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TAX RAMIFICATIONS: The constitutional right to just compensation from a forced sale of land and damage to the remainder, triggers potential tax ramifications.

Considerations when faced with eminent domain

Farmers must be cognizant of ways to ensure the constitutional right to just compensation.

Throughout Ohio, farming is an important boost to local, state and national economies. Yet, if you drive around the state, you know that farmland is subject to various forms of property intrusion by the government, such as road projects that split farms in two or the government’s frequent and severe flooding of farmland.

You can see these projects everywhere, from the Ohio River to Lake Erie. Such projects almost always involve, in part, the government’s power of eminent domain– the power to seize private property for a claimed public use. Under both the Ohio and United States Constitutions, the government has the power to do so if for a public use, but must pay just compensation to the owners of the private property. In addition, under various state and federal statutes, public utilities and telecommunications providers have certain powers of eminent domain, but they too must pay just compensation. Farmers must be cognizant of ways to ensure the constitutional right to just compensation. At the same time, that receipt of just compensation may impact the farmer in other ways besides the loss of their family’s land or property rights. Such impacts include income tax, estate planning and succession planning.  

Just compensation is a fundamental right. It ensures that while the government can take private property, it must justly compensate the landowner for doing so. Just compensation includes both payment for any land taken in fee, but also damage to the remainder or "residue" of the farmer’s larger parcel. As an example, consider a farmer who owns a 40-acre grain farm. The government intends to split the farm in half and take in fee the middle 10 acres. The farmer is entitled to fair market value for the 10 acres taken. The farmer is also entitled to damage to the market value of the remainder of the property by the fact that the remaining 30 acres have now been split by a road. The damage is determined as the difference in value of those acres before the government split the farm and after the split.

The constitutional right to just compensation from this forced sale of land and damage to the remainder, triggers potential tax ramifications. The payment received generally will be treated for federal income tax purposes as taxable gain to the extent it exceeds cost basis in the property that was transferred or damaged.  However, it may be possible in some cases to shelter taxable gain as proceeds received from an "involuntary conversion" under Internal Revenue Code section 1033. That code section requires that qualifying replacement property be obtained within a specified period of time after the transaction.  Likewise, there are other requirements under that code section. In that regard, if possible, the farmer should consider discussing the intended transaction with qualified tax counsel before executing any transfer.

The payment of just compensation may also impact the farmer’s estate planning or succession planning.  Such tax or planning impacts can include:

• Increasing the farmer’s assets that will be subject to creditors, disposed of at death and included in the farmer’s gross estate for estate tax purposes

• Providing liquidity to purchase assets during lifetime or at death

• Possibly creating a probate asset

 A farmer must be mindful of all of these potential impacts. To address these potential impacts, a farmer anticipating payment of just compensation should consider:

• What estate planning documents are needed for purposes of estate tax planning, asset protection, business succession and avoiding probate, in addition to the farmer’s specific circumstances such as having minor, special needs or spendthrift beneficiaries, or blended family situations.

• When the government seizes land, a farmer must be ready to not only take steps to ensure just compensation, but address tax and planning impacts of the recovery of that fundamental constitutional right. 

Fusonie is a partner in the Vorys Columbus office and has experience representing property owners across Ohio. Galyardt and Miller are of counsel in the Vorys Columbus office and focus their practices on estate planning and tax matters. The authors can be reached at [email protected][email protected] and [email protected].

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