By Brad Pistole
In the world of investing, the same core options seem to always come to mind. They include things like: stocks, bonds, mutual funds, REITs, precious metals, and annuities. If an investor is conservative, they might invest in things like CDs, MYGAs, or fixed annuities. Depending on an investor’s experience level or stomach for risk, they might even venture into the world of real estate. This could include investing in things like duplexes, homes, or commercial buildings.
These options can provide a recurring monthly income to the owner and they can often let them have the best of both worlds: receive income from the asset while the renter is the one paying down the mortgage. As a general rule, real estate feels less risky to many people because real estate rarely decreases in value. When compared to things like stocks, bonds, and mutual funds, which can fluctuate from day to day, real estate can give the owner more peace of mind.
One of the investment options that often slips past investors is a little four-letter word that has been a gold mine for me and many others. That four-letter word is: LAND! There's an old saying, "Buy land, they're not making any more of it!" I purchased my first farm in 2014, and that started a whirlwind of excitement about the endless possibilities of adding this type of asset to my portfolio. So, let's dig in and take a look at what used to be one of the best-kept secrets for investing. Hint: the word about this has spread like wild-fire in recent years, and everyone is getting in on the action. It’s no longer a well-kept secret.
From 2014 to 2021, I purchased 5 different farms in three different states: Missouri, Kansas, and Iowa. These farms ranged in size from 62 acres up to 340 acres. When I purchased the first farm, which was a 340-acre rural track of land in Missouri, I did so for recreation. The farm was used for hunting, fishing, hiking, and as a place to get away on the weekends. There was a small cabin on the farm, and that enabled me to get away from all of the hustle and bustle of daily life. However, I quickly learned after purchasing this piece of land, about an often-overlooked gold mine that’s missing from most portfolios.
Just six weeks after purchasing the land, the realtor called me and asked if I would be willing to sell it for a $100,000 profit. I wasn’t interested, so I said no. But this got my attention. What other assets had I ever owned that could turn a $100,000 profit almost immediately? That’s an easy answer: NONE! So, I started to study and learn all of the ins and outs involved with owning land in my portfolio.
A few years after purchasing the first piece of land, I found a small 62-acre farm for sale in Kansas, and I couldn’t believe the price. I knew the area well, so I called the realtor because I thought the listed price was a mistake. I viewed the property one day after it was listed and purchased it on the spot. I owned that farm for 15 months and sold it for an incredible profit. During this transaction, I learned the value of a Section 1031 exchange. This tax-deferred exchange gets its name from IRC Section 1031 which, in a nutshell, says that an individual can avoid paying capital gains on the sale of a property when they invest the proceeds into a property of equal or greater value within the designated timeframe allowed by the IRS.
Using an IRC Section 1031 Exchange
I have used a Section 1031 exchange and a reverse Section 1031 exchange when purchasing properties. Let’s dig a little deeper into how this works. A Section 1031 exchange is a unique part of the current U.S. tax code that allows sellers of real property to sell and reinvest in replacement properties and defer the capital gains tax that are normally paid in connection with the sale of any appreciated real property. The 2017 Tax Cut and Jobs Act (H.R. 1) retains the ability for landowners to exchange real property, while personal property exchanges were no longer available after December 31, 2017.
A Section 1031 exchange can take place in two general formats, with slight variations within the formats. The first, and by far the most common format, is what is referred to as a “forward 1031 exchange.” It is also known as a “deferred exchange.” With a forward exchange, the owner of the real estate presently owned, (who is called the Exchanger) sells that property, referred to as the “relinquished property,” and then acquires the “replacement property” within the statutory timeframe as provided in the tax code. A second format is known a “Reverse 1031 Tax Deferred Exchange” in which the replacement property is acquired before the relinquished property is sold. Reverse exchanges are more complicated and expenses paid can be considerably more than those charged for a forward 1031 exchange. (Read Like-Kind Exchanges - Real Estate Tax Tips | Internal Revenue Service (irs.gov)
This might sound like a lot of work, but I can assure you, it is well worth your time to properly execute a forward 1031 or reverse exchange when buying and selling land. Why? Because of four little words every family member wants to hear: step-up in basis. Here are some assets in your portfolio that will receive a step-up in basis when you pass away:
- Mutual Funds
- Real estate
America’s IRA Expert, Ed Slott says, “The number one thing that will separate you from the retirement of your dreams is TAXES!” He goes on to say, “It’s not what you MAKE, it’s what you KEEP that counts.” Owning assets that have a step-up in basis is critical when it comes to tax-planning and estate planning.
There are other tax and income advantages that come with owning your own land, and these benefits can be significant. Owning land gives you the options to operate a hobby farm and working farm. Both of these options can lead to significant tax breaks on an annual basis. You simply need to determine which options might benefit you the most.
If you own a home on land you purchase and choose to reside on the property, there are even more potential tax breaks. These can include things like: net operating losses, fuel credits, home office deductions, and deductions for the cost of things like feed, fertilizer, insurance, chemicals, seeds, plants, and farm equipment and machinery. (Read 5 Tax Tips Every Farmer Should Know About | Credit Karma Tax®)
Uses for Land in Your Portfolio
Here’s an example of the different ways I’ve used my land to benefit my income and my annual tax burden. I recently purchased a farm in Southern Iowa. This farm has active government CRP (Conservation Reserve Program) contracts on it that pay me approximately $24,000 a year in income for the next ten years. This is great, passive income that provides a 3.5% return on my investment. However, not all of the land is enrolled in CRP. I also actively farm several acres of this land and this allows me to deduct several ongoing expenses that are the result of maintaining the farm. I highly suggest referring to IRS publication 225 to keep up with the current tax breaks that exist for the type of land/farm you might think about purchasing.
Here’s another way to benefit financially from this type of asset. I was approached by one of my neighbors in 2021. They asked if I would be interested in selling my farm to them. They were thinking long term and didn’t want this land to get away from their family. They made me an offer I couldn’t refuse. I owner-financed the purchase for 15 years at 5% interest and retained the right to use the land for recreational purposes during the entire 15-year period. The income from this transaction allowed me to purchase the farm I mentioned earlier that provides an annual income of $24,000 per year. What other asset allows you to do something like that?
Finally, your land can also be used for cash rent to local farmers. My Missouri farm has approximately 60 acres that can be used for tillable crop production and hay production. Farmers rely on "crop-sharing" or "cash rent" with local land owners to ensure having enough land to farm. Between my current farms, I receive CRP income, cash rent, and income from the existing owning-financed purchase. This combination can add up to significant income and a great ROI on your investment.
When it comes to purchasing land, there are many ways to do it. And there are tax write-offs available for the interest paid on any traditional bank loan. In addition, it’s possible to use existing assets in your portfolio to fund the purchase of the land. Here’s how to be your own banker:
You can access part of the cash value of a life policy as a tax-free loan, and you can use the funds for anything you want. If the policy is structured correctly, you can create positive arbitrage by making money on your own money while using it to purchase other assets. Don’t overlook this option (Read Why Borrow My Own Money in an IUL Instead of Withdrawing It? – 3 Dimensional Wealth.)
I am 50 years old, and I own a wide range of investments. Of all of things I have invested in, land has been my most stable and my most profitable asset. And it is by far the most entertaining part of my portfolio. It's the only thing that has allowed me to make life-time memories with all of my friends and family members. We have camped, hunted, fished, and spent several family holidays on the farms. Once you purchase your first piece of land, you will want to do it again and again.
About the author: Brad Pistole, CFF®, CAS®
Brad Pistole, a Certified Financial Fiduciary® and a Certified Annuity Specialist®, president of Trinity Insurance & Financial Services, Inc., specializes in several aspects of financial planning including retirement income planning, 401(k) and IRA rollovers, Roth IRA conversions, and tax-free retirement through special types of life insurance.
Brad has been recognized nationally as a member of Ed Slott Master Elite IRA Advisor Group since 2010. His professional affiliations include the National Ethics Association and he is a lifetime-qualifying member of the Million Dollar Round Table’s Top of the Table.