Key Post Investing directly in forestry as an alterntative to a forestry fund

Woodsman

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INVESTING IN FORESTRY directly vs. a fund


There are many benefits to owning woodland, not least the relative security of the investment, the (almost) tax free returns and of course the amenity value. Putting money in a managed forestry fund would appear to be a very expensive way of getting involved as opposed to buying some land either bare or planted. If one purchases land for oneself and plants it, the associated costs should be substantially less than a share in a fund and there is no commission or ongoing fees. It is frequently argued that the attraction of investing in a fund is that the amounts involved can be relatively small and therefore it is open to the smaller investor. However, many people nowadays invest as a family or in groups and once the land is purchased, the subsequent costs are virtually nil as they are all met by grants.

How much do I need to invest directly in forestry?

A sum of say €50K should be adequate to purchase 15/20 acres of bare land depending on location and quality. Land that is marginal for conventional agriculture can be ideal for forestry use. The current afforestation grants pay for the entire cost of planting, fencing and maintenance.

Alternatively, planted land at 20 years of age can be purchased for app €5/6K per acre depending of course on the quality of the crop. One must remember that at least two thirds of the cost of bare land is in anticipation of future premium income and the fact that the afforestation grants cover all the costs of establishment.


But I don’t know anything about forestry?

You don’t need to.

A qualified forester

  • Will source the land for you
  • Organize the planting
  • Apply for the grants and deal with all paperwork
  • Manage it on an ongoing basis – thinning, etc

There are many competent and trustworthy forestry companies available to both give advice and manage woodland. Timberland Forestry and The Woodland Group, both based in Galway, are long established and reputable firms as are Purser, Tarleton, Russell based in Dublin to name but three. Although they are based in Galway and Dublin, they operate throughout Ireland.


One can buy either bare farm land and then plant it or purchase a semi mature plantation that has already availed of the annual premiums. The variation in grant and premium levels means that it is far more attractive for a farmer to purchase unplanted land and enjoy the higher rate of premium. Due to the premium differential, a non-farmer might be better advised buying planted woodland at say 20 years of age and avail of the income from thinnings over the next 10/15 years and then enjoy a tax free windfall of app €8/10k per acre once the crop is fully mature and clearfelled. Semi mature woodland such as this is currently being sought after by pension funds and other non-farming investors. Suitable plots can be difficult to source but are still available, mostly from farmers who have finished drawing the premiums and wish to cash their investment.


What is the economic outlook for forestry and wood?

The future prospects for timber sales have never been better with a huge and increasing demand for wood fuel along with the demand for construction and other uses. Most of our construction timber is currently exported to Britain and France but this may change when the building industry in Ireland recovers.

How volatile is the price of planted forestry?
Forestry land has varied very little in price in real terms over the past two decades and while other property assets such as housing suffered huge falls, forestry remained stable.

How liquid is forestry investment?
Like most commodities, good forests with good access and healthy trees will always find a ready market. However, it could take time to sell and you can’t usually sell part of your holding.



What are the tax-advantages of forestry?
The income from grants and premia is (almost) free of tax.
While premium income is free of income tax it is now subject to PRSI and the Universal Social Charge.

The sale of timber when the final crop is sold, is free of income tax, subject to a threshold of €80k per annum. In general, you stagger the sale of the timber over a number of years to stay within the threshold.

The value of the trees is disregarded for Capital Gains Tax purposes. CGT is paid on the increase in value of the land.

90% of value of the crop is disregarded for Capital Acquisition Tax purposes ( Gift tax and Inheritance tax). Some wealthy people buy forestry as a CAT avoidance measure.

The value of growing trees is disregarded for stamp duty purposes on a conveyance or transfer of forestry land by sale or lease, stamp duty is charged only on the value of the bare land.

Timberland has a good guide to the taxation of forestry.

What are the risks facing forestry investors?

The forestry premia rates could change
This is perhaps the greatest worry and one of the reasons to buy a wood that has already collected all the available premia. If Government cut backs continue, which are they likely to reduce first, the old age pension or forestry premia?

Tax treatment could change
Taxation has already crept in by the side door but as it is very much in the national interest that we increase our forest cover, it is unlikely to rise much more. Apart from the High Earners income restriction, forestry income has already been subject to the introduction of the Pay Related Social Insurance charge and the 2009 Income Levy. With the replacement of the Levy by the Universal Social Charge (USC) in 2011, a typical forest owner will today pay PRSI at 4% and USC at 7% on any forest income.

Other risks
Forestry returns are long term and as with any commodity, it is difficult to make long term forecasts
Your forest could be damaged by disease
Your forest could be damaged by fire, but you can insure against this relatively cheaply


Links and additional information
Full details of grants etc can be found at
www.teagasc.ie/forestry/grants/‎ and also check out the Irish Timber Growers Association website at www.itga.ie and for an easy to read overview of tax and forestry check out http://www.timber-land.com/Tax.html
 
Hi Woodsman

That is a great post, thank you very much.

Would it be possible to do some sort of typical returns or cash-flow forecast for a non-farmer?

For example to plant diverse conifers

Year 1
Buy 20 acres for €50,000
Afforestation cost: €20,000 - €1,000 per acre
Afforestation grant: €20,000
Fencing - covered by grants


Year 1- 30 costs
Maintenance grants cover ongoing maintenance

Year 1 - 15 - return is 3%
Forest premiums of € 1,460 (€73 per acre)

Sale of thinnings at year 10, year 20

Sale of crop at year 30?
 
The Society of Irish Forester has a good policy paper on the [broken link removed]from which I have extracted the following:



  • Rates of return on investment in forestry are sensitive to the many costs and revenues and the timing of these throughout the forest rotation. In the current situation where afforestation and other grants are available, the most significant cost in the analysis is the price of land and the achievable rate of return is very sensitive to changes in this. Because this cost is incurred at the start of the rotation, it is possible to accurately account for it in the analysis.
  • The timber prices used in calculating revenues are difficult to predict as these sales occur late in the rotation. Instead, it is normal practice to use historic timber prices averaged over a 10-15 year period, adjusted for inflation using the Wholesale Timber Price Index.
  • Investment in forestry is generally regarded as having low associated risk. However, there are natural risks associated with forestry such as wind, frost disease and fire. There are also macroeconomic risks such as changes to forestry policy at national or European level, a fall in demand for timber or the addition of forest management constraints. In any investment analysis it is important to state clearly the risks considered and where possible to account for them.
  • The optimal duration of an investment in forestry, generally called a financial rotation, may very depending on specific objectives and the management considerations involved.
  • Rates of return on investment in forestry are sensitive to many parameters, particularly land and timber prices. However, most analyses show that rates of return of between 4% and 7% are achievable.
 
Your forest could be damaged by fire, but you can insure against this relatively cheaply

Not really. The cost of Insurance for Forestry has increased very severely over the past few years.

Saying this, it's more easy on any Investor to know that he's managing their own plantation rather than Investing in a fund, when you'tr at the behest of others who simply mightn't have the same desire for Woodlands, as they could well be in it for the money, and not the growth or the timber.
 
Hi Brendan

Glad you liked it. Rather than try and go in to financial details I would recommend anyone interested to check out the figures with Teagasc, The ITGA, The Soc of Irish Foresters etc. Things like discounted cash flow make my head hurt and that is why I employ accountants!! On average, purchasing forestry land is predicted to return app 5% and the tax breaks make it very attractive for those in high tax brackets. There is also the huge amenity value and many investors also like to visit their woods and breathe the fresh air while their money grows.
 
If you have an existing forestry investment or are considering one, its well worth making it your business to read the wealth of practical advice and tips in Joe Barry's regular column in the Farming Independent, most Tuesdays.
 
Saying this, it's more easy on any Investor to know that he's managing their own plantation rather than Investing in a fund, when you'tr at the behest of others who simply mightn't have the same desire for Woodlands, as they could well be in it for the money, and not the growth or the timber.

Before you even go there, the first question to ask is who much of my portfolio should be invested in commodities? And of that how much should be in woodland...

If you are wanting to build a low risk portfolio then no more that 2% - 3% and at the other end of the scales may be 5% or 6% for a high risk portfolio. In money terms that would mean that to meet the first 50K investment you'd need to have a portfolio of around 2.5m to be able to undertake it and still have what would be considered a relatively low risk portfolio.

Make no mistake about it this is a speciality product and it is not the kind of thing you'll find in most middle European portfolios with a value of less that say 500K. And for good reason - it is not considered a low risk asset and especially so if you concentrate your investment in a single commodity in a single location.
 
Hi Mercman

The cost of insuring against fire damage varies between €2 and €6 per acre depending on size, location etc.
This cost has indeed increased due in part to arson attacks in Donegal and elsewhere. This cover is essential as the Forest Service demand that all damaged woods be replanted. The rates are a bit higher if you wish to also insure against loss of income due to having to start again and they also increase depending on the risk assessment of the area in question ie. is it near bogland, far from a water source etc. The Woodland Group and FBD currently offer insurance on woodland and I am sure would be happy to quote.
 
Hi Jim 2007

Interesting point. I would have thought purchasing woodland to be a very low risk investment and wouldnt have viewed the projected 5% return as unusually high, considering the fact that it is comprised of land and timber. It does of course require proper investigation by each individual and a study of what is involved and then one can decide. Warren Buffet would do no less. Unlike investing in many companies, at least it is easy to get to grips with and all the info is accessable and widely available. If you buy your own woodland you are fully in control and can time harvesting for example to coincide with a rise in the markets. I always worried about giving other people such as company directors and fund managers control of my hard earned cash.
 
Irish forestry should in broad, general terms be a more stable and secure investment than equivalent forestry in continental Europe as our damper and more moderate climate is generally more conducive to forest growth and lower fire risk.
 
Irish forestry should in broad, general terms be a more stable and secure investment than equivalent forestry in continental Europe as our damper and more moderate climate is generally more conducive to forest growth and lower fire risk.

That is not the point! Anyone who is puts more than a couple of percent of their portfolio in total into commodities and still think they have a low risk portfolio are simply fooling themselves! And I might add that the assumption is that that percentage is not concentrated in a single commodity either.
 
I would have thought purchasing woodland to be a very low risk investment and wouldnt have viewed the projected 5% return as unusually high, considering the fact that it is comprised of land and timber.

Well the general condenses is that equities as an asset class will return around 7% or perhaps 8% in the coming years and fixed income assets at perhaps 3% or there abouts. So it is a high risk asset with a not particularly good return in my book.
 
Hi Jim

I think that this is slightly different from a commodity.

If I buy a commodity such as oil , it doesn't change in quantity. Oil prices will rise and fall.

If I buy land and plant a forest, I am growing a crop over around 30 years. I don't know how to value it, but I don't think it's the same as a commodity.

If I buy a commodity for €100 a unit, it might rise or fall in price and the change is a direct return on my investment.

If I buy a piece of land for €50,000, I will get a certain level of guaranteed premium income - tax free. I will get about €160,000 of forestry sales on maturity - but that could rise or fall.

Maybe it's less risky as I will have a certain quantity of it in 30 years' time.

Maybe it's more risky as the price of timber in 30 years may be much reduced and the land may be worth an awful lot less than it is now.

Brendan
 
I think that this is slightly different from a commodity.

This lumber is a commodity it's risk profile does not change simply because the investor tries to define it differently! You still own lumber!

If I buy land and plant a forest, I am growing a crop over around 30 years. I don't know how to value it, but
I don't think it's the same as a commodity.

Wheat, corn, coffee beans..... they are a crops that in crease in size as well, but they are still commodities!

If I buy a piece of land for €50,000, I will get a certain level of guaranteed premium income - tax free. I will get about €160,000 of forestry sales on maturity - but that could rise or fall.

Maybe it's less risky as I will have a certain quantity of it in 30 years' time.

Maybe it's more risky as the price of timber in 30 years may be much reduced and the land may be worth an awful lot less than it is now.

As I have already said it's a high risk asset with a very ordinary rate of return at best. And just like an investment in property it is very concentrated rather than diversified investment....
 
I am not explaining myself too well here.

If I buy lumber or gold, I am buying a fixed amount and the amount will not increase. The only variable is the price which is volatile. If the price of lumber falls by 50%, I will lose half my money.

If I buy a piece of land and grow a crop of trees. The value of the land will rise and fall. But the cost of growing the crop is nil. And there is a government premium income for 10 to 15 years. If the price of lumber falls by 50%, I will still get a return on my investment, but just not what I was expecting.

Buying commodities is pure speculation or gambling.

Farming trees is a business which adds value.

I accept it's risky in that the return is difficult to predict. But it should be a positive return over time. Speculating in commodities should be a zero sum game for participants.
 
Is it the case now that "non-farmers" are entitled to the premium payment regardless of where they live?

I applied and received grants for forestry in the early 80's but was refused any premium payments because, as a non-farmer I would have had to live within 70 miles of the plantation to be eligable.

Anyone considering this a s an investment should be aware that it is not as simple as buying the land, applying for the grant and sitting back.

Whilst it is usual for the initial grant to cover clearing, preparing, planting and maintenance for the first four years, after this you are nore or less left to your own devices.

It will cost a certain amount to look after the crop and keep it weed free, fenced properly etc.
 
Hi Cally

Woodman's article has inspired me to check it out further. Farmers get higher rates of grants and premiums than non-farmers, but non-farmers get good premiums.
 
As Eamonn Dunply might say- they're good but they're not great.

When I was arranging the planting, for the first couple of years I was travelling to the site 130 miles away virtually every week as there was always something up.

Because contractors know that you are being grant funded, there is a temptation to cut corners. I have first hand experience of this and had to go legal to have my contractor fulfill his obligations.

Remember, you are responsible for payimg the contractor, not the government.

If after four years the inspection is not up to scratch, it is you who will suffer the penalties.

Obviously I am not generalising- just passing on personal experience.

I am also not trying to put anyone off, but one would need to do an awful lot of research and speak with people who have gone down this road to see if it is for them.
 
The reason for investing in timber as an asset class is that returns driven by timber’s biological growth should have little correlation with the drivers of returns on other asset classes. So you are buying an asset class that has a theoretically uncorrelated return. That’s why you invest in woodland timber. Note it’s not totally uncorrelated due to the influence on returns by other factors, e.g. demand for timber products, interest rates, investor demand for liquidity, etc.

As BB points out in his post #2, one problem with timber is the difficulty you have in valuing it, if you own it yourself, until you sell it.

Rationally the return an investor should expect from timber is the return on long dated Government bonds plus the risk premium you regard as appropriate to woodland timber as a (rather illiquid) asset class. If you hold equities the risk premium comes from the dividend yield plus the capital gain. Timber’s biological growth is analogous to reinvested dividends. So what’s the estimated capital gain? I would suggest it is wishful thinking to plant timber today and expect to be able to put a capital value on it in 30 years time with any meaningful degree of precision.

Another problem is that if you self plant you are in effect ‘tree farming’. If you own a forest, i.e do ‘real forestry’, you can harvest some of it each year at a rate less than the biological growth rate giving you both an interim income (i.e. equivalent to earnings) and a final capital gain, so you now have a way of valuing your forest asset long term (as you have both earnings and a growth rate). So I suppose you could carry out a theoretical exercise ‘as if’ you were harvesting a certain percentage each year, and use real world prices to calculate your theoretical gain.

Or you could simply leave tree farming to the professionals, and invest directly in US woodland timber REITS, which have the benefits of daily pricing, liquidity and regular dividend income.

As for the ‘is timber a commodity’ debate, if you buy woodland timber the source of uncorrelated alpha comes from timber’s biological growth. If you trade timber futures the source of uncorrelated alpha comes from the roll-yield. The two are totally different, which is a good reason to hold both in your portfolio (i.e commodity futures and woodland timber) as uncorrelated strategies have a proven mathematical benefit for a portfolio. So if you have not already allocations in these asset classes you could start by limiting your exposure to say 10% of your portfolio.

[Disclosure: I am long several US timber REITS. But note not all REITS or indeed timber ETFs are the same and you really really really need to do your research before purchasing.]
 
Hi Callybags
Both you and PMU correctly emphasise the need to fully research the issues involved and the suitability of the wood you might consider purchasing. But then this surely applies to all investments. Your experiences in establishing woodland mirrror mine in that I had to get really tough with the management company who were doing the work. It paid off and my investment to date is returning well above the projected 5%.
If you are building a house you employ a builder to do the work. You also employ an architect or engineer to supervise the builder. The same should apply to forestry investment. The 70 mile limit no longer applies so one can purchase anywhere in the ROI. Regarding concerns re the future value of timber, a visit to any of our larger sawmills should satisfy most concerns. Currently we import from Scotland and elsewhere and as our forest cover is lower than any other country in Europe, we are hugely undersupplied for wood fuel, wood chip to cofire power stations, joinery and construction timber etc.
We also have the best climactic conditions in Europe for growing trees. Ten years ago sawdust and bark were being given away. Now every spec is used for making wood pellets for heating, bark is used in landscaping and as fuel and we import huge quantities of wood pellets from Canada and Portugal. Environmental considerations are forcing more and more users such as the building industry to move from concrete to wood.
 
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