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A Better Partnership


Nov 2002
November 01, 2002

Developers Should Consider Tax Consequences of Acquiring Qualified Agricultural Property

Commercial and residential developers are always searching for new real estate to develop. Notwithstanding changes in the law that have made the redevelopment of urban property more viable, developers often choose agricultural property for new projects. Before committing to a deal, developers should consider whether "buying the farm" will lead to unexpected and adverse tax consequences.

Developers should determine whether acquiring and developing the property in question will increase ad valorem real property taxes and/or create liability for recapture tax. As most developers know, Michigan's General Property Tax Act currently limits annual increases on ad valorem real property taxes to the lesser of (i) five percent (5%) or (ii) the rate of inflation. This "cap" is generally removed with respect to a parcel the year succeeding its transfer. One exception to this rule occurs when the property in question is "qualified agricultural property" and the person to whom the property is transferred (i) continues to use the property for qualified agricultural purposes and (ii) files with the local assessor and records with the county register of deeds an affidavit (Michigan Department of Treasury Form 3676) attesting that the property shall remain qualified agricultural property. In these circumstances, the cap on ad valorem real property taxes for the property is not removed as a result of the transfer. If, however, a party acquires qualified agricultural property and develops it for commercial, industrial, or residential purposes, the transfer and change in use will uncap the real property taxes associated with the property.

In addition to uncapping ad valorem real property taxes, a transfer of qualified agricultural property may impose liability for recapture tax. Under the Agricultural Property Recapture Tax Act, a recapture tax is owed if in the seven (7) years preceding the transfer in question the tax cap was not removed after a previous transfer (i.e., because the property was qualified agricultural property) and the purchaser converts the property's use to a nonagricultural use. In these cases, the recapture tax equals the tax benefit obtained with respect to the property as the result of the cap in the period between the date of the first exempt transfer and the subsequent change in use (not to exceed seven (7) years). The General Property Tax Act requires the owner of any qualified agricultural property to inform a prospective purchaser that the property is subject to recapture tax if the property is converted by a change in use. If, prior to the transfer of the qualified agricultural property, the purchaser files a notice of intent to rescind the qualified agricultural property exemption with the local tax collecting unit and delivers a copy of the notice to the seller, the recapture tax is imposed upon the person who owned the property prior to transfer, and the recapture tax is due when the instruments transferring the property are recorded with the register of deeds. If, however, the purchaser fails to file the referenced notice and deliver a copy of the notice to the seller, then the recapture tax is the obligation of the party who owns the property at the time the property's use is converted. Thus, failing to identify the recapture tax and file and serve the appropriate notice will result in additional tax liability for a developer.

Developers should consider the potential impact of qualified agricultural property exemptions in their acquisitions. If the target property is qualified agricultural property and it is subject to a recapture tax if it is converted by change in use, the purchasing developer must be certain to file and serve the appropriate notice to confirm that the recapture tax will not become a post-closing obligation of the developer. By performing appropriate due diligence, developers can identify, and in the case of recapture tax actually avoid, tax liability.

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James J. Rabaut is a partner with Warner Norcross & Judd LLP specializing in real estate transactions, including commercial construction projects, commercial lease negotiations, commercial real estate sales and acquisitions and business condominiums. Jim may be reached in the Grand Rapids office at 616.752.2178. Warner Norcross & Judd is a full-service law firm with offices in Grand Rapids, Metro Detroit, Holland and Muskegon. Because each business situation is different, this information is intended for general information purposes only and is not intended to provide legal advice.

West Michigan Commercial Development & Real Estate Quarterly

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