Forest Stewardship - Taxes

Taxes are a real, but sometimes hidden cost to anyone who owns forestland. Forest landowners in Maryland can increase the financial return on their forest stewardship efforts by using existing laws and programs to minimize property, income, and estate taxes. The following information highlights some of those laws and programs. Forest landowners are encouraged to investigate these and other tax and estate planning considerations.

First, Keep Good Records!
The importance of keeping good records on your property cannot be overemphasized. Accurate records are critical to responsible stewardship and to the future of forestland as well as to the proper reporting and documentation of income and expenses for tax purposes. An excellent recordkeeping and account book entitled the Forest Management Account Book (Extension Bulletin 360) can be purchased for $4.50 from your local Cooperative Extension Office.

PROPERTY TAXES - these are paid yearly to county government. Forest landowners can receive a lower property tax assessment in one of three way. Through a forest management program, enrolling in an agricultural district, or donating/selling a conservation easement.

A. Forest management

The FCMA involves several fees:

• A management plan development fee of $175-$225, depending on the acreage; this fee is not eligible for cost sharing if the plan is developed by a DNR forester;
• An entry fee that is equal to 0.55 percent of the assessed value, but not less than $50; and
• An inspection fee equal to 20 percent of the entry fee but not less than $100, for an required inspection by a DNR forester every five years.

  Information on FCMA is available from the local DNR forester or the county Extension office.

The FMP has these fees:

• Management plan development fee. Some industrial foresters will develop plans for their clients in exchange for first refusal on the sale of any timber products. Under the currently-unfunded federal Stewardship Incentive Program (SIP), the cost of having the plan developed by a consultant forester qualified for 65 percent cost-sharing.
• Inspection fees, if inspections are required by the county tax assessment office, depend on whether the inspection is done by a DNR, consulting, or industrial forester.

• No entry fee;
• No legal attachment in the land records; and
• Shorter time period.

TIMBER TAXES

The sale of forest products can result in increases in tens of thousand of dollars in income in that year. There are a number of strategies to minimize timber taxes. The most common strategies to remember are:

• Keep records of all your forestland-related activities on your property using the forest management account book (EB360) available from Maryland Cooperative Extension.
• Use the services of a licensed consultant forester to act as your agent in the timber sale. The web page on harvesting forest products provides more detail on how to properlty market forest products.
• Claim timber sale income as capital gains, not ordinary income which has a higher tax rate and is subject to 15.3% self-employment tax.
• Have a forester calculate the basis value of the timber which can be subtracted from the income received from the sale of forest products.
• Remember to subtract the expenses associated with the sale, such as the commission paid to a consultant forester, equipment, travel, meals, etc.
• Locate an accountant who is familiar with the specialized are of timber taxes. A list of timber tax accountants is available from Maryland Cooperative Extension.
• Use the National Timber Tax Website sponsored by Perdue University and USDA Forest Service.
• Order useful references such as those listed below:
  • Forest Owner's Guide to the Federal Income Tax, Ag Handbook 708, $12, from US Government Printing Office, Superintendent of Documents, 202-512-1800.
  • Timber Sales and the Federal Income Tax: Guidelines for Managing and Reporting by Farmers and Timber Growers, Extension Circular 406, 1996; one free copy available from Publications Distribution Center, Penn State University, 112 Agriculture Administration Building, University Park, PA 16802; 814-865-6713.
  • Timber Tax Management for Tree Farmers, annually updated, American Forest Foundation, $24.95; 202-463-2455 or 1-888-889-4466.
  • Forest Management Account Book, Maryland Cooperative Extension EB 360, $4.50, from county Extension offices.

ESTATE PLANNING

Federal estate taxes are paid by the heirs when the owner of an estate dies. Unfortunately, planning ones estate requires accepting one's own mortality and communicating with the heirs about the future of the property. Estate planning for woodlands can be very challenging since the planning horizon for most forests typically exceeds a lifetime. Many forest landowners invest much time and effort into the management of their forest during their lifetime, but fail to plan for what will happen to the property beyond their tenure.

Forest land has appreciated at a rate that far exceeds inflation in many parts of the country and a family that always thought of themselves as poor may discover they have an enormous equity in forest land. Many forest landowners make the mistake of assuming the assessed value of the property for property tax assessment (which is based on current-use for forestry or agriculture) is the same as its assessed value for estate taxes. When the remaining spouse of property dies, the value of the estate is based on its full value, which includes it value for development. While the property may have been purchased many years ago for a low price, the estate tax is now based on current value for development, which may be many times the original cost. This is a common problem in the rapidly developing landscape of Maryland.

Take Advantage of the Unified Tax Credit for Each Spouse. Estate taxes are a problem because they are very high compared to income taxes. In the past, the first $600,000 of the estate for each spouse was excluded from taxes, which is known as the unified tax credit. However, after the first $600,000, the tax starts at 35 percent and rises to a maximum of 55 percent. The unified credit can be taken by each spouse, so that with good estate planning, two spouses could exclude a total of $1.2 million from the estate. If the first spouse dies and does not use the unified credit then the remaining spouse inherits all of the estate with no taxes. However, when the remaining spouse dies, only $600,000 can be excluded from the estate, not the $1.2 million. A major opportunity is lost if spouses do not take advantage of the unified credit. Hence, the need for good estate planning while both spouses are still alive.

In situations where the estate owner(s) did not have an adequate estate plan, heirs may be left with an large estate tax obligation that they are not prepared to pay. Heirs are sometimes forced to hold a quick sale of property or the timber in order to pay the tax and to satisfy the urgency of the IRS. Many years of careful forest stewardship by the original owners can be lost.

Steps in Estate Planning

The first step in estate planning is to learn more about the subject. Estate planning is usually done in anticipation of dispensing property to others, with three things in mind: 1) to continue a forest-management legacy and to keep the land intact and in the family; 2) to minimize the cost of transferring ownership when the estate is dispersed; and 3) to provide for dependants and heirs.

Perhaps the most difficult part of this process is to talk with the heirs and make decision such as who will be the executor of the estate and what are their plans for the future. Are the heirs really interested in holding on to the property and continuing the activities of their parents? Good communication among the owners and the heirs is essential. The estate planning team should include your consulting forester, an estate planning attorney, an insurance underwriter, your personal representative or executor, and possibly, one of your children. An accountant may also be part of the team, if necessary.

It is likely that your local attorney you have worked with for years may not be qualified to handle your estate planning needs. Finding a qualified estate planning attorney is critical. There are a number of estate planning tools to help you accomplish your objectives. They include trusts, insurance, corporations, conservation easements exchanges, and other tools. A good source to help locate a qualified estate planner is the American College of Trust and Estate Counsel (3415 S. Sepulveda Boulevard, Suite 330, Los Angelos, CA 90034, 310-398-1888). The college requires members to have a minimum of ten years of experience in estate planning and sound local and national references. Not every estate planner is a member of the college.

The 1997 Taxpayer Relief Act. The 1997 Act provided some very positive changes that will benefit forest landowners. These include increases in the unified tax credit from the $600,000, inflation indexing of annual gifts, use of installment payments of estate taxes, and the ability to donate a conservation easement after the owner has died under certain conditions. There are other changes as well that you should investigate. The next section provides some information on these changes. Use the references at the rear of this chapter to educate yourself about estate planning. Contact your local Cooperative Extension office or state extension forester for educational information. Remember! If you don't plan your estate, the government will!

Excluding Part of the Estate After Death with a Conservation Easement

Conservation easements allow the landowner to give up the right to develop the property in perpetuity. Selling or donating an owner's development rights reduces the fair market value of the land, which reduces the associated estate taxes. In the past, this had to be done before the owner died and the property was passed on to the heirs. Therefore, it did not provide a method for heirs to reduce a large estate tax burden after death.

The 1997 Taxpayer Relief Act allows an executor of an estate to exclude up to 40 percent of the value of the land in a qualified conservation easement. To qualify, the land must be located within a 25-mile radius of a metropolitan area, national park, or wilderness area or within 10 miles of an urban national forest. This major change, subject to some restrictions, allows heirs with a large estate tax to put the land into an easement, eliminate future land development, and significantly reduce the land value and estate tax. Almost the entire state of Maryland qualifies for this special exclusion. This is due largely to the Baltimore-Washington metropolitan area, the lengthy C&O Canal that runs the length of the Potomac River, and the Catoctin National Park north of Frederick. This provided an excellent opportunity for Maryland forest owners who have seen the value of their forest properties increase rapidly with development pressures.

Contact the Maryland Environmental Trust concerning a donation of a conservation easement and the Maryland Agricultural Land Preservation Foundation concerning a sale. Sources of Information:

• Maryland Cooperative Extension publication on estate planning, conservation easements, and other related topics.
• Legal Aspects of Owning and managing woodland,, 1998. Thom J. McEvoy. Island Press. $20. (www.islandpress.com/) or call 202-232-7933
• Preserving Family Lands, Book 1" and Preserving Family Lands, Book II: More Planning Strategies for the Future, 1997 & 1998. Stephen J. Small. Landowner Planning Center, Boston, MA. Can be ordered from traditional bookstores or internet bookstores.