Selling a Farm or Ranch: What You Need to Know
By Chris Nolt, Solid Rock Wealth Management
There can be significant tax consequences to selling a farm or ranch that has appreciated in value. Fortunately, financial tools exist that can defer these taxes. This article will briefly discuss these tax saving tools and some common issues families face when selling their farm or ranch.
Taxation of assets
Various tax rates and tax treatments apply to the different types of assets involved with the sale of a farm or ranch. How you allocate the sales price to the assets of your farm or ranch will determine the tax you may ultimately pay.
It is imperative that you seek direction from your tax advisors when purchase price allocation is being negotiated.
Two financial tools are commonly used to defer or avoid tax on the sale of highly appreciated or depreciated property – IRC Section 1031 Exchange and IRC Section 664 Charitable Remainder Trust. Using one or a combination of these tools with a sale will save tax.
By using these tools successfully, money that would have gone to paying taxes can be invested to generate retirement income.
IRC Section 1031 tax-deferred exchange
IRC Section 1031 Exchange allows a taxpayer to sell property and purchase other property without currently recognizing capital gains tax on the sale.
To quote the tax code, “No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment purposes if such property is exchanged solely for property of a like-kind which is to be held for either productive use in trade or business.”
Farm or ranch land may be exchanged for other types of commercial property, such as office buildings or apartment complexes, that may offer higher cash-flow returns than farm/ranch property.
IRC Section 664 charitable remainder trust
A charitable remainder trust (CRT), sometimes referred to as a capital gains avoidance trust, can be another powerful tool to defer or entirely avoid capital gains tax on the sale of appreciated real estate.
In addition to avoiding tax on the sale of real estate, a CRT can also be used to avoid tax on the sale of other assets such as livestock, machinery and equipment.
One does not have to use a CRT for the entire sale. Combining a CRT with a 1031 exchange can be a powerful combination for preserving wealth, diversifying investment assets and generating passive retirement income. A CRT also generates a charitable income tax deduction that can reduce tax on cash proceeds from a sale.
IRC Section 121 personal residence exclusion
IRC Section 121 allows an individual to exclude up to $250,000 of taxable gain from the sale of a principal residence and a married couple filing a joint return to exclude up to $500,000 of gain.
To help maximize the amount of tax-free cash you may receive from the sale of a farm or ranch containing the personal residence, one may include additional acreage with the home.
Make sure to discuss this strategy with your real estate agent and certified public accountant.
Real estate comprised of multiple,
separately deeded parcels
Farms and ranches are often composed of multiple, separately-deeded parcels with varying cost basis figures.
If you are considering a 1031 exchange or charitable remainder trust for part of the sale, a potentially effective tax-saving strategy is to obtain separate buy-sell agreements on each parcel so you can exchange or gift the low-basis parcels and take cash out of the high basis parcels.
Owning farm/ranch real estate inside an entity
How you own your farm or ranch impacts the tax treatment and planning options available to you.
Typical entities that own farm or ranch real estate include general corporation, also known as a “C” corporation; subchapter S corporation; or a partnership/Limited Liability Company.
When a C corporation sells appreciated real estate, it will owe tax on the profit at the corporate tax rate. When sale proceeds are distributed to the shareholders as dividends, shareholders will also pay tax on this income at their personal tax rate.
Consequently, due to this double taxation, tax due from the sale of appreciated real estate in a C corporation can exceed 50 percent.
Property owned by multiple partners/shareholders
Owning appreciated real estate in an entity with multiple partners/shareholders can create problems when selling property.
For example, if two people own appreciated land in partnership and one partner would like to do a 1031 exchange or CRT and one partner would like to pay tax and take the after-tax proceeds, there is a problem. One way to deal with this problem is to distribute the property out of the entity prior to a sale.
It is critical in these situations to seek counsel from qualified tax and legal professionals.
If you are considering selling your farm or ranch and you wish to save taxes on the sale, it is critical to engage in planning prior to a sale. It’s also critically important that the advisors you work with have extensive experience in farm or ranch sale planning.
For more information on these tax saving tools and other planning strategies for selling a farm or ranch, you may request a free Wealth Guide by calling 406-582-1264. For more information, visit solidrockwealth.com and solidrockproperty.com.
Chris Nolt is the owner of Solid Rock Wealth Management, Inc. and Solid Rock Realty Advisors, LLC, sister companies dedicated to working with families throughout the country who are selling a farm or ranch and transitioning into retirement. Chris helps families to save tax on the sale of their farm or ranch and create passive income from the sale proceeds.