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Tax

How do you tell the difference between philanthropy and a tax write-off?

Many art-world insiders who flew to Los Angeles for the opening of billionaire Eli Broad’s self-named museum had positive things to say about it. The collection, if familiar, has its strengths. The building, if imperfect, has its moments. And almost everyone seemed to agree that having another museum downtown, one that’s free to the public at that, only benefits the city’s cultural ecosystem.

Yet occasional sniping could be heard, as in: “I still think this is a huge vanity project” and “It seems like one big tax-break to me.”

The question of tax write-offs could also be raised of Microsoft co-founder Paul Allen. He is preparing to open a new, nonprofit exhibition space that looks like a great gift to Seattle, but is there a tax incentive behind it? And, more broadly, how can anyone from the outside tell the difference between a collector’s cultural philanthropy and his personal tax strategy?

Answering these questions is especially tricky in the US where the tax code is written to encourage charitable giving in ways that greatly benefit high net-worth individuals, art collectors included.

Take the case of Audrey Irmas’s donation to the construction of a new Rem Koolhaas building on the campus of Wilshire Boulevard Temple in Los Angeles. A longtime supporter of both the Museum of Contemporary Art (MOCA) and the Los Angeles County Museum of Art (LACMA), Irmas has pledged to give her temple $30m from the proceeds of selling her Cy Twombly at Sotheby’s New York on 11 November. The Twombly, a very large blackboard painting—Untitled, 1968 [New York City]—is expected to achieve at least twice that sum.

Her generosity in making this important, potentially transformative gift has been widely praised. But at the same time this donation from Irmas, or more precisely from the Audrey Irmas Foundation for Social Justice, could serve a very useful tax purpose.

First, Irmas is removing the hugely valuable painting from her possession so that it will not be subject to estate taxes upon her death, taxes that can run as high as 40%. Second, and more immediate, she could deduct what she paid for the painting from her income taxes after she gifts it to her grant-making (“non-operating”) foundation. (When collectors donate art to a “public charity,” like MOCA, or a so-called “operating” foundation whose mission is art, like The Broad, their deduction is fair-market value.) Third, now that the painting is owned by the foundation, she avoids paying any capital gains on the proceeds.

The tax exemption for appreciating assets is no small matter, considering that Irmas originally bought the Twombly for $3.85m in 1990 from Sotheby’s, where it had been consigned by Charles Saatchi. Let’s say it now sells for $78.85m, which would make for a neat profit of $75m. If Irmas were selling it as a private individual, the 28% federal capital gains tax alone would amount to a whopping $21m, with state capital gains adding $9m.

Instead, because a nonprofit foundation is selling the Twombly, there are no capital gains, no matter how much the work makes.

So should such acts be viewed as great acts of philanthropy or savvy tax manoeuvres that rob the federal government? And do the tax breaks make her contribution as an arts patron any less impressive?

One experienced lawyer, who asked to remain anonymous, remembered the first time he noted the surge of clients making art donations every December. “At first you think it’s the holiday spirit and wonderful. Then you realise it’s the end of the year and people are looking for charitable contributions.”

It’s much like realising that some of the most sublime Renaissance art and architecture was actually commissioned by wealthy patrons looking to show off their power, or get a leg up in the afterlife. Cultural patronage today has equally complex motives, which warrant analysis. But we often pay more attention to social gains than tax benefits. Is that prestigious museum donation also a vehicle for wealth migration? Is that swanky art foundation event also a tool for estate planning?

And, perhaps the biggest question of all, considering the money that the US government is forfeiting by making tax exemptions for foundations, do we really find these charitable causes worthwhile?

That question comes up most dramatically in the case of private museums that are founded by a single, powerful collector and flaunt their sensibility and status. By law these collectors can’t benefit directly from their private foundations; they can’t for example continue to live with the art once donating it to the institution.

But they can live very close to the art indeed, as Patricia Cohen pointed out earlier this year in her New York Times article on the Brant Foundation Art Study Center, conveniently located in Peter Brant’s backyard in Greenwich, Connecticut. This foundation provides Brant tax breaks while keeping his art collection intact and nearby. “There simply is no clear test,” says New York art attorney Thomas C. Danziger. “How close to your house is too close?”

You could easily read Cohen’s article as a cautionary tale. But Scott Stover, who runs the philanthropy advisory Global Art Development, said that collectors he knows found it inspiring. “They want to know how they can do that too,” he said. “Every donor I’ve ever worked with has been interested in the tax incentives and implications of their philanthropy.”

As for Paul Allen’s gallery, little is known at this point besides the fact that it is not near his home and appears to be borrowing works from other lenders too. But Diana Wierbicki, who heads the art law practice at Withers Bergman, points out that creating a public exhibition space goes well “above and beyond” the legal minimum needed to qualify as a private operating foundation in the arts; “loaning art to museums would meet the same requirements” and typically cost a lot less.

The same applies even more dramatically to Eli Broad opening a $140m museum: the art still belongs to a private operating foundation that he and his wife help to bankroll. (They sunk about $20m in cash and stocks into this foundation in 2013 according to their 990 tax forms from that year.) And the new museum is not considered a public charity that would receive greater tax benefits.

Broad also told us last year that tax incentives played no role in his opening a museum, mentioning the “giving pledge” that he and his wife have signed à la Bill Gates to give away 75% of their fortune, now estimated at $7.4 billion. “With all of our giving, we can’t use the deductions we have for the rest of our lives,” Broad said.

Like many super-wealthy individuals, Broad has evidently been reaching the annual cap on charitable deductions (as high as 50% of one’s income) and carrying over the remainder into future years. So even if opening the museum is not financially motivated, he has clearly maximized his tax advantages in past years, to the point where it is hard to say whether he should be called Los Angeles’s leading philanthropist or the city’s greatest estate planner.

In either case he has used his foundations devoted to art, education and science not just to make considerable gifts to society but also to minimize his considerable income tax and estate tax liability, all the while keeping a range of assets, including works of art, under his control.

Or, as Broad himself likes to say: “He who gives while he lives also knows where it goes.”

Jori Finkel is the Los Angeles correspondent for The Art Newspaper