The Farm CPA

One of the most painful part of being a CPA was responding to IRS notices.  Most of these notices were written in such a way that even a professional tax advisor had problems in determining exactly what the IRS wanted or needed to be done.

The IRS has now announced that it is in the process of revising all of its correspondence to include a plain language explanation of the nature of each notice and will state the actual action that the taxpayer must take in addressing the correspondence.  Many of these letters or notices can be handled without having to call, write or visit an IRS office.

A listing of these redesigned notices and letters, including the number and description are located on the IRS website here.

I am not why it has taken so long to finally do this on the part of the IRS (probably something to do with their antiquated computer system), but it is long overdue and I look forward to see if it really is in "English".

We received the following questions from a reader regarding using a charitable remainder trust:

I am retiring from farming and I have equipment valued at 500,000 ,all of which is fully depreciated. I would like to give this equipment to a charitable trust to get 50,000 over the next 9 years (I think they keep 10%) . Do I give title to the equipment to the trust or sell the equipment in my name and give the trust the money? Or do I need to have the buyer make the check out to the trust to avoid the income tax? Also if I want to give the trust 10,000 bushels of soybeans ($150,000) and have the trust give it back to me over 9 years, do I sell the soybeans in the trust name or my name and give them the cash?

We have had some discussions on charitable remainder trusts (CRT) previously, but a brief recap is in order.  A retiring farmer can transfer fully depreciated equipment or unsold crop with no tax basis to a CRT.  The CRT can sell the assets, pay no tax, invest the proceeds and then provide an annual annuity to the farmer as outlined in this question.  The farmer will pay tax on the income as it is received and it is not subject to self-employment taxes.

To answer the farmer's questions, he must transfer the equipment and the crop to the trust and then have the trust sell the assets.  If he sells for cash, he will recognize all of the gain on the sale and then get a small charitable dedution on the transfer to the trust.  This defeats the purpose of using a CRT.

To make the transfer, he should create a bill of sale showing the transfer from him to the trust.  If the grain is stored at an elevator or coop, he needs to make sure that the business creates a new account for the trust and then transfer the grain to the trust account before selling.

Also, make sure to NOT have a pre-arranged sale of the assets already  in writing before the transfer.  If this happens, technically the farmer is required to report the income in most cases.

With the rapid changes in the bonus depreciation and Section 179 deduction for 2010 to 2012, I thought I would update our farmers on how much Section 179 is available.

For bonus depreciation of new equipment, if the asset is placed in service between Jan. 1, 2012, and Dec. 31, 2012, 50% bonus depreciation is available.

Section 179 rules are a little different, since these provisions are based upon when your fiscal year begins. Many farmers have a C corporation and if their fiscal year begins in 2011, they can take a Section 179 deduction of up to $500,000. For fiscal years beginning in 2012 (including the normal calendar year), a farmer can take Section 179 of up to $139,000, and the phase-out of this deduction begins at $560,000.

Let's show an example:

Farmer Smith has a C corporation with a year beginning Sept. 1, 2011, and ending Aug. 31, 2012. The corporation purchases a new tractor for $300,000 on Nov. 1, 2011, a new combine for $350,000 on March 1, 2012, and two used tractors for $375,000 on June 1, 2012.

The corporation will be able to fully deduct the new tractor bought in November, and then has to make a choice on the new combine bought in March for $350,000. If it does not take Section 179, the 50% bonus depreciation creates a $175,000 deduction plus normal depreciation of $18,750, or $193,750 total. If it takes the full Section 179 on the tractors of $375,000, this leaves $125,000 to apply against the combine, leaving $225,000 available for bonus depreciation, resulting in $112,500 plus depreciation of $12,053, or total Section 179 and depreciation taken of $249,554.  In this case, taking the Section 179 of $125,000 results in a larger total deduction by about $56,000.

If this farmer was a calendar year taxpayer, he would not be able to take any Section 179 on the 2012 purchases, since the total cost of $725,000 exceeds the Section 179 phase-out amount of $699,000 ($560,000 plus $139,000).

Remember, you have to take Section 179 first, then apply bonus depreciation on new assets and depreciate any remaining amount using normal tax depreciation methods.

We had a reader respond to our last post on the trustees report about Social Security. In that post, we mentioned that the trustees are projecting that the Social Security "pension" fund will be "exhausted" by 2033, three years ahead of previous projections.

Social Security is a form of a pension plan and it has three major components that make up the fund. Two are positive and one is negative. The positive items are contributions (i.e., FICA taxes) and earnings. The negative is benefits paid out. Right now, the Social Security fund totals about $2.7 trillion.

The trustees project that more revenue will come into the fund (taxes and earnings) than is being paid out through the year 2021 or so. This will result in the fund increasing to almost $3.1 trillion. Beginning in 2022, the benefits being paid out will start to exceed the amount of income coming in, and this deficit will increase each year. The trustees are projecting that the surplus of $3.1 trillion will be completely gone by 2033.

It is at this point where the fund is "exhausted." After that year, the money coming in will not be enough to cover the money going out and the fund will run at a deficit, which will be covered in some way: either directly, by additional taxes being paid by employers, employees or taxpayers, or by a cut in benefits, or some combination of both.

The trustees would like to see this happen now and not in 2033, when it is too late.

The Social Security Administration (SSA) has projected that the wage base for 2013 will increase to $113,700 ($110,100 in 2012) due to an increase in average wages. However, the projection may change slightly when the actual increase is announced in October. The projection is part of the annual report that the SSA's trustees gives to Congress each year.

As part of the report, the trustees project that the fund will be exhausted in 2033 (three years sooner than earlier projections). The report also includes the following recommendations for keeping the Social Security program solvent:

• Increasing the combined employer and employee contribution from the current 12.4% (10.4% in 2011 and 2012) to 15.01%, which is a 21% increase;
• Reduce scheduled increases in benefits in a manner equivalent to a reduction in benefits of 16.2%;
• Draw on alternative sources of revenues (i.e., other types of taxes);
• Or a combination of the three.
   

Click here to read a copy of the report.  It is only 252 pages long.

These changes are very politically tough to do and it will be interesting to see what happens and when.