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MattI am a CPA and I will try and clear up a few items. There is a lot of information flying around, some accurate, some inaccurate, some flat out wrong and some needs further explanation. As with most tax law, the rules are muddled, and this issue isn’t clear cut as some grey areas exist. Hopefully this doesn’t make it more confusing.
Also, these are my interpretations and should not be used without first consulting your paid tax advisor.
First baseball cards are considered collectibles(as are stamps, coins, gems and art) in the hand of individuals and inventory in the hands of a business. How the sales of baseball cards are taxed depends on how the cards were held.
There are three ways to hold collectibles:
1)As inventory held for the sale to customers in the ordinary course of a trade or business. Gains from these sales are ordinary income (not capital income and taxed at regular tax rate), losses are ordinary losses (sales are gross receipts and what you paid for them would be your cost of goods sold). This would be your dealer/ baseball card shop owner. You would typical see these sales on a Schedule C or through an entity (partnership, LLC, S-Corp, C-Corp). As stated above all the expenses related to these businesses would be deductible expenses (fees, show costs, postage, travel, etc.)
However, any schedule C filer must be careful of the Hobby-Loss rules. If this is your full time job(dealer/card shop owner), these rules won’t apply, but if you have another full time job you must show a “profit motive”. Profit motive usually means net income 3 out of the last 5 years. If you are taking losses every year the IRS can call this a hobby. Under the hobby loss rules, you pay taxes on net income in years when you have net income and in years when you have a net loss, expenses are limited to income – no over all loss is allowed. It comes down to profit. If you show a net profit the IRS will allow expenses against income. If you have more expenses than income, the IRS will claim it is a hobby (no profit motive, but pleasure motive) and only allow expenses to the extent of income. How much time is spent and the pleasure factor are typical factors the IRS will look at when applying the hobby loss rules. It is commonly applied to horse owners (breeders and racing) and the weekend car racers.
2)As an investment. Long Term (held more than 1 year) gains are taxed at 28% (not the 15% applied to non-collectibles). Short term gains (held less than 1 year) are taxed at your ordinary income tax rates. Losses would be a capital loss, which can be used first to the extent of capital gains and then limited to $3,000. Gains and losses are shown on Schedule D. Investors with a lot of sales have to be careful of turning into dealers and hence losing the capital gain benefit. There is no bright line test to prove one is an investor vs. dealer (and hence falling under category one above). It is a case by case basis and the IRS will look at frequency of transactions, purpose of acquisition, duration of ownership, among other factors.
3)As a personal use asset. Long term gains taxed at 28%. Losses are not allowed. Prime examples of this occur with cars, furniture and homes (although there is a large gain exclusion for primary personal residence and these assets are not collectibles so gains are 15%.) This would be cards purchased for a personal collection.
Of course the last option is the worst outcome. Taxed on income and disallowed on losses (the IRS code is full of rules that have this whipsaw effect). So the question is what is the difference between an asset held for investment and one held for personal use? Like many items of our tax law this is usually determined on a case by case basis. There is a lot of case law as this scenario is analogous to investors vs. traders of stocks. It comes down to intent. How did you intend to hold the item? How long did you intend to hold it (long term appreciation vs. short term swings in market)? Why did you buy the item?
Can your intent change? Yes. Intent when you purchase something can change down the line when the item is being sold. I believe you can buy something initially for personal reasons and later change it to investment asset and vice versa. It comes down to intent at time of sale. The problem with this is proof. How do your prove intent to the IRS. The best way to prove this in case of an audit is contemporaneous records. A log showing purchases and intent when the asset is purchased as well as when your intent changed would go a long way to proving your intent. Of course intent only comes into play when collectibles are sold at a loss. Gains will be taxed the same no matter if it is investment or personal property.
Why not just claim everything as an investment? I think most of the collectible rules typically deal with art. If you buy art to hang on the wall in your home it is personal use. If you buy it and store it it’s probably an investment asset (who does this?). Doesn’t translate well to baseball cards, but if you buy a card for you collection it should be personal use. If you buy a card for appreciation and to sell it at a later date it’s an investment.
Also, you can be a dealer (example 1) and still hold cards for investment and personally. Each asset stands on its own. You must segregate your assets, which is inventory (owned by business) and which are investments.
Bottom line, as others have stated, yes gains are taxable. Each transaction stands on it own. The most important thing to do is keep records to prove your basis (what you paid for the asset(card)). If you cannot prove basis the IRS will claim the entire sales proceeds as gain (happens with stock quite often).
I typed this out quickly. When I have some more time I will revise and try to make it clearer.
Hope this helps a little and didn’t just confuse you more. Let me know if I can clear anything up or what needs further explanation.
And again these are my interpretations and should not be used without first consulting your paid tax advisor. I am not giving tax advice here.
Matt
Edit to add:
(As required by new U.S. Treasury rules, we inform you that, unless expressly stated otherwise, any U.S. federal tax advice contained in this post, including attachments, is not intended or written to be used, and cannot be used, by any person for the purpose of avoiding any penalties that may be imposed by the Internal Revenue Service.)