Listing your property for sale
Your farm or ranch likely represents the majority of your net worth. Who you choose to list your property with is a critically important decision.
Choosing the right ranch broker will not only help you obtain a top price for your property but will facilitate a smooth transaction.
Taxation of farm or ranch 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 ranch will determine the tax you may ultimately pay. It is imperative that you seek direction from your tax advisers when purchase price allocation is being negotiated.
Below is a summary of the five ways investors may be taxed on the sale of a farm or ranch:
- Federal ordinary income tax: Taxpayers will be taxed at rates up to 39.6 percent depending on taxable income.
- Depreciation recapture: Taxpayers will be taxed at a rate of 25 percent on all depreciation recapture.
- Federal capital gain taxes: Investors owe federal capital gain taxes of either 15 percent or 20 percent on their economic gain depending upon their taxable income.
- New Medicare surtax: The Health Care and Education Reconciliation Act of 2010 added a new 3.8 percent Medicare surtax on “net investment income.” This 3.8 percent Medicare surtax applies to taxpayers with “net investment income” who exceed threshold income amounts of $200,000 for single filers and $250,000 for married couples filing jointly.
- State taxes: Taxpayers must also take into account the applicable state tax.
Tax-saving tools for selling appreciated (or depreciated) property
Selling highly appreciated (or depreciated) property can result in a large tax bill. Taxes due on the sale may range from 20 percent to over 50 percent of the sale price depending on the cost basis of your property and how your property is owned.
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 (CRT).
Using one or a combination of these tools with a sale will save tax. Money that would have gone to paying taxes can then be invested to help generate income for you and your family.
IRC Section 1031 - Tax-deferred exchange
The IRC Section 1031 Exchange can be a powerful tax-saving and wealth-building tool that 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.”
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. Combining a CRT and a 1031 exchange can be a powerful combination for preserving wealth.
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 CPA.
Real estate comprised of multiple, separately deeded parcels
Farms and ranches are often composed of multiple, separately deeded parcels with varying cost-basis figures.
This typically happens as additional parcels of property are inherited or purchased over time to expand the capacity of the farm or ranch.
If you are considering a 1031 exchange 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 the low-basis parcels and take cash out of the high-basis parcels.
Owning farm or 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
- Partnership or limited liability company
While most people own real estate today in the name of an LLC, partnership or S corporation, there are still those who own property in a C corporation.
When a C corporation sells appreciated real estate, it will owe tax on the profit at the corporate tax rate. When proceeds from the sale are then distributed to the shareholders as dividends, the shareholders will also have to pay tax on this income at their personal tax rate.
Consequently, due to this double taxation, it is possible that the total tax due from the sale of appreciated real estate in a C corporation could easily exceed 50 percent.
Exchanging property owned by multiple partners or shareholders
Owning appreciated real estate in an entity can create problems when it comes time to sell the property. Challenges arise if there are multiple partners or shareholders with different goals upon sale.
For example, if two people own appreciated land in partnership, and one partner would like to do a 1031 exchange and one partner would like to pay tax and take the after-tax proceeds, there is a problem.
The IRC 1031 exchange provisions require that the entity selling the relinquished property must be the same entity taking title to the replacement property. So in this case, the partnership would have to do the exchange and each partner could not do his or her own exchange.
Summary
You and your family have worked hard to create the equity in your farm or ranch. When it comes time to sell, you need to work smart to preserve that equity and to make your money work as hard for you as you’ve worked for it. 
Chris Nolt is the owner of Solid Rock Wealth Management and Solid Rock Realty Advisors, LLC, sister companies dedicated to working with families selling a farm or ranch and transitioning into retirement. For more information, visit their websites or call (406) 582-1264.
Registered Principal offering securities and advisory services through Independent Financial Group, LLC (IFG), a registered broker-dealer and investment advisor. Member FINRA/SIPC.
