Newsletter from
Steve Richardson & Company, Certified Public Accountants
July 1, 2024
Investing in Farmland
To Our Clients and Friends:
Recently, one of our clients made a significant investment by purchasing a substantial tract of farmland. Just yesterday, I had the pleasure of touring half of this expansive property by ATV—it was quite an adventure! This vast piece of land is truly impressive, and our client, along with his family, has every reason to be proud of such a notable acquisition.
Many of our clients are farmland owners. Additionally, some of the nation’s wealthiest individuals, such as Bill Gates and Jeff Bezos, along with various investment funds, have also chosen to invest in farmland. While this can be a wise choice for some, it’s essential to remember that farmland ownership isn’t suitable for everyone. The carrying costs, including property taxes, maintenance, insurance, and potential mortgage and interest payments, must be carefully considered. Especially if borrowing is required for the purchase, which might not be advisable for most.
Farmland can be an excellent component of a multigenerational wealth management plan, but any decision to purchase must be part of a well-thought-out investment strategy. From my perspective, reducing and eliminating debt should be a cornerstone of any investment plan.
A comprehensive investment strategy typically includes retirement funds, mutual funds, brokerage accounts, and both residential and commercial real estate. The way these assets are invested and their ownership structure—such as family LLCs or trusts—play crucial roles in a long-term strategy. If your plan aims for multigenerational wealth, farmland can be a valuable addition.
Here are a few reasons why farmland attracts competent and successful investors:
- Inflation Hedge: Farmland is generally a good hedge against inflation.
- Limited Downside Risk: The downside risk of farmland is relatively limited.
- Carrying Cost Reduction: There are multiple ways to reduce the carrying costs of farmland through leases and farm production.
One crucial recommendation I made to my client was to hire a professional farm manager. This turned out to be extremely beneficial. The farm manager recommended several government reforestation and timber programs, as well as comprehensive land management plans. He also arranged for substantial farm rental income, significantly offsetting the carrying costs.
Additionally, the farm boasts nine recreational fish ponds. While not currently suitable for fish farming or aquaculture, these ponds enhance the property’s value. The ponds, along with the entire property, are extremely well maintained, adding to the overall appeal and worth of the land.
The farm is also teeming with wildlife, including turkey, deer, dove, and all sorts of wild game native to Alabama. While this wildlife cannot be commercially exploited, it certainly adds a fun aspect for family and friends to enjoy. It’s important to remember that having fun with your farm does not make your farm a hobby.
If you have a farm property, use it! Many of my clients retreat to their farms for periods of rest, reflection, and recreation.
Due to these farm rentals, there is a possibility that the farm may show a profit in the year of acquisition. In subsequent years, it is almost certain that the farm will show a profit based on timber and farm rentals.
It’s important to note that the IRS is very suspicious of farm losses, especially for high-income individuals, as these often trigger tax audits. However, there are simple steps you can take to minimize the risk of a tax audit related to farm operations:
- Show a Farm Profit in 3 of 5 Years: Demonstrating a profit in three out of five years can help avoid IRS scrutiny.
- Maintain Business-Like Books and Records: Keep comprehensive and accurate records of all income and expenses related to the farm.
- Develop a Business Plan: Have a clear business plan that shows how you intend to make a profit from the farm operations.
With proper tax planning, individuals can optimize both income and capital gains tax outcomes. Tax planning for farmland is unique to each investor’s situation. Typically, incomes or losses from farmland investments are considered “passive,” and understanding the specific tax considerations for passive income or losses is crucial in farmland tax planning.
As always, if you have any questions about incorporating farmland into your investment strategy or need assistance with tax planning, feel free to reach out.
Steve Richardson
Certified Public Accountant
Steve Richardson & Company