CGNA: Chapter 5 - Agricultural Assets, Intermediate

CGNA: Chapter 5 - Agricultural Assets, Intermediate

Article posted in General on 12 April 2018| comments
audience: National Publication, Bryan K. Clontz, CFP®, CLU, ChFC, CAP, AEP | last updated: 18 April 2018

This article is an excerpt from Charitable Gifts of Noncash Assets, a comprehensive guide to illiquid giving by Bryan Clontz, ed. Ryan Raffin. Published by the American College of Financial Services for the Chartered Advisor in Philanthropy Program (CAP), with generous funding from Leon L. Levy. For a free digital copy, click here, and to order a bound copy from Amazon, click here.

by Phil Purcell

Below is a review on gifts of agricultural assets. Agricultural asset topics are based on Phil Purcell’s “Gifts of Agricultural Assets.” For quick take-aways on gifts of real estate, see Agricultural Assets Quick Take-Aways. For a review based on that article, see Agricultural Assets Intermediate. For an in-depth examination adapted and excerpted from the article, see Agricultural Assets Advanced. For further details, see Agricultural Assets Additional Resources.

This review of charitable gifts of agricultural assets has five parts in total. The first defines the relevant terms and government positions and publications. Next is an overview of different gift considerations. The third part looks at deferred gift opportu- nities. Finally, the review concludes with particular attention to the unique aspects of land and timber gifts.

Review Part 1: Definitions and Government Positions

Agricultural assets represent significant potential for philanthropic support of important charitable causes. As of the 2012 census of agriculture, there were 2.1 mil- lion farms in the U.S., covering an area of 914 million acres with an average of 434 acres per farm.1 In 2014, total farm production of crops was estimated at $136.4 billion.2

Agricultural assets primarily include land, crops, livestock, and equipment. Gift plan- ning with these agricultural assets presents many unique issues and opportunities. Planning options depend on the assets available for donation, as well as the personal financial and philanthropic goals of the prospective donor.

Regardless of the type of agricultural asset which the donor contributes, valua- tion remains a very important consideration. The IRS and Congress are increasingly concerned about the over-valuation of noncash gifts for the purposes of claiming charitable tax benefits. Therefore donors and their counsel are advised to carefully follow the rules.

If the sale price is significantly less than the charitable deduction the donor claimed on IRS Form 8283, then this could be a “red flag” for an IRS audit. See Appendix A on val- uation considerations for more details on substantiation and appraisal rules. A special rule for crops is that cost-basis donors may deduct the cost of growing donated crops, but it must be in the year the crops were grown.

Real estate is land and generally what is erected on, growing on, or affixed to land. A gift of real estate qualifies the donor for an escape of potential capital gains tax so long as the donor did not legally obligate the charity to sell the property in a prearranged sale. See Chapter 1 on real estate donations for a discussion of land gift considerations.

Review Part 2: Gift Planning Considerations

Crops, livestock, and some equipment are considered ordinary income property in the hands of a farmer, since these assets are used in the farmer’s business. This means that the charitable deduction for outright gifts is limited to the lesser of fair market value or cost basis—almost always resulting in a cost basis deduction. Previously depreciated farm equipment receives largely the same treatment, with some recapture provisions.

Unharvested crops held for more than one year are long-term capital gain property, along with the land they are attached to. A donation of both the crops and attached land together would therefore qualify for a deduction of appraised fair market value. However, if the unharvested crops are donated without the land, the donation receives only ordinary income treatment. Nonprofit donees should note that if they harvest the crops for sale, they will be subject to UBTI on the proceeds.

A donation of crop shares from a passive landlord will trigger income tax recognition under the assignment of income doctrine. This is because those shares are typically a right to receive income. Conversely, a farmer who participates in production of farm assets and contributes crop shares will not recognize income and may even get a fair market value deduction.

Livestock most commonly includes cattle, hogs, horses, mules, donkeys, sheep, goats and other mammals, while poultry is not included. This distinction is important, because livestock held for draft, dairy breeding, or sporting purposes can get long- term capital gain treatment if held for 12 or 24 months (depending on the animal). A donation of such livestock would therefore qualify for a fair market value deduction. Otherwise it is ordinary income property as described above. Nonlivestock animals are tangible personal property subject to standard related use rules.

Agricultural equipment also receives tangible personal property treatment. This equipment is typically not business inventory (unless the donor is also in the business of selling farm equipment). It too is subject to related use rules reducing the donor’s deduction in many cases to cost basis.

While the charitable deductions may be limited, the avoidance of income tax can be attractive to farmers. Similarly, the donation may positively impact the farmer’s eligi- bility for certain government subsidies. As a result, the charity and donor must execute deeds of gifts and receipts that properly document the gift prior to sale. The eventual bill of sale should show the charity owned and sold the assets.

Review Part 3: Deferred Gifts

Donors may make deferred gifts of crops, livestock, and equipment with a will or trust bequest. The unlimited estate tax charitable deduction does not require application of the reduction rules for valuation of these assets as does the income tax deduction. Life income plans such as charitable remainder trusts and gift annuities may appeal to some donors. The donor reduces his or her charitable deduction value due to the type of property as with outright giving, but the opportunity to use these assets to fund additional retirement income that is either fixed or not may be attractive. The trust or charity’s sale can avoid income tax recognition at that time by the donor. The IRS taxes payments made to the beneficiaries or annuitants.

Charitable lead trusts can leverage significant income or estate tax savings. They require careful planning, but can represent gifts of significant magnitude. Deferred gifts such as bequests in a will or trust are the most popular form of planned gift due to their simplicity and revocability that offers ease of planning. In addition, transfer on death deeds are increasingly popular deferred giving techniques. A final, unique deferred gift is donation of a remainder interest in a farm or residence subject to a retained life estate. The donor receives a current income tax deduction, plus the right to live on or use the property for donor’s life and a spouse as well.

Life income plans such as charitable remainder trusts and gift annuities represent pop- ular planning options for gifts of farm and forest land. For example, a flip charitable remainder trust offers the advantage of a current income tax deduction, but a later sale when the price is right. Then the trust “flips” to a standard unitrust to maximize long-term income and growth potential. Gift annuities also offer a current income tax deduction and fixed lifetime payments that may even be deferred allowing time for the property to sell.

Livestock can be placed in a charitable remainder unitrust—a variant sometimes called a “rawhide unitrust.” As with other livestock donations, ordinary income treatment is the norm. Donors receive a cost of goods sold deduction when the trust sells the assets, but the main benefit comes in shifting that taxable income to the trust. The trustee must avoid fattening any livestock it holds before sale—this would trigger UBTI.

Review Part 4: Land Gifts

Gifts of farmland can include outright gifts, bargain sales, life income arrangements (i.e., gift annuities and charitable remainder trusts), charitable lead trusts, bequests, gift of remainder interest with retained life estate, and conservation easements. Each technique requires unique planning considerations and robust gift acceptance policies and procedures, especially for real estate. These policies should address due diligence considerations such as site inspections by staff, environmental review, marketing analysis, building inspections, title review, and deed. For further discussion of these policy considerations, see Chapter 1 on gifts of real estate.

A conservation easement represents a permanent restriction on the use of real prop- erty pursuant to a qualified conservation purpose. Examples of land or structures that qualify for easement protection include farmland, forests, wetlands, open space, and historic buildings. The charity owns a right to enforce and protect the qualified con- servation purpose. The easement restriction passes to future owners of the property by sale, gift, or other transfer. The income tax deduction for an easement gift is the difference between the value of the easement property before the donation and after the donation.

Review Part 5: Timber Gifts

Gifts of timber or forest land tend to be the most complex. They combine the long term aspects of mineral interests with the harvest and management concerns of agriculture. Relevant factors include the age of the stand, thinning, harvest, transport, and organizing the logging effort. Nonprofits will have fewer concerns if the donor has already harvested the timber, in which case it will be more like other forms of tangible personal property.

Forest land’s unique attributes affect its suitability for certain gift formats. Gifts involving annuity streams (gift annuities and charitable remainder annuity trusts) are difficult unless the timber is ready for sale. Charitable remainder unitrusts (including flip and net income variants) are better suited if the forest land still needs harvesting. Conservation easements exist specially for assets like forest land, so donors and non- profits should consider if they are appropriate given the parties’ respective goals.

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