GIFTS DURING LIFETIME TO FAMILY.
A very gratifying way to reduce estate tax is to bestow art on offspring during one’s lifetime. A significant drawback of such gifts is that, depending on their size, they may trigger a hefty gift tax—payable by the donor, not the recipient. This tax is intended to ensure that people don’t deprive the IRS of estate taxes by giving away all their property during their lifetimes, so it’s not surprising that gift tax rates are essentially the same as those of the estate tax. Trusts and estates expert T. Randolph Harris notes that any appreciation in value between the date of the gift and the donor’s death avoids estate and gift taxation (which is good), although the recipients of lifetime gifts must use the donor’s cost basis for a piece when they sell it (which may be bad). By contrast, appreciated assets bequeathed through an estate receive a stepped-up tax basis equal to their value at the time of the donor’s death.

GIFTS DURING LIFETIME TO CHARITY.
A more tax-friendly way to give away art during one’s lifetime is through donations to charitable organizations, such as museums or qualified not-forprofits. Donors receive income tax deductions while they are living, and upon their death, no estate tax is due on the donated objects, since they are no longer part of the estate. Such a donation may reap the added benefit of keeping an art collection together when the donor’s ownership ends.

Special technical rules apply to donations of art to charities, including the important “related use rule”: In order for a work to be deductible at its fair market value, as opposed to its original cost, the charity must use it in a way related to the organization’s tax-exempt purpose.

When artists donate their own works to charitable organizations, their deductions are limited to the cost of the materials they used to fabricate the pieces. If passed, the proposed Artist-Museum Partnership Act may change this to permit artists to deduct the fair market value of such donations. But the bill has so far died seven times in Congressional committee, with opponents arguing that artists should not be allowed to “paint themselves a tax deduction.”

Collectors should be realistic about the hurdles involved in trying to donate art to museums. Institutions will often decline such donations, not wanting to commit the funds needed to store, conserve and exhibit works that do not necessarily enhance their collections.

GIFTS DURING LIFETIME OF FRACTIONAL INTERESTS IN ART. 
In the past, savvy collectors took advantage of an IRS provision permitting “fractional giving” of art to charity. A collector could give a stated portion—say, 10 percent—of a work each year and take a deduction for the corresponding percentage of its value at the time, even retaining possession of the piece for part of each year. Unfortunately for collectors and museums, a much-criticized law enacted last year created major disincentives for these fractional charitable gifts of art. A new patch to the law has to some degree corrected the problem, however, and there is hope that the proposed Promotion of Artistic Giving Act will do what its name suggests. One sign that fractional giving isn’t totally dead: Last December, Janice and Henri Lazarof made a fractional and promised gift of 130 Modernist works to the Los Angeles County Museum of Art that are estimated to be worth $100 million.

PRIVATE OPERATING FOUNDATIONS.
Art held in a private operating foundation is not subject to estate tax, but the foundation itself is subject to strict irs rules [see “Creating an Art Legacy,” August 2004]. For instance, the foundation must actively promote a charitable cause. It may be used to establish a privately funded museum accessible to the public, or for lending art to different public venues.

One example of the latter approach is the foundation established by the Los Angeles collector Eli Broad. He has decided to give his personal collection, which now comprises about 400 modern and contemporary works, to the Broad Art Foundation when he and his wife die. The decision was a blow to LACMA, which had received $56 million from the foundation for construction of the Broad Contemporary Art Museum on LACMA’s grounds and was hoping to be the recipient of the billionaire’s vast collection.