Reaching through

So Australia is about to have reach-through royalties on artistic work. Basically, if you have a piece of art and manage to get more than $1,000 for it, then on re-sale, the buyer has to pay the original artist 5% of the subsequent sales price. The news discussion is all about helping indigenous artists. But I must admit that my first reaction is that this could hardly help. This might be resolved in background documentation but how this gets administered and deals with international sales seems really challenging.

But even if it can be resolved, is it a good idea. If I paint a painting and could sell it previously for $2,000 what will I be able to sell it for now. Imagine first that it doesn’t change in value over time. Then the future potential purchasers of the painting will only pay $2000 overall, including the royalty. So the painting’s value to my buyer today will be $1904.76. I’ll get that money today and the rest of the $2,000 when it is re-sold. That might seem like a worse deal but so long as the buyer and I face the same rate of discount we will adjust the asset value for that too.

What if it is expected to appreciate? Now so long as the buyer and I have the same degree of risk aversion (which is doubtful if I am currently starving) then the same neutrality will hold. The expected net present value of my sale with and without re-sale royalties is the same.

But now what if my buyer is going to do things that will actually increase the painting’s value? For instance, display it in a prominent space, take it on exhibition, etc. In this case, their return from that activity has been reduced by the required royalty. That means a lower overall return for me too.

I wouldn’t agree to that sort of thing and that is probably why we don’t see re-sale royalties freely agreed to (that is, there is nothing stopping them being agreed to now). Making it compulsory surely will not help anyone. Hopefully, there is provision for opting out and so we have only changed the default by this action.

7 thoughts on “Reaching through”

  1. This can be easy to administer and it can be done in a way to increase the value to the buyer. In principle most of us would agree it is a “fair thing” so I find it offensive to talk about how unfair it is to later buyers and sellers.

    One way to administer it is to register the painting with a unique electronic identity and when the painting gets sold then you get the electronic identity with it which proves its provenance and that is of considerable value to the buyer. The value of many works is enhanced by knowing the identity of previous buyers as well as having reassurance that the painting is genuine.

    This idea is the same as a land title and the principle can be applied to any object. It could be easily applied to motor cars or any object that can change ownership. It is very simple and cheap to administer because buyers and sellers working within the rules both want to do it and if you are found in possession of an object without the “electronic certificate” in your possession then you can be prosecuted.

    Registries do not need to be run or organised by governments. The only thing that needs to happen is for there to be cooperation between organisations that set up registries to all agree to a standard format for passing information. The government could be involved in that process.

    An artist need not register a painting if they do not wish to. Existing art work can be registered if the provenance can be established. Selling to overseas buyers is enhanced because they will want to continue the practice and I suspect will increase the attractiveness of the piece because it is relatively easy to fake art and having an assurance it is genuine is very attractive to buyers no matter where they are.

    This is an excellent idea provided it is implemented well and Garrett should be congratulated.

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  2. You are right that this a bad idea, Joshua. It distorts the the return on investment and hinders value adding activity.

    The idea of royalties for music and written work is logically consistent. A singer pays royalties to the author of the song they sing because the current singer believes the song adds value. Likewise, an academic quotes another writer because the quote adds value to the current article. The relationship between the original and the current is an active one that can be defined in monetary terms: the cost of the royalty of the song and the fair dealing laws applying to photocopies. In these cases, the activity attracting the cost is a public commercial activity adding value to the agent of the activity, the singer or writer.

    The same arguments can not be applied to art, unless it is publicly displayed in a gallery for which admission is charged. It might be argued that a painting adds value to the company that buys it, like Alan Bond and the Irises; this is an exception that proves that rule. The publicity that the painting produced could be commercially quantified. If there is no value adding, continuing, public relationship there is no basis for a compulsory tax , which this is.

    The context within which this tax has been mooted is that of ATSI artists. The smell of a tax to lighten the government burden associated with these communities is stronger than turps.

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  3. There are some interesting issues here. I’m not sure that “I find it offensive to talk about how unfair it is to later buyers and sellers” is a sensible response.

    As I read the limited information available on the Government’s website, it will not be possible to opt out of the scheme.

    What is really interesting is that the legislation applies to all re-sales after the first transfer after the legislation comes into effect. The art does not need to have been created after the scheme came into effect. I assume this means that it is the holder of the work at the time the scheme comes into effect that will pay for artist’s royalties. I base that assumption on this hypothetical: you buy a painting before the legislation comes into effect, the price is $1M; the market has not priced the future resale royalty into that price (perhaps it was acquired before the Government announced the scheme); you sell the painting six months after the legislation comes into effect; if the re-sale royalty legislation did not exist the market would value the painting at $1.05M; however, because of the legislation, the market discounts the value of the painting to take account of the fact that the new buyer will have to pay 5% when they eventually become a seller. It seems to me that the unfairness is not to buyers down the track who can price the royalty into the price they pay but to the buyer who has acquired the work before the legislation came into effect.

    It seems like an anomaly in the legislation to not at least deduct $1,000 from the amount that the royalty is assessed on. Not doing that will mean that a seller would be better off selling the work for $1,000 rather than $1,001 which will discourage royalties for artists in a very small price bracket.

    It also seems odd that the flat rate is used rather than the EU and UK sliding scale with a fixed maximum. The result seems to be the potential for royalties that vastly exceed the overseas limit of 12,500 euros (or something of that order).

    The tax treatment will also be interesting. Aside from any GST issues, I wonder if the royalty is a tax-deductible expense or whether the price less the royalty is the final sale price for CGT purposes. In one scenario, the taxpayer picks up something in the order of 30% (for a company) to 46.5% (for an individual on the highest threshold) of the royalty; in the other, assuming the seller holds the work for more than 12 months, presumably the taxpayer only picks up half what it would under the first alternative (for an individual anyway, I don’t think the 50% discount applies for corporations).

    For example: X is an individual on the highest marginal tax threshold that buys a work for $900,000 and sells it eighteen months later for $1,050,000. The royalty is $52,500. If the royalty is a deduction then it costs the taxpayer $24,412.50 (46.5% of $52,500) because that deduction would not otherwise have existed. If the royalty counts against the final price for CGT purposes then it costs the taxpayer $12,206.25 ($150,000 x 0.5 [discount for holding an asset for more than one year] x 0.465 [tax rate including medicare levy] [this is what CGT would ordinarily have been without the royalty scheme] less $97,500 [$150,000 – $52,500] x 0.5 x 0.465 [this is what CGT is if the royalty counts against the final price for CGT purposes]).

    That would change if the price you sold for was sufficiently close to the price you bought for so that the sale price less 5% is less than the buy price. In that case, I guess the taxpayer’s share of the royalty if it was a straight tax deduction would remain the same. On the other hand, if the royalty counts agains the sale price for CGT purposes then things would be different.

    For example, Y is an individual on the highest marginal tax threshold that buys a work for $900,000 and sells it eighteen months later for $945,000. The royalty is $47,250. If the sale price for CGT purposes is $945,000 – $47,250 then there is a capital loss of $2,250. Capital losses do not have a discount applied and carry over tax years to be set against a capital gain. So, the taxpaper has paid $11,508.75 ($45,000 x 0.5 x 0.465 [$10462.50] + $2,250 x 0.465 [1,046.25]).

    The argument Kevin makes about authenticating provenance seems to be largely irrelevant. You do not need to have a royalty scheme in order to implement an electronic system for authenticating provenance. If that type of system was of value to the market then I think you would expect it to have been brought in by market forces. I would doubt that buyers value an electronic record of the provenance of the painting at an uncapped 5% of the purchase price. Again, if they did, the market would have implemented such a scheme.

    I think the motor car analogy points to the failure of the argument: there is an electronic system of motor vehicle registration (and also a system for registering charges over motor vehicles). Each subsequent purchaser of a motor vehicle is not required to pay a 5% royalty back the car manufacturer or the first owner. There is no reason to think that the registration system requires a complimentary royalty system.

    I think whether this is ‘fair’ or not is difficult to assess. One thing that strikes me is that in a falling market the artist continues to make money while the holder of the work loses money. For example, assume Damien Hirst sells a spot painting for $1.5M to a buyer. In two years time, the buyer decides to sell the work and discovers that the market has woken up to how ludicrously overpriced a Hirst work is. The buyer can only get $1.2M. Of this, Hirst gets a further $60,000. The first buyer has lost $360,000; Hirst has gained $60,000. The second buyer holds the work for a year before going bankrupt. The work is put back on the market and in the fire sale is worth only $1.1M. Hirst gets a royalty of $55,000. The second buyer has lost $155,000 ($100,000 plus the $55,000 royalty). The third buyer holds the work for a decade. The third buyer finds that the Hirst fad has disappeared. The work is sold for $100,000. Hirst gets a royalty of $5,000. The third buyer has lost $1,005,000 ($1,000,000 plus Hirst’s royalty). Over that period, Hirst has gained $120,000 just in royalties (excluding the original amount paid for the work). The three buyers have together lost $1.52M which is more than the original purchase price.

    There is another way in which I think that the system operates unfairly: it does not appear that the legislation takes into account that after the first re-sale the artist will already have been paid 5% of part of the value. Even if the price is not decreasing, the result is still potentially problematic.

    For example, assume an artwork is traded 5 times over the course of 20 years. On each occassion it does not rise significantly in value and sells for about $1M. On each of those occassions, the artist gets 5%. If it sells for $1M each time then on each occassion the artist receives $50,000. The consquence is that over 20 years the artist takes 25% of the value of the work. This would have to, I would think, discourage the transfer of artwork unless the capital growth is significant enough to set off the royalty.

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  4. Does this mean Australia will soon have a Ministry of Indigenous Art? The Ministry that tracks the sale and movement of original works of art by aboriginal artists?

    And what about all the non-aboriginal artists who will want this 5% to be tracked forever more.

    Heck, I bet some artists will start adding stuff to their paintings to make them emit an aweful odour…so the owners will want to sell it soon after putting in their home.

    I can see all sorts of new industries popping up now…

    😉

    Dave

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  5. I am an artist and have been actively involved in campaigning against the resale royalty because of the simple reason that (a) it will cost me income, (b) it is grossly impertinent restriction of my freedom. I have no rights under this scheme to say NO – not for me. Would be interested to have a chat re: economic technicalities. I believe that most economic commentators including Access Economics have seriously underestimated the harm that this scheme will do to artist and their primary sales incomes.

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