According to the IRS: Estate Tax is a tax on your right to transfer property at your death. Due to what might be owed at your death, the government realized that estates comprised mostly of small businesses, farms, and ranches could face ruin after the death of the owner. So, in 1997 Section 2032A of the tax code was established to create an automatic reduction in the value of these “qualified” small businesses in an attempt to remedy a collapse of the so-called heartbeat of America. The maximum reduction in value at the time was $750,000. Adjusted for inflation, the reduction amount is now $1.18 million. Sounds great, right?
Not really. Suppose you have a ranch worth $3 million when considered as an operating ranch. However, you could sell this ranch to an outsider for $10 million. This is called the “fair market value” of the property. The IRS uses the fair market value to calculate your gross estate and taxes. If the property qualified for the Section 2032A deduction, which by the way, has some pretty stringent rules, that $1.18 million deduction would be subtracted from the $10 million, not $3 million. The bottom line: the reduction isn’t much help to the cash poor farmer or rancher or small business owner.
Economic Analyst Megan Nelson wrote a great piece on why this happened. The problem with the current rules is simple math. Since the time of its creation in 1997 to 2019, the Section 2032A reduction amount has only increased by 55%. In stark contrast, the USDA’s National Agriculture Statistics Service estimate cropland values have increased by 223% and agriculture land values have increased 241%. It’s clear that this “generous” deduction is not so generous simply due to the fact it has not kept pace with real inflation.
You may be thinking…What about the overall estate tax exemption amounts? Under the 2016 Tax Reform, this $1.18-million exemption is very generous. The problem is that it isn’t permanent. When Tax Reform ends in 2026 or earlier due to change in legislation, this amount will at best be cut in half. This would create over a $1 million in taxes upon the death of the ranch owner in our example.
The biggest problem is that most farmers and ranchers have no idea they have a problem. They are under the assumption their family can use “Ag-Value.” A $1 million tax bill would prove crushing to most of them.
There is a silver lining—your plan doesn’t have to be to “wait and see…and pay.” There are plenty of planning options to help you create your own reduction and not have to rely on the government. The key is to get help - the right help. This isn’t an ordinary doctor’s visit. You need a specialist—a farm and ranch estate specialist. Learn more at www.kennedy-financial.com.