There are a number of traps which lie in wait for the dealer or gallery trying to navigate their way through the complex UK tax rules and avoid any unexpected and unwelcome tax bills along the way. As is so often the case, a little thought (and perhaps some paperwork) up front can help see off HMRC challenges.
Stock write-downs are a common source of dispute, with HMRC often seeking to dispute the validity of write downs – which reduce profit in the year in which the stock is written down from cost to net realisable value. Whilst the realisable value of a particular artwork is a matter of judgement and as such will always be up for dispute, there are a few tips which can help these negotiations go a little easier:
Whilst across the board write downs of stock are acceptable under accounting standards and are commonplace in some industries, they are rarely appropriate for an art business. HMRC are unlikely to accept a % reduction applied to the full value of stock and it is generally better to consider each significant artwork item by item.
Where stock value rallies it is important to write stock back up to cost to evidence to HMRC that the consideration of stock is balanced. This is particularly important where works which have previously been written down in the accounts are sold after the year for more than the value they are held at in stock.
Most important is gathering contemporaneous evidence of the reason for any significant write downs. This is particularly important where provenance is questioned so that there is an immediate and significant fall in value.
Where there are particularly large write downs of individual works consider getting a third-party opinion – an informal opinion from another dealer, or better an auction house, better still a formal valuation.
Anecdotal evidence is that HMRC are not keen on stock which is written down in the year in which it is purchased. Whilst accounting standards require that stock must be written down if its net realisable value falls below cost, it is worth taking a cautious approach in year one.
Whilst write downs of stock normally alter only the timing of profits and losses, HMRC will not hesitate to raise penalties for what they perceive to be an inappropriate stock value which brings forward a loss on a work, even by just one tax year. Even if HMRC is successful in challenging the stock figure, these penalties can often be reduced or avoided altogether where good evidence is gathered and the reasoning is documented at the time of the write down.