When I do my annual farm tax updates, I always try to find the youngest person in the class and ask them what the most famous song by the Eagles is. Most of the time they have no clue who the Eagles are, and I then mention it’s Hotel California (I know there are other songs just as famous).
In the song, you can check into Hotel California, but you can never leave. Land in a C corporation is similar. It is easy to check it into the corporation, but it can be difficult to check it out without paying income tax on it.
This is also true for land held by an S corporation.
With high interest rates and high farmland values, the use of a split-interest purchase is making a comeback. This allows the C corporation to buy a 15-to-25-year interest in the land with the remainder being purchased by the shareholder(s) or their heirs.
However, this type of split-interest is for a current purchase of farmland. What about land that is already inside the corporation? The corporation can sell the remainder interest in farmland to its shareholder (or perhaps the children of the shareholder). At the end of the term, the land will transfer to the shareholder with no gain to the corporation on the transfer. The sale of the remainder interest might trigger some gain, but it is likely small because, in most cases, the remainder interest cost can be very low due to higher interest rates.
Let’s Look at an Example
ABC Farm Corporation has land worth $1 million with a basis of $250,000. It retains the land for 20 years and sells the remainder interest to its sole shareholder for $75,000: 75% of the sales price is gain, which is taxed at 21%, resulting in total taxes paid by the corporation of $11,812.50 (plus any state taxes).
The C corporation continues to farm the land for 20 more years, and it is then transferred to the shareholder. The remaining land basis in the C corporation is a non-deductible expense over the next 20 years, and that basis is then transferred to the shareholder. This deduction also reduces the accumulated earnings inside of the C corporation.
Higher interest rates make this attractive assuming you have at least a 15-year timeline. If you did a five-year remainder interest, higher taxes would result.
This is a high-level look at using a split-interest arrangement to get land out of a corporation. If it interests you, talk with your tax adviser to ensure it is done correctly.
