Decoding the IRS Art Valuation Process

When you give a valuable work of art as a gift or donate it to a cherished charity, the Internal Revenue Service (IRS) needs to ascertain whether the value declared on a tax return reflects the artwork’s genuine, fair market value. The same applies when your executor is required to value your assets for estate tax purposes upon your passing.

Understanding the Appraisal System

Interestingly, the IRS Commissioner’s little-known “Art Advisory Panel” holds the answer to this question.

The Panel, typically consisting of 16 to 21 members depending on the year, is tasked with guiding the IRS in valuation matters. They review and evaluate the acceptability of art appraisals submitted by donors and executors to support claims of a property’s fair market value. Tax returns selected for audit that include artwork or cultural property valued at $20,000 or more are referred to the IRS National Office Art Appraisal Services for review by the Panel.

Comprised of esteemed museum directors, curators, art historians, scholars, and dealer experts, the Panel consists of some of the most renowned professionals in their respective fields, all serving without compensation. They convene in Washington, D.C., generally once or twice a year, to address several specialty areas.

Behind the Scenes

Before the meetings, staff appraisers send panelists photographs and written materials related to the artwork under review. These materials usually contain information from the taxpayer’s appraisal, such as the artwork’s size, medium, and physical condition, along with the staff’s market research, including data on public and private sales of comparable art. Although visual inspections are not mandatory, panelists or staff members often view the property in person. To maintain objectivity, the panelists remain unaware of the nature of the taxable transfer; they do not know if an item is being donated to a charity or passed down within a private family collection.

During the closed-to-public meetings, the Panel examines the taxpayer’s appraisal, supporting evidence, and the staff’s research and findings. A consensus is typically reached after lively discussions, reflecting the diverse perspectives of the various experts. Often, the fair market value of a specific work of art may exhibit a “plus-or-minus factor” or a range of values. Occasionally, appraisals are postponed until additional information on a particular piece is obtained.

Post-Evaluation Process

Upon reviewing the Panel’s conclusions and recommendations, the Appraisal Services office sends a report that includes the Panel’s decision and a list of panelists involved to the taxpayer. The taxpayer can request a reevaluation of the item’s fair market value only if they provide new evidence or additional information. If such information is presented, the Panel may reconsider the case during a subsequent meeting. Appeals can be made at the IRS administrative level or through the court system, as is common in tax disputes. If a case goes to court, the IRS will rely on the expertise of the Art Appraisal Services and Art Advisory Panel, who may appear as expert witnesses to support the IRS valuation.

Penalties for Inaccurate Appraisals

Overstating the value or adjusting the basis of donated property can result in penalties. If the reported value or adjusted basis on your tax return is 150% or more of the accurate amount, and the tax underpayment exceeds $5,000, a 20% penalty applies. Suppose the value or adjusted basis is 200% or more of the correct amount; with a tax underpayment of over $5,000, a 40% penalty is incurred.

Appraisers who knowingly prepare incorrect appraisals or should have known that their appraisal would be used for tax returns or refund claims may also face penalties. These penalties are applied when the appraisal leads to a 20% or 40% penalty and can be either 10% of the tax underpayment due to the misstatement, $1,000, or 125% of the income earned from the appraisal. In fraud cases, appraisers may be liable for a civil penalty for facilitating an understatement of tax liability, and their appraisal may be disregarded.

If you are a Legacy client and have questions, please do not hesitate to contact your Legacy advisor. If you are not a Legacy client and are interested in learning more about our approach to personalized wealth management, please contact us at 920.967.5020 or connect@lptrust.com.

© 2023 M.A. Co. All rights reserved.
Any developments occurring after February 1, 2022, are not reflected in this article.

This newsletter is provided for informational purposes only.
It is not intended as legal, accounting, or financial planning advice.

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