Aug 28, 2014
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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.

IRS Releases 2012 Income Data

Aug 28, 2014

The IRS recently posted to their website the income statistics for 2012. These statistics break down income into their major components such as wages, interest, business income, etc. Farmers who file Schedule F are also listed. Farmers who file as a partnership or S corporation along with related wages would be lumped in with those other categories.

As usual, Schedule F farmers again showed a net loss for the year. There were 1,835 million Schedule F returns filed showing a net loss of about $5.5 billion. This may seem like a fairly large loss, however, when you divide it among all of the schedule F returns filed, it results in about a $3 thousand loss per farmer. Based on our history of dealing with most farmers, that sounds about right. Farmers like to get their farm income to about break even by taking advantage of Section 179, deferring grain sales and using prepaid farm expenses.

In comparison, the average Schedule C business owner reported net income of about $13,600 for 2012.

547 thousand individuals also reported crop share farm rental income on form 4835 resulting in about $5.8 billion of net rental income. Farmers reporting net cash rental income would be lumped in with other rental income so we cannot break those amounts out.

Total income from all sources was $9.234 trillion with adjustments of about $134 billion and itemized deductions of $1.238 billion (plus standard deductions of about $800 billion) resulted in net taxable income of about $6.4 trillion.

This may be a key reason why the IRS does not spend a lot of time auditing farmer's tax returns. The number of returns filed represent less than 1% of all returns filed and when the IRS looks at the statistics, there is not much there for them to get excited about.

How $563 Cost a Taxpayer $6,320

Aug 26, 2014

In an US Tax Court case released today, a taxpayer (who was not a farmer thankfully) had a very small issue with the IRS. The couple earned well in excess of $200,000 during 2009 and deducted $11,000 for an IRA for him and his spouse. Since the spouse was covered by a pension plan, this IRA deduction was disallowed after the IRS pulled the return for audit. Additionally, the taxpayer had exchanged 50,000 "thank you" points from Citibank for an airplane ticket worth $668.

The IRS increased the taxpayers' tax liability by $563 due to these adjustments. The taxpayers thought this was a great injustice (and against the constitution to boot) and decided to take this matter to the US Tax Court and represented themselves (I think you know where this is going).

When the IRS did their original calculations, they reduced the AMT liability from $2,775 to zero. This resulted in tax only going up by $563 instead of about an $4,000 increase that would normally be owed on an additional $11,668 of income.

If the taxpayers had simply paid the $563 of additional tax owed on the original assessment, that is all they would have been out-of-pocket. However, when they went to court, the IRS determined that they had made a math error in their original calculation of AMT and reassessed the tax owed from $563 to $6,883 or an increase of $6,320. Since this calculation was now correct, the Tax Court honored the IRS calculation and suddenly the taxpayers suddenly owed another $6,320 just for going to court.

The amounts and facts of this case are extremely minor, however, the Tax Court issued a regular opinion on this case to prove a point. My suggestion is whenever you get a letter like this make sure to share it with your tax advisor. I see way too many of these letters where the client pays the tax even though the IRS is wrong. In this case, the IRS was wrong, but it cost the taxpayer $6,320 to prove the IRS "correct". 

Trends in Crop Revenues

Aug 26, 2014

The USDA released updated estimates of net farm income for 2014 today and I thought I would reproduce the chart of estimated crop revenues from 2010 to 2014 below:

CaptureAs you can see, 2012 was the high-water mark for almost all crops over the last five years (2014 is an estimate). Only fruits and vegetables had greater revenues in years other than 2012. Although 2014 is estimated to well under 2011-13 numbers for feed crops (primarily corn), the 2014 levels are still higher than 2010 by about 10%.

Soybean sales are slightly lower than 2012-13, but still much higher than 2010 or 11.

californiaIowaI thought I would then show the crop values for California versus Iowa for 2010-2012 (only years of data provided). As you can see, California has the most amount of crop sales, but the substantial majority of these sales are in fruits and vegetables ($24 billion out of total $32 billion crop sales).

For Iowa, total crop sales are about $16 billion and almost all of these sales are feed crops and soybeans.

The USDA issues many reports that have great value to farmer and those who follow the Ag industry. They sometimes get a knock on some of their reports, but overall, they provide a lot of great value (much better than China reports).

Watch Out for Timing of Hedging Loss

Aug 26, 2014

I hesitate to write this post since I know that most of our farmers who hedge (including their tax advisors) may be technically reporting their hedging loss in the wrong year. In most cases this will not be true, but there are cases where it may happen and if an IRS auditor who knows hedge accounting picks your tax return to do an audit, you may end up with the wrong result.

Under tax accounting for hedging, the hedge gain or loss is not recognized until the futures or options transaction is closed AND the underlying product being hedged is sold or purchased (in the case of feed). Most farmers and their tax advisors simply record the gain or loss when the hedge transaction is closed out. If both the hedge transaction and underlying product sale occurs in the same year, no-harm, no-foul. However, if a hedge loss is incurred right at year-end and the underlying product is sold after year-end, most farmers will inaccurately report taxable income for each year.

Example: Farmer Benson grows corn. She hedges 100,000 bushels of corn in storage on October 1, 2014. She closes out the hedge on December 29, 2014 for a $100,000 loss. On January 15, 2015, she sells her corn for $450,000. Most farmers (including their tax advisors) would report the $100,000 hedge loss in 2014, when technically the loss should be reported in 2015 when the corn is sold.

If the hedge transaction had resulted in a $100,000 gain, then technically the gain would be deferred from 2014 until 2015. In this case, the farmer would have the benefit of deferral until 2015. Remember that the tax laws allow for hedge gains or losses to be deferred until the "hedge" is closed out. The hedge is related to the product being sold not the futures contract. Therefore, all closed hedge gains and losses are technically accumulated and reported for tax purposes when the item being hedged is finally sold or purchased.

Over time, these transactions all wash out and the net gain or loss will be exactly the same, however, the timing of these transactions can cost or save farmers income taxes on an annual basis. The income tax treatment of hedges has many pitfalls and this is just one pitfall that may arise.

(Note: Some commentators may disagree with this analysis, but I know personally this is how IRS agents with hedging knowledge will generally treat these transactions).

How to Sell Your Land and Pay No Tax - MAYBE

Aug 25, 2014

I had a reader ask me questions regarding the taxation of an installment sale of farmland. I helped him out and thought it would be a good idea to do another post on how you may be able to sell farm land (or other capital gain assets) in certain situations and pay no federal income tax on the gain.

When you sell an asset that qualifies for long-term capital gains treatment, any gain that is taxed in the 15% or less federal income tax bracket is taxed at a rate of zero. For married couples, taxable income under $73,800 for 2014 is in the 15% or lower tax bracket. After adding back your standard deduction and personal exemptions, a long-term capital gain of almost $100,000 could be generated on an annual basis and not be subject to any federal income tax assuming the taxpayers have no other taxable income.

Let's work through an example. Assume Farmer and Mrs. Gentry sell their farm land for $1 million. They paid $300,000 for the land several years ago. They sell the land for no down payment, principal payments of $100,000 a year plus interest at 3%. During their first year, they will collect interest income of $30,000 which will be offset with a standard deduction and personal exemptions of about $20,000 leaving $10,000 of taxable income before the capital gain. 70% of the $100,000 principal payment is long-term capital gains which brings their total taxable income to $$80,000. $63,800 of this capital gain is tax-free, the remaining $6,200 is taxed at 15% for net income tax of about $2,500.

Now, in year 2, their interest income drops to $27,000 and exemptions and standard deduction offset all but $5,000 of this amount (difference due to inflation adjustments). The $70,000 of capital gain added to other taxable income of $5,000 now results in $75,000 of taxable income and all of this income is in the 15% tax bracket due to inflation adjustments. Therefore, their net tax is only on the interest income which results in about $500 of total tax liability.

In years 3-10, they would no longer owe any federal income tax on either the capital gain or interest income since the standard deduction and exemptions would offset the interest income and all of the capital gain would be in the 15% or lower tax bracket.

Now, this is an extreme example since most taxpayers would have other taxable income such as social security, but it does show you how you can sell farm land and pay no capital gains taxes assuming the right conditions. I have seen many taxpayers with taxable income of about $70,000 and owe no federal income tax and now you know why.

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