In Stone v. United States (March, 2009) the United States Court of Appeals for the Ninth Circuit (which includes California) upheld an earlier decision by the District Court that an estate was allowed a fractional interest discount of only 5% on the 50% interest it owned in a collection of nineteen paintings. The appellate court held that the District Court properly disregarded evidence the taxpayer had presented through its expert witness of fractional interest discounts typical for real estate assets.
A problem the taxpayer had was that in the real world, fractional interests in art are not usually sold so there is no good empirical data. This is in stark contrast to real estate where fractional interests are commonly sold either directly or through entities like limited liability companies or limited partnerships. At the original trial, the government’s expert had testified he was familiar with some fractional interest sales of artworks where the seller did not suffer any discount attributable to its fractional interest. The court had also reasoned that the owner of fractional interest in art would likely seek the cooperation of the other owners to sell the entire work.
Unless future taxpayers can come up with better data, it does not appear that fractional interests in art will yield much by way of a valuation discount. Nonetheless, all may not be lost. Taxpayers often make charitable gifts of fractional interests in art to museums where physical possession of the art is shared between the donor and the museum in accordance with their percentages of ownership. The Stone case also suggests that these donors will not suffer major discounts for purposes of determining the amount of their charitable contribution deduction (and the IRS’s public position is that no such discount will apply). However, IRC Section 170(o) enacted in 2006, contains certain restrictions for fractional interest gifts so you should consult a qualified tax advisor before making such a gift.
