Environmental Incentives Dominate Tax Law Changes in 2008
Tree Farmer Magazine: September/October 2008 - Volume 27 No. 5
My columns of lat have focused on current developments. I may be pushing my luck with those included here, but I believe knowing what changes Congress is making help you understand forest and tax policy. Incentives for timber production are off the agenda. The focus in on environmental ones. Several changes, however, may reduce your tax bill, especially if you have business income and are considering purchasing equipment. I've grouped the developments under headings that reflect their policy motive.
The major legislation was the Food, Conservation, and Energy Act of 2008, otherwise known as the Farm Bill. Tax legislation does not usually come via the Farm Bill, but when you are making sausage you use what is on hand. Note, however, that several of the provisions apply only to farmers with crop and livestock income. In addition, the Economic Stimulus Act of 2008 increased Sec. 179 deduction and adds bonus depreciation.
Accommodating the Restructured Timber Industry
Until the 1980s the typical large forest products corporation owned mills and timberland used to balance wood supply. When Wall Street notices the value of this hidden and undervalued asset they pressured boards to spin off the timberland. These were primarily C corporations taxed at the corporate and shareholders levels. A major factor in the willingness of corporations to restructure was the elimination of the lower corporate capital gains tax rate in 1984.
Fifteen-percent tax rate for corporate timber capital gains for one year. The capital gains of C corporations, including those on timber, are subject to the same tax rate as ordinary income. Nevertheless, corporations qualify for and report timber capital gains under the same provisions as any other taxpayer. The act provides a 15-percent tax rate for C corporations on the portion of taxable income that consists of qualified timber gain. Qualified timber gain is the same as under current law, but is restricted to gains on trees held more than 15 years. The rate applies to disposals from May 22, 2008, through May 22, 2009.
REITs holding timber get expanded capital gains treatment. Real estate investment trusts (REITs) became a major vehicle for investors in spun-off timberland. REITs deduct dividends paid out and can declare capital gains dividends taxed as the shareholders' individual capital gains tax rate. The tax treatment of REITs, however, did not reflect the manner in which income is derived from timber operations. The IRS has ruled that income from the sale of trees under Code Sec. 631(b) can qualify as REIT real property income. The act expands capital gains treatment by including the election to treat a cutting as a sale, Code Sec. 631(a), and create a new entity for tax purposes called a "Timber REIT."
Promoting Conservation
As Tree Farmers you are finally getting some compensation for the environmental service you provide. The sale of carbon credits is an example. Help with income forgone when you provide habitat for endangered species on your Tree Farm is not available yet, but it now is for farmers. Congress continues to support the use of conservation easements with several changes. In addition, Conservation Reserve Program (CRP) rental payments will be excluded from self-employment tax for retired and disabled farmers.
Deduction for endangered species recovery expenses. Farmers may elect to deduct, instead of add to their land account, qualified soil and water conservation expenses. The deduction is limited to 25 percent of the gross income from farming. Any excess is carried forward to succeeding tax years. Timber income is not income from farming for purposes of this deduction. The act provides that expenses paid or incurred after 2008 by farmers to achieve site-specific management actions under the Endangered Species Act of 1973 are soil and water conservation expenses, subject to the 25 percent of gross farming income limitation. An approved management plan is required.
REITs holding timber are not penalized for sales of conservation easements. REITs hold vast acreage's of environmentally important timberland. Because of the unique nature of sales of conservation easements and the tax treatment of sales by REITs, special provisions were added to the code to avoid penalizing REITs that sell conservation easement. They deal with the tax rate paid and how the easements are sold.
Tax treatment of donations of conservation easements extended for two years. The Pension Protection Act of 2006 (PPA) provided that for contributions made in t tax years beginning in 2006 and 2007 the usual 30-percent base limitation on contributions of capital gain property by individuals did not apply to qualified conservation contributions. Instead, individuals could deduct the fair market value of any qualified conservation contribution to a qualified organization to the extent of the excess of 50 percent of the contribution base over the amount of all other allowable charitable contributions. In addition, individuals could carry over any qualified conservation contributions that exceed the 50-percent limitation for up to 15 years. In addition, a qualified farmer or rancher could deduct a qualified conservation contribution of up to 100 percent of the excess of the taxpayer's contribution base over the amount of al other allowable charitable contributions. The act extends these PPA provisions to contributions made in tax years through 2008.
Retired and disabled farmers are excluded from SECA tax on conservation reserve rental payments. The Self-Employment Contributions Act (SECA) tax applies to an individual's net earning from self employment up to the Social Security wage base, $102,000 for 2008. Net earnings from self employment generally don't include rent from real estate and from personal property leased with the real estate. The CRP pay annual rent to enrolled landowners and operators. The act provides that CRP payments made after 2007 are not treated as self-employment income for SECA tax purposes if received by an individual who is getting Social Security retirement or disability payments.
Authorization for qualified forestry conservation bonds. The act authorizes tax-credit bonds - so called qualified forest conservation bonds (QFCBs) - for acquisition by governments and charitable organizations of forestland. Instead of the issuer paying interest on the bonds, the bond-holders take a quarterly tax credit. The bond funds must be used for the acquisition of qualified forests and forestland. This is land adjacent to U.S. Forest Service land; and at least half the land acquired must be transferred to the U.S. Forest Service at no cost. In addition, all the land must be subject to a habitat conservation plan and the amount of acreage acquired must be at least 40,000 acres.
Economic Stimulus Provisions
Increased Sec. 179 deduction - The maximum outright deduction for depreciable property under Sec. 179 is increased from $128,000 to $250,000 in 2008. This applies to businesses with income at least equal to the deduction taken. A total investment limit also applies. It was increased from $510,000 to $800,000 in 2008. Each dollar invested over this limit reduces the deduction by a dollar. In 2009 these amounts drop to $125,000 and $500,000, respectively, plus inflation adjustments.
Bonus Depreciation - An additional 50-percent bonus depreciation is available in addition to the Sec. 179 deduction. It applies to the balance after the Sec. 179 deduction is taken. The remainder is depreciated as usual.
Credit for production of cellulosic biofuel - A major change in how forests are manager will occur when cellulosic-derived ethanol or other liquid fuel can be efficiently produced. The act adds a "cellulosic biofuel producer credit" to the existing alcohol fuel credit. The credit is $1.01 per gallon, subject to several downward adjustments. The credit terminated on December 31, 2012.