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: How to value capital-gains taxes when selling a small business and its inventory

Dear Ms. MoneyPeace:

I’m a 70-year-old single male. I own a farm that’s been in my family since I was born. I’m also an artist working in metal. Your article on digital assets caught my attention. I’m thinking of selling my property, but I have very little cost basis. For example, it might be worth $1 million, but I can only prove I’ve invested $100,000 in it.

I do have artistic assets. For example, a large sculpture. Do you think I can somehow turn that into a NFT or assign it a value in some other legal way and include it in the property sale?

Obviously, I don’t want to pay an outrageous capital-gains tax if I can avoid it.

Thank you for your time, 

Artist Andy

Send your questions to Ms. MoneyPeace: MsMoneyPeaceQuestions@MoneyPeace.com

Dear Artist Andy:

You have two questions in one, and you must separate the issues to understand the capital-gains calculations.

One, you own real estate, which I assume is your personal home. Two, you are a business owner with inventory. Though you may operate the business on your property, when it comes to selling them, they are valued differently and separately.

First, the real estate is a tangible asset. For tax purposes, what matters is when the deed came into your name. If you inherited it, at that point, the property had a basis or estimated value. That may be in your paperwork from the estate lawyer. (Or you may try land records or estimated real estate value.) If you purchased the property from a family member, you have access to the purchase and sale papers listing what you paid.

You add the cost basis to the cost of improvements you have made to the property. This is tangible upgrades such as landscaping, or building additions that will sell with the property. Not the maintenance over the years of lawn mowing or painting to keep the property in good condition. See the list below for clarity and consult IRS  2021 Publication 523, page 9. Then, review your records and dig out your calculator to find your full basis for tax purposes when you file for tax year 2022.

Improvements Include:

Heating system

Central air conditioning, humidifier, central vacuum

Wiring security system

Lawn sprinkler system

Exterior storm windows/doors

Pipes and duct work

Septic system

Water heater

Built-in appliances

Kitchen modernization

Wall-to-wall carpeting

Read: Here’s how you can save money on capital-gains taxes when you sell your home

Your basis when you sell the property will be the cost basis plus the cost of improvements. Remember, you may qualify for a $250,000 capital-gains exclusion ($500,000 if you were married) if this has been your main home two out of the past five years and meet other requirements. As a result, your capital-gains tax may not be as much as you fear. See IRS Publication 523.

Your business is a separate asset. Selling the business will have its own set of tax rules, depending on whether you operated it as a sole proprietorship or S-corporation.

The artwork you created is part of the inventory within your business. Those pieces can either be part of the sale or sold individually in whatever format you choose.

Selling artwork as a non-fungible token (NTF) is still artwork, following the same tax rules despite it being digital art. As you know, sculptures are typically valued at what a buyer is willing to pay. 

Businesses are valued differently than art but subject to capital gains. Businesses also include the value of goodwill, which is intangible but based on added value because of a good reputation.

The only overlap for your home is if you had a home office or an artist studio and claimed a home office deduction on your taxes. There will be an impact as you add back depreciation claimed over the years, which impacts your capital gains.

If this all sounds confusing or overwhelming, then consult a tax professional who does this every day and can simplify your life. These are two big moves that you do not want to get wrong.

CD Moriarty is a certified financial planner, a columnist for MarketWatch and a personal-finance speaker. She blogs at MoneyPeace.

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