Q: I own some paintings and other collectibles that have substantially increased in value since I purchased them. If I give them to my daughters, do I have to declare the profits?
A: Neither gains nor losses have to be reported when you dispose of property by gifts. In other words, you escape being taxed on your capital gains when you give away assets now worth more than their original cost.
Caution: This rule cuts two ways. You forfeit a deduction for the decline in value when you make a gift of property worth less than it cost you.
Q: Does making gifts of appreciated property to my daughters mean that the capital gains taxes are completely avoided on sales by them?
A: No. There is a special rule for figuring a gift-recipient’s gain. Her sales price must be measured against your cost, plus any gift tax attributable to the difference between the value of the property when gifted and your cost. Therefore, what you actually accomplish is not an avoidance of the capital gain, but a shifting of it from yourself to your daughter—a maneuver that can still be advantageous, provided she is in a tax bracket substantially lower than yours.
Caution: This strategy is inadvisable if you have a daughter who has yet to attain the age of 14 by the close of the year in which she sells the property. Under the kiddie-tax rules, investment earnings from dividends, interest, capital gains and the like that are above a specified amount and are received by a child under the age of 14 are taxed to the child at the parent’s top rate—not as before, at the child's typically lower rate. For 2004 and 2005, the rules kick in when investment income is above $1,600.
Q: Recently, I realized a sizable profit on the sale of some coins from my collection. Does the law allow me to defer payment of the capital gains taxes on the profit if I reinvest the proceeds in more coins or other collectibles, such as stamps or ceramics?
A: No postponement is permitted. The profit counts as reportable income on your return for the year the coins are sold, whether you reinvest the
proceeds or not.
Q: Suppose I swap some collectibles for stock in a listed company, with no cash involved in the deal. Does that entitle me to postpone being taxed on my capital gain?
A: No. You are, however, entitled to defer the tax on a gain from the swap (in tax jargon, a “like kind” exchange) of collectibles you hold for investment for similar property—say, an exchange of one stamp collection for another. If you intend to go the like-kind route, it’s prudent to check beforehand with a tax pro to make sure that your deal meets the requirements imposed by Internal Revenue Code Section 1031.
Q: To make good on a charitable pledge of $10,000, I can donate recently acquired shares of stock that have declined from $9,000 to $7,000 in value or sell them and contribute the sales proceeds. Which way is more advantageous?
A: You are better off selling stock that has dropped in price, donating the sales proceeds and claiming both the $10,000 charitable contribution as an itemized deduction on Line 16 of Schedule A of Form 1040 and the $2,000 short-term capital loss as a subtraction in Part One of Schedule D. You forfeit the loss deduction if you donate the stock.
Help from the IRS: For additional information, see IRS Publication 550, “Investment Income and Expenses.” To obtain a free copy, telephone 1-800-TAX-FORM.
Recommended Reading: Perfectly Legal: The Covert Campaign to Rig Our Tax System to Benefit the Super Rich—And Cheat Everybody Else by David Cay Johnston (Portfolio, 2003). Johnston is a reporter at The New York Times and a 2001 winner of a Pulitzer Prize for his coverage of taxes.
Julian Block may be reached at firstname.lastname@example.org .