value (unitrust) for life or for a set number of years (not to exceed 20).

The benefit is that if you sold the collection yourself to create income, the principal amount would be reduced by taxes on the capital gains. The trustee can sell the collection tax-free and create a larger principal base. You can also claim the collection's cost as a charitable deduction in the year that the trust is initiated (you cannot claim "fair market value" because the sale disqualifies the greater deduction under the "related use" clause). You receive your agreed-upon payments and when the trust period is complete, all remaining interest in the trust passes to the charity.

There are some caveats. Most collectibles (including coins) are not "income producing assets," so the collection (or at least most of it) may have to be sold in the first year of the trust to fund it with qualifying financial vehicles. The annual distribution to the donor must be a minimum of 5% of the trust's value and a maximum of 50%. Additionally, at the conclusion of the agreement, the remainder to the charity must be at least 10% of the initial value. These rules are subject to change, and create a certain amount of latitude in the trust agreement that must be negotiated between the donor and the charity. Again, we strongly recommend that you use the services of a competent attorney or tax advisor to represent you.

In summary, there are many options available to you, each with specific benefits and pitfalls. We have stated this several times previously, but we cannot reiterate enough: engage a professional to assist you.

If you are the surviving spouse of the deceased, exemptions generally allow the estate to pass without tax. The estate planning burden then becomes yours, however, as the same exemptions will not apply at your death unless you remarry. If this eventuality was not already considered in your planning, you should contact an estate or tax professional without delay. Even if the survivor's position was considered in the original planning, it cannot hurt to re-evaluate the situation with your attorney.

TIPS FOR HEIRS:As an heir to a taxable estate, most of your opportunities for tax abatement are past. If you are privy to the will of your parent (or other person to whom you will be an heir), perhaps you can advise the person to seek counsel if it is obvious from what you've read that the need exists. After the fact, you can exercise only a little damage control. If it is necessary to liquidate all or part of the collection to pay estate taxes, the expenses of that liquidation (shipping, auction fees, commissions, etc.) should be deductible from the estate. It is often much simpler to buy a paid-up life insurance policy to cover the tax. Again, a tax professional is well worth consulting.