Sutherland's agribusiness and timber practice dates to the 1930s, when our founding partner Bill Sutherland was engaged by many large timberland owners and investors to respond to the emerging rules of the Internal Revenue Code that were of particular interest to the forest products industry. The international Timber and Forest Products Group was formed in the early 1990s in response to client demands for comprehensive legal services in support of this industry.
Our international Agribusiness Group has experience representing both institutional and private owners involved in highly complex national and international agribusiness transactions. Our experience allows us to navigate quickly through issues that are unique to the agribusiness investor. For example, we understand the unique challenges that face permanent planting crops versus row crop farms and we have negotiated all types of special agreements that are critical to the success of an agribusiness investment, such as viticulture contracts and other supply agreements, forward sales and management and leasing agreements.
As timber and agribusiness investors have expanded their investment horizons overseas, we are called upon regularly by clients to assist them in investments in Central and South America. We have assisted the largest timberland concession holder in Guyana in connection with a dispute with the government over the payment of royalties and other fees. We have also advised clients with respect to timberland and agribusiness investments in Canada, Australia, Argentina, Brazil, Panama, Venezuela and Bolivia. Most recently, we assisted a Brazilian forest products company in the disposition of timber rights to a U.S. university endowment.
Capturing the Tax Advantages of Timber Investments
An essential part of our approach to major timber transactions is the recognition that timber is a tax favored asset (because routine disposition of timber is taxed as capital gain), and that, in most cases, sellers of timberlands have a very low tax basis in their properties in relation to current values. As a part of our work in representing buyers and sellers of timber properties, we have found creative solutions to assure that gains from dispositions of timber will be offset by the maximum allowance for depletion, that taxable investors will receive the benefit of taxation at capital gains rates, and that gains to tax-exempt investors will not be treated as unrelated business taxable income. We have also worked with sellers of timber properties to devise methods to defer recognition of capital gain.
Our work in the depletion area reflects our success in litigating, in the United States Tax Court and the Ninth Circuit Court of Appeals, the precedent-setting case of RLC Industries Co. v. Commissioner. This decision established, for the first time, the substantial latitude timber owners have in establishing blocks for depletion in order to derive the greatest tax benefit. In RLC, the company used that latitude to combine newly-purchased, high-cost timber into a single pool with long-held, low-cost timber that it was preparing to harvest. The averaging that is inherent in the single pool approach substantially raised the depletion rate on the lower cost timber. In other instances, the acquirer of a timber property may find it advantageous to subdivide the property into multiple blocks, in order to enhance the depletion allowance on early harvests. We have found that careful study of this issue, done at the time of acquisition and in conjunction with the on-the-ground forest managers, can produce substantial benefits.
Cutting Contracts and Supply Agreements
We have pioneered the use of a variety of timber cutting agreements, some extending for as long as three rotations (a total of 79 years), to provide continued capital gain treatment to the timber owner, with assured access (but off-balance sheet treatment) to the forest products company buyer. We have devised other cutting agreements that can provide either immediate cash to the timber owner or an assured cash flow over a period of years, with the contract still being treated as a disposition of timber with a retained economic interest in the hands of the timber owner, thereby avoiding the “dealer” issue and producing capital gain.
We have also worked extensively with and are familiar with virtually all classes of agribusiness supply and forward sales agreements pertaining to permanent plantings, including viticulture, citrus, apples, dates, various nuts and other permanent crops.
Planning for Exempt Investors
In the early 1980s, we secured the first of what has become a series of private letter rulings from the Internal Revenue Service which recognize that dispositions of timber by an exempt organization (or by a partnership composed of exempt organizations) pursuant to a cutting agreement in which the timber owner has a retained economic interest, does not produce unrelated business taxable income to the selling exempt organization. The initial rulings, which were limited to dispositions of timber where the owner met the holding period for capital gains, was an essential step in paving the way for widespread timber investments by pension funds, university endowments and other such organizations. In 2001, we obtained for a major university the first ruling issued by the Internal Revenue Service confirming our opinion that dispositions of timber held for less than one year do not generate unrelated business taxable income (UBTI) where the exempt owner has a retained economic interest.
In the current tax environment – with historically low capital gains rates applicable to individual investors, but with corporate taxpayers receiving no preferential capital gains treatment – much of our work has been to devise acceptable “pass-through” vehicles which can provide the benefit of capital gains treatment (or no UBTI) to the investor without burdening the investment with a corporate level tax. As noted above, many of the transactions in which we’ve participated involve partnerships, joint ventures and limited liability companies. These vehicles may be either private or publicly traded.
In 1999, we obtained the first private letter ruling from the Internal Revenue Service which confirmed our analysis that timber properties are appropriate assets for a real estate investment trust (REIT), and that regular dispositions of standing timber produce qualifying REIT income. Apart from publicly-traded REITs, a private REIT arrangement can offer significant benefits to tax-exempt investors. We have completed the conversion of several timber investment partnerships into a REIT format and have the planning for other such conversions underway.
© 2013 Sutherland Asbill & Brennan LLP