Transcript Income Tax Provisions for Forestry Operations

Income Tax Provisions
for
Forestry Operations
Lloyd R. Casey
Casey’s Forestry Concepts
ITEMS TO CONSIDER
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Timber is long term
Being in the timber growing business
Capital Income advantages
Most sellers either:
– Pay tax on gross receipts (foolish)
– Pay no tax (unlawful)(1099s will be required for all
sales)
• Establish “profit motive”
Needed for Return Preparation
• Timber management Plan, to include:
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acquisition volume (bd. Ft; cords; tons;etc)
value at acquisition
schedule of operations
growth rates & mortality
maps (stands, boundaries, acres, roads,etc)
• Acquisition Expenses
Needed for Return Preparation (con’t)
• Land Evaluation
• Timber sales information:
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price per unit (mbf; cords; tons)
harvesting contract
sales expenses(advertising, commissions, etc)
forester expenses
legal fees
Needed for Return Preparation (con’t)
• Capital Expenses
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roads
fire lanes
buildings
tree planting
• Forms
– Form T; Form 1040, parts 1,2,3
How to Figure Basis
• Items needed
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fair market value of the land
fair market value of timber
fair market value of brushland
fair market value of young growth
• Set each item as percent of total
How to Figure Basis (con’t)
• Set up original cost basis to include all
acquisition costs such as:
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lawyer fees
closing costs
forestry appraisal
survey costs
• Use percent of each item and multiply the total
resulting in a new allocation of basis
Situation
The 19 acre woodland and 3.6 acres of pipeline was
purchased in 11/26/03 for $70,000. The legal fees were $3,084
Surveying and other acquisition expenses were $12,325 for a
total of $85,409. The Fair Market value of the land was
$3,097.35/ acre or $70,000 and the fair market value of the
timber was $42,650 or $282.45 /MBF (151 MBF). The cruise
determined that the annual growth was 6.8%
A road was built for access at $4,240
A sale was conducted and 50.5 MBF was sold for $15,148.
Sales costs were $2,272.
Basis Reallocation
ASSETS
FMV
Percent of total
Land
$70,000
Timber
$42,650
38%
Total
$116,890
100%
62%
Cost basis
reallocation
$53,700
$32,722
$85,409
$76,000
Basis Reallocation
ASSETS
Cost
Percent of total
Cost basis
reallocation
Land
$43,400
62%
Road
$52,954
$4,240
Timber
$26,600
38%
$32,455
Total
$70,000
100%
$89,649
$76,000
Setting Up The Books
•Keep it simple
•Keep records by forest stands
•For each record:
•Basis (per unit- MBF, cords, or tons)
•Capital Expenses, ordinary expenses by date
•Income by date
•Management Hours (diary)
•Taxes paid
Setting Up The Books (con’t)
•Accounts by Management Unit such as:
•Land
•Buildings
•Mature Timber
•Reforestation area
•Young stands
Passive Loss Rules
(Three Kinds of Income)
•Active Activity - Timber held as part of a trade or business
•All management costs, taxes interest payments are fully
deductible from any income source
•Losses can be carried back 2 years or forward up to 20 years
•Or expenses can be can be capitalized (deducted at time of sale)
•In order to be eligible, the owner must materially participate in
the management of the business.
•Eligible for Section 179 deductions
Passive Loss Rules
(Three Kinds of Income) (cont’t)
•Material Participation means it must be:
•REGULAR - consistent or habitual in nature
•CONTINOUS - ongoing
•SUBSTANTIAL - considerable, ample, large
•Material participation includes:
•All work done by individual and spouse
•Work done as an investor does not count
Passive Loss Rules
(Three Kinds of Income) (cont’d)
Passive Activity - timber held in a trade or business in which
taxpayer does not materially participate
•Management expenses are deductible only to the extent of all
passive income
•Taxes - as above
•Interest - as above
•Allowed to capitalize all expenses
Passive Loss Rules
(Three Kinds of Income) (cont’t)
•Passive Activities include:
•Any activity without material participation
•Any limited partnership
•Any relationship with a consultant who makes all of the
management decisions
•When passive activity is disposed of, losses and those that have
been carried forward can be deducted from any income source
Passive Loss Rules
(Three Kinds of Income) (con’t)
Investment or Portfolio Activity - Those activities where there is
an investment, but no significant management activity
•Individuals and other non-corporate taxpayers can deduct
management costs above a 2% floor
•Expenses can be capitalized
•Taxes are deductible from any income source
•Interest -deductible up to investment income
•Excess expenses may be carried forward
Passive Loss Rules
Tests for Active Participation
†Must participate at least 500 hours per tax year
†Owner’s participation constitutes all participation
†You must participate at least 100 hours and is more than any one else
†Participation in all “significant activities” is more than 500 hours
†Owner must materially participate for 5 of preceding 10 years
†If all the facts and circumstances so indicate, then you materially
participate (No rules issued)
Summary of Deductibility by Income Activity
Type of
Expense
Management
Expenses
Property tax
& others
Interest
Investment
(Portfolio)
Business
Passive
Deductible
Deductible beyond
against passive
2% floor
income,only
Business
Active
Deductible from all
income sources
Deductible
against other
income
Same as above
Same as above
Deductible to
extent of
investment income
+$10M
Same as above
Same as above
Advantages of Capital Gains
•Top Bracket is 15% vs 35% for ordinary income. Under
$10,500 in 08- no tax
•Social Security Taxes are not paid on Capital Grains
•Capital Gains income does not affect Social Security
Income
•CG income can be utilized to offset capital losses whereas
only $3,000 of ordinary income can be used for that
purpose
What are Capital Assets?
Section 1221 - Any and all property held by the taxpayer
(whether or not connected with his trade or business) except:
•Stock in trade, inventoriable property, property held for
sale to customers in the ordinary course of trade or
business
•Real property used in trade or business
•This provision is for those in investments
What are Capital Assets?
Section 1231 - Real property held for more than one year
that is used in business is eligible for capital gains treatment
•If a series of transactions result in a gain, they are
eligible for capital gains
•If a series of transactions result in a loss, each
transaction result is an ordinary gain or loss
•This provision is for those in the “timber growing”
business
Timber Sales Provisions
Timber held as an asset in a trade or business with active
participation in management (631a)
•Can elect to sell or exchange
•Available to those in the “timber growing business”
•Must cut timber for sale or use in one’s trade or business
Timber Sales Provisions (con’t)
•Realizes gain or loss equal to difference between timber’s
Fair Market Value (FMV) on the first day of the tax year
of the cut and adjusted for the basis
•FMV thereafter becomes the cost of timber in computing
inventory
•The difference in FMV of standing trees and felled timber
is ordinary income
631a - Timber Owner in the Business
(Must make election)*
Jan. 1
* New law gives one-time option to
get out of election without IRS approval
Timber Sales Provisions (con’t)
Timber sold using a contract (631b)
• Must retain economic interest in timber until it leaves
the property
•Must own for one year
•Must be in the business
•Not an elective provision, operates independent of
631a, but may apply together
Timber Sales Provisions (con’t)
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This provision has been changed!!!!!!!!
You no longer have to retain economic interest.
You no longer have to sell with a cutting contract.
Those in the business can sell “lump sum”
As before a 1099-S is required ( All timber sales will
require a 1099-S in 2009)
• For those wanting to sell on shares- all income is
ordinary income.
Reforestation Amortization
•Must be an individual landowner
•The first $10,000 is fully deductible in the first year.
•All expenses above $10,000 are amortized over 8 years
•Christmas trees, ornamentals, shelter belts and nut
orchards are not eligible
•Includes all costs for establishment
•Replanting costs for drought are eligible
•Establishment costs can be incurred over 2 years
Reforestation Amortization (con’t)
•Costs for natural regeneration are eligible
•Land must be located in US on one acre or more
•Use Part 4 on Form T, Form 4562. Then report on Form
1040, adjustment to income on Schedule C or F
•There are recapture provisions for up to 20 years
Reforestation Tax Credit
•The tax credit has been lost!!!!
Exclusion of Cost-share Payments
•Provides for all or part of approved gov’t cost-share
program payments to be excluded from taxes
•Programs must be approved by USDA that they protect
soil and water and conserve forests
•They must not contribute significantly to the income of
the property
•Subject to recapture if sold within 10 years
•TSI payments cannot be excluded, but expensed
Exclusion of Cost-share Payments
(continued)
• If income was received in the last 3 years:
– Average for the 3 years
– Multiply by 10%
– Divide by Interest Rate (No IRS guidance)
• If your answer is more than the payment, all is
excludable
• If it is less, only the amount in your answer is
excludable
Exclusion of Cost-share Payments
(continued)
• If there is no income, use $2.50/acre of area
treated divided by the interest rate
• Follow the same procedure when income is
received. If your answer is larger than the
cost-share, all is excludable.
• In both instances, explain your calculation and
why you used your interest rate.
Exclusion of Cost-share Payments
(continued)
• For those who report as investors:
– Report as “miscellaneous income” on front of 1040
• For those in the timber business:
– Report on Schedule C on form 1040
• For Farmers:
– Report on Schedule F on 1040
Gun Tax
• The NRA has reported tht each tax payer is to
report the number of guns in ownership.
• Then there would be a $50 tax on each gun.
• That the provision was snuck in on a bill that
every one wanted and they didn’t see it.
• This is a totally false roomer. The was something
suggested during the Bush administration in 2002,
but it went away.
For Further Information Contact:
Lloyd R. Casey
Casey’s Forestry Concepts
1263 Palomino Drive
West Chester, PA 19380
Phone: 610-436-9424
Email: [email protected]
Web Site: caseysforestryconcepts.com