Agricultural Real Estate Taxes

USDA's agricultural real estate tax estimates are used as components in its prices-paid indexes for commodities and services, interest, taxes, and farm wages. Property taxes on farm real estate are a direct cost to landowners, but when farmland is cash-rented, those taxes are passed on to tenants through rents paid, and thus agricultural real estate taxes become a significant cost of production faced by all farm operators. Agricultural real estate taxes are a principal source of funding for State and local governments.

Taxes levied on U.S. agricultural real estate (land and buildings) by State and local governments totaled $4.9 billion in 1994 (the most recent year for which data are available), 2 percent less than a year earlier (table 1.4.8). The U.S. average tax per acre was $5.86, down from $5.98 in 1993. The average tax per

$100 of full market value on U.S. agricultural real estate declined from $0.85 in 1993 to $0.75 in 1994 (fig. 1.4.4, table 1.4.8). Agricultural real estate taxes include all ad-valorem taxes (meaning based on value) after allowing for preferential assessments and any old age, homestead, or veterans' exemptions (excluded are levies based on benefits received, such as irrigation and drainage improvements).

Compared with 1993, taxes per acre in 1994 averaged higher in 33 States, lower in 10, and unchanged in 6. Taxes per $100 of full market value in 1994 were higher in 4 States, lower in 39, and unchanged in 6. Taxes varied widely among the States, ranging in 1994 from 40 cents per acre in New Mexico to $56.75 in Rhode Island. Taxes per $100 of full market value ranged from 8 cents in Delaware to $2.00 in Wisconsin. Total and per-acre taxes levied in Michigan declined by 51 percent, reflecting an extensive restructuring of that State's tax system. If, instead, Michigan agricultural real estate taxes had not changed (i.e., zero percent change), then U.S. total and per-acre taxes levied would have shown increases rather than decreases.

State variation in agricultural real estate tax rates is partly due to (1) the degree to which States rely on real estate taxes as a source of local revenue; (2) the extent to which States provide tax relief, such as use-value assessment, homestead and old-age exemptions, and veterans' preferences; and (3) taxpayer resistance to increasing real estate taxes. All States have laws on preferential (or deferred) land-use assessment of farmland (Aiken, 1990). These laws provide that farmland devoted to farming be assessed on the basis of its use as farmland and not according to its market value. For example, farm or ranch land in a developing urban area would be taxed as farm or ranch land and not at the market value for which the land might sell for, say, residential development. These laws are designed not only to reduce agricultural real estate taxes, but also to encourage the protection of farms and ranches for such aesthetic reasons as open space. Laws vary from State to State with respect to minimum acreage requirements, minimum number of years in farming, percentage of gross annual income the landowner receives from the land, and penalties for converting the land to a nonfarm use.

Factors Affecting Farm Real Estate Values Farm real estate values are affected by many factors, both agricultural and nonagricultural. The net returns from agricultural use of farmland, for which cash rents are often used as a measure, are a principal determinant of farmland values. Farmland values are also influenced by capital investment in farm structures, nonfarm demand for farmland, interest rates, government commodity programs, and a myriad of lesser factors.

Building value currently accounts for about 22 percent of total U.S. farm real estate value, but the percentage varies across the United States. For instance, in Wisconsin, with substantial investment in capital-intensive dairy facilities, buildings account for 42 percent of farm real estate value. In arid regions of the West, buildings account for much less: in Arizona, for instance, building value is 10 percent of total real estate value. Building value as a percentage of farm real estate value also varies across time. Canning (1992) showed farm structures constituting as much as 31 percent (1940) of total U.S. farm real estate value and as little as 14 percent (1979). The interaction of inflation and income tax rates appears to be an important determinant of this relationship.

The potential to convert farmland to nonagricultural uses can increase the price of farmland well above its value in agricultural use. In heavily populated areas,

especially, competing demands from nonagricultural uses can far outweigh agricultural productivity as a determinant of farmland value (Robison and Koenig, 1992). Some indication of the influence of urbanization can be gained by examining the rent-to-value ratios in table 1.4.5. In densely populated States along the East Coast, rent-to-value ratios are relatively low, indicating that cash rents (a measure of agricultural productivity) account for only a small proportion of the market value of farm real estate. In more rural States-the Plains, for example-cash rents account for much larger percentages of market value.

Interest rates, particularly real or inflation-adjusted rates, have been identified as particularly important determinants of U.S. farmland values during the post 1960's period (Gertel, 1990). During much of the mid- to late 1970's, real (inflation-adjusted) interest rates were actually negative, implying a strong incentive to borrow money, with much of the borrowed money used to purchase farmland. Conversely, real interest rates dramatically increased from 1981 to 1985 when nominal interest rates increased rapidly just as expectations of future inflation were decreasing. The resulting increase in the real mortgage interest rate has been attributed as a cause of the slide in farmland values in the early and mid-1980's (Gertel, 1988).

An array of government policies influence the income derived from farmland, and hence its value. Government commodity support programs are the most obvious, but also important are farm credit

programs, zoning regulations, habitat protection laws, infrastructure development (such as roads and dams), environmental regulations, and even property and income tax policy. Research has shown that commodity programs have increased farmland values relative to what they would have been in the absence of such programs (Featherstone and Baker, 1988; Herriges, Barickman, and Shogren, 1992). As government assumes a smaller role in the farm economy, analysts expect commodity support programs to be less important in the determination of farmland values. (See chapters 1.1, Land Use, and 1.2, Land Tenure, for discussion of land use and property rights issues affecting land values.)

The 1996 Farm Act, which phases out commodity support payments over 7 years, has raised concern that such changes will lower farmland values and, hence, the net worth and creditworthiness of farm businesses. Farm-dependent rural communities are concerned that reductions in government commodity support programs will adversely affect the finances of local governments, whose operating revenues are largely dependent on the ad valorem property tax. Reductions in farm returns, including government payments, could also have the secondary effect of reducing the incomes of some rural, nonfarm businesses.

Studies conducted by ERS concluded that farmland values could decline by as much as 15 percent if commodity programs abruptly ended (Shoemaker, Perry, and Beach, 1995). Because producers likely have been expecting some reduction in support programs for several years, farmland values in areas heavily dependent on program payments may have already adjusted, as farmers incorporated expectations of changing commodity programs and lower support payments into their assessment of future net returns. With time, producers can adjust capital and other inputs and make other changes to production practices that may mitigate any reduction in program payments. Given that the reduction is being phased in slowly, any remaining impact on farmland values should be small and the effect will probably be overshadowed by recent increases in grain prices.

A myriad of lesser factors contribute to spatial variation in farmland values, including site-specific characteristics of individual parcels. Among these are access to major highways and proximity to commodity and input markets. Nonfarm, but income-generating, uses of farmland are possible on some parcels, including fee-recreation and fee-hunting. Also, farmland value may be enhanced

by the attraction of farming as a lifestyle (farm occupation), an aesthetic location, or homesite potential. Inflation, interest rates, lending policies of farm credit agencies and banks, and speculation have also been identified as factors external to farmland markets that affect farmland values.

Authors: David Westenbarger, (202) 219-0434 [dwest@econ.ag.gov] and Charles Barnard, (202) 219-0093. Contributor: John Jones.

References

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Herriges, Joseph A., Nancy E. Barickman, and Jason F. Shogren (1992). "The Implicit Value of Corn Base Acreage," American Journal of Agricultural Economics, February, pp. 50-58.

Jones, John, and Patrick N. Canning (1993). Farm Real Estate: Historical Series Data, 1950-92. U.S. Dept. Agr., Econ. Res. Serv., SB-855, May.