How To Invest In Farmland With A Retirement Account

Learn more about the benefits of this popular real estate investment strategy

Farmland investing has historically outperformed most other asset classes, such as the stocks and gold. As farmland values have risen over decades, agricultural land has created the foundation of wealth for generations of intelligent investors.

The historical popularity of farmland investment

According to a famous quote often attributed to legendary businessman and philanthropist Andrew Carnegie, 90 percent of U.S. millionaires earned their fortunes in real estate. Many successful investors cite owning farmland as one of their strategies for success. In fact, Bill Gates himself owns more private U.S. farmland than any other person—a testament to the exceptional value of this method of portfolio diversification. 

Passive investments in agriculture asset classes

Despite the lower risk and higher potential return of farmland and other forms of real estate compared to the stock market, few investors have time to run a working farm or fix and flip distressed properties. Fortunately, farmland investment doesn't necessarily mean farming has to be your new career.

If you’ve always been curious about purchasing real estate as an investment but prefer a more passive approach, consider buying farmland through a retirement account like a self-directed individual retirement account (IRA). These vehicles allow investors to access impressive growth and diversification through alternative investments such as land, permanent crops, and precious metals. 

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The basics of self-directed IRAs

At its core, an IRA provides a tax-advantaged approach to investing. While traditional IRAs often have limited investment choices that emphasize stocks, bonds, and mutual funds, these unique IRAs open the door to alternatives, including farmland. Although a custodian administers the account, they do not make investment decisions on your behalf. Instead, you manage the funds of the self-directed account.

You can contribute up to $6,000 of your income to an IRA for 2022, or $7,000 if you are 50 or older. This limit applies whether you open your IRA with available cash or roll over funds from another retirement investment account. You can deduct any new contributions (not rollovers) from your annual taxable income, reducing your tax burden immediately. 

The funds in your IRA grow on a tax-deferred basis, which means you do not pay taxes until you withdraw the funds, which are then treated as ordinary income. Plus, if you invest in farmland or another alternative asset and decide to sell it later, you do not have to pay any capital gains tax if you purchased the land through your self-directed IRA.

This type of IRA can also be a smart strategic option if you have an existing 401(k) from a previous employer, as you can roll those funds into a self-directed rollover IRA.

Self-employed individuals can also set up a one-participant self-directed 401(k) plan (also known as a Solo 401(k) plan) with even higher contribution limits ($61,000 per year pre-tax in 2022 and $67,500 if you are over 50 years old) that has similar self-directing capabilities. 

It’s important to note that these IRAs must meet certain IRS regulations, such as allowing passive but not active farmland investing. These rules let you purchase and profit from land appreciation and any crops sold, but prohibit farm management, repairs, rehabilitation, farm operations, and all other types of active work on the land itself. 

Beyond the stock market: How to use a 401(k) to buy farmland

You cannot purchase farmland directly with a standard employer-sponsored 401(k) retirement plan. However, if you are eligible to roll your 401(k) into a self-directed IRA, you would then be able to use those funds to purchase farmland. Additionally, Solo 401(k) plans are eligible to purchase farmland.

You can choose between two management and payment approaches when self-directing your IRA or Solo 401(k):

1. Using the “checkbook control” approach, you have full management of the investment funds. If you want to purchase farmland or take part in another real estate opportunity, you simply make a wire transfer or write a check for the necessary funds. 
2. The second option, a custodial self-directed IRA (SDIRA) account, requires approval from a custodian to ensure that you don’t break any of the IRS rules associated with these accounts, like the example given above regarding active land management. Another example is if you buy residential real estate with your IRA, you cannot live in the home itself. 

Opening a self-directed account typically requires a minimum investment of $10,000 to $50,000. Most accounts also charge custodian fees that range from several hundred to several thousand dollars. Carefully review these fees to find the most financially advantageous IRA for your needs. Often the larger the role the custodian plays, the higher the fees. 

The most significant hurdle for investors is often finding a reasonably priced, competent SDIRA custodian. However, these custodians are becoming more common due to increasing interest in alternative investments that often can provide a powerful hedge against global economic cycles.

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Benefits of farmland investing with an IRA

1. Farmland is a low-volatility investment opportunity

Farmland is often called a recession-proof investment because of its ability to withstand an economic downturn. Historically, when traditional investments such as the stock market increase in value, land values increase as well. However, when stocks decline, farmland values tend to outperform since food demand remains regardless of a recession.

This lack of correlation with the stock market means that farmland as an asset class provides solid returns even when other asset classes and investment options on Wall Street plummet. Farmland values remain strong partially because of scarcity - after all, no one is producing more land - and increasing demand for food to feed an ever-growing population.

More investors are also realizing the value of growing permanent crops, renting property to farmland partners, and other ways to take advantage of agricultural commodities and opportunities within the farming sector.

2. High demand for food production drives farmland returns

Looking closer at the future demand for food, Forbes reports that global food production must increase by at least 70 percent by 2050 to meet the nutritional demands of a rapidly expanding world population. This underscores the ongoing need for higher food production around the globe.

Farmland investors have the opportunity to benefit from this unmet but much-needed increase in demand. This is especially true when they focus on permanent crops with robust markets that command a higher price, such as avocados, coconuts, and limes.

3. Attractive investment options in productive farmland available overseas

Although USDA data shows that domestic farmland consistently outperforms stocks and bonds with double-digit returns, limited availability and increased farmland prices have placed U.S. acreage out of reach for many investors. To combat these challenges, many investors have pivoted to emerging markets, which offer rich opportunities in profitable, high-demand crop types. 

A report from the International Monetary Fund indicates that 20 identified emerging markets represent 34 percent of the world’s nominal GDP in U.S. dollars, underscoring the potential profit to be found in foreign countries. When exploring the advantages of investing in emerging market farmland, Nuveen cites the low cost of foreign land compared to domestic land, as well as higher growth rates, two factors that will help increase overall investor returns.

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Frequently asked questions about farmland investing with a retirement account

Before you invest in farmland, review the answers to some of the most common questions about diversifying your retirement accounts with this asset class.

Can I use a traditional 401(k) to buy farmland?

Unfortunately, typical employer-sponsored 401(k) plans are ineligible to purchase farmland directly. You may have the ability to purchase shares of publicly traded farmland REITs or agriculture ETFs as an alternative. However, if you are more interested in direct farmland investment, there are several ways to leverage traditional 401(k) funds to purchase real estate using one of the methods below:

Does your plan allow loans?

If it does, you can generally borrow half of the value of your 401(k) account, up to $50,000 to invest in real estate. Most plans will require the borrower to repay the loan within five years, and you will be charged interest on the loan. If the loan is not repaid by the set deadline, it will be taxed as though it was an early distribution from the 401(k), resulting in a 10 percent penalty as well as income taxes owed, based on your tax bracket.

Investing in farmland through this process requires the loan be secured by the real estate you are purchasing and be non-recourse to the borrower. Any income generated from the property would be returned to the 401(k) and not be taxed as income (until it is removed from the IRA).

Can you qualify for a hardship withdrawal to purchase a primary residence with farmland?

Under certain hardship situations, your plan may allow you to remove funds from your 401(k) to make a down payment on a principal residence that may have farmland included as well. However, investors can typically only withdraw money they have deposited, not interest earned on past investments. The funds you receive will be subject to income tax and you may also have to pay a 10 percent tax penalty unless you're older than 59 1/2 at the time of withdrawing the money.

Using a hardship withdrawal to invest in farmland would remove all the restrictions that come with owning real estate in a retirement account, but also eliminate the tax advantages and other benefits.

Are you eligible for a 401(k) rollover?

Most people are aware you can roll over a 401(k) when changing jobs or retiring, but you may be eligible for a 401(k) rollover while you are still working at the same company. You need to check with your plan administrator as not every 401(k) plan allows you to roll over your account to an IRA while still working.

If you are eligible, simply roll over your 401(k) into an SDIRA and invest the funds in farmland as described above. Using this process to invest in farmland results in a tax-advantaged investment, but also comes with the associated restrictions such as not actively managing the land.

Can I buy land with my retirement account without penalty?

If investing in farmland through a self-directed account, you will not incur any penalties as long as you follow the rules and do not actively manage or live in the investment property. All revenue generated from the investment must flow back into the IRA to protect the tax-advantaged status of the account. Always seek professional advice regarding your specific tax situation from a certified accountant.

If you are interested in learning how to buy farmland with your self-directed retirement account, simply complete the form below to speak with one of our Farmland Specialists. Not only can we answer your questions about passive farmland investing with your IRA and discuss our currently available opportunities, but we can also recommend providers if you are looking to open your own account.

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