Background: Planting, growing and harvesting timber is a unique and vital sector of the U.S. economy and natural environment. These activities require timber producers to tie up capital for extended periods. Congress has recognized the benefits of long-term timber ownership and stewardship of forests by providing Internal Revenue Code (IRC) provisions that recognize the economic realities of timber production. The rationale for existing timber tax policies are as valid today as when they were implemented in response to changing economic and resource factors. The relevant policy drivers include:
Growing timber takes time. Depending on the location and purpose, a marketable tree takes between 20 and 80 years to mature;
Capital intensive production process. Timber production locks-in capital in land and growing stock.
Growing timber is risky and effectively uninsurable. Producers are exposed to losses from fire, insects, diseases, and storms without access to commercial or government-back insurance. In addition, the financial relief available under current tax provisions is disproportional to the level of risk exposure.
Forests provide uncompensated environmental services. These include carbon sequestration, little if any soil erosion, sustainable and high quality water supplies, wildlife habitat, recreational opportunities and aesthetic values. These benefits are derived from “working forests” i.e., ones that provide vital wood products as well. Changing the current tax treatment of timber would negatively impact the multitude of benefits from working forests.
Current Tax Treatment: Capital gains. Gains from the disposal of standing timber (stumpage) have been taxable as long-term capital gains since 1944. This treatment recognizes producer’s locked-in capital and long production cycles.
Recovery of operating expenses. Because of the dual nature of timber as both the product and the factor of production, Congress has excluded timber production from the UNICAP rules that would otherwise require all expenses to be capitalized until timber is harvested. Thus, management and operating costs are essentially subject to the same tax provisions as other entities operating as a business or investment for tax purposes.
Recovery of reforestation expenses. Deduct up to $10,000 of reforestation costs, with the remainder amortized over 7 years.
Rationale: Vast acreages of forestland are impacted. These long-standing timber tax provisions affect more than 10 million private owners who collectively own more than 427 million acres of forestland. Ownerships of less than 100 acres account for more than half of these ownerships. The remainder is composed of holdings by larger family and individual investors, the forest industry, real estate investment trusts and timber investment management companies.
International competition could reduce jobs in rural areas. Logs prices are established in highly competitive commodity markets. Tax induced increases in production costs in the U.S. will result in increased imports of logs and wood products from Canada, South America, Eastern Europe and Asia, resulting in job losses.
Required level of management could be reduced. If landowners were not able to deduct forest management costs, they would have to at least reduce their level of management, if not liquidate their holdings. This would reduce production from working forests, and the associated environmental services. It would also increase the acreage of forestland converted to less productive uses.