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July 2012 Archive for The Farm CPA

RSS By: Paul Neiffer, Top Producer

Paul is now part of the fourth generation in America that is involved in farming and hopes the next generation will be involved also. Through his blog he provides analysis and insight to farmer tax questions.

S Corporation Tax Returns Generate a Lot of Income

Jul 28, 2012

The IRS on June 21, 2012 released a report regarding their review of S corporation tax returns filed during the five year period ending in 2011.  During this period, the IRS audited 53,544 S corporation tax returns.  This was a 54% increase over the previous five years.  For each return audited, the IRS generated about $105,000 of net adjustments to the returns.

However, when the IRS did a more thorough audit on DIF (their way of pulling statistically valid samples) selected returns, about 62% of those returns showed no adjustment at all.  This means that the substantial majority of S corporation filers are accurately filing their income tax returns. 

Some statistics from the report are interesting.  There are now 4.5 million S corporation tax returns, double the rate of C corporation returns.  These returns generate gross income of almost $6 trillion.  Net aggregate profits averaged about $350 billion and net aggregate losses were about $100 billion for each year.  Total gross property was about $3.4 trillion which almost doubled over the preceding 10 years.

One area of focus is on S corporations that reports three consecutive years of losses will be more closely scrutinized for potential audit.

The report is only 23 pages long, but even most tax geeks would consider it not the most interesting read other than the statistics shown above.  If you really want to read the report, you can access it here.

Smithfield Foods to Import Brazil Soybeans

Jul 27, 2012

Smithfield Foods, the world's largest pork producer, said Tuesday it will import corn from Brazil.  This is most likely a result of Brazil soybeans being cheaper to import by ship than to transport them by rail to the East Coast.  Also, in another report, it appears the Southern Brazil crush operators may run out of beans before the season is finished.

This is due to most of the beans produced up north already being sold on the world market.  With the Brazil Real depreciating against the US Dollar this year, Brazil farmers are receiving about 15% more than last year in their local currency plus the high increase in world prices have caused most Brazil farmers to sell their beans.  Normally, at this time, less than 50% of the crop would be sold.  The report indicates that more than 90% of Brazil beans have already been sold.

USDA predicts about 200 million bushel carryover for this year's crop, but I think it will be very hard to find any of those beans.

Building US Ag Exports - One BRIC at a Time

Jul 26, 2012

We periodically quote publication issued by the Kansas City Federal Reserve.  Last month, they issued a report entitled "Building U.S. Agricultural Exports: One BRIC at a Time".  The report is only 10 pages long, but has a lot of good information.

Here is a recap of what I found interesting:

  • A chart showing the amount of meat consumption on a daily basis was shown.  The US is right at the top (along with Argentina most likely) with about 40 grams per day.  Of the BRIC (Brazil, Russia, India, and China), Brazil was the largest at about 30, then Russia at 20, China at about 17 and India was less than 2 grams per day.
  • The increase in meat consumption is higher for lower income nations as their income rises.  For example, if mean income increases by 1%, in low income nations, their meat consumption goes up by .78% while higher income nations, it only goes up by .36%.
  • More than 50% of high income nation's food supply is packaged, while low income nations, it is less than 25%.
  • We spend $144 per year on soft drinks while the BRIC's spend only $33 per year
  • We consume an average of $191 per year on fast food (my sons are well in excess of that) and middle income nations, it is less than $15 per person.
  • There seems to be four stages of Meat Imports for BRICs.  Stage 1 occurs as their income starts to rise, imports will rise.  Stage 2 is an acceleration of corn and bean imports to produce more meat, however, meat imports rise dramatically.  Stage three is accelerating corn and bean production with decelerating meat imports.  Stage 4 is where the country goes from net importer to net exporter. 
  • Brazil is now in stage 4, Russia is entering stage 3, and China appears to be repaidly moving through stage 2.  The  question is will India follow the other 3.
  • In 1990-94, our share of meat exports was 2.2%, it is now over 8%.
  • BRIC nations are boosting pork and poultry production, not beef.
  • Our share of Oilseed exports to the BRICs have increased from 2.1% in 1990-94 to about 45% now.

 

There is some other good information in the report, but these are my highlights.  These trends should still bode well for the American grain farmer.

IRS Required Rates Drop Even Lower

Jul 24, 2012

Every month the IRS posts a listing of the required interest rates that parties must put into loan contracts to prevent imputing of interest.  For several months, these rates have been dropping lower and lower.  For the month of August, short-term notes (less than 3 years) now require an interest rate of .25%.  Mid-term loans (3 to 9 years) require a rate of .88% and long-term notes (over 10 years) a rate of 2.23%.

I believe these are the lowest rates ever and provide farmers the ability to loan money to children and their corporations at very low rates.  The benefit is to transfer the use of funds from them to their children at a very low cost to the child.  With the lifetime gift exclusion being $5.12 million this year only (reverting back to $1 million on January 1), now is the time to consider using these low interest rates in your succession planning.

Senate Makes No Proposed Changes to Estate Tax in Extension Bill

Jul 19, 2012

Senate Democrats removed any mention of the estate tax in a Bill that is currently headed to the floor.  This propsed Bill will now extend the 2001 and 2003 "Bush" tax cuts for families earning $250,000 or less.

An earlier version of the Bill would have included a maximum estate tax rate of 45% while dropping the exclusion level to $3.5 million.  With the new changes to the Bill, the maximum rate will be 55% with only a $1 million exclusion amount.

This new Bill would set the top rates for dividends and capital gains at 20% (plus the Medicare Surtax of 3.8% if applicable); reinstate the phaseout of personal exemptions and certain itemized deductions for higher income households; and extend certain credits such as the education credit, child tax credit and earned income credit for another year.

The Section 179 expensing limits would be set $250,000 for 2013 and probably most important, it would provide for another one-year "patch" to the alternative minimum tax for 2012.

As with any legislation started in the Senate these days, it is mostly for political posturing since any chance of the Bill passing the House is a remote as a 70% high in the Corn Belt these days.

Plan for 2012 Crop Insurance Proceeds

Jul 18, 2012

Based on this year's drought, we know that this will most likely be the largest amount of crop insurance claims ever processed.  With proper planning, you may be able to structure when to report these crop insurance proceeds to achieve the best tax advantage for this year.

Crop insurance proceeds due to crop damage (not price drops) are taxable in the year of receipt.  However, the tax laws do allow a farmer to make a deferral until the next year assuming that the farmer meets the following:

  • The crop insurance proceeds are for the current year crop, i.e. crop insurance proceeds for 2012 crop damage received in 2012 can be deferred to 2013.  If the proceeds are received in 2013, then no deferral is available, AND
  • The farmer normally has a history of reporting more than 50% of their crop sales in the subsequent year.  For example, if the farmer harvests 50,000 bushels in 2010 and sells all 50,000 by the end of the 2010, then he cannot defer his crop insurance.  If, however, he normally would sell 25,001 or more bushels in 2011, then he can defer his crop insurance proceeds.

 

The election to defer is made on the tax return.

If you are a farmer that normally sells all of his crop in the year of harvest, you still may be able to "defer" by working with your crop insurance agent and company to not make the claim until late in the year and receive your check after year-end, otherwise you will need to report in 2012.

We have worked up a Crop Insurance Matrix that can step you through the process.

Medicare Premiums Are Deductible Above the Line (in Some Cases)

Jul 17, 2012

The IRS just announced a formal change in the long-held position on the deductibility of Medicare premiums (normally withheld from Social Security Benefits).  Until about 2009, the IRS position was that a self-employed taxpayer (including partners and more than 2% S corporation shareholders) could not deduct Medicare premiums above the "line" as part of the self-employed health insurance deduction.

Starting in 2010, the instructions for form 1040 and other related forms had added a sentance or two indicating you could deduct these premiums above the line, but there was no formal announcement.   This has changed with the release of CCA 201228037.  Now, you can include these Medicare premiums paid with your other normal health insurance premiums and deduct it above the line.

However, for S corporation shareholders and partnerships, a notice issued previously by the IRS requires that these premiums actually be reimbursed by the corporation (or paid directly by the employer which is not normally applicable with Medicare premiums).  This requires a check be issued by the employer to the employee paying the Medicare premiums.  These payments would then be included in the income of the employee (deducted by the employer) and then deducted on page 1 of form 1040.  If these guidelines are not followed completely, then the deduction is not allowed.

If you have not deducted these premiums on any return before this year, you can go back and claim the deduction by filing an amended tax return.  Most likely 2009-2011 returns are still available to be amended.

How to Pick a Futures Broker

Jul 15, 2012

In response to the bankruptcy filing of Peregrine Financial Group this week and the MF Global filing last year, here are some red flags to watch out for in picking a broker (or continuing with one) to handle your futures trading and hedging:

  • Review the financial information that is available regarding the financial health of the brokerage company. If the financial statements are audited by a CPA firm that you have never heard of or cannot easily find in doing an Internet search, this can be a red flag. Peregrine's auditor appears to be a very small firm in Illinois.
  • If the owner of the brokerage is located in your community, review his lifestyle. If the owner has the largest home in the area and appears to be consuming a lot of money to fund his lifestyle, this can be a red flag. Peregrine's owner had a private jet, donated lavishly to the local college, opened a high-end restaurant with a lavish wine offering and probably had one of the largest homes in Cedar Falls, Iowa.
  • Talk to other farmers who are using this broker and other brokers. Many times, areas of concern can be communicated this way.
  • Review the disciplinary actions that may have been taken against the broker. If there are several, this can be a red flag.
  • If the broker ever tries to tell you that you may need to wait a day or two to get your money, get it all out as fast as you can. This is a huge red flag.
  • Remember that if you have money invested in stocks and bonds at a regular investment company such as a Merrill Lynch, there is SIPC insurance to protect this money. As of yet, there is no protection for funds invested in commodities (there may be some funds available at times).

 

Remember, the bottom line is that it is your responsibility to determine if your commodity broker is sound. Don't assume somebody else will bail you out. (You are not Bank of America, Citibank, etc.)

This advice can also be used for almost picking any professional financial adviser.

That Did Not Take Long!

Jul 12, 2012

The Senate failed today to limit debate on their small business tax bill after (as usual) Democrats and Republicans disagreed about proposed amendments to the bill. 

The Senate voted 73-24 to table the Republican-favored amendment containing the text of the House-passed small business bill (H.R. 9) that would have provided for the 20% small business deduction as we discussed earlier in the week.

Sen. Charles Schumer (D-N.Y.) criticized Republicans for "holding back the economy on purpose to try and hurt" President Obama, saying that under any other circumstances a tax cut for small businesses is "mother's milk" to Republicans.

It is interesting that Mr. Schumer did not acknowledge the house bill also helped small business even more than the Senate bill.

Oh well, it is politics as usual and we may see some type of bill before year-end just like 2010 (another election year).

White House Proposes Increasing Section 179 Deduction in 2013 to $250,000

Jul 11, 2012

The White House just announced several initiatives today including increasing the Section 179 deduction for 2013 from the current $25,000 amount to $250,000.  This will require Congress to update the law to reflect this amount, so the change of this happening is not certain.  However, the mood of Congress and the President is to help small business and the Section 179 deduction is completely focused on small business.

We will keep you posted on this initiative.  Here is the White House Fact Sheet.

Peregrine Financial Group Files For Bankruptcy

Jul 11, 2012

Peregrine Financial Group of Cedar Falls, Iowa filed for bankruptcy protection yesterday.   The National Futures Association had received information that the company's founder had, for many years, falsified bank confirmations indicating over $225 million in the bank account when in fact, the account may have contained only $5 million or less.

The founder, Russell Wasendorf, SR. attempted suicide on July 9 and is currently in a coma.  It appears that he had created a PO Box for all confirmations of the bank account to be sent to and then simply created false bank statements and mailed them onto the futures regulators. 

After being pressured to start allowing the regulators to obtain the information electronically, the shortfall was much easier to be determined.

The actual amount of the shortfall of customer funds may take several months to determine and in the meantime, these customer funds are frozen and most positions are in the process of being liquidated.

After the MF Global debacle and this episode, it is extremely important for farmers to know who their commodity broker is and their actual financial strength.  However, as in this case, if somebody wants to fool a regulator, it can happen for many years before they are caught and it can be very expensive to the account holder.

Senate Bill 2237 Appears to be on the Fast Track

Jul 11, 2012

Due to the last three lackluster monthly jobs reports, the Senate appears to be trying to fast track Senate Bill 2237 "Small Business Jobs and Tax Relief Act" to passage.  This bill provides the following:

  • A new  income tax credit equal to 10% of the excess compensation paid in 2012 over 2011.  These compensation levels are capped at the current 2012 wage base of approximately $110,000.
  • The maximum amount of wages allowed to be counted is $5 million, therefore, the maximum credit allowed is $500,000.
  • Any unused credit can be carried forward, but not back.
  • Extension of the 100% bonus depreciation to December 31, 2012.
  • 50% bonus depreciation would now take place in 2013 instead of the current 2012 date.
  • Expansion of election to take AMT credits instead of bonus depreciation.

 

For farmers, most likely the extension of 100% bonus depreciation will be more beneficial than the payroll credit.  However, for those farmers that have taken lower salaries in previous years, this may be a way of catching up with minimal cost.  After the tax benefit of the deduction of the employer's share of the FICA and Medicare tax portion, the net cost of these extra wages may be completely offset with this new payroll tax credit.

However, this Bill is subject to debate and still must pass the House.  They have a competing bill that calls for a 20% income tax deduction instead of a credit.  The 20% deduction would be based upon the net income of the business and would be limited to 50% of W2 wages paid for non-owners.

My guess is that both the Senate and the House want to pass some type of bill to both extend bonus depreciation and provide some incentive to increase jobs.  What the final bill will look like is anybody's guess, but I think we may see something by the end of the month.

Most Farmers Would Prefer the House Farm Bill Versus the Senate Bill

Jul 10, 2012

Texas A & M just published a very good report on the key differences between the House and Senate Farm Bill.  The report indicated that for almost all farmers, the House version of the farm bill would provide more revenue over the five year period than the Senate version and in the case of lower prices, the House version would be substantially more than the Senate.

The primary reason for this is as follows:

  • The Senate bill has a hard cap of $50,000 per year.  The House version has a cap of $125,000 per year and married couples are allowed $250,000 without having a requirement of both spouses being actively involved in farming
  • The Senate bill has a $750,000 AGI limitation, while the House limits AGI at %950,000
  • The House version has revenue and price protection tied to market prices, however, there is a floor on these prices that would kick in if prices got too low.  For example, the wheat floor price is $5.50.  If reference prices were to drop below the $5.50 range, then the amount paid would be based on $5.50, not the lower price.  Corn floor is $3.70 and beans are $8.40.

 

The report ran various scenarios based upon representative farms across the US.  As an example, it ran the numbers for a 1,725 wheat farm in the Palouse country of Washington state.  The total amount of expected payments under each Bill is as follows:

  • Revenue and loan deficiency payments would range from about $11,000 for the Senate bill to either $11,000 or $20,000 for the House bill under a baseline assumption 
  • The Supplemental Coverage Option (SCO) would be about $3,000 for the Senate bill, but for the House bill, it would be zero assuming a Revenue Loss Coverage (RCL) option or $14,000 for a Price Loss Coverage (PLC) option.
  • Under a declining price scenario, the total payments received by this wheat farmer would be about $15,000 under the Senate bill and either $20,000 for the RCL or about $69,000 for the PLC option.

 

As you can see, the House will with the PLC option appears to be the best scenario for this farmer under either a baseline or the declining price assumption.  The conclusion of the report is that in almost all cases, the House PLC option was best for all farmers.

There is a lot of data in the report and we know that the final bill will not look exactly like the two current options, but it should be somewhere in between.

Don't Forget About 2013-2015

Jul 09, 2012

With the weather market rally of recent weeks, we sometimes forget that these rallies also raise prices for the next couple of crop years.  This rise, in many cases, can provide a chance to lock in profits for those crop years that may not materialize if you wait until the actual crop year arrives.  As the saying goes, the way to defeat high prices is with high prices.

We know that with these high prices, there is many acres around the world that will be planted to corn next year and there will likely be more CRP acres coming on line.  If, as a grower, you can lock in prices over $6 for the 2013 crop year and the high $5 range for 2014 and 2015, it is certainly worth reviewing your budget to see if it makes sense to at least lock in your hard costs.

Generally, a weather market rally such as this, tends to go very high and then retreat in a very quick period of time.  There is a substantial chance that the high in this market will be seen before August 1. 

Are you ready to take advantage of it for not just this year, but the next two or three.

Watch Out for Your S Corporation Debt Basis

Jul 08, 2012

Many farmers will have their active farm operation contained within a corporation and in many cases, this corporation is taxed as an S corporation.  If the S corporation has a loss, this loss can be deducted on the shareholder's tax return, but only to the extent of the shareholder's basis.  This basis is comprised of the investments made into the corporation by the shareholder (stock basis) and any loans directly made to the corporation by the shareholder (debt basis).

Stock basis is very straightforward, however, debt basis can lead to arguments with the IRS.  Simply guaranteeing a loan of the corporation does not get the shareholder any debt basis.  However, if the shareholder incurs out of pocket costs related to the guarantee (i.e. he pays part of the corporation's debt), then they will get increased basis for this outlay.

Additionally, the IRS and the Courts have agreed that this debt must be made directly by the shareholder to the corporation.  The shareholder can borrow the funds from somebody else and then loan it to the corporation, but the loan must come from the shareholder.   There have been many cases where the taxpayer has lost the ability to deduct the S corporation losses due to not making the loan directly.  Also, these loans need to be documented with an appropriate interest rate and repayment terms.

With 100% bonus depreciation in 2011 and 50% in 2012, the chance of having S corporaiton's losses increases substantially.  Don't lose your ability to deduct the loss by not following the debt basis rules.

Canada Has Some Very Nice Farmland

Jul 05, 2012

My wife and I just got back from a five day motorcycle trip into British Columbia, Canada.  Our original plans called for us to make it all the way to Jasper and then work our way back down through Banff and then home.  However, Mother Nature decided  to throw one full day of rain at us and the weather forecast for Jasper called for more rain. 

Based on this, we decided to spend most of our time in the Okanagan Valley of Central British Columbia.  This is one of the major fruit and vineyard growing areas of Canada and I can tell you that it is also some of the most scenic country in North America.  The vineyards at the southern end of the valley are great to look at and visit.  Lake Okanogan is  over 85 miles long, but never gets wider than about 4 miles.

Our part of the Northwest is unlike most of the rest of the country.  Our rainfall is ahead of normal and most of our rivers are running at full capacity.  The Kettle River which runs into the Columbia River appeared to be twice as wide as normal since many pine trees had river water at least three feet or higher on their trunks.  The Columbia River is expected to reach full capacity by the end of the week and the dams will be letting the excess water overflow.

Based on this moisture, I am expecting the Soft White Wheat crop in the state to be near record yields.  Driving through the Palouse Country, the wheat and related legume crops all looked good.  Harvest will be starting soon.

If you ever get a chance to go to British Columbia, make sure to visit the Okanagan Valley.  You will not be disappointed.

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