Removal of Stepped-Up Basis Costly

Proposals to change federal tax policy are being bandied about on both ends of Pennsylvania Avenue in Washington, D.C. Farmers and ranchers are especially leery of those proposing changes to capital gains taxes, particularly the proposals to repeal the stepped-up basis on inherited property. Taxes on capital gains are imposed when land, buildings, or breeding livestock is sold.

The tax is applied to the difference (capital gains) between the value when the asset was purchased (the basis) and the value when it was sold. Current law allows inherited property a basis step-up which allows a reset in basis upon transfer following a death. The basis is reset to the value of the property when transferred. The next generation of owners, then, are only responsible for taxes on capital gains since taking ownership if they decide to sell the property and not the gains realized under the previous owner.

Farmers and ranchers are especially sensitive to changes in capital gains tax policy as much of their equity is tied up in land, buildings, and equipment. Additionally, producers typically own land for extended length of time, perhaps 30-40 years, so the increases in values and capital gains can be pronounced (Figure 1). Also, most producers intend to pass the operation on to the next generation. Changes in capital gains tax can affect the cost, ease, and viability of these transfers.

Figure 1. Nebraska Average Farm Land Values ($/acre)

A study released last week by the Texas A&M Agricultural and Food Policy Center examining the impacts of removal of the stepped-up basis suggests producers have cause for concern. The study estimates the tax implications for 94 representative farms and ranches in 30 states. Two of the representative farms are grain farms in Dawson County—one 2,400 acres in size and the other 4,500 acres. The study reports that 98 percent, or 92 of 94 farms, would be impacted with additional tax liabilities with the elimination of the stepped-up basis. The tax increase averages $726,104 across all operations. For the Nebraska farms, the larger operation would see a tax increase of $2.9 million and the smaller operation an increase of over $700,000. The report estimates 7.1 years of net cash farm income would be needed to pay the tax liability for the larger Nebraska farm. The study can be found at: https://afpc.tamu.edu/research/publications/files/708/RR-21-01.pdf.

Production agriculture is dominated by family operations. Eliminating the stepped-up basis for capital gains taxes would be costly for operations seeking to continue following a family member’s death. Enactment of such changes could mean severe economic disruptions for Nebraska farms and ranches when these situations occur.