In the past, we’ve discussed the turnover rate of farmland and how today it is about one-half of what it was 10 – 20 years ago (which may actually be good, since it is likely helping to support land values during this period of lower commodity prices). Many of the land experts believe that this land scarcity can be attributed to the low returns on alternative investments – when someone inherits a farm nowadays, they simply hold on to it versus selling out and taking their cash elsewhere. I think, however, that there may be another issue affecting the number of farm transactions that should be explored in more detail – the capital gains tax rate.
I’ve followed the farmland market for well over three decades and when I think back about the sellers from years ago, I remember that the retiring farmer was a major part of this group. Once age or health dictated that the farmer quit, he sold his property and moved to town. Land prices didn’t appreciate much back then, so any taxes due on the capital gains were minimal. When the farmer passed away, his beneficiaries simply received cash, because the farm had been sold earlier.
The scenario today is much different – land prices have appreciated significantly and now if this same farmer sells out and moves to town there’s potentially a rather large tax consequence to consider. Marcia Zarley Taylor recently discussed this issue in an article on the dtnprogressivefarmer.com website > (Why Seniors Keep a Grip on Land). As she astutely points out, in some states the capital gains tax rate can be as high as 35%. If the thought of writing a check to the government for nearly a third of your farm’s sale proceeds isn’t a motivation for holding on to the farm, then I don’t know what is! The result – these retiring farmers are retaining their properties and the next generation is now inheriting the land and not the cash like they would have 25 years ago.
Some might argue that having beneficiaries jointly inherit a farm is a good thing – it increases the likelihood of keeping the farm in the family. While that may be true in some situations, I’ve also seen families ripped apart because the siblings can’t agree on what to do next – sell, hold, or just argue. Regardless, of your opinion on this issue, I always find it interesting to see how various government policies can affect human behavior. And in this specific case, the existing tax rules may actually be helping to support land prices. Why? – the high capital gains tax rate is causing more beneficiaries to directly inherit farm properties (versus receiving the cash as in the past), and upon inheritance low-interest rate policies are encouraging them to keep the farm off the market. I would be remiss in not mentioning that the estate tax exemption in also an important component in this equation. If it stays high, then it makes even more sense for the farmer to hold on to his land. At some point, I’m sure our government officials will re-visit their policies and try to change them in order to increase tax revenues. In the meantime, let’s just enjoy what we have since nearly all farm owners are benefiting from the underlying price support that the limited supply of land is creating.