According to Investopedia: Alternative investments can include private equity or venture capital, hedge funds, managed futures, real estate, art and antiques, commodities, and derivatives contracts.
Based on this and several dozen other references, fine wine is an alternative asset class. When it comes to investing in any asset class, including fine wine, the legal and tax consequences should be taken into consideration to avoid costly mistakes and frustration. Before we dive into the legal and tax consequences of investing or divesting from fine wine collections, it would warrant some history on how wine got included into the alternative asset class category.
Collecting of fine wine has been a multi-generational hobby for well over 100 years.
Back in the 1960s to the late 1970s, ultra-fine wine rarely exceeded $10-20 per bottle. The wine glut of the 1970s in Bordeaux was particularly brutal to the French wine scene, and it was at this time that Napa Valley stepped up to the competitive scene.
The Judgement of Paris, a wine tasting organized in 1976 organized by Steven Spurrier, a British wine merchant, featured French judges who carried out blind tastings comparing top-quality Chardonnay and major red varietal wines blends and single varietal reds (specifically Bordeaux blends and the Cabernet Sauvignon varietal). At this tasting, Californian wine rated best in each category, causing major disruption amongst major wine critics and producers of the world’s best wines. Wine Spectator’s editorial ignited wine enthusiasm.
After a decade-long glut in Bordeaux, the heralded 1982 vintage arrived. First growth Bordeaux futures released at $25-50 per bottle. The 1982 Petrus release was offered at $100-$150 per bottle, expensive at that time. Few could conceptualize spending $25-plus on a bottle of wine, like art, the price of art or wine is subjective to what the buyer will pay. Avid wine lovers gladly spent $40-50 per bottle for 1982 Chateau Latour when offered out to the public in 1983, only to receive the wine in-person in 1984.
Congress enacted the Tax Reform Act of 1986, eliminating tax shelter advantages with a major impact on rental income. This was one catalyst for the 1980s recession. Speaking with collectors who amassed an unusual amount of wine from the 1980s, we learned that at this time the IRS didn’t target wine from an asset seizure opportunity. Upon filing for bankruptcy protection and/or to protect themselves from exposure, many real estate developers purchased wine with excess cash to protect themselves from asset forfeiture.
In 1990, first growth Bordeaux again rose to $50-$99 per bottle. Burgundy producers maintained a secondary position on the collecting scene. Prices of top-tier Burgundy climbed, albeit at a slower pace than Bordeaux. At this time for example a bottle of 1990 Domaine de la Romanee Conti La Tache could be purchased for $299-$350 at retail. A bottle of Henri Jayer Vosne Romanee Cros Parantoux 1990 could be purchased for under $75 per bottle. From 1990 to 1992, cult California winemakers emerged from the shadows with Harlan Estate and Screaming Eagle.
Since the 1980s, critics like Wine Spectator, Wine Advocate and Vinous have served as kingmaker, akin to how top analysts on Wall Street serve up “buy, sell or hold” ratings. A top score from these two critics drew attention from wine fans, resulting in slow, steady wine price increases from vintage to vintage, and secondary library releases.
Each time the media gave substantial acclaim within the wine industry, the buying rush would accelerate with prices rising slowly and steadily based on supply and demand. All this occurred before the arrival of the mainstream internet in the late 1990s and the emergence of LiveEx, a global wine trading platform akin to Etrade, with spot pricing and trading, in many cases never taking possession of the wine itself.
The 2000 vintage was released in futures at $100-150 per bottle in most cases, and with the rise of the internet, online wine sales began to open doors for those who chose to drink and those who chose to sell. Traditional auction houses like Hart Davis Hart, Christies and Sotheby’s opened online bidding, driving up first growth Bordeaux from the 2000 vintage into the $300-500 range within 12-24 months of release.
The 2000s brought forth Australia as an emerging player within the 100-point club. Burgundy producers latched onto the concept of affixing their wines to every major Michelin rated restaurant wine list, akin to how emerging artists strive to have top galleries in New York, Paris and London feature and sell their art. Napa and Sonoma produced some exceptional wines in 2001, 2002, 2004 and 2005. With back-to-back heralded vintages, it is easier to retain customers and keep them engaged, and easier to justify price increases.
By 2005, the global wine jet engine was built and ready for competition. The announcement of another Vintage of a Decade in Bordeaux rocked the wine world, causing release prices to increase to $200-300 per bottle on average for first growth Bordeaux. Secondary market pricing realized 15-20% year-over-year price elevation, within 12-24 months of release.
By 2010, three new factors propelled wine further into the atmosphere: social media, China and the emergence of the counterfeit market. Social media marketing allowed for wineries, retailers, and auction houses to amplify marketing into “lookalike” audiences. At its apex in 2013, the 1982 vintage of Lafite Rothschild rocketed to $40K per case of 12 bottles at auction, and in some cases as high as $6,000 per bottle at retail.
Within the last five years, another major phenomenon was created that no one could have forecasted. The pandemic set forth panic and shutdowns of fine dining establishments. During this time liquor stores were deemed essential businesses, and no one could have predicted that within one year, consumers in lockdown consumed 10 years worth of alcohol. The combination of depletions and conspicuous consumption in a period with inflation and massive fluctuation in standard investments (stocks, mutual funds) continues to see wine prices climb almost to the thin-layer boundary between the highest atmosphere and space.
Since at least 2000, ultra-rare wine has become an evident candidate as an alternative asset class, carrying a different set of risks. More standard alternative investments include real estate investment trusts (REITs), private equity, hedge funds and venture capital. Today benchmarks exist to peg the value of wine in the spot market. The Liv-ex Fine Wine 1000 represents investment grade wines and reports to have produced returns of 8.6% year-to-date (YTD), surpassing the S&P 500 (YTD return of -16.13%). Selling wine at auction or via wine brokers is not a new phenomenon and represent two end points for liquidity.
With the emergence of wine as an alternative asset class came the legal considerations surrounding how to handle situations like capital gains, estate planning, estate probate, and divorce.
According to Lauren Fitte, an estate planning attorney with the law firm of Giordani Baker Grossman & Ripp, LLP in Austin, Texas, gain or loss from the sale or exchange of a collectible that is a capital asset (e.g., not inventory) held for more than one year is subject to a long-term capital gains tax rate of up to 28%, which is considerably higher than normal long-term capital gains rates on investable assets. Assets held for one year or less are not technically “collectibles” for tax purposes, and the gain on sale is taxed at ordinary income tax rates.
A “collectible” is defined as any work of art, rug, antique, metal, gem, stamp, certain coins, alcoholic beverage, or any other tangible personal property specified by the Treasury. Collectible losses are only deductible if the taxpayer held the collectible for investment purposes; collectibles held for personal purposes are non-deductible as a personal loss. Assets that automatically increase in value with age, such as collectibles, are not depreciable. In addition to paying federal income tax on collectible gains, taxpayers may also owe the 3.8% net investment income tax depending on the taxpayer’s adjusted gross income.
You will need to know your cost basis to calculate your taxable gain, and that means the price paid plus any costs, fees, and commissions involved with that purchase. If, for example, wine was purchased in the 1980s and sold this year, one would need to have a cost basis to calculate the long-term collectibles gain associated on the sale of the asset. If no basis can be established due to the lack of receipts or records of purchase, then the presumption is that the basis is zero, and the full amount realized will be subject to tax at the collectibles gain rate. If the wine was handed down via inheritance, the wine will receive a basis adjustment equal to the fair market value of the wine as of the date of death of the decedent. Gifts of wine have a carryover basis, meaning the recipient’s basis in the wine carries over from the donor’s basis—which may be difficult to prove.
For foreign collectors who may opt to store wine within the U.S., the wine may be subject to U.S. estate tax. Non-citizens of the U.S. may only exempt $60,000 total of all U.S.-situs assets from U.S. estate tax. Certain states, such as California, also have a state level estate tax. The location of the wine on the date of death determines its situs for purposes of U.S. estate tax inclusion. For avid collectors of high-value vintages, this could be extremely problematic.
Establishing a succession plan for assets like art and fine wine is no different from other assets. Divestiture planning with an estate planner should be articulated in legal form to avoid costly legal battles between heirs. Often, collectibles held in the family for decades carry sentimental value. Specific bequests of certain identifiable vintages may be recommended to avoid in-fighting among beneficiaries. Because fine wine is tangible personal property, ask your estate planner about the ability to leave a legally-binding memorandum that lists the items of personal property and names the intended beneficiaries. It is much simpler to periodically revise the memorandum than to update the Will or revocable living trust for every change.
One maneuver that has taken shape is to make lifetime donations of fine wine to charities, using an estimated cost of acquisition price (preferably with a true demonstration of cost basis) or attestation of the means, cost, and year of acquisition under sworn affidavit. Any such donation can be deducted from a tax return based on legal accounting practices based on cost basis, not by the current estimated value. By contrast, if a collector wishes to hold the collection and have it pass to a charity at death, a special bequest in the estate planning documents can result in a donation of the collection to a charity that can then auction it to use the proceeds for its charitable purposes.
For more information, visit estatewinebrokers.com.