Question for the accountants on the board

[Northviewcats]

Hello Everyone,

I have a question for the accountants on the board. I've been collecting as a hobby for many years, buying and selling to build a prewar collection. I don't have documentation for what I have paid for my cards, but now I want to use some of my collection as inventory to start a small business. What is the correct way for determining the cost of the inventory for a profit and loss statement?

I appreciate any advice.

Thanks,

Joe

[egbeachley]

Good question that I have not seen before. Others are sure to chime in but I will give this a start.


I think you need some sort of proof of purchase price. If you don't have proof then it's $0 which isn't a good place to start for tax purposes.

[Touch'EmAll]

The lesser of cost basis or Fair Market Value at time of conversion from personal to business.

[Rhotchkiss]

I am not an accountant, but I am a recovering tax attorney (with an LLM in tax law and 7 years of practice), so I am unable to give you the technical answer, but can advise on the theoretical answer. Hope this helps.

Assuming they were not gifts, your cards have a cost basis. The Tax Code/Regs understand this and would not be written so that you get a zero basis if you can’t prove the actual basis. So your basis is not zero. So how do you determine basis? I imagine you do the best you can, in good faith. First, try hard to determine what you paid. Look for old records, call/email people you bought from, etc. and try to produce third party documentation of purchase price. Third party documentation, including an email, is strong evidence/support. Second, if you simply can not determine what you paid, then try to make a reasonable valuation of the card as of the time you bought the card, document your methodology, and go with that. If you can’t do that, well, then do your best and be reasonable (certainly don’t be a pig).

In the rare event you get audited, the burden will be on you to prove basis. If you have a well thought out methodology and third party documentation to support your position, the more likely it will be accepted. If the IRS disagrees, they will do the same gymnastics to determine what they think the basis is; and of course you can challenge that. They will not say you have no basis.

One thing to consider is that by changing from a collector to a dealer, you are likely changing the nature of your gain/loss. In other words, I think collectibles are a special asset class that has its own unique tax rate; otherwise, they are capital assets, subject to long/short term gain/loss. Once you become a “dealer”, your cards become inventory, which is a different asset, and the cards will no longer be collectibles or capital assets, and your gain/loss will be taxed differently. I don’t know if that ends up being a good or bad thing for you — an accountant can help you with that - but you will definitely be changing the nature of the asset and thus the nature of the gain/loss.

[oldjudge]

I'm not an accountant either, but when you start a business aren't there then two entities, your collection and the business. When cards are moved to the business you should set up a market based transfer price. Based on this price you will have a taxable gain or loss on your personal disposition to the business, and a value for the inventory, namely the transfer prices, for your business.

[Rhotchkiss]

Jay, that is a whole different matter, but long and short is that “transferring” the assets to a “business” is not necessarily a taxable transaction, and more often than not, is not taxable. For example, transfers to a partnership (including multi-member LLCs) in exchange for a partnership/membership interest is non-taxable under section 721 of the code (the basis is transferred over to the partnership interest); same result with a corporation under section 351 of the Code. Transfers to a single-member LLC is not taxable bc the LLC is disregarded. You can often make an election allowing taxability, and thus a fair market value basis, but that’s a different matter and rarely done. Bottom line, it all depends on how you transfer (sale vs contribution), what type of entity you are transferring to, and whether you make an election to otherwise alter the proscribed result/nature of the transaction. But transferring the cards to a business does not necessarily result in a taxable transaction/fair market value basis. Instead, it is normally a tax free transaction where the either the basis is transferred to the partnership interest/stock (carryover basis) or ignored alltogether and one still needs to determine the original basis.