Art is largely an emotional asset, however the financial considerations of art collecting are often taken into account and art is increasingly positioned as a capital asset. It has demonstrated the ability to both maintain and increase its value, resulting in an increase in financial considerations.
The correlation between art and gold suggests that art is perceived more as a value-retaining asset class than an investment vehicle. Like gold, art is less exposed to the risk of financial market crashes than stocks and bonds. Because of its inherent value, art has historically been able to recover and even grow faster than conventional asset classes during financial turmoil.
More and more people are motivated to use art both as a portfolio diversification tool, as a capital preservation tool, and as a hedge against inflation. According to the Artnet Indices, the return trajectory of the fine art market demonstrates the reliability of art as an asset during economic downturns and heightened uncertainty.
Inflation rates are increasing in many world economies, so art as a portfolio diversification tool is very relevant. Art is seen as a potential hedge against inflation, and the art market has even been called a safe haven against the risk of ever-increasing inflation. Therefore, it is worth paying attention to tax aspects in transactions with works of art.
What is the driving force behind buying art - passion/hobby or investment? Some collectors buy art not only to collect it, but also for the purpose of investing, while others buy art purely for passion, primarily seeing the emotional value. Few buy art with the sole intention of investing.
In order to discuss the application of taxation, it is necessary to understand whether a natural person is engaged in the sale of works of art as a business, or whether it is of a hobby and collecting nature. If works of art are purchased by a legal entity, you should know in which cases the purchase costs will be deductible and in which cases not.
This article examines the regulation of several countries regarding the application of taxes in transactions with works of art: Denmark, Estonia, France, Germany, Luxembourg, Latvia.
When studying the application of taxes in these countries, a common approach can be observed, which provides: if a natural person has purchased a work of art as an interior item - a household item - and at some point sells it, such a transaction is not subject to taxes, because personal property is expropriated. On the other hand, if it is considered that a natural person deals with the sale of works of art as an economic activity, then such transactions may have tax consequences.
In Denmark, the regularity of transactions as well as the purpose of the acquisition of the asset, i.e. whether the asset was purchased with the aim of making a profit from resale (defined as speculation) are taken into account to determine the economic activity of natural persons. In order to have tax consequences, both the intent (to resell) criterion and the resale profit criterion must be met when purchasing a work of art. However, if it is initially considered that a natural person will carry out an economic activity, any profit is subject to personal income tax. It is significant that in some cases, even if the sale and purchase of works of art takes place on a regular basis, it could be considered a hobby of a private person if, in general, this activity brings losses.
In the case of a company, if a legal entity sells works of art, the profit from the sale is subject to corporate income tax of 22%. In addition, a legal entity whose business is the sale of works of art must be distinguished from a legal entity that only purchases works of art for the decoration of company premises and the like. Interestingly, a shareholder (natural person) whose company purchases works of art may face a tax risk if the works of art are not considered to be purchased in the interests of the company or for its business purposes, i.e. i.e. if the works of art are located in the shareholder's private home or office, where customers never come. In these and some other cases, the shareholder may have to pay taxes, and the taxable amount would be the amount that would be received for the rental of such works of art. This income would be taxed as personal income with a tax rate of up to 55.9% or as dividends.
In Estonia, when an individual sells a work of art, it is crucial whether the work of art is classified as a (non-taxable) household good or a (taxable) investment asset. According to the Estonian Tax Administration's explanation, investment gold is a taxable asset because it is not a consumer item.
Household goods, on the other hand, are items that serve the needs of the home as everyday items, such as furniture, carpets, paintings. Such household items are personal possessions that are used on a daily basis and are not held as a capital investment. This means that a work of art that serves as a decorative object can be a household item, just like a piece of furniture, but this is not considered the only argument on which the tax administration would base its opinion. There are no more detailed instructions from the Estonian tax administration regarding works of art in which cases they will be considered a consumer product and in which cases an investment asset. Therefore, in order to avoid conflicts, it is recommended to declare the income from the sale of works of art in the annual income declaration.
In Germany, in order to receive a tax exemption on the alienation of personal property - a household item - this item must be in the possession of a private person for at least one year. On the other hand, if the work of art was purchased with the aim of making a profit by disposing of it, the tax exemption is granted if the work of art was in the possession of a person for more than ten years.
A similar approach can also be observed in Luxembourg, where if a non-professional natural person (a private individual who does not engage in economic activity) disposes of an art object within six months or less after its purchase, the capital gain is taxed at the progressive tax rate (up to 45.78%) . If capital gains are made by disposing of an art object for more than six months after its purchase, it is not taxed.
In France, there is a separate tax regime for the sale of works of art. It provides that sales of works of art by non-professional natural persons are subject to capital gains tax if the sale price or customs value of the work of art exceeds EUR 5,000, subject to a flat tax of 6% (plus 0.5% social tax). In addition, capital gains made in France can be reduced by 5% for each year of ownership, starting from the third year. This means that after 22 years of ownership of the artwork, capital gains are exempt from tax. Capital gains tax of 19% applies if the artwork is disposed of sooner.
Notably, French tax residents who are beneficiaries or founders of a foreign trust are required to declare the existence of such a trust and to disclose annually the assets (including works of art, if any) owned by the trust and their value. If a natural person buys works of art with the intention of reselling them, such activity qualifies as a commercial activity. To determine whether a natural person selling works of art carries out a professional activity of trading works of art, the French tax administration takes into account several criteria, mainly the number of transactions and the time between purchase and sale. Such taxable professional income is subject to progressive income tax rates (from 11 to 45%) and social taxes. As in the other countries reviewed, in France, the profits of legal entities from the sale of works of art are subject to corporate income tax.
France also has tax regulation aimed at encouraging the purchase of works by contemporary artists. This applies in cases where the company is not engaged in the sale of works of art, but purchases the work of art as a fixed asset. In this case, companies can deduct from their taxable income the cost of purchasing original works of art by living artists - provided that the works of art are publicly visible or located in places accessible to employees throughout the tax deduction period. Acquisition costs are deductible in equal proportions from the company's taxable profit in the year of acquisition and in the four following years (i.e. 1/5 per year). The amount of the deduction may not exceed the limit - 20,000 euros or 5% of the company's turnover, minus the amount of certain donations given by the company to qualified non-profit organizations, which gives the right to reduce corporate income tax.
In Latvia, there are no special rules or reliefs for income in transactions with works of art. If a natural person buys and sells works of art, then it can be considered an economic activity, which must be registered with the State Revenue Service before starting it.
The activity of a natural person qualifies as an economic activity if it meets the following criteria:
- regularity and systematicity of transactions (three or more transactions in a tax period or five or more transactions in three tax periods);
- income from the transaction exceeds 14,229 euros per year, excluding income from the expropriation of personal property;
- the economic nature of the activity or the amount of things owned by a person indicate a systematic activity with the aim of obtaining compensation.
In Latvia, one of the types of non-taxable income is income from the alienation of personal property. Movable things belonging to a natural person intended for personal use, such as furniture, clothing and others, are considered personal property, with the exception of things made or purchased for sale (corporeal or incorporeal). Therefore, if a person buys a work of art with the intention of selling it later, it will no longer be considered personal property. If this work of art is qualified as a capital asset (intellectual property object), the income from its disposal is considered income from capital growth, and a private person does not have to register economic activity even if the number of transactions exceeds three or more. In Latvia, there are no special reliefs that would provide for exemption from taxes when expropriating a work of art after a certain period - ten years as in Germany or 22 years as in France.
If a legal entity deals with the sale of works of art/objects, all expenses related to economic activity are deductible. On the other hand, if a work of art is purchased not with the aim of selling it, but to place it in the office, it can be classified as company representation expenses for building and maintaining the taxpayer's prestige at the level of standards accepted in society, or it can be considered as expenses related to economic activity, and art work is used in equipping and maintaining rest rooms for employees in workplaces, which corresponds to the general modern understanding of good working conditions. These could be controversial expenses, which the State Revenue Service would not like to recognize as related to economic activity, however, it is also hard to deny that it is more pleasant and probably more productive for employees to work in a tastefully decorated office.
In comparison to the countries reviewed above, in Latvia there are no specific regulations regarding the recognition of expenses for the purchase of works of art or the application of any incentives that would motivate the purchase, for example, of the works of contemporary Latvian artists.
In fact, digitization of all areas of life has become our reality, and art is no exception. Digital artworks are created or objects from the physical environment are transferred to the digital environment. In the form of a digital token, ownership/copyright can be created in both physical and digital assets. Thanks to blockchain technology, digital works of art can be turned into a non-fungible token (NFT). At the same time, the blockchain allows to secure the transaction and record the ownership of the digital asset. Consequently, NFTs have become an alternative channel for the art market. According to crypto analytics platform DappRadar, the value of NFT sales in the first half of 2021 reached almost $2.5 billion. As such, NFTs have created a new global market for digital art and collectibles that previously did not exist or was only available to a select few. This has allowed digital authors to monetize their works in a new way. In addition, the ownership of the artwork expressed by the NFT may be shared. Blockchain technology has made it easier to access investment products in the art market.
Although the market for NFTs is developing, most jurisdictions do not have adequate legislation for the tax requirements that apply directly to NFTs. However, NFTs may potentially be subject to existing regulations depending on the purpose and activities performed in relation to such tokens. As tax regulations can vary significantly from jurisdiction to jurisdiction, it is recommended to analyze the tax treatment approach in each jurisdiction in which a person issues or trades NFTs. Depending on whether the NFT will be treated as an intangible asset, a virtual asset or a virtual currency, and whether the person created the NFT himself or merely bought and later sold it, the taxation may differ.
According to the Financial Transactions Task Force (FATF), NFTs are generally not considered virtual assets, but it is important to consider the nature of NFTs and their function in practice. Some NFTs, which are not inherently virtual assets, may meet the definition of virtual assets if they are used in practice for payment or investment purposes.
As already mentioned, countries continue to apply existing tax norms, putting previously non-existing assets within their framework. For example, in Latvia, if a natural person has purchased such digital works of art in the form of NFT and later sells them, he must register the economic activity, because the SRS does not consider NFT as a virtual currency or a capital asset. On the other hand, if a natural person carries out transactions with cryptocurrencies, he is not obliged to register the economic activity. As with cryptocurrency transactions, NFT transactions also generate taxable income when the NFT is exchanged for euros.
Also, Luxembourg's tax laws do not clearly state how income taxes apply to NFTs, and the Luxembourg tax administration has not made specific statements regarding the taxation of NFTs. The temporary approach provides - if a person trades NFTs, it can be considered an economic activity, and then the profit obtained will be taxed with personal income tax from economic activity. On the other hand, if the person does not carry out economic activity, then capital gains tax will be applied to the profit (capital gain).
In Estonia, profits from trading NFTs are taxed in the same way as profits from cryptocurrency. Also in Norway, if digital artwork is bought and sold in the form of NFTs, the NFTs are treated as cryptocurrency for tax purposes.
While the European Parliament has tentatively agreed on a proposal for crypto-asset markets, the scope of this regulation excludes NFTs that represent real objects such as art, music and video, except where the NFTs fall under existing categories of crypto-assets. It is expected that the European Commission could prepare a comprehensive assessment within a year and a half and, if found necessary, develop legislative proposals with the aim of creating a special regime for NFTs and preventing the potential risks of such a new market.2
Also, the practice of the reviewed countries regarding the application of taxation in transactions with digital art shows that the current tax regulation is being adapted to the new challenges. It is expected that national tax administrations will develop guidelines regarding the taxation of various transactions with NFTs in the near future.
Source: FORBES