Does Passion Have a Place in Wealth Management? - Dec. 2011

Does Passion Have a Place in Wealth Management? - Dec. 2011

• 1.
  Picasso, St. Gaudensor Lafite: Does Passion Have a Place in Wealth Management? By Christopher G. Didier Synopsis CRITICAL OBSERVATIONS: What’s your passion? Fine art? Coins? Wine? We all know someone who • ollections represent sizable assets for C collects something – or are collectors ourselves. This may include collections many high-net-worth individuals, but are seldom included in wealth that started as simple hobbies and quickly built in value to thousands, even management strategies. millions, of dollars. Collections that become a significant part of an individual’s • ome collectibles have performed as S net worth should be considered in any wealth management strategy. well as or better than stocks over Collectibles often satisfy an emotional need, but, they may also offer benefits longer periods. similar to those of financial assets. They can be used for diversification and • ecause there can be a low correlation B between performances for collectibles a hedge against inflation. Over time many collectibles have earned higher and those for stocks and bonds, returns than traditional investments like stocks. However, they also involve collectibles can provide important unique costs, risks and tax liabilities. So like any financial asset, a sizable portfolio diversification that may collection must find its proper place on a personal balance sheet. reduce risk. • ollectibles can also add risk in the C Identifying that place is not an easy matter. It can also be difficult to develop form of illiquidity, price volatility, and an asset allocation strategy that accommodates collectibles in terms of opportunity costs. diversification, volatility and cash flow as this requires a history of accurate • reating a precise asset allocation C valuations or reliable benchmarks that can be used for modeling. And while strategy that includes collectibles it may make sense to rebalance a portfolio to achieve an asset mix that suits may be difficult due to poor data for modeling and appraisal pricing. the investor’s goals and appetite for risk, lack of ready liquidity may make this impossible. • o accommodate a collection, advisors T can reduce assets with similar types It is imperative that sufficient due diligence be undertaken before buying of risk, and make sure their portfolios and selling pieces of a collection, along with an assessment of all of the costs have adequate cash flow and liquidity. involved. Maintaining detailed, up-to-date records and obtaining expert tax • hile it has become more common W to talk about collectibles in terms of and estate planning guidance will ensure that the value of the collection is investment returns, the IRS may not efficiently transferred to heirs or other beneficiaries. take the same view. While people generally start collections for non-financial reasons, treating • y incorporating collections into the B them like other assets can help collectors follow their passions for years to estate planning process, advisors can minimize the impact of taxes on come while maximizing potential returns. collection returns.
• 2.
  Introduction When I was 15, collecting beer cans was all the rage. One day, my It is said that one in three Americans Dad came home with a six-pack of collects something. Why they collect Billy beer that he found at our local is a matter of debate. While humans grocery store. It cost him $2.49. have been collectors since at least I had hit the jack-pot! It was the late the time of the Roman Empire, 1970s. Rumors were rampant that most research on the subject has individual cans bearing the name been conducted in the last decade of Jimmy Carter’s infamous brother or so.1 In addition, the definition could fetch as much as a thousand for collectibles can vary widely. dollars each. If I could just keep them in good shape, their value Collecting and Investing in Rare Coins would surely climb. Paul, the 68-year-old chairman of a public company, began collecting rare gold coins in Unfortunately, it turned out that 2006 as a “diversion” from his business activities. He considers himself a collector/ millions of Billy beer cans were sold investor – in that he values the historical significance of his coins but expects to make a and the rumors of lofty values proved profit over time. false. Like CB radios and pet rocks, “I realized I was a collector/investor when I bought my first coin for $60,000,” he says. beer can collecting faded quickly. I He prefers older coins whose exact supplies are known and conditions have been professionally graded. Paul has developed extensive knowledge about coins but will lost interest, and when I threw away frequently rely on the opinions of top experts before making any transaction. my leisure suit the collection went, too! Thirty years later, eBay lists a few Using a common technique among numismatists, Paul holds about 20 coins at a time – the best he can buy. He uses profits from the occasional sale to upgrade his collection offers for a six-pack of Billy beer at with coins of greater rarity. Wishing to keep his collection between 7% and 10% of his about $25. Assuming a willing buyer, net worth, he also sometimes uses his profits to buy other assets that may offer more that would imply a respectable 8% attractive returns. He routinely discusses his collection in quarterly updates with his return on my Dad’s investment had financial advisor. I stuck with my collection. Paul sees his coins as an important part of his investment diversification strategy. In addition to their value as a hard asset and hedge against inflation, gold coins offer Many enthusiasts would consider my potentially strong upside returns. In the last few years, Paul has made more money in beer cans – or more recently, Michael gold coins than he has in stocks and is more comfortable investing in his collection. Jackson memorabilia – as collectibles. While gold “got hammered” in the fall of 2008, he notes, ultra rare gold coins didn’t However, most serious collections suffer at all. involve vintage items produced “And while gold coins are less liquid than gold bullion, the well-connected collector can before 1970.2 Popular collectibles always sell a coin when necessary,” Paul says. “But I don’t want to be a trader. I think you today include fine art, jewelry and need to commit to a coin for at least three to five years.” He sometimes breaks this rule if watches, comic books, coins, stamps, another coin he really wants comes along, but always considers profit potential as part wine, classic cars, antique furniture, of his decisions to buy or sell. books, musical instruments, and sports or other memorabilia. As an investor, Paul keeps detailed records. Running his collection like he runs his Demand can be enduring especially business, he relies on expert tax and legal advice to make sure he is maximizing the for, fine art and coins, or fleeting, value of his investment while minimizing the tax liability. “The state quarters and other as it was for my beer cans. minting programs have dramatically increased the number of people who collect non- rare coins and some of those people are becoming interested in rare coins,” Paul adds. A few years ago a client who was “The supply/demand equation is definitely moving in my favor.” an avid collector showed me a coin he had just purchased for 1 Susan M. Pearce, Interpreting Objects and Collections, 1994 2 Various interviews of collectibles market participants -2-
• 3.
  $500,000. Clearly, thiswas no Beyond Investments of Passion beer can collection. It was serious Collections represent sizable assets money. And, he expected a serious for many high-net-worth individuals, return on his investment. When but are seldom included in wealth the technology bubble burst at the management strategies. This is end of the century, many wealthy probably because historically families looked past stocks and bonds collectibles have been viewed as to alternative investments for better something other than financial assets. returns and risk management. The definition of alternative investments For example, the World Wealth expanded beyond private equity and Report recognizes collectibles as hedge funds to include commodities “passion investments,” but does (such as gold, oil, corn and timber) not include them as financial assets. as well as real estate and equities It is true that many collectors are from emerging markets, to name fascinated by the history behind a just a few. particular stamp, see the social value in encouraging new artists, or enjoy It is easy to add collectibles to that the camaraderie of trading coins with list. Over time, many collectibles other numismatists. Some, however, have earned higher returns than are more financially motivated. One traditional investments like stocks. school of thought is to divide the But they also involve unique costs, risks and tax liabilities. So market into collectors, collector/ like any financial asset, a sizable investors, and investors each collection must find its proper participating in the collectibles place on a personal balance sheet market in a different way: and be considered in any wealth Collectors – Defining collectors is management strategy. as difficult as understanding why For many people, their collections someone collects. There is general are like the homes they live in – agreement that collectors have a becoming investments when their passion, or even an obsession, for values rise strongly. When values the objects they collect. They may decline, the same collections morph want to preserve history, or possess back into simple passions. But by objects that no one else has. In any including stamps, art and coins on case, the primary objective is to build the asset side of their balance sheets, a collection.3 collectors can work more effectively Collector/Investors – Collector/ with their wealth managers to get the investors have the same drive but right mix of risk, return and liquidity want some form of monetary return. to ensure that they can pursue these They are willing to part with some passions for years to come. or all of their collections if the profits 3 Susan M. Pearce, Interpreting Objects and Collections, 1994 -3-
• 4.
  or other benefits(such as a tax profiles on a variety of collectibles. deduction) are high enough. They The concept of collectibles as a may constantly trade up objects financial asset had gone mainstream! within their collections to improve Still, data on the actual size of the profit potential. From time to investment in collectibles is difficult time they may use parts of their to come by. Steve Ivey, co-founder collections to fund investments in of Dallas-based Heritage Auction other asset classes with superior Galleries, one of the world’s largest potential. Collector/investors are collectibles auctioneers, estimates also willing to hold objects for long that the annual market value for periods of time. vintage item transactions lies Investors – Investors have no passion somewhere between $50 and $100 TABLE 1: for the art, coins or wine they billion. This seems like a lot, but, as acquire. Holding onto objects Table 1 shows, by combining other Estimates of annual global transaction value5 represents a cost and satisfies no estimates of just a few individual need, nor does it provide any value. collectible categories, it is easy to see Collectible Estimated Global Investors are solely motivated by the $50 to $100 billion range as Source Category Annual Market profit and only buy collectibles for a reasonable. And that does not Wine $3 Billion Liv-ex profit opportunity. Some may even account for the many private sales hold shares of collectibles funds – that take place among all sorts of Art $8.3 Billion Artprice which become available from time collectibles and never show up in any Stamps $10 Billion Stanley to time with limited success. data. It is safe to say that the annual Gibbons Under this division, only the pure trade in collectibles is substantial. GPA for Coins $10 Billion collector may have trouble viewing a Arriving at an accurate estimate of Coins collection in financial terms. total investment value requires some Total $31.3 Billion Collector/investors and investors in additional leg work. The total value collectibles would do so naturally, of collectible art alone has been and the number of people in these estimated at more than $3 trillion.6 groups may be on the rise. The 2009 The 2009 Wealth Report showed Wealth Report noted that, for that fine art accounted for 27% of wealthy individuals, the allocation to passion investments. Other fine art has risen since the financial collectibles – such as coins, wine and crisis broke at the end of 2008 antiques – accounted for about 12%. “as investors sought assets with more Using $3 trillion as the value of all enduring value.4” It became clear to collectible art, and the Wealth me that collections have moved Report’s estimates on the percentages beyond investments of passion when held as representative of the actual CNBC recently started running proportion held, we can back into an 4 Capgemini & Merrill Lynch, “World Wealth Report”, 2009, p18 5 The estimates in Table 1 were obtained from sources we believe to be reliable but cannot guarantee their accuracy. The reliability of estimates varies as well. For example the estimate for global fine art is based solely on actual auction data and does not include private sales while the estimated market value of rare coins is an estimate of the entire market. 6 Raya Mamarbachi, Marc Day and Giampiero Fauto, “Art as an Alternative Investment Asset”, 2006 -4-
• 5.
  estimate of $1.3trillion in value for a portfolio. Finding reliable data for other collectibles or a total collectibles collectibles can be much more value of around $4.3 trillion. If just difficult. There are many collectibles one-third of the market was pricing guides that list auction results represented by collector/investors and “expert” opinions on value. and investors in collectibles, that There are also indices for some broad would put the value of collectibles collectible categories that can be useful viewed as financial assets on par with in tracking broad market trends. the $1.9 trillion invested in hedge Some of these indices have a funds7 and the $2.5 trillion invested relatively short history, and it remains in private equity funds.8 to be seen if they will be continued An Asset Class of Their Own into the future. In October 2008, the Barrett-Jackson Auction Company Wayne Carini, a master car restorer published the Barrett-Jackson Mini- who worked for collector David Index based on prices for seven Letterman, hosts “Chasing Classic vintage U.S. and European sports Cars” on the Discovery Channel. In and muscle cars. The index showed a recent episode, Wayne made the an average annual return of 16.4% case for classic cars as an investment. versus 4% for the S&P 500 Index for “The economy is in the tank,” he the 10 years ending January 2008. said, “but, it doesn’t affect the That same year, similar data was automobile business as far as the published by NADAguides.com collector car end of it. Collector cars covering February 2004 to February are something that everyone wants. 2006 that showed an average increase It’s a place they can put their money in collector car values of 36% versus and invest properly. You can always 16% for the S&P 500. go out in the garage, feel it, touch it, Others indices are more established: sit in it and drive it. You can’t do that The Antique Furniture Index, with your stock portfolio.” published by the Antique Collector’s Earlier this year, I was standing in Club in England, has been calculated a custom-built garage of a collector annually since 1968 using retail of b-body classic cars who told me prices from shops, fairs, markets and the very same thing. The point is; auctions across England. Over the the collectibles that offer the greatest 40-year period ending December 31, enjoyment may make great 2008, the index returned 7.5%, on investments as well. average, annually versus 5.7% on Treating collectibles as an asset class average for the S&P 500 over the is tricky. Equities and bonds have same period. many widely available indices that Measuring Risks and Returns can serve as benchmarks and good proxies for modeling how different Most research regarding collectibles asset classes can add or subtract as investments tends to focus on a potential risk and return to or from single category such as art or rare 7 Hedge Fund Research, Inc., July 2009 8 Preqin, December 2008 -5-
• 6.
  GRAPH 1: coins. Since I was interested in examining some of the trends in price Performance of popular collectibles against stocks and bonds9 4.0 movements for the broad collectibles Growth of $1 market versus traditional asset classes 3.5 and other alternative investment 3.0 classes, I constructed a “collectibles 2.5 basket” based on indices representing Wine the recent historical performance of $ Stamps 2.0 Art wine, art, coins and stamps (Graph 1). 1.5 Bonds These indices include: Coins 1.0 Stocks Wine: Liv-ex 100 Fine Wine Index, which is based on the 100 most 0.5 popular French, German and Italian 1 2 02 03 3 4 04 05 5 6 6 7 07 08 8 9 0 0 0 0 0 0 0 0 0 0 pt ar pt ar pt ar pt ar pt ar pt ar pt ar pt ar wines with a secondary market, M M M M M M M M Se Se Se Se Se Se Se Se Graph 1 shows how each of these indices performed against stocks (as measured by the S&P 500 Index) and bonds weighted for scarcity (as measured by the BarCap US Aggregate Bond Index) from September of 2001 through March of 2009. The indices used are representative of some of the more popular collectibles. Index data for other collectible categories Art: Artprice Global Art Index, was unfortunately not available. We intentionally selected the broadest indices for each category available, (Art, for which is based on the Artprice example, may include sub-sets such as old masters, contemporary, or U.S.). It is also worth noting that most indices only capture auction prices. As a result, dramatic changes in any one component of an index can dramatically distort auction database and includes more its value. Thus, the outsized return in the Liv-ex 100 index of fine wine can be attributed to the extremely strong than 25 million auction results from demand for Lafite Rothschild during the period shown. The indices do prove useful, however, when examining the direction or trends within a broad collectible category. more than 2,900 auction houses worldwide. GRAPH 2: Coins: PCGS 3000 Index, which is based on 3,000 rare copper, silver, Performance of the “collectibles basket” against stocks and bonds10 nickel and gold U.S. coins. Collectibles Basket vs. Traditional Investments 12/31/2001 to 6/30/2009 Stamps: Stanley Gibbons GB30 Rare 7 Stamp Index, which is based on 6 prices for 30 rare British stamps. Average Return (%) 5 Collectibles Basket 4 Stocks Our basket of collectibles was then 3 constructed by weighting the indices, Bonds 2 based on estimates of annual global 1 sales, over the available common 0 5 10 15 20 period (Graph 2). We first compared Risk (standard deviation %) the performance of our collectibles basket with stocks (the S&P 500 Graph 2 shows the collectibles basket performed significantly better than stocks on both a risk and return basis. Risk Index) and bonds (the Bar Cap was defined as volatility as measured by standard deviation. The collectibles basket returned 6.6% on average versus just 0.32% for stocks, and with 55% lower risk. The average return for the collectibles basket was also higher than Aggregate Bond Index). that for bonds, which returned 5.1%. However, the risk of the collectible basket was 117% higher than bonds, Collectibles Basket vs. which is significant. Obviously, different results may be found over different periods. Whether these trends hold up Traditional Investments over any future period remains to be seen. 12/31/2001 to 6/30/2009 9 The S&P 500 is a managed stock price index comprising the 500 largest companies in the U.S constructed by Standard and Poor’s. The BarCap Aggregate Bond Index is 7 an unmanaged market value weighted performance benchmark for investment-grade fixed-rate debt issues, including government, corporate, asset-backed, and mortgage- 6 backed securities with maturities of at least one year. The index information presented has been obtained from sources we believe to be reliable. We cannot, however, guarantee its accuracy. Past performance is not necessarily indicative of future performance. The stated market indices are unmanaged indices used to measure and repeat 5 performance of the market in general. Direct investment in an index is not possible. The investment results depicted herein represent historical gross performance with no 4 deduction for management fees or transaction costs. Dividends are assumed to be reinvested. 3 10 The “collectibles basket” was constructed by weighting 9.1% to the Liv-ex 100, 30.3% to the Artprice Global Art Index, 30.3% to the PCGS 3000 Rare Coin Index and 30.3%2to the Stanley Gibbons GB30 Rare Stamp Index. Weightings were based on estimated annual market value of $3 billion, $10 billion (rounded up in an effort to compensate for the conservative weight relative to wine, coins and stamps), $10 billion and $10 billion respectively. 1 0 5 10 15 20 -6- Collectibles Basket Stocks
• 7.
  Table 2 showsthe correlation of The correlation between our the collectible basket with other collectible basket and inflation traditional and alternative asset suggests that collectibles are in fact a classes as well as the U.S. economy good inflation hedge. For the period and inflation. The collectible basket we examined, which was not a highly is positively correlated with all of inflationary time, the collectible the other asset classes – with the basket was the second best hedge, exception of bonds. This means it is behind commodities. likely the prices of a collection will Our collectibles basket was most move in the same direction as these highly correlated to private equity asset classes and in the opposite and hedge funds. This may have direction of bonds. something to do with the similarities Like the non-bond asset classes, in appraisal methods and the collectibles are positively correlated auction nature of pricing for these to the U.S. economy. Bond guru Bill asset classes. Like real estate, this Gross, manager of the $104 billion price mechanism can make these PIMCO Total Return Fund, came to asset classes fairly illiquid at times. a similar conclusion and personally The extra return may simply be turned a $2 million investment in compensation for not being able to British stamps made between 1998 get your money out when you want. and 2001 into $9.1 million at This may not be a major concern for auction, as it became clear the high net worth individuals, however, economy was headed down. who typically have other ways to get the cash they need. TABLE 2: Asset class correlations from 12/31/2001 through 6/30/2009 Private Hedge Emerging U.S. Collectibles Stocks Bonds Real Estate Commodities Inflation Equity Funds Markets Economy Basket Stocks 1.00 -0.33 0.76 0.73 0.38 0.28 0.87 0.12 0.47 0.51 Bonds -0.33 1.00 -0.29 -0.21 -0.16 -0.19 -0.18 -0.42 -0.24 -0.15 Private Equity 0.76 -0.29 1.00 0.81 0.68 0.36 0.70 0.28 0.62 0.66 Hedge Funds 0.73 -0.21 0.81 1.00 0.44 0.52 0.85 0.39 0.60 0.75 Real Estate 0.38 -0.16 0.68 0.44 1.00 0.35 0.24 0.30 0.77 0.49 Commodities 0.28 -0.19 0.36 0.52 0.35 1.00 0.39 0.73 0.51 0.53 Emerging Markets 0.87 -0.18 0.70 0.85 0.24 0.39 1.00 0.14 0.47 0.52 Inflation 0.12 -0.42 0.28 0.39 0.30 0.73 0.14 1.00 0.31 0.45 U.S. Economy 0.47 -0.24 0.62 0.60 0.77 0.51 0.47 0.31 1.00 0.57 Collectibles Basket 0.51 -0.15 0.66 0.75 0.49 0.53 0.52 0.45 0.57 1.00 Defining correlation – In designing an asset allocation strategy, Financial Advisors may chart how a group of assets correlate, or perform against each other over time. If a portfolio is well-balanced, each individual asset class within the portfolio can be expected to vary in performance. Two assets A and B can have a correlation that ranges from -1 to 1. For example, if Asset A is up and Asset B is also up, they are said to be positively correlated. If A is up, but B is down, they are negatively correlated. If they increase together in equal amounts, then they have a correlation of +1. If they move in equal amounts in the opposite direction, they have a correlation of -1. -7-
• 8.
  When the pricesof traditional costs for purchasing, holding, and Know What You’re Doing investments tumble, collectors are selling items in the collection. These more likely to sell other assets before costs may include the commissions It goes without saying that collectors should buy what they their beloved antique cars or vintage paid to auction houses or private love. But any collector, especially wines residing in custom-built dealers as well as expenses for someone seeking investment garages and cellars. insurance, storage, maintenance, titles, returns, should do adequate due This was clearly the case when the condition reports and certificates of diligence before making a purchase. authenticity. Taxes paid by the first car came up for sale at the “There are so many people who are Amelia Island Concours d’Elegance collector should also be considered. relatively new to wine, who are RM auction held in early 2009. One must also consider the going around setting themselves up as experts on investment in wine The car was a 1959 Ferrari 250 GT opportunity risk in tying up money and spreading the complete myth LWB California Spyder with a that might earn better returns in the that all fine wine is a safe catalog price of $2.4 to $2.9 million. equity or fixed income markets – or investment. It’s not,” Jancis Bidding began at $2 million and the risk that a collectible will fall out Robinson, a respected wine writer, found no takers. After starting over at of favor and earn little, if any, return. told CNBC in a recent interview. $1 million, the auctioneer was able to Without adequate due diligence, it A Place in the Portfolio get the price up to $1.85 million before is often difficult to know what you Most collectors, of course, are not calling a “no-sale” – as the reserve, or are buying. This was evident on a price at which the seller would part trying to hedge inflation or diversify cruise I was on with my wife. Drawn to the daily art education series, we with car, had not been met.11 their portfolios. They have simply were amazed to learn that there developed a deep connection with On the surface, risk and return from would be Picassos, Rembrandts, and antique china, baseball cards or our analysis of the data look good for Dalis at auction toward the end of bottles of wine – some may even the cruise. The gentleman providing collectibles. However, a collector/ have inherited a collection from the daily lecture was so skilled at investor or an investor in collectibles someone with that passion. building enthusiasm that over should be aware that a lack of $100,000 of art was sold at the liquidity may smooth out volatility That said, it makes sense – when the subsequent auction. and make collectibles appear less collection is sizable – to incorporate I’m sure few of the buyers went on risky than they actually are. For the it into a larger wealth management the cruise planning to go home with 1959 Ferrari, the “market” price was plan. In a previous paper, we noted art. But the environment that was 23% below the low end of the that integrating a business into an set up – the daily lectures, the “high- asset allocation strategy can help catalog price. But, since there was no end” works, and the enthusiastic sale, there wasn’t any price volatility. assure adequate liquidity and avoid salesman – all worked to build desire. It was no surprise to me to It is important to understand that over-exposure to risk. The same is learn on our return that the auction the appraisal pricing mechanism true, even if on a smaller scale, for company on this cruise line received for collectibles and some other a collection. many complaints as buyers realized alternative investments may explain A key question for advisors is that their “too good to be true” some of the lower volatility readings whether the collection represents a purchases may have been just that. that we see when comparing these sizable part of a client’s net worth. Warren Buffett has often said about asset classes to more traditional the stock market: “Risk comes from Research by Ibbottson Associates, for investments. example, sets 10% as the maximum not knowing what you are doing.” This view is seconded by John Additionally, when comparing actual for private equity investments in a Albanese, a world renowned returns for collectibles with those for well-diversified portfolio. Given that numismatist and founder of stocks and other investments, collectibles have similar liquidity and calculations should be net of the appraisal risk, a 10% upper bound (continued) seems to make sense. 11 “Chasing Classic Cars,” Discovery Channel -8-
• 9.
  Determining specific allocations Unlike buying shares of stock, the (continued from previous page) that include collectibles does not purchase of collectibles through an have to be the end game to making auction house or private dealer may Certified Acceptance Corporation, collectibles part of a wealth involve a state sales tax. Although the a coin grading service, who said: management strategy. The primary dealer or broker typically pays the “You can lose money on coins, even goal is ensuring that an investment tax, it is usually passed along to the in a good market, if you buy from portfolio has adequate liquidity and collector. Collectors may also have to the wrong person and pay a high reasonable risk – a task that is more pay a use tax on items purchased markup or don’t get the quality art, so to speak, than science. outside the states where they live. you expect.” This is good advice for Since collectible markets generally While any short-term gains on the any collector. seem to be sensitive to the economy, sale of collectibles are treated as albeit with a time lag, it may make ordinary income for tax purposes, sense for an investor with a large long-term gains are taxed at a collection simply to lighten up on 28% rate, versus 15% for most other economically sensitive assets. other investments. Given the lack of cash flow from The IRS takes a fairly hard stance collectibles, it is also important to on whether one is an investor or make sure that sufficient income is collector in determining the available from other sources. There deductibility of costs related to a may be a need to rebalance a collection. It requires proof that portfolio that includes other less investment is the primary reason liquid assets – such as real estate for owning a collectible, rather or a family business. than enjoyment. To maintain the appropriate balance, Before you put money into the an advisor needs to know when there equity or bond markets, real estate, is a substantial addition to the commodities or other traditional collection or something of high value investments, you would generally is sold. Unlike more traditional conduct some research or consult investments, such changes will likely with an expert as to the market involve as much passion as market outlook, comparable or alternative opportunity, as most collectors would strategies, how the investment fits jump at the chance to add a rare into the rest of your portfolio, the stamp that completes a particular investment’s potential return versus niche or sell a painting by an out-of- risk and its effect on your cash flow, favor artist to purchase one who’s all liquidity, taxes or any other factors the rave. that may influence your purchase decision. In short, you would Minimizing Income Taxes consider the investment in the Even those who do not view their context of your overall wealth collections as investments must management strategy. follow fairly specific and systematic A collector/investor or investor in guidelines to minimize their tax collectibles must be able to show a liabilities. There is a significant body similar profit motive with collectibles of law and case law dealing specifically to claim any related tax deductions. with collections that make them Accurate record keeping is critical different from other assets. -9-
• 10.
  here, along withestablishing a silver, or platinum coins. Under IRS pattern of behavior, such as tracking rules, if assets held in an IRA are used a collection versus its market or to purchase other types of collectibles, other investments. A similar case the purchase is considered a taxable must be made to use a loss on the distribution that may also invoke sale of collectibles to offset long-term early-withdrawal penalties. capital gains. Thoughtful Estate Planning Collectors must also follow specific The role of collectibles is equally guidelines to claim deductions for important in estate planning. All the full market value of a collectible collectors must prepare for the donated to charity. The charity must possibility that their heirs will not be a public charity, as opposed to a share their passions or, if they do, private foundation, and the donated will appreciate attempts to minimize collectible must qualify as long-term their tax bills. capital gain property. The deduction must be supported by a qualified The estate-planning process is often appraisal from a qualified appraiser. the place where collectors realize they have significant assets that they must In addition, the collectible must include in their wealth management satisfy the “related-use” rule. This plan, says Heather Gray, vice president means that the charity receiving the of trusts and estates at Sotheby’s. item uses it for purposes related to the charity’s core mission. If these When purchasing life insurance to guidelines are not followed, a handle potential estate taxes, an collector will only receive a deduction advisor should be sure there’s enough for the cost of the item, rather than to cover a collection so that heirs fair market value – a big difference if have a choice in deciding whether to a collection has appreciated strongly liquidate those assets. For large collec- in value.12 tions, a foundation can determine how the collection is handled and In the case of a painting, for make sure it is well maintained. example, this means that the charity (a museum, perhaps) would have This approach helps to avoid conflicts to make the painting available for that can arise when some heirs want public display or include it in an to sustain a collection and others educational program for the donor don’t, says Ralph Lerner, counsel in to get the full deduction. Unlike a estate planning, tax and art law with donation of stocks, the painting Withers Bergman LLC. If it is clear could not be sold so that the proceeds that none of the heirs is particularly could be used to support the charity’s interested in the collection, mission for at least three years. arrangements can be made to give it to a charity with instructions to keep In addition, most collectibles cannot it whole. “You get the tax deduction, be included in an IRA. The exception but keep control,” Lerner says. is a small amount of certain gold, 12 Ralph E. Lerner and Judith Bresler, All About Tax Tips For Collectors, 2008 - 10 -
• 11.
  Collectors and theiradvisors can help • Make sure there is a complete, heirs make informed decisions about properly appraised inventory that what to do with a collection by indicates the date items were educating them in advance about its purchased, their original prices, potential benefits and risks. It also where they were purchased, and helps to think about how a collection where information on their history might be divided among family or certificates of authenticity are members. “One expensive painting stored. The inventory should be can really skew the division,” notes updated any time there is a change Sotheby’s Heather Gray. in the collection and reappraised It is imperative that any collector every two to three years. Current seek out expert tax and legal advice as listings readily available from the laws surrounding collections are auction houses can be used for constantly changing. For example, ballpark estimates of broadly the Pension Protection Act of 2006 held collectibles. effectively limited the desirability • Keeping the appraisals up to date of fractional gifts. As museums is imperative to consider the value saw charitable donations decline of the collection’s potential benefits significantly, new legislation has and risks versus the collector’s been proposed that would bring overall financial profile as well as back a compromised version of the for any charitable or estate fractional gift. Stay tuned. planning objectives. Conclusion • Adjust the investment portfolio to accommodate the collection Although high-net-worth collectors and, if possible, adjust the “will always indulge in their passions” collection to accommodate the and pay top dollar for unique pieces investment portfolio. of high quality, the authors of the Wealth Report expect economic • Seek out expertise to conduct conditions to suppress the overall proper due diligence as with any demand for collectibles in the near other financial investment. term. But, given the positive • Check with an accountant and correlation of collectibles with the attorney, who have expertise economy, we could expect demand regarding the tax and estate to return as the economy improves. planning issues associated with It’s times like these that make it collectibles. This should be done particularly important for collectors early and as the collection grows and their financial advisors to in value and importance to recognize the impact of collections on overall wealth. overall risk, liquidity and cash flow. By treating the collection like other The wise collector or investor will financial assets, collectors can follow work with their advisors to ensure their passions for years to come that the collection is treated like the while considering the likelihood invested asset it is. At a minimum, of potential returns and managing one should: their risks. - 11 -
• 12.
  ABOuT THE AuTHOR: Christopher G. Didier is Managing Director, Private Asset Management Group with Robert W. Baird & Co., headquartered in Milwaukee, Wisconsin. He holds an MBA from the university of Chicago and is a Chartered Financial Analyst CFA Charterholder. Along with Ed DeFrance and David Klenke, both CPAs and CFAs, he formed a private asset management team that focuses on high-net-worth individuals and families, and family offices. Chris and his team specialize in serving the wealth management needs of current and former CEOs of public and private companies. Chris was named to Worth magazine’s list of top wealth advisors in 2007 and 2008. You can contact Chris at 414-765-7095 or [email protected]. - 12 - © 2009 Robert W. Baird & Co. Incorporated. www.rwbaird.com 800-RW-BAIRD MC-26882 First use: 11/09