Make sure you minimize your tax liability after sale of timber
Hiring a tax preparer who knows the tax treatment of timber sales could save forest owners a lot of money in the long run.
If you received money in 2011 for the sale of timber, the government expects taxes to be paid on that income. The amount of tax you pay on that income will depend on the nature of the timber sale and how well you follow the rules to minimize the tax liability.
Doing nothing will result in paying a higher tax (or perhaps penalties if you’re caught under-reporting).
The first step might be to visit the National Timber Tax website. This resource is kept current with most recent changes in tax policy and provides access to forms and information.
You’ll want to download Form T, which is not a common form at the local library.
It might be worth your while to hire a professional tax preparer. Make certain the person knows about timber sale income tax treatment as some preparers do not. The IRS code about timber sale taxation is a bit obscure.
There are three main ways to reduce the tax bill; 1) report income as capital gains, 2) calculate the timber basis and depletion, and 3) keep receipts for all out-of-pocket expenses related to the timber sale.
Check to learn if your timber sale income is eligible for capital gains tax rates, which are lower than ordinary income tax rates. Most timber sale income is eligible. You will need to have owned the timber for at least 12 months prior to sale. Also, capital gains income does not have to pay self-employment taxes, which is nearly 15 percent. You can save a lot with this tip.
Calculating basis and depletion values can be confusing. The basis is the monetary value of all your timber at the time it was purchased.
Just the timber. Not the land.
The depletion value is a portion of that basis and can be deducted from timber sale income based upon the percentage of total wood volume harvested. So, if you harvest half your wood volume, then half the basis value can be deducted from the timber sale income. If the entire forest was harvested, then the entire basis value can be deducted from the timber sale income. Working with a professional forester can help identify timber volumes and values. This calculation is especially helpful if you have owned your timber for less than 10 years.
Deductions are fairly easy to subtract from the gross timber sale income, but you will need receipts. Some expenses are in a gray area of whether or not the expense was directly attributable to a timber sale. Expenses to hire a consulting forester or to set up and administer the timber sale are clearly a deduction. Building a graded road is debatable. Determinations might be best made with the help of a tax preparer that knows about timber sale taxation.
For many forest owners, a timber sale is a once- or twice-in-a-lifetime event. So, the same is true for the taxation part. If you’ve had a timber sale in 2011, then take advantage of the IRS rules that minimize the tax bill. If you’re contemplating a timber sale in the near future, you might want to take a look at current IRS rules before the sale. Planning ahead can sometimes save money.
Property taxation is a different topic. Michigan has two forest property taxation programs. They both require commitment to timber harvest and a professionally prepared forest management plan. Each program has eligibility criteria and each has withdrawal penalties. Become familiar with both programs before signing any agreements.
The Commercial Forest program has the largest tax breaks, but the forest becomes open to the public for hunting, fishing and trapping. Only foot access, not vehicle access, is required. Access roads can be gated.
The Qualified Forest Property program has less of a tax break but the forest can be posted. Program changes for this second program are currently under debate within the Michigan legislature.
Both of these programs are administered, at least in part, through the Michigan Department of Natural Resources. You will also need to involve a consulting forester to help you develop a forest management plan. Of course, such a plan has many benefits and is a good idea regardless of your interest in property tax reductions.