The Collector appears in Avengers: Infinity War and plays a pivotal role, as he held the Reality Stone (technically the Aether, one of the six Infinity Stones to be precise), which Thanos was able to take from him in order to further his ends of completing the infinity gauntlet. In Avengers: Endgame, we see that the scene where Thanos is torturing the Collector turns out to have been completely fabricated by Thanos, using one of the Reality Stone to manipulate reality to test his adopted daughter Gamora, demonstrating the power of the stone, clearly a crown jewel of the Collector’s massive collection. The fate of the Collector is still to be determined in the MCU, but the issues of taxation and his collection will plague him going forward. Let’s explore.
The Collector is a minor character from comic lore. With the given name Taneleer Tivan, the Collector is the head of the Tivan Group, and renowned as the keeper of the largest collection of interstellar fauna, relics and species in the galaxy (a.k.a. the Collector’s Museum), operating from the Knowhere port installation.[i] As a collector of memorabilia myself (shout out to the Star Wars and GI Joe 3 and ¾ inch collectors in the room) tax plays a role in the Collector’s life, whether he realizes it or not.
In Guardians of the Galaxy, we learn that the Collector both buys and sells his collectibles (for the right price of course). This is clear when he and Rocket have an exchange where Rocket is attempting to negotiate a price for the Orb (which Peter Quill had recovered from a tomb on Morag), an ancient artifact that housed the Power Stone. After the Collector asked Rocket how he wished to be paid for the Orb, Rocket tells him, “what do you think fancy pants? UNITS!!!”[ii] So, it’s safe to assume that the Collector is buying artifacts for his collection. However, to get the money to buy his treasures, it’s likely that he is selling artifacts as well. And given his swarthy character, it is also safe to assume that everything in the Collectors collection is for sale … for a price.
The activities of collectors are taxed somewhat differently than the activities of regular businesses. There is a characterization requirement for his activities; a limitation on deductible losses incurred; and a different tax rate for gains realized by the sale of collectibles.
Dealer, Investor, or Collector – There can be Only One!
From a tax perspective, there must be a determination of whether the Collector is a dealer, investor, or a collector. From a basic definitional perspective, a dealer is someone in the trade or business of buying and selling collectibles. An investor is someone who buys and sells with the view toward gains but is not in business as such. A collector is someone who collects as a hobby with no profit motive. There is no clear statutory definition or bright-line test of what it means to be a dealer, an investor, or a collector, and to make things more confusing, an individual may fall into multiple categories.[iii]
The definitional determination above is important for the determination of losses that can be generated to offset income.[iv] These definitional components are determined by elimination as the Internal Revenue Code (IRC) provides that all activities of the taxpayer other than those for which deductions are allowable under §162 (expenses of carrying on a trade or business) or §212 (expenses incurred for the production or collection of income or the management, conservation, or maintenance of property held for the production of income) are not considered “businesses” and therefore are deemed to create the definition of “hobbies.”[v] Dealers are considered to be operating a business, and therefore gains will be ordinary income, and losses will be treated as any other business loss pursuant to IRC §162. This means that their net income will be taxed at ordinary income rates under graduated tax rates for the dealer.
Investors are people who deal in the same type of property, albeit at a less frequent scale. Because of this, investing expenses can be deducted and gains and losses treated as capital transactions.[vi] However, losses from the sale are not investing expenses, and are not available to offset ordinary income. If an investor engages in some sales transactions and reports these as a dealer, she might be subject to the hobby loss rules, which could limit the usability of the losses.
For both dealers and traders, the Tax Court has identified factors for consideration in determining whether the pieces sold were part of the taxpayer’s inventory (i.e., property considered stock in trade and held primarily for sale to customers in the ordinary course of a trade or business pursuant to §1221(a)(1)): (1) The frequency and regularity of sales; (2) the substantiality of sales; (3) the length of time the property was held; (4) the nature and extent of petitioner’s business and the extent to which petitioner segregated the paintings from business inventory; (5) the purpose for which petitioner acquired and held the property before sale; (6) the extent of petitioner’s sales efforts by advertising or otherwise; (7) the time and effort petitioner devoted to the sales; and (8) how the sales proceeds were used.[vii] Where a dealer or trader satisfies these definitional requirements, the income generated by sales of collectibles are considered ordinary income taxed at ordinary income tax rates, and the costs of acquiring collectibles or other costs associated with the operation of the business are considered ordinary deductible costs.[viii]
Collectors simply acquire and hold their wares with a possible sale an undefined time in the future. The activities of a collector are not considered to be in the furtherance of a trade or business, and therefore the activities are classified as “hobbies” for federal tax purposes.[ix] Given the Collector’s impressing array of goods, it is probably fair to consider him, no pun intended, as a collector. (For these purposes we will rely on the Collector’s name, and classify him has a collector – a savvy tax attorney may argue that he is a dealer in order to allow a greater amount of deduction against income, but for these purposes, he will be classified as a “collector”).
The real impact of being defined as a “collector” is that the ordinary business deduction rules are eliminated and the tax rate on which income generated is taxed is similarly changed.
Hobby Loss Limitation
The Hobby Loss limitation works generally by limiting the ability to deduct expenses associated with the hobby/collection from the proceeds generated from the hobby or other income. This is because the Internal Revenue Service (IRS) has determined that such “hobbies” are engaged in primarily with a motive towards enjoyment, not profit. Without a profit motive, the IRS deems such losses to be disallowed.[x] The effect of IRC §183 is to limit the deduction of expenses incurred in connection with these hobbies to the gain realized from the hobby activity.[xi]
Here’s a quick example. If the Collector spent $100 on cleaning and servicing his collection (feeding the animals, watering the plants, etc.) and then sold an artifact for $80, the Collector would have $80 of income, $100 of expense. However, he would only be able to use $80 of the expense to offset the $80 of income, leaving him $20 of limited or suspended loss (i.e. no benefit). Here, the collector would have only $80 of allowable “hobby loss” as a miscellaneous itemized deduction. If he had been a dealer, he would have had a net operating loss of $20 that he could carry forward to offset income in subsequent years.[xii]
However, this hobby loss is further limited due to the suspension of miscellaneous itemized deductions in the years 2018 through 2025 under the Tax Cuts and Jobs Act (TCJA).[xiii] This means that deductions for hobby loss expenses under §183 are not allowed in those years.[xiv] So, the Collector’s tax situation gets even worse from 2018 through 2025, as any expenses that he incurs are not deductible, even against gains from his sales. To further the example above, where expenses fully offset income to produce no tax impact, now, the Collector will have $80 of taxable income that he will pay taxes on, and his expenses of $100 are simply lost and are not available to offset any gains from sales.[xv]
The Collector’s inability of to deduct even a portion of the hobby loss expense while recognizing all the hobby income into his adjusted gross income calculation to determine his tax liability makes establishing a profit motive for hobby activities almost a necessity. The determination of whether an activity is engaged in for profit is almost entirely subjective as it is based on the facts and circumstances of each individual instance; however, a statutory safe harbor is provided under §183(d) that, if met, causes a presumption that the activity is a for-profit endeavor. The safe harbor provision requires the generation of a profit in at least three of the preceding five years, and if met, treats the activity as engaged in for-profit and shifts the burden of proof otherwise to the IRS.[xvi]
If we move forward on the assumption that the Collector does not qualify as a dealer, or a trader, or under the safe harbor provision outlined above, the total amount of his gains from sales of his collectibles are taxed, albeit at a different rate than ordinary income.
Tax Rate for Gains on Sales
The gains from the sale of collectibles owned by collectors held for more than one year are taxed at a 28% capital gains rate, regardless of the individual’s other income or adjusted gross income (AGI).
Collectibles in the hands of a dealer or trader are considered stock in trade capital assets, with the income taxed at ordinary income rates, up to 37% for individuals.[xvii] Collectibles in the hands of a collector are considered non-inventory capital assets. Capital assets held for greater than one year are typically subject to a reduced rate of taxation for gains or losses on the sale of such, commonly referred to as long term capital gains or long term capital losses, taxed at a maximum rate of 20%. [IRC §1(h).] When collectibles are held for greater than one year, they receive disparate treatment from standard capital assets. Gain or loss from the sale or exchange of a collectible not considered inventory in the hand of a dealer or trader is subject to tax at 28%.[xviii]
Statutorily, a “collectible” is defined in as any work of art, rug or antique, metal or gem, stamp or coin, alcoholic beverage, or any other tangible personal property specified by the Secretary for this purpose.[xix]
Based on the above, the Collector’s collection will likely all be considered collectibles. Thus, any gain on sale of collectibles will be taxed at 28% (assuming held for greater than one year). So, if we expand the example from above, prior to the enactment of TCJA, the Collector had $0 of taxable income ($100 of expense against $80 of income leaves $0 net income and $20 of lost expense). However, under TCJA, the Collector will have a tax bill, in addition to his expenses associated with his collection activities. Remember, under TCJA, all hobby losses are eliminated as miscellaneous itemized deductions are no longer available to individuals. Therefore, the Collector has $100 of disallowed expense and $80 of income. That $80 of income will be taxed at 28%, meaning the collector will have tax due of $22.40. The collector will have spent $122.40 ($100 expense plus $22.40 in tax) to generate $58.60 ($80 of income minus $22.40 of tax) in net after-tax income.
No wonder he lives in a deserted world, it is the only place he can afford. Obviously, some better tax planning would help him out. The Collector needs to figure out how to generate a profit motive to be treated as a dealer and reach out for competent tax planning advice!
[i] First Appearance, Avengers 28 (May 1966).
[ii] Guardians of the Galaxy (2014).
[iii] Williford v. Comm’r, T.C. Memo 1992-450 (1992).
[iv] IRC §183.
[v] IRC § 183.
[vi] IRC §212.
[vii] Williford v. Comm’r, T.C. Memo 1992-450 (1992).
[viii] IRC §61 (income inclusion); §162 and §212 (deductible costs of carrying on a trade or business).
[ix] IRC §183; Treas. Reg. §1.183-2(b).
[x] IRC §183(c) & (d).
[xi] IRC §183(a); §183(b)(2).
[xii] IRC §172 (net operating loss carryforward limited to 80% of subsequent year taxable income).
[xiii] Tax Cuts and Jobs Act (TCJA), P.L. 115-97) (enacted 12/22/2017).
[xiv] IRC §67(g) (added by TCJA).
[xv] There is a safe harbor provision allowing deduction under §183(d) where an activity generating a profit in at least three of the prior five years ending with the tax year in question will be deemed “for profit” and not subject to the hobby loss rules.
[xvi] IRC §183(d).
[xvii] IRC §1221(a)(1); §1(a)-(d).
[xviii] IRC §1(h)(4) and §1(h)(5).
[xix] IRC §1(h)(5)(A) (reference to §408(m)) (emphasis added – this gives the IRS broad leeway to treat anything you collect as a “collectible”).