Branching Out - Winter 1999

Forestry Activities Affect Taxes and Estates

During this season of filing income taxes, forest landowners should devote some time to evaluate how their forestry activities affect a variety of taxes and their estates. By using existing laws and programs to minimize property, income, and estate taxes, Maryland forest landowners can increase the financial return on their forest stewardship efforts. The following information highlights some of these laws and programs.

Property Taxes

Forest land property taxes can be reduced by lowering the property assessment. This can be accomplished by 1) enrolling in a Forest Management Plan (FMP) or a Forest Conservation Management Agreement (FCMA), 2) donating or selling a conservation easement, or 3) otherwise qualifying for an agricultural assessment. All of these options allow for continuation of good forestry practices and transfer of the property.

The Maryland Department of Assessments and Taxation offers landowners two assessment options: the Forest Conservation Management Agreement (FCMA) or the Forest Management Plan (FMP). To qualify for these options, a forest landowner must have a forest stewardship plan. The plan, reflecting the landowner=s objectives, can be developed by a Maryland registered forester (state, private consulting, or industrial). It must meet the minimum acreage requirements for the Forest Stewardship program (five forested acres) or the Tree Farm program (ten forested acres).

Any owner of five or more contiguous acres is eligible to enter a FCMA with the Maryland Department of Natural Resources (DNR). It is a legal agreement recorded in land records, binding for fifteen years, and renewable for a minimum of five years. With an FCMA, the landowner can add or delete acreage, add or delete owners, and sell all or part of the parcel. In return, the property is assessed at $100/acre regardless of its location in Maryland. The assessment is frozen at that level for the fifteen years of the agreement. The FCMA involves fees for developing the management plan, entering the program, and periodic inspections.

The FMP differs from an FCMA in that it is not a legal agreement and does not involve an entry fee. As with the FCMA, the FMP requires that a Maryland registered forester, in consultation with the landowner, prepare a forest management plan. The plan is filed with the county assessor's office. Land under FMP is valued at $150/acre. This value is not frozen and could change during the three years of the agreement. Creation of an FMP involves fees for management plan development and inspections, if required by the county assessor.

Both FCMA or FMP usually result in a significant reduction in property taxes. The difference between the two options can be small. DNR foresters have computer software to analyze the forest landowner=s information to determine whether FCMA or FMP would be more beneficial. Both FCMA and FMP reduce property taxes but usually do not affect the fair market value used to assess an estate for taxes.

Forest land on which a conservation easement is sold or donated usually qualifies for a reduced assessment and lower property taxes. In addition, donating or selling an easement can lower the value of an estate and the estate taxes. Contact the Maryland Environmental Trust at

877-514-7900 (toll-free) for information on donating an easement, or the Maryland Agricultural Land Preservation Foundation at 410-841-5860 for information on selling an easement.

Forest land is eligible for enrollment in an agricultural district, thereby reducing the land assessment and the property taxes. A minimum 100 acres (less if adjacent to an existing agricultural district) and a conservation plan developed by the Natural Resources Conservation Service and the landowner are required. Contact the county planning department for information.

Federal and State Income Taxes

Income from timber harvesting can be treated as capital gain or ordinary income. Forest economists recommend reporting it as capital gain since capital gain is not subject to self-employment tax whereas ordinary income is. The 1997 Taxpayer Relief Act reduced the capital gains rates from 28 percent to 20 percent for taxpayers in the 28 percent tax bracket and from 15 percent to 10 percent for those in the 15 percent tax bracket. If assets are held five years beyond December 2000, the rates are reduced further. When planning timber harvests, forest landowners should consider if it would be advantageous to receive all the income in one year or to spread it over two or more years.

Forest landowners must address the passive loss rule and determine if they are (1) investor, (2) passive participant in a trade or business, or (3) active participant, materially participating, in a trade or business. Most forest landowners qualify as investors. The classification affects the treatment of income and expenses.

When timber or forest products are sold, the forest landowner can subtract the cost basis, the sum of what the asset has cost up to the point of sale, from income to calculate the capital gain. Contact a consulting forester to determine if it is worth calculating the cost basis. The original cost of forest land that has been owned for longer than twenty years may be so small compared to the current value of the timber that calculating the cost basis is not worthwhile.

Cost share payments must be reported on federal income tax forms. However, many are not subject to income tax and can be excluded from income totally or partly elsewhere on the form. DNR foresters have information on cost sharing programs and payments.

The sale of development rights (conservation easement) results in taxable income. The forest landowner should determine if it is beneficial to receive the income over several years. The donation of a conservation easement to an environmental trust qualifies as a contribution to a charitable organization and, subject to other tax regulations, is a deduction from taxable income, perhaps spread over several years.

If forestry activities are conducted with a profit motive, several federal and state tax provisions are available. The federal Reforestation Tax Credit and Reforestation Amortization provisions work together to reduce the cost of some forestry activities, not including Christmas trees. Owners or lessees of forest land in Maryland with a profit motive may deduct double the cost of reforestation and timber stand improvement from their adjusted gross income on their state tax forms through an investment tax credit and a deduction of costs. Again, Christmas tree and ornamental tree operations are not eligible. Contact a DNR forester or DNR=s website.

Federal Estate Taxes

Historically, federal estate taxes have caused some beneficiaries to sell timber or forest land to pay estate taxes. Often a quick sale occurred and yielded a poorly-planned timber harvest or a low price for the property, thus degrading the forest land or losing the property.

The 1997 Taxpayer Relief Act brought relief for heirs. The amount of an estate excluded from estate taxes increases yearly from $600,000 in 1997 until it reaches $1 million in 2006, when the exclusion then is indexed to the cost-of-living.

An individual and his or her spouse each can give $10,000 annually to any number of other individuals without tax liability for the donor or the recipient, thereby reducing the taxable estate. With the 1997 tax law, this $10,000 amount is indexed for inflation to the next lowest $1,000.

If the forest land is within a 25 mile radius of a metropolitan area, national park, or wilderness area or within 10 miles of an urban national forest, the executor of an estate is allowed to exclude up to 40 percent of the value of the land in a qualified conservation easement. Most Maryland forest lands meet this requirement. This allows heirs with a large estate tax to put the land into an easement, eliminate future development, and significantly reduce the land value and estate tax.

The 1997 law also provides for installment payments of the estate tax over 20 years rather than the previously allowed 10 years. In addition, the interest rate on the unpaid tax dropped from 4 percent to 2 percent.

Sources of Information

Because of the details and complexities of taxes and estate planning, the forest landowner should consult federal tax guidelines, a tax preparer familiar with forest operations, and an estate lawyer. The following are basic resources:

• Forest Owner=s Guide to the Federal Income Tax, Ag Handbook 708, $12; US Government Printing Office, Superintendent of Documents, 202-512-1800; latest edition available March 1999.
• Estate Planning for Forest Landowners: What Will Become of Your Timberland? Southern Forest Experiment Station Technical Report SO-97, $15; Science Library, Room 496, University of Georgia, Athens, GA 30602; 706-546-2477.
• County Maryland Cooperative Extension offices, listed under county government in the phone book or on the Internet at www.agnr.umd.edu/CES.
• County Maryland Department of Natural Resources offices, listed under state government in the phone book or on the Internet at www.dnr.state.md.us/forests.
• Other forest tax publications on the Internet: www.fnr.purdue.edu/ttaxandwww.forestry.uga.edu/subjects/economics.html.

1999 Tree Farmer of the Year

William Bowie Jr, Charles County, is the 1999 Maryland Tree Farmer of the Year. William owns and manages 250 acres of woodland in Pisgah. A logger by profession, he knows the benefits of applying sound forest management through a forest management plan.

William used the assistance of the Maryland Forest Service and cost sharing through the Woodland Incentive and Buffer Incentive programs to multiply activity on his Tree Farm. He credits the dedication of members of his hunt club for reaching some of his goals that are so labor intensive, such as splitting firewood and building a bridge on the property.

In the past two years, this Tree Farmer of the Year has:

As hunt club president, he continues to manage intensely the white-tail deer population.

DNR forester David Gailey says William held a field tour for the Charles County Forest Conservancy Board and 35 other tree farmers this spring. William shared personal successes and failures to encourage fellow tree farmers to manage their own property more aggressively.

Branching Out - Vol. 7, No. 1, Winter 1999

Editors: Jonathan Kays, Vera Mae Schultz, Pam Townsend
Contributors: Lloyd Casey, David Gailey, DonVanHassent