Farm and Ranch Exchanges


Section 1031 allows investors to defer capital gains tax on the sale of qualified real property if it is exchanged for other qualified real property. Personal use real property and those purchased primarily for resale do not qualify. Personal property like equipment and livestock do not qualify.

A 1031 exchange has many benefits. It can be used as a wealth building strategy by deferring taxes or defeating taxes. It is a huge benefit for those relocating operaƟons. Also significant is its use in diversification, estate planning and consolidation. When a property is passed to heirs, the step-up in basis rules make your tax deferral under § 1031 permanent.

ALERT: One potential trap is IRC Section 1245 depreciation recapture from the sale of special purpose structures. Recapture at ordinary income tax rates cannot be avoided without acquiring replacement Section 1245 property. Consult with your tax advisor as special use 1245 improvements (some poultry, swine, nursery, etc.) could impact your exchange and are not like kind to 1250.

Many ranch transactions involve multiple types of assets. Typical sales include both real property and personal property but personal property is no longer eligible for a 1031 exchange. Allocation of cost between the different asset types becomes critical especially if Section 1245 property is involved. The property may also include a principal residence which could fall under the § 121 exclusion rules rather than § 1031 Maximizing this benefit is another key element in a good ranch transaction.

Real property generally is like kind with all other real property but must be an investment or used in a business. Examples that are interchangeable include: land, buildings, commercial, residential, conservation easements, perpetual water rights, perpetual easements, mineral rights, long term leases, royalty interests, Delaware Statutory Trusts. Federal law generally determines what type of property is considered real property although states may differ in their definition.

Personal property exchanges were eliminated in the 2018 tax reform act. However, assets such as equipment, feeders, portable buildings, deer blinds, etc. are often included in a “check box” as part of a ranch contract. Although they may be incidental to the transaction, their value will ultimately need to be considered outside of the exchange. Please consult your tax advisor to plan tax strategy.

Because many agriculture transactions include ineligible property like cattle feeders, deer feeders and blinds, livestock and livestock handling equipment, vehicles, tractors, etc., it may be advisable to create a bill of sale for personal property rather than include them in a real estate contract. The allocation of values could create tension between parties. If an agreed allocation between the seller and buyer cannot be agreed upon, your tax advisor may have an after transaction solution.

Reverse exchanges allow flexible purchase strategies but by nature are more complex and expensive. If cash is not available, financing of replacement property requires knowledgeable lenders. Possible operational issues include farm program payments and eligibility, and limitations on use of entities. Closing deadline is still 180 days. Non-safe harbor reverse exchanges (longer than 180 days) are possible but require considerable planning, exposes parties to increased risk, and performed by only a very few exchange accommodators.

Section 1033 exchanges. If a sale qualifies for a 1033 exchange under eminent domain, that is generally accepted as the far superior opƟon to defer paying taxes. The rules are very different than a 1031 exchange so consult with your tax advisor or a 1033 expert.

In some situations, new improvements can be constructed with exchange funds if also identified by the 45th day. These exchanges require the use of a Parking Entity which must be used to purchase the replacement property. Consult with your tax advisor as improvements or repairs might not be the best option in the exchange.

The preceding information may not be complete and should only be considered as a general guide and is not legal or tax advice. Please consult with your tax advisor or attorney for all tax and legal advice.