Income taxes and family forests

Is your ownership a business, investment or hobby?

Many landowners have not considered operating as a business, even though the property they own and the trees growing on it represent a large capital asset.

Business

A business is any activity engaged in for the purpose of making a profit. This includes owning forestland as an investment. A profit can include increasing the value of standing timber through management activities, or for investment owners, the expectation of increase in value of the land and standing timber.

Many forestland owners, especially those who have a forest stewardship plan or belong to a woodland owner association such as the Minnesota Forestry Association and Tree Farm, can show that they are operating to increase the value of their standing timber. There are advantages to operating as a business.

Why operate as a business?

• Capital gains treatment of income = lower tax rates
• Deduction of expenses from any income (active business only)
• No self-employment tax on capital gains
• No reduction of social security benefits; capital gains are not considered earned income

Business income is differentiated by the Internal Revenue Service into either active or passive business income. The difference being the amount of time the owner invests in the business operation. The Internal Revenue Service uses a number of elements to evaluate a persons’ level of activity in the business. These may be found at The National Timber Tax Website.

Investment, a type of business

A small number of forestland owners may consider themselves investors. These persons are primarily interested in income from buying and selling forestland. They are not likely to be planting trees, thinning trees or taking other actions to manage the forest. Investors who have income from timber sales report this income as income from a passive business.

Landowners who can report a profit in three out of five years will be assumed to be in business by the Internal Revenue Service. For all other forestland owners a decision must be made as to whether to operate as a business, investment or hobby. Since most forestland owners have profits from timber sales only once in a lifetime, the landowner must make an active decision to operate as a business. As a business, the landowner must keep records and operate in a manner that supports their business interest.

Hobby

Many landowners own forestland because it is a part of their property. Income from timber sales where the landowner has not decided to operate as a business are reported as ordinary income and the landowner is subject to self-employment taxes.

If you as a landowner are taking actions to implement your management goals, then you may be a business owner. If you are holding the land and timber for resale and are not engaged in managing the timber for future profit, then you may be an investor. If you are not doing either of the above and you own forestland, you are likely a hobby owner. The final decision is up to the landowner.

The Woodland Advisor Class on Income Taxes and Family Forests provides information to help landowners make a decision about how to operate their family forest. Consult with your accountant, tax preparer and attorney for advice.








This is the viewpoint
of Mike Reichenbach,
University of Minnesota
Extension Educator and
Society of American
Foresters Certified Forester.