Selling Land

1031 Farmland Exchange for Primary Residence

1031 Farmland Exchange for Primary Residence

With the recent increases in farmland values and drop in real estate prices, some smart landowners might consider selling their farm and purchasing a new home. What are the tax implications of these transactions? The answer depends upon such factors as whether the farm has been the taxpayer’s primary residence or not; and whether the taxpayer has intent to purchase new property of equal or greater value. The Internal Revenue Code provides multiple opportunities for taxpayers to maximize their benefits when selling their property including tax deductions on the sale of the primary residence and 1031 tax deferred exchanges.

Primary Residence

Internal Revenue Code Section 121 allows a taxpayer to exclude up to $250,000 ($500,000 for married persons filing jointly) of the gain on the sale of their principal residence given during the five-year period from the sale date, the home has been owned and used by the taxpayer as their primary residence for periods of two years or more. This exclusion is available no more than once every two years. Those taxpayers who don’t satisfy the two-year ownership and use requirements can exclude a prorated fraction of the $250,000/$500,000 deduction given the taxpayer has a change in health or place of employment. Realized gain is determined by the following two steps:

Step 1:  Original Purchase Price + Improvements = Adjusted Basis

Step 2:  Sales Price – Adjusted Basis – Selling Expenses = Realized Gain

If the realized gain is less than $250,000 (when filing individual federal return) or $500,000 (when filing a joint federal return) there is no tax. If the gain is higher and the taxpayer is in the 25, 28, 33 or 35 percent income bracket, the tax is 15 percent. If the taxpayer is in the 10 or 15 percent income bracket, the capital gain tax may be 5 percent. As always, check with your accountant to confirm the tax consequences.

A principal residence located on the farm can be sold and replaced with a primary residence. Seek guidance from a farm realtor to establish comparable selling prices for the home and farmland.

Tax Impact of Selling the Farm

When selling the farm, there are two types of properties being sold, the land and affixed buildings –real property and equipment or livestock– personal property. Internal Revenue Code Section 1031 allows the taxpayer to defer the capital gains and recaptured depreciation taxes when equal or greater, like-kind real and personal property are replaced within 180 calendar days of the sale.

1031 Exchange

If the intent is replace the real and personal property, replacement property is acquired of equal or greater value. The farmland being sold can be exchanged for any real property in the United States including rental properties, parking lots, oil and gas royalty interests and single tenant, triple net leases such as a CVS Pharmacy or similar tenant. To defer the tax on the personal property, like-kind or like-class personal property would need to be acquired. Each type of personal property falls into one of thirteen general asset classes or six digit North American Industry Classification Code.

1031 Alternative: Deferred Sales Trust

If only the home is to be replaced then the options are to pay the tax on the real (farmland and buildings) and personal property (equipment and livestock) or consider another tax deferral strategy that does not require the purchase of replacement property. A Deferred Sales Trust, similar to a Section 453 installment loan, allows the proceeds of the sale to be invested by the trust in marketable securities and annuities. Investments are determined by the taxpayer and executed by the trust.  Income from the investments is repatriated to the taxpayer on a schedule determined by the taxpayer. If the taxpayer wants a blend of income and gain from the sale, that can be scheduled. Taxes are paid on the income and capital gains received. Taxes on the capital gain are paid over whatever period of time determined by the taxpayer.

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About the author

Andy Gustafson, CES

Andy Gustafson, Certified Exchange Specialist®, is a managing member of Atlas 1031 Exchange, LLC, a nationwide accommodator of Internal Revenue Code Section 1031. He founded the company in 2007, and has since expanded his professional services into Texas and the Midwest. He has spoken to hundreds of investors at Wealth Camps and Real Estate Investment Clubs nationwide and is a sought after speaker on the topic. As an approved continuing educational provider, he has helped hundreds of Realtors, Attorneys, and CPAs understand the application of the 1031 code. To date he has accommodated over 500 exchanges representing $433,000,000 in exchanged value and deferring over $22,000,000 in taxes.

4 Comments

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  • I have a 89 acre poultry farm with a residence on it that I built 6 years ago. If I sold the farm and house could I do a 1031 and buy a perminant residence/land with the profit?

  • It depends. Was the residence your primary home for two of the past five years? If so, the home could be sold separate from the land. A $250,000 or $500,000 exclusion under Section 121 is available once every two years. Those funds could be used towards the purchase of a primary residence with land tax free. Under this scenario, a 1031 exchange is not applicable.

    The land could be sold in a 1031 exchange deferring the gain given the debt retired on the land and net equity are equal or greater in the replacement property. The new property could be any type of real property from farm land, single family rental to oil and gas royalties.

    I always suggest to seek the input from your CPA. They have an understanding the tax implications and how they affect you.

    You can reach me directly at 800.227.1031 or andgus@atlas1031.com to discuss further.

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