How to save taxes on the sale of a farm or ranch
March 10, 2017
You could easily end up paying 20 percent or more of the value of your property in taxes when selling your farm or ranch. Fortunately, financial tools exist that may allow you to reduce your tax consequences. Here is an overview of these financial tools.
IRC Section 1031 Tax-Deferred Exchange
The 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. The definition of "like kind" is very broad. Land, for example, can be exchanged for other types of real estate such as office buildings, apartment complexes etc.
IRC Section 664 Charitable Remainder Trust
A Charitable Remainder Trust is another powerful tool to bypass capital gains tax on the sale of appreciated real estate and to generate passive income. In addition to avoiding tax on the sale of real estate, a CRT can also be used to avoid tax on the sale of livestock, crops, machinery and equipment.
IRC Section 121 Principal Exclusion
The Principal Residence Exclusion 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. It may be possible to allocate additional acreage with a farm/ranch house to maximize this tax-saving opportunity.
In addition to the tools above, one can use strategic cost basis allocation to minimize the tax liability on a sale. This is especially important if someone is considering taking some cash out of a sale. For example, if you have multiple parcels of land with different cost basis amounts, it may be possible to use a 1031 exchange or Charitable Remainder Trust with the sale of the parcels that have the lowest cost basis while taking cash out of the higher basis parcels. Make sure to consult with experienced tax advisors prior to a sale. Once a buy-sell agreement is signed, it may be too late to implement some tax-saving strategies.
You've worked hard to create the equity in your farm/ranch. When it comes time to sell, you need to work smart to preserve your wealth and make your money work hard for you. In today's complex financial world, it's best to work with a team of advisors who can collaborate on your behalf to make sure every area is properly addressed. Your team may include professionals such as a farm/ranch real estate agent, a CPA, an attorney, a 1031 exchange accommodator, an investment advisor and a commercial real estate agent. Make sure each member of your team is experienced in using the strategies discussed in this article. If they aren't, it may be best to find someone who is. ❖
— Nolt is the author of the book; Financial Strategies for Selling a Farm or Ranch and the owner of Solid Rock Wealth Management, Inc. and Solid Rock Realty Advisors, LLC, sister companies dedicated to working with families around the country who are selling a farm or ranch and transitioning into retirement.