Generous offer: Auction house Aspire announced earlier in 2018 it would foot the bill for artists selling their works. Picture: SUPPLIED
Generous offer: Auction house Aspire announced earlier in 2018 it would foot the bill for artists selling their works. Picture: SUPPLIED

The growth of the art market is tightly linked to tax regulations. Policies relating to import VAT, tax incentives and artists’ resale rights have a profound effect on the art trade.

According to cultural economist Clare McAndrew, there is a growing perception that Europe has become an expensive and complex place to transact. This explains why, after the 2009 economic contraction, the recovery in the UK has been slower than in the US. The looming possibility of a no-deal Brexit will have further impact.

In a report on private art museums, the US and Germany boast, respectively, 48 and 45 private museums out of 350 worldwide in 46 countries. The art market knowledge company Larry’s List points to favourable tax breaks in both countries that encourage collectors to build museums and share their art with the public.

The US tax regime also favours private donations to museums. Collectors can deduct from their income tax the fair market value of an artwork at the time of a donation without having to include any appreciation of the work as taxable income. As a result, 92% of the collections of the Metropolitan Museum of Art in New York come from private donations.

It will be interesting to see how the termination of section 1031 has affected impacted on total US art sales for 2018. Specialised wealth management advisers will be able to replicate some of these tax benefits with a bit of financial engineering.

Until last December, art collectors in the US could use a special tax code that enabled them to defer paying capital gains tax (CGT) on the sale of art. With a CGT rate of 28%, this was no small matter.

The section 1031 tax break, modelled on a similar break in property taxes, allowed art investors to reinvest their proceeds of an art sale in like-kind art, putting off paying CGT. This deferred the tax, but inflation could significantly reduce the amount that would eventually be paid.

The Internal Revenue Service did not provide clear guidelines on what like-kind art meant  or what an art investor was. To be safe, tax advisers recommended exchanging a painting for a painting, and a sculpture for a sculpture.

Collectors were also advised that to be perceived as investors, they should keep accurate records of purchases and sales, have their art regularly valued by professionals and try to increase the provenance and value of their collections through strategic loaning to museums.

According to Doug Woodham, managing partner of Art Fiduciary Advisers and former president of Christie’s for the Americas, this strategy significantly fuelled the US art market, and many auction sales were linked to a like-kind exchange.

He illustrates the effect with an example of a collector selling a work for $8m and buying a similar work for $8m. If the buyer acquires the work for $8m and sells other works for a further $8m, $24m will be generated in like-kind exchange.

It will be interesting to see how the termination of section 1031 has affected  total US art sales for 2018. Specialised wealth management advisers will be able to replicate some of these tax benefits with a bit of financial engineering.

Collectors in SA should rejoice about the fact that CGT does not apply to art, while investors should consider leveraging the favourable tax code for art and allocate a portion of their investments to art.

Import VAT does SA collectors no favours. While in several European countries, art is taxed at a much lower rate — for example 5% in the UK against a standard VAT rate of 20% — the full rate applies in SA.

Collectors in SA should rejoice about the fact that CGT does not apply to art, while investors should consider leveraging the favourable tax code for art and allocate a portion of their investments to art. 

There are no customs duties to bring art into the country, but the calculation of import VAT remains perplexing. Customs agents have been known to add an average 10% to the price shown on the purchase invoice before calculating the VAT due — in effect charging almost 25% of the purchase value.

In Europe, the reduced VAT rate for art has sometimes led  to questions about  what is considered art. In 2010, the European Commission ruled against art installations by Dan Flavin and Bill Viola, two American artists known for their light and video art practices, respectively.

The commission decided that the disassembled artworks were "wall lighting fittings, DVD players and projectors". Following this puzzling decision, the importing gallery had to pay VAT and duties in full.

In Brazil, import VAT has crippled the art market. State and federal governments there have been levying prohibitive taxes on cultural goods,  translating to a tax of between 50% and 60%. In China, collectors bringing art into the country face customs duty of up to 50%.

To curb these problems, freeports have popped up around the world and art can be traded there without attracting customs duty or VAT.

Artists' resale rights, known as droit de suite, also heavily affect the art trade. The royalty was introduced across the EU in 2006 so that, on the secondary market, living artists receive a percentage share of the sale value of their art. It works on a sliding scale and with a cap.

There is no artist resale right in the US, which has been a further boost for its art market, currently the largest in the world.

There has been talk in SA about introducing a similar tax, raising questions about how this will be implemented. Earlier in 2018, the auction house Aspire announced a self-funded and voluntary commitment to artist resale rights for all living SA artists. Its decision to foot the bill sets an attractive example.

• Walker is a partner at Walker Scott, which offers end-to-end art management services. 

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