Farm Estate Planning: Special Use Valuation, Installment Payments, and Succession

The hardest part of keeping a family farm together across generations isn’t the farming. It’s the estate tax. The USDA reports average U.S. cropland at $5,460 per acre in 2024, and prime Midwest ground routinely trades at $10,000 to $15,000 per acre. A 1,000-acre operation can carry a fair market value of $5 million to $10 million in land alone, but net farm income on a well-run row-crop operation might be $200 to $400 per acre in a good year. When the owner dies and the estate tax bill arrives, the heirs face a familiar crisis: the land is worth millions, the operation doesn’t produce enough cash to write a seven-figure check, and selling land to pay the tax defeats the purpose of succession planning. The tax code has two provisions designed specifically for this problem.

Why is estate tax a special problem for farms?

The mismatch between asset value and cash flow is the core issue. A farmer who owns 1,500 acres of Iowa cropland worth $12,000 per acre holds $18 million in land. Add equipment, grain in storage, and a homestead, and the gross estate can hit $21 million. With a $13.99 million exemption (2025), the taxable estate is $7 million, and the federal estate tax at 40% is roughly $2.8 million.

The farm’s cash flow doesn’t support that. Net farm income at $300 per acre on 1,500 acres is $450,000 per year, before the family’s living expenses, and the IRS wants payment within nine months of death. The result, historically, has been forced land sales. Congress enacted Sections 2032A and 6166 to prevent exactly this outcome.

The 2025 and 2026 exemption levels ($13.99 million and $15 million) shield many single-owner farms from federal estate tax. But the exemption is per person, not per family. A married couple can shelter up to $27.98 million (2025) using portability, and once the surviving spouse dies and the full estate passes to the children, the 2032A and 6166 elections become critical. States with their own estate or inheritance taxes (many with exemptions of $1 million to $5 million) compound the problem.

How does special use valuation work under IRC 2032A?

IRC 2032A allows the executor of a farm estate to elect to value “qualified real property” at its current use (farming) rather than its “highest and best use” (which might be residential development, commercial use, or recreational land). The difference can be enormous. A parcel of farmland on the suburban fringe might be worth $25,000 per acre as development ground but produces crops worth $300 per acre. Valuing it at farming use, not development potential, dramatically reduces the taxable estate.

The maximum reduction from fair market value is capped. For 2025, the cap is $1,420,000 (adjusted annually for inflation). That means even if the difference between farming-use value and highest-and-best-use value is $3 million, the estate can only reduce the value by $1,420,000. Still, at a 40% estate tax rate, a $1,420,000 reduction saves $568,000 in tax, which is enough to keep a significant number of family farms intact.

What are the eligibility requirements for 2032A?

The requirements are specific and must all be met at the time of the decedent’s death. Missing any one of them disqualifies the election.

• The decedent must have been a U.S. citizen or resident at the time of death.

• The real property must be located in the United States.

• At least 50% of the adjusted value of the gross estate must consist of the adjusted value of qualified farm or closely held business property (real and personal property). This is the “50% test.” The adjusted value is the value of the property reduced by mortgages and other debts secured by that property.

• At least 25% of the adjusted value of the gross estate must consist of the adjusted value of qualified real property. This is the “25% test.” It ensures that the land itself, not just equipment and livestock, is a substantial part of the estate.

• The property must have been owned by the decedent or a family member and used for farming (or a qualified closely held business) for periods aggregating 5 or more of the 8 years ending on the date of the decedent’s death.

• The decedent or a family member must have materially participated in the farming operation for periods aggregating 5 or more of the 8 years ending on the date of death. Material participation follows the same general standard as in IRC 469: the individual must be involved in the operation on a regular, continuous, and substantial basis. Passive rental of the land to a non-family tenant does not count unless it is to a family member who materially participates.

“Family member” is defined broadly for 2032A purposes: it includes the decedent’s spouse, parents, grandparents, children, grandchildren, siblings, and the spouses of those individuals. But rental to a non-family operator who manages the farm while the elderly owner collects cash rent does not satisfy the material participation requirement, even if the owner once farmed the land personally.

How is the farm valued under the 2032A election?

Two methods are available.

The formula method (capitalization of rents) is the most common. It takes the average annual gross cash rental for comparable farmland in the same locality, subtracts average annual state and local real estate taxes for comparable farmland, and divides the result by the average annual effective interest rate charged by the Federal Land Bank (now Farm Credit System) for new loans. The resulting figure is the per-acre value for estate tax purposes. Because comparable rental values are much lower than development-potential sales prices, the formula method almost always produces a value well below fair market value.

The multiple-factor method looks at comparable sales of farmland used for farming (not development sales), soil type and productivity ratings, location relative to markets, growing season, water availability, and other factors that affect agricultural value. It’s used when comparable rental data isn’t available or when the formula method doesn’t produce a reasonable result.

The executor makes the election on a timely-filed Form 706 (United States Estate Tax Return). The election must include a recapture agreement signed by all qualified heirs, acknowledging that the tax savings will be recaptured if the property is sold or taken out of farming use within 10 years. The IRS places a special lien on the property for the 10-year recapture period.

What triggers recapture of the 2032A tax savings?

If a qualified heir disposes of the property to a non-family member, or ceases to use it for farming, within 10 years of the decedent’s death, an additional estate tax is imposed. The recapture tax equals the estate tax savings that resulted from the special use valuation. In other words, the IRS takes back the benefit.

Disposition to a family member does not trigger recapture, as long as the family member continues farming. Cessation of farming triggers recapture even if the land isn’t sold: letting it sit idle, converting it to non-farm use, or cash-renting it to a non-family member all qualify (with narrow exceptions for surviving spouses, minors, students, and disabled heirs). A $1,420,000 reduction at a 40% rate means a recapture tax of $568,000. Heirs need to understand that selling or stopping farming within 10 years has a concrete cost.

How does IRC 6166 spread the estate tax over time?

IRC 6166 allows the executor to pay the estate tax attributable to a closely held farm or business in installments over up to 14 years: a deferral period of up to 4 years (during which only interest is paid), followed by up to 10 annual installments of principal plus interest. The total deferral from death to the final payment can be up to 14 years.

The eligibility requirement is that the value of the farming operation (or closely held business) must exceed 35% of the adjusted gross estate. For a farm estate where the land, equipment, and livestock represent the majority of the estate’s value, this threshold is usually met easily.

The interest rate is favorable. The estate tax attributable to the first $1,000,000 (adjusted for inflation; the 2025 figure is approximately $1,850,000) of the closely held farm business value qualifies for a special 2% rate. The tax attributable to the remainder is charged at 45% of the regular IRS underpayment rate, which in recent years has been significantly below commercial lending rates. The combination of below-market interest and a 14-year payment schedule makes the liquidity manageable for operations that produce steady but modest cash flow.

The election is made on a timely-filed Form 706. If the estate files late, both the 6166 and 2032A elections are forfeited, with no reasonable-cause exception for a late election.

One critical guardrail: the IRS accelerates the remaining installments (entire unpaid balance due immediately) if one-third or more of the qualifying business interest is sold or disposed of, or if the estate misses a scheduled payment. Partial dispositions below the one-third threshold accelerate only the attributable portion. If the family plans to sell a parcel to fund a sibling buyout, they need to model whether the sale breaches the threshold before closing.

How does generation-skipping planning work for farms?

The generation-skipping transfer (GST) tax applies when property skips a generation (grandparent directly to grandchild). The GST exemption for 2025 is $13.99 million per person ($15 million in 2026 under the One Big Beautiful Bill Act). When the transfer is also covered by 2032A, the GST value is the reduced farming-use value, not fair market value, stretching the exemption further. A farm valued at $8 million FMV but $6.5 million under 2032A uses only $6.5 million of the GST exemption.

Dynasty trusts can hold farm property and pass it through multiple generations without incurring estate or GST tax at each death, as long as the trust is properly structured and the GST exemption is allocated upfront.

What other succession planning tools do farmers use?

The 2032A and 6166 elections address the tax bill after death. But comprehensive farm succession planning also involves structuring ownership before death to reduce the taxable estate, ensure continuity, and manage family dynamics.

Family limited partnerships (FLPs) and limited liability companies (LLCs) are widely used to hold farm assets. The senior generation creates the entity, transfers land and equipment into it, and retains management control. Over time, limited partnership or membership interests are gifted to the next generation. The valuation of those interests may reflect discounts for lack of marketability and lack of control, reducing the gift and estate tax value. The IRS scrutinizes FLP discounts aggressively, but farm operations are among the strongest cases for a legitimate FLP because the entity runs a real business.

Installment sales to the next generation work differently. The parents sell the farm to the children (or a trust for the children) in exchange for an installment note that pays income during retirement, while removing the property from the parents’ estate at death. Self-canceling installment notes (SCINs) can cancel at the seller’s death, removing the note from the estate entirely, though the IRS requires a premium to reflect the cancellation feature.

Buy-sell agreements funded by life insurance provide immediate liquidity. When a co-owning sibling dies, insurance proceeds fund the buyout, keeping the farm whole and providing cash to the deceased sibling’s heirs.

Conservation easements reduce the estate value of farmland by restricting development rights. The easement is deductible as a charitable contribution during life and reduces the property’s value in the estate at death. For farms on the suburban fringe, where the gap between agricultural value and development value is largest, a conservation easement can be the single most effective estate-reduction tool. For the income tax deduction side, see the conservation easement guide.

What are the most common mistakes in farm estate planning?

Several errors show up repeatedly in farm estates that end up paying more tax than necessary or triggering recapture.

• Failing to meet the material participation requirement. If the farmer retired and cash-rented to a non-family tenant for the last four years of life, the 5-of-8-year test may not be met, disqualifying 2032A. Planning requires the farmer or a family member to be actively involved through the end of life (for example, a crop-share lease where the landowner participates in management decisions).

• Missing the Form 706 filing deadline. Both elections must be made on a timely-filed return (nine months after death, with a six-month extension). If the executor files late, both elections are lost. Engage an appraiser and a CPA early in the administration process.

• Not having adequate liquidity. Even with 6166, the estate needs cash for interest-only payments during the deferral period and annual installments of principal. Life insurance designated for estate tax liquidity is the standard solution.

• Ignoring state estate and inheritance taxes. Many states (Illinois, Iowa, Minnesota, Oregon, and others with significant agricultural economies) have exemptions as low as $1 million. A farm that owes no federal estate tax may still owe a substantial state tax, and state-level planning is essential in those jurisdictions.

• Not updating the plan. An estate plan drafted when the exemption was $5.49 million may not work now that it’s $13.99 million, and the OBBBA’s permanent $15 million exemption starting in 2026 changes the calculation again. Annual or biennial review with a CPA and an estate attorney is the minimum.

How does Schedule F connect to estate planning?

The profitability of the farm operation, reported on Schedule F, directly affects estate planning in two ways. First, it determines whether the heirs can service the estate tax installments under IRC 6166. Second, it affects the material participation analysis: if the farmer is actively managing the operation and reporting it on Schedule F, the 2032A requirements are being met in real time. A well-maintained Schedule F, filed every year with complete income and expense records, is part of the documentation that supports the estate tax elections at death.

What should I do next?

If you’re a farmer with land, equipment, and family, estate planning isn’t optional. The exemption may be high enough today to avoid federal tax, but state taxes, future exemption changes, and rising land values all point toward planning now. The 2032A election alone can save over half a million dollars, but only if the eligibility requirements are met at death, which means the planning has to happen years before, not after.

Related guides:

• Farm Commodity Hedging Futures Tax Treatment
• Farm Conservation Easement Tax Deduction
• Farm Crop Insurance Disaster Payments Tax
• Farm Equipment Depreciation Section 179 Bonus
• Farm Ethanol Biodiesel Renewable Energy Tax Credits

This guide is general information, not tax advice for your specific situation. Which points apply, and how, depends on your facts.