You worked your entire life and a significant amount of your family’s wealth is tied to the family farm. This scenario is experienced by many families in the U.S. How do you obtain your value from the land and pay the least amount of income tax? There is a way.
The income tax laws, referred to as the Internal Revenue Code in the United States, provides for families to retire from the farm without paying current income taxes on the transaction. As you can imagine, there are a few caveats and requirements to performing such a transaction. This type of land transfer is known as a “like-kind exchange”. In recent years the regulations governing this type of transaction have been refined to allow property held for productive use or investment (i.e., the farmland) to be exchanged with other investment property to defer the tax on the potential gain in the land.
Think about this approach. Mr. Jones has a farm which consists of 640 acres of pastureland. He purchased the land 40 years ago. His basis in the land is $100 per acre or $64,000 for the total parcel. However, Mr. Jones is ready to retire and decides he wants to sell the property. Today, the land is worth $1,000 per acre or $640,000 for the total parcel. Mr. Jones visits his CPA to discuss his decision to retire and sell his land. The good news is that Mr. Jones is retiring. The bad news is that his federal tax bill on the sale of the could be as much $128,000!
To defer the tax bill to its latest due date, Mr. Jones’ CPA informs him of a structure that allows Mr. Jones to exchange his farm land for other land that is held for investment. Perhaps Mr. Jones would desire to own rental properties that would generate cash flow to supplement his retirement?
This area of law is very specific but can provide significant benefit to taxpayers. Two important timelines are required to be met to treat the property received in the exchange as “like-kind” property: 1) The property to be received must be identified within 45 days after the taxpayer’s property is relinquished in the exchange; 2) The property transaction shall be closed within 180 days after the relinquished property is transferred to the other party.
Additional parties are involved in this type of transaction. A qualified intermediary is utilized to transfer the deeds, hold the deposits and to execute the transaction on behalf of the two exchange parties.
Before you simply decide to sell your farm, think about other opportunities to mitigate the tax bill. You will be glad you did.