Questions and Answers from Dr. Robert Tufts
At year-end it is time to start thinking about income tax strategies for this year and next. Have there been any significant changes in the tax code that affect landowners?
The American Jobs Creation Act of 2004 made two significant changes for landowners. The first change was the way reforestations costs can be recovered. Previously section 48(b) allowed a tax credit of 10% of the costs up to $10,000 and under section 194(b) the remainder of the $10,000 plus half the credit claimed could be amortized over 84 months. The new law eliminates the tax credit but allows the deduction of up to $10,000 of reforestation costs and the entire remainder can be amortized over 84 months.
Are we better off with the new law or the old?
If you are in the 10% tax bracket you were slightly better off under the old law for reforestation costs less than $20,000, but for any other tax bracket and amount, you will have more tax savings under the new law.
What was the other change?
Under the old law, a landowner needed to sell his timber but retain an economic interest until the timber was cut to qualify for capital gains treatment. This meant you had to sell your timber under a pay-as-you-cut or per unit basis which did not necessarily encourage the harvesting contractor to maximize the recovery for the landowner. Section 631(b) was changed to allow lump sum sales to qualify for capital gains treatment.
It appears that natural disasters continue to affect landowners and, according to the Weather Channel announcers, we have another 15 years in this cycle of intense storms. Is there any relief for a landowner who has lost timber?
As you would expect, I hear this question quite often. First let me ask, if you bought a company’s stock for $5 and over the years it increased to $40 dollars until an adverse lawsuit dropped the value of the stock to $15 do you have a loss or a gain? Even though you realized less money than you expected, the government’s answer is that you have a gain of $10 and owe tax on that gain. If you suffer a casualty loss, which means sudden and unexpected not pine beetles, you may deduct that loss. The amount of loss is the difference in the value of the stand before the casualty loss and after the loss, but no more than the adjusted basis for determining loss. The good news is that the adjusted basis is not the basis in the trees destroyed, but the basis in the entire depletion block. Also, the loss and the salvage are two different events; so, the loss does not have to be reduced by the salvage value.
Can the landowner avoid having to pay income tax on the gain realized from salvaging timber from a casualty loss?
Yes, under section 1033, when property is converted involuntarily and a gain results, recognition of that gain may be deferred to the extent that the gain is reinvested in other property that is similar or related in service or use to the converted property, for the purpose of replacing the converted property. This would include replanting or even purchasing another tract of timber. Normally you would have 2 years to reinvest the gain, but if you were affected by one of the recent hurricanes you have 4 years.