Sep 30, 2014
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July 2014 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.

Commodity Wages Save Payroll Taxes for Kids Too!

Jul 31, 2014

In my previous post today, I had recapped the wages paid to children being exempt from payroll taxes in certain situations. In the case presented, the wages in fact, were subject to payroll taxes. The one item I had forgotten to mention is that if commodity wages were paid to the children in any of these situations, these commodity wages would not be subject to any payroll taxes. We have previously posted on how commodity wages work.

Therefore, even if you have a situation where cash wages paid to children or even other farm employees are subject to payroll taxes; by using commodity wages you can effectively eliminate these payroll taxes.

Farmers have greater flexibility than almost any other business operation in how wages are paid and payroll taxes that may be due. A non-farm business could pay wages to their children under age 18 and be exempt from payroll taxes, however, they would be unable to pay commodity wages (in most situations).

Issuing a Fraudulent Form 1099 Can Cost You Money

Jul 31, 2014

When a farmer makes certain payments to service providers and other vendors, they are normally required to issue a Form 1099 if the total amounts paid exceeds $600 in a year. Normally, this is a very straight-forward process, however, if the farmer willfully files a fraudulent form 1099, the penalty for this can be very costly to the farmer. In a recent Northern Illinois court case, we can find out how bad it can be.

In Shiner v. Turnoy, we find two parties that could not agree on about anything. Turnoy and Shiner had agreed to split the commissions from the sale of two life insurance policies. The face values of these policies was not listed but Turnoy decided the commission amount was about $300,000 and sent a check to Shiner for $149,059.91 for his half. Shiner vigorously disputed these calculations and filed suit to obtain his legal share. The check was issued late in December and as of the end of the January when 1099s were due, the check had not yet been cashed. The key issue is that there was language on the check indicating that if Shiner cashed it, he would legally give up any rights to additional compensation.

The Court ruled that Turnow willfully knew that the check was in dispute and that Turnow willfully compelled his CPA to issue a fraudulent form 1099. Under Section 7434(a) of the Internal Revenue Code, a person can bring a civil action to recover damages from anyone willfully filing a fraudulent information return. Damages can equal the greater of $5,000 or the sum of the plaintiff's damages, plus the costs of filing and maintaining the action, and at the court's discretion, reasonable attorney's fees. The Court ruled in favor of Shiner in this case, however, the actual damages were not reported by the Court, but we know the amount owed will be at least $5,000.

I have had several occasions where clients that were not happy with another business partner or vendor and wanted to issue a form 1099 that might not have been totally "kosher". In all cases, I was able to talk them out of this and part of it is due to explaining the risk associated with the penalty under Section 7434(a).

The bottom line is make sure the 1099s you issue each year are in compliance with the rules. If you do something wrong "willfully", it can cost you.

Pay Your Kids; It Saves Taxes!

Jul 31, 2014

We had a reader ask the following questions:

"Have a good understanding of payroll taxes on payroll paid to a child under 18 working in the operation. The laws are not very concise in my situation. Currently my parents and myself are 1/3 owners of a LLC taxed as a partnership. I am divorced with 50/50 custody of child. Since I am an owner in the LLC and "single parent" can the child be paid without withholding payroll taxes? Thank you for your help! "

My brother and I worked on our farm during my high school and college days. We helped with spring and fall planting and I operated the combine from when I was about 15 years old. However, my parents did not pay us in the most efficient tax manner. Instead of paying us a cash wage, they bought my brother and I a new car and paid for college directly out of their pocket. They, instead, should have paid us a wage.

By paying a wage to us for our effort, they would reduce their income by the amount of the wage and during the time we were under age 18, the wages paid would not be subject to any payroll taxes. It would be exempt from FICA, Medicare, FUTA and so on. And in today environment, my brother and I could earn slightly more than $6,000 and not pay any federal income taxes. In some cases, a small amount of state income taxes might be owed.

Now for today's questions. A farmer who operates as a sole proprietor may pay their children under age 18 wages and be exempt from payroll taxes. If the farmer operates as a partnership (either regular or a LLC taxed as a partnership), paying wages to children under age 18 is still exempt from payroll taxes if the only partners of the partnership/LLC are parents of the children. In the current case, since two the "partners" in the LLC are the child's grandparents, the LLC would need to pay payroll taxes on the wages paid to the child.

Even if the LLC/partnership needs to pay payroll taxes, in most cases, it still makes sense to pay the child for services rendered since the child is usually in a very low or no tax bracket.

For additional information on the rules related to paying children in your business, see this link.

FSA Issues Another Update on Base Acres Reallocation

Jul 30, 2014

The FSA issued a release Notice ARCPLC-7 (issued on Wednesday July 30, 2014) on additional information regarding reallocation of base acres. As previously discussed many times in this blog, each "farm" will have an option to update their base acres to reflect the average acres in production during the 2009 to 2012 crop years. This notice provides a couple of examples of how base acre reallocation may happen.

The notice also has a sample letter of the data that will be mailed out (the estimated mailing time appears to be about the first week in August). The producer then has 60 calendar days from the date of the letter to notify the local FSA office of any changes that needs to be made to the data. This is the initial process in updating the farm's base acres.

There is a provision that if the farm has approved double crop acres, both crops will be allowed in the base acre reallocation. If the farm produced double crops in a crop year that was not "approved", the farm appears to be allowed to pick and choose which of those crops it would like to use for that crop year. For example, assume a farm planted 100 acres of corn and then due to weather conditions, etc. replaced the planting with 100 soybean acres. This was not a qualified double crop, therefore, the farm will choose between corn or beans for that year.

There is good data in the notice on how the base acres will be reallocated and it is worth taking a quick look at the notice.

Another Cattle Tax Shelter Bites the Dust

Jul 30, 2014

I have previously done some posts on certain cattle or horse hobby loss cases. The Tax Court released the Gardner case on Monday July 28, 2014. In this case, Mr. Gardner operated a very successful insurance business in North Carolina. In 2001, he met John and David Pearl, who operated several businesses related to cattle and seems to have talked Mr. Gardner into starting a cattle operation to raise genetically superior livestock.

Over the next few years, Mr. Gardner issues numerous promissory notes to Mr. Pearl and various entities. In the tax court memorandum, the listing the various promissory notes ran more than 20 pages (out of a total of 70 pages). Essentially, Mr. Gardner would issue a promissory note to these entities for the purchase of cattle and/or operating expenses and equipment. The promissory notes totaled more than a $1 million, however, it appears that Mr. Gardner effectively paid less than $100,000 on any of these promissory notes. Also, in almost all cases, Mr. Gardner defaulted on all notes and no collection efforts were made to collect.

Mr. Gardner took a net deduction of about $700,000 during 2002-2004. As you can expect, the IRS audited these returns and assessed taxes and penalties. The tax court summarized all of the facts of the cattle operation and then examined whether the cattle operation met the 9 steps normally required under Section 183 (dealing with hobby losses). In our previous posts, we reviewed some of the cases where taxpayers were allowed to deduct the losses since the tax court agreed they were a business and not a hobby.

In this case, I am not even going to list all of these reasons since the taxpayer was essentially found to not have any of the 9 steps be in his favor. For example, the primary goal of Mr. Gardner was to raise genetically superior livestock. This requires meticulous records to be maintained on the cattle being raised. In this case, no records were maintained at all, therefore only commercial cattle values could be used. This value was about $193,000.

The tax court did not view favorably that the cattle loss suddenly rose from about $30,000 or so in 2002 and 2003 to over $600,000 in 2004 when his insurance business netted more than $500,000.

All-in-all, this was not a good case for the taxpayer. In many cases, a taxpayer may owe the tax, but get relief from the penalties which can be at least 20% of the tax owed. In this case, the tax court found the taxpayer liable for the penalty. All-in-all, this was not a good case for the taxpayer.

The Bakken From an Economist's Perspective

Jul 30, 2014

The first item on the Farm Financial Standards Council annual meeting agenda was a discussion on the Bakken Oil Field by Scott Rickard, an economist with Montana State University - Billings. Here are some of the key points from the presentation:

  • Geography - The Bakken oil field essentially covers the Western Half of North Dakota and goes north into Canada.
  • Horizontal Drilling and Fracking - The primary reason for dramatic increase in oil production in the Bakken is the use of horizontal drilling and fracking. The drill will go down vertically for a mile or more and then turn horizontal for two miles or more. They then pump sand and other chemicals into the pipe and "frack" the surrounding material. They continue to experiment with the chemicals, etc. to determine the best method. To frack one well takes 100s of tanker loads of chemicals and water. These trucks can cause major damage to rural roads.
  • The growth in oil production has only been in the "tight" oil segment. The normal methods of oil production have actually decreased, whereas, the methods to get "tight" oil out of the ground have led to the increased oil production in the US.
  • It costs about $8 million to drill a horizontal/fracking well.
  • Bakken oil depletion rates are about 75-80% in the first two years of production. High production in first two years, then much lower production from years 3 forward.
  • The Energy EROI ratios have decreased since the 1930s. During the 1930s, you got a 100 return for each unit energy put into the project. The Bakken energy is now about 5 to 1 and Oil Sands in Canada are about 2.4 to 1.
  • North Dakota's population in 2003 was about 640,000. As of 2013, the population has increased about 84,000 people to 724,000. Most of this growth has incurred in the Bakken region to meet the demand for oil production. How will the demand for services affect the state's resources, especially if and when the oil production demand decreases.
  • Getting new pipelines built takes a long time. This means that rail shipments of oil out of the Bakken will continue to push out grain shipments. This will continue to increase the negative basis for grain out of the Dakotas.
  • The Bakken discount used to be as high as $28 to West Texas Intermediate (WTI). The discount has now dropped to less than $3 and in some cases, there is a premium to WTI in certain months. Much of this is due to the ability of railroads to get the oil to the ports that would normally import oil for other counties.
  • By 2020 or sooner, the Bakken oil field will most likely hit peak production and then start to decline rapidly.

How to Handle Gift of Grain

Jul 30, 2014

We got this question from one of our readers:

"My grandfather gave me a generous gift of soybeans for my college fund. Since he gave me the actual crop, he paid no taxes on it. When I sold it I received a check of around $8,000. I will have file a tax return for the first time. How do I calculate what taxes I owe on the $8,000?"

As with many tax questions we get, the answer to this question is it "depends" on whether she is claimed as a dependent on her parents tax return. We will give the answer for both situations.

If she is not a dependent, then she will report the sale of soybeans as a short-term capital gain (assuming she sold it within a year of harvesting the beans). Her sales price is $8,000 and the cost basis is zero, therefore her total gain is $8,000. If she has no other taxable income for the year, her standard deduction and personal exemption will completely offset this gain. Therefore, she would owe no tax. However, in certain states, the $8,000 gain would be subject to some state income taxes since their exemptions and standard deductions are lower than federal amounts.

Now, if she is claimed as a dependent, then the short-term capital gain will essentially be subject to her parents tax rate. For example, if her parents on are in 25% tax bracket, she would owe about $1,750 in income tax on the gain (the first $1,000 is normally exempt from tax). Again if she is in a state with an income tax, she would owe the same amount of state income taxes.

If she held the grain for more than a year from harvest, this gain would become long-term and if the parents are in the 15% tax bracket, then the gain would be taxed at zero.

The gifts of grain are a valuable method of reducing income tax for the farmer. The gift eliminates this amount of income from both income tax and self-employment taxes and in the case of a child or grandchild who is not a dependent of the grantor and is in a very low tax bracket, in many cases we can completely eliminate the income tax on the gifted grain.

One final recommendation is that the grain be gifted of a prior year harvested crop. If the gift is of grain from current year crop, then the farmer has to reduce their expenses by the cost of the grain. This cost carries over to the recipient, however, it is much better to gift prior year's crop since you no longer have to make that calculation. All expenses are allowed and the basis in the crop gifted is zero.

Base Acre Reallocation Options Under the 2014 Farm Bill

Jul 24, 2014

FarmdocDaily just released today an analysis of the base acre reallocation options under the new farm bill. The report gives a very good analysis of the base acres by the various major crops and the variances between base acres and planted acres for 2012. Here are charts of the major crops by base acres and planted acres of 2012 (taken directly from the report):

CaptureAs you can see, wheat base acres are substantially higher than planted acres. Many of the base acres located in North and South Dakota and other "fringe" areas of the corn belt have now been planted to corn and beans over the last several years. In the percentage terms, the difference for barley is even more dramatic. Barley's planted acres is 3.6 million, whereas base acres are 8.6 million. The difference is 5 million acres or about 58% based on base acres or about 139% based on planted acres.

There is a good table showing how the average acre planting history for 2009-2012 will be used to determine the reallocation of base acres. 

The Effect of Premium Subsidies on Crop Insurance Demand

Jul 24, 2014

The Economic Research Service of the USDA periodically releases reports on various items related to agriculture. This month, they released a report on the "The Effects of Premium Subsidies on Demand for Crop Insurance". The actual report is about 30 pages long and has a very detailed regression analysis for about 10 pages of the report. However, there are several interesting facts contained in the report that I will summarize here:

  • In 1992, producers enrolled 82 million acres and total premiums (including subsidies) were $1.2 billion (in 2012 numbers to account for inflation). By 2012, crop insurance policies covered more than 282 million acres and premiums exceeded $11 billion. The actual subsidies grew from $322 million in 1992 to nearly $7 billion in 2012.
  • The following table shows the trends of actual acres enrolled in crop insurance sinceCapture 1990.

As you can see, acres have almost tripled over the 22 year period from 1990 and the percentage of corn, bean and wheat acres covered is all at the 84% level. Also, the share of these three major crops has dropped from 78% to 68% during that period.

The report also goes into the effect of the Agricultural Risk Protection Act changes made in 2000. This chart outlines the changes in premium subsidies:Capture

As the coverage level increases, you can see that a major increase in the subsidy occurs. For example, at the 75% and 80% coverage level, the premium subsidy increases by 31%, while at th 50% and 55% coverage levels, the premium subsidy only goes up by 8%.

With the introduction of the Supplemental Coverage Option (SCO) for 2015 crops being subsidized at the 65% level, it will be interesting to see how this will affect coverage levels compared to the last few years. Remember, this is only available if you elect PLC.

USDA Offers Assistance to Farmers and Ranchers Affected by Fires

Jul 23, 2014

Just north of where I live is burning a very large forest and range fire. The latest numbers I saw showed close to 300,000 acres or about 400 square miles have been burnt and only about 20% of the fire is contained. The local USDA FSA office for Okanogan/Ferry Counties (which are two of the counties most affected by the fire) just released a notice letting farmers know that USDA has assistance available due to these wildfires.

The Livestock Indemnity Program (LIP) will reimburse farmers for 75% of the fair market value of the livestock as of the day before death. If the farmer/rancher incurred forage losses due to fire, then assistance is available under either the Livestock Forage Program (LFP) for federally managed lands or the Emergency Assistance for Livestock, Honeybees and Farm Raised Fish Program (ELAP) for non-federal lands. This assistance is usually based on 60% of the value of the forage, however, there are certain limitations and adjustments to this (see the fact sheet links below).

Ranchers and farmers need to report these losses with-in 30 days of discovering the loss. With the wildfires still burning out of control, there may be a delay in this discovery. Also, these payments are subject to the overall $125,000 payment which may limit the relief for many of the farmers/ranchers in this area. With the high price of cattle right now, a loss of about 100 head of cattle could easily tap out the limit for the year.

Here is a fact sheet from the USDA on LIP.

Here is a fact sheet from the USDA on LFP.

Here is a fact sheet from the USDA on ELAP.

ACA Subsidies: One Court Strikes Down, Another Upholds

Jul 22, 2014

The U.S. Court of Appeals for the D.C. Circuit ruled Tuesday morning that the insurance subsidies granted through the federally run health exchange, which covered 36 states for the first open enrollment period, are not allowed by the law. Subsidies provided by state ran exchanges would still be allowed.

The highly anticipated opinion in the case of Jacqueline Halbig v. Sylvia Mathews Burwell reversed a lower court ruling finding that federally run exchanges did have the authority to disburse subsidies.

This ruling vacates the Internal Revenue Service (IRS) regulation allowing the federal exchanges to give subsidies. The large majority of individuals, about 86 percent, in the federal exchange system received subsidies, and in those cases the subsidies covered about 76 percent of the premium on average.

No more than two hours later, a second federal appellate court, the U.S. Court of Appeals for the 4th Circuit, reached the opposite conclusion, ruling that while the relevant provision of the federal health care law might appear to cut against the federal government, the I.R.S. is nonetheless entitled to the benefit of the doubt from the federal courts.

“We cannot discern whether Congress intended one way or another to make the tax credits available on HHS-facilitated Exchanges. The relevant statutory sections appear to conflict with one another, yielding different possible interpretations,” the 4th Circuit declared in King v. Burwell. “Confronted with the Act’s ambiguity, the IRS crafted a rule ensuring the credits’ broad availability and furthering the goals of the law. In the face of this permissible construction, we must defer to the IRS Rule.”

Due to the circuit split on a fundamental question of the legality of the ACA, I would guess it is likely the U.S. Supreme Court will review the rulings. Until then, stay tuned.

Top 100 Ag Banks

Jul 21, 2014

The American Bankers Association (ABA) posts a quarterly report of the 100 largest Ag Banks (Non-Farm Credit). In the first quarter report for this year, the #1 bank for Ag loans was Wells Fargo with $7.229 billion of farmland ($2.231 billion and $4.998 billion of other ag loans). #2 was Rabobank with $3.957 billion followed by Bank of the West ($3.342 billion), Bank of America ($2.471 billion) and First National Bank of Omaha ($2.050 billion) to round out the top 5 banks.

There are currently 11 banks with more than $1 billion in Ag loans with Bremer Bank based in Minnesota at $1.005 billion being #11. John Deere Financial is # 8 on the list with $1.497 billion of machinery loans and about 77% of its assets are composed of farm loans which is the highest percentage in the Top 50, tied with First Financial Bank of El Dorado, Arkansas. In recent years, having a large concentration in Ag Loans has been a good thing. Over the next five years, maybe not so good. You can understand a bank like John Deere Financial having a large concentration of Ag loans, but a smaller bank like First Financial may face greater regulatory scrutiny.

Banks in the Top 100 banks with exposure greater than 60% that have not yet been mentioned are:

#15 United Bank of Iowa, Ida Grove, Iowa - 76%

#21 American State Bank, Sioux Center, Iowa - 63%

#38 Investors Community Bank, Manitowoc, Wisconsin - 63%

#50 Carroll County State Bank, Carroll, Iowa - 61%

#64 Peoples Bank, Rock Valley, Iowa - 68%

#74 American Bank and Trust, Wessington Springs, South Dakota - 61%

#89 First State Bank of North Dakota, Arthur, North Dakota - 74%

#96 Premier Bank, Rock Valley, Iowa - 70%

#97 Security Savings Bank, Canton, SD - 73%

#99 The Farmers Bank of Prophetstown, Prophetstown, Illinois - 74%

Three of these banks are located in Northwest Iowa and two in the same town of Rock Valley, Iowa (which I drove through a week ago Saturday along with Sioux Center). This is the part of Iowa that has seen farm land prices in excess of $20,000. If you want to see a list of the top 100 Ag banks by loan concentration, see the list here.

Rural Mainstreet Index Continues to Weaken

Jul 18, 2014

Creighton University prepares a Rural Mainstreet Index that measures the economic outlook for the agricultural/rural sector of the economy. An index reading of 50 indicates growth neutral. The index for June 2013 was at 60.5 and for June of this year, it has dropped to 53.6, almost growth neutral. The index is composed of a survey of bankers in a 10 state region comprising Iowa, Nebraska, Wyoming, Illinois, Colorado, North Dakota, South Dakota, Missouri, Kansas and Minnesota.

Nine sub-indexes are calculated to arrive at the main overall index. These sub-indexes include, loan volume, farmland prices, farm equipment sales, home sales, etc. Here are some of the major trends in these sub-indexes:

  • Farm Equipment Sales had an index level of 53.6 a year ago. It has now dropped to 35 which shows substantial negative growth. However, this index actually rose from May's reading of 33.6
  • Farmland Price index has dropped from 58.4 to 49.1 which is slightly below growth neutral.
  • The Confidence index (expectations six months out) dropped from 60.0 to 55.5, however, this is up from 51.6 in May.

Other macro trends are:

  • Farmland values have fallen for seven straight months, however, the rate of decline has receded.
  • Almost half of the bankers reported that higher beef and pork prices were a plus for their local economy.
  • The percent of farmland sold for cash has dropped from 28.4% to 23.7% (this makes sense since a lot of cash has been deployed into farmland purchases over the last few years at higher prices).
  • The percent of farmland purchased by non-farmers continues to decline dramatically from 19.7% to 14.4%.

Although the rural economy remains healthy, it just may not be as healthy as it was a year or two years ago. We will keep you posted on the trends.

Communicate, Communicate, Communicate!

Jul 15, 2014

I was in Omaha yesterday with Dick Wittman and a local attorney doing a seminar for the Legacy Project on succession planning. One member of the audience mentioned that he felt like we had poured 100,000 bushels of corn into a 20,000 bushel grain bin. I know we covered a lot of material, but the key thing based upon questions and feedback from the audience was that the most important part of succession planning and transition is Communication.

Saving estate taxes can be important, however, if the way the estate plan is structured but not communicated to the children involved, the emotional damage and strife can far outweigh any tax savings. Therefore, if you are in process of transition to the next generation, make sure these ideas, plans, documents are all properly communicated. As the attorney said, you can pay me now or you can pay a lot more later from a lack of communication.

Don't let it happen to you.

Help on Updating Your Payment Yield

Jul 13, 2014

Farmdoc Daily released information on Friday on updating your farm payment yields. These payment yields will be used in calculating any PLC payments and will not affect ARC calculations. However, if the option to update yields will result in higher yields, it will usually pay to update the yield since future farm bills may refer to these yields.

Current yields are based upon the 2013 counter-cyclical payment yields which in turn are either the payment yields in place at the end of the 1996 farm bill or the updated yields given to farmers by the 2002 farm bill. Farmdoc daily does a good job of explaining how those yields were calculated and there is a good reference to an economic analysis of those farmer's decisions. As you can guess, farmers updated yields where it would pay them more money.

So, the option is to retain your current yields or update them to your average yields for 2008 to 2012 on a crop-by-crop basis. If any of your yields for any year are less than 75% of the 2008-2012 county average, then you may substitute that yield for your farm yield. As an example:


As you can see, the low yield of 108 for 2008 was replaced with the county average 148 yield. After running the numbers, the payment yield for corn for this farmer will be 149. The farmer will then need to compare that number to his/her 2013 CCP yield. If the 2008-2012 number is higher, then the farmer will update to the new number, If not, then the farmer will retain the old CCP number.

This option is done for each crop. The farmer is not locked into updating or retaining all yields together, but rather on a covered-by-covered crop basis.

Watch Out for Spousal Inherited IRAs

Jul 10, 2014

Spouses who inherited IRAs have a couple of elections available to them that non-spouses do not have. However, care must be taken to make sure that the 10% early withdrawal penalty does not apply when distributions are finally taken.

When a spouse passes away owning an IRA whose beneficiary is the surviving spouse, that spouse has an election that can be made. This election allows the surviving spouse to rollover the IRA into their own IRA which would allow them to stretch-out distributions over a possibly longer span than would be normally allowed to other non-spouse beneficiaries. However, if the surviving spouse is younger than age 59 1/2, these distributions would then be subject to an early distribution 10% penalty (unless the distributions are exempt under any of the other exemptions).

Therefore, the surviving spouse may want to consider leaving the IRA in the name of her/his deceased spouse. This allows the spouse to take a distribution without incurring the penalty and it also allows a rollover into her/his IRA after age 59 1/2 to take advantage of the longer lives available to them.

This whole area can be very complicated and if this situation applies to you, I would strongly suggest getting guidance before any rollover occurs.

The 12 Day Business Trip

Jul 09, 2014

Today starts my (its seems annual) 12 day business trip to the Midwest. I start in the Minneapolis office for a couple of days of meetings with CLA staff and then head over to the Sioux Falls area for meetings with clients and prospects.

I then head down to Omaha for a Monday seminar I am giving for the Farm Journal Media Legacy Project. I have a dinner meeting that night and then head over to Des Moines where I will be one of the break-out session speakers for the Leading Edge Conference for Pro Farmer. I will give a 30 minute talk on ARC and PLC and as you can tell from my most recent post, I am eager to update farmers on that topic.

I then head over to Moline, Illinois on Wednesday morning to give the same speech I did in Omaha, then head up to Cedar Falls, Iowa area to give another talk on the farm bill. Thursday, I have meetings all day with clients and then drive up to Austin, Minnesota either that night or early Friday to give the same (Omaha/Moline) speech again.

After that, I head down to the Waterloo area to give a speech to a peer group of farmers on the farm bill, entity planning and whatever else they want to discuss. Finally, I get up early Sunday; drive to Minneapolis; fly home and hope my wife still knows who I am.

If any of our readers will be at any of those events, please make sure to come up and introduce yourself. That is probably the most rewarding part of my business is meeting our readers at events and farms all over the US.

ARC-IC Allows for Maximizing Flexibility (Perhaps)

Jul 08, 2014

Under the new farm bill, Agricultural Risk Coverage (ARC) has two elective components. You can either elect county coverage on a covered crop by crop basis (ARC-CO) or elect to have ARC apply to all crops grown on your farm (ARC-IC). If you elect county coverage, you will be paid on each covered crop's base acres and the payment will be 85% of those base acres. Let's assume we have an Iowa farmer with 1,250 corn base acres and 1,250 soybean base acres. If there is a soybean ARC-CO payment of $10 per acre, the total payment would be $10,625 ($1,250 X 85% X $10). If there is a corn ARC-CO payment of $25 per acre, the total payment would be $26,562.50 (1,250 X 85% X $25).

Now, if the farmer elects ARC-IC, they will be paid on 65% of total base acres (which are the same), however, the ARC-IC payment calculations will be based upon the weighted average of actual planted crops each year. This may actually allow a farmer to take advantage of years where the estimated ARC payment for corn is dramatically higher than soybeans or vice versus.

I ran some sample numbers for an Iowa farmer with the same base acres (1,250 soybeans and 1,250 corn). The Olympic county average for corn was about 172 bushels per acre and the Olympic farm yield was 171 bushels per acre. To be conservative, I assumed the county yield for 2014 would be 175 bushels per acre, but I increased the farm yield to 190 (as yield goes up, the ARC payment goes down). I then ran the numbers assuming an average mid-year price between $3.70 (when PLC kicks in) and $4.10. In my assumption, I assumed the farmer would elect to plant 2,500 acres of corn this year and no soybeans. Under ARC-CO, it does not matter how many acres are planted, but with ARC-IC, it does matter.

The maximum payment allowed for ARC-CO was $97,315 comprised all of corn. I assumed a $10.75 price for soybeans. In order to receive a soybean payment, the price would have to drop to below $10.35. However, the maximum payment for ARC-IC was $150,963 which is about $53,000 higher than ARC-CO even though the payment is based on 65% of base acres, not 85% of base acres. ARC-CO starts to make a small payment at a corn price of $4.50 while ARC-IC does not receive a payment until corn prices drop to about $4.10. At about $3.90, the payment for ARC-CO maxes out at $97,315 and the payment for ARC-IC is about the same. Between $3.90 and $3.71, ARC-IC continues to rise until it maxes out at $150,963. As you can see, even though ARC-IC is making payments based on much lower base acres, the actual payment allowed can be much higher under ARC-IC than ARC-CO if the farmer anticipates the correct crop to plant in its rotation.

If we assumed the farm yield would be the same as the county, ARC-IC makes even more economic sense. In that case, the farm would start collecting a payment at a price of $4.55 of about $4,000. At $4.25 ARC-IC would be paying $89,635 and ARC-CO would only pay $46,708. At $4.03, ARC-IC maxes out at $150,963 and ARC-CO is still only paying $87,614.

Now if we assume that the farmer's yield is only 160 bushels per acre, the payoff is even quicker. In that case, the farmer would start to get a payment if the average price of corn is at $4.99 (I think most farmers would take $4.99 right now) and would hit its maximum of $150,963 at a corn price of $4.41. At that price, ARC-CO is only making a $16,958 payment.

If the farmer had elected PLC, no payment would be owed until corn drops below $3.70 and soybeans drop below $8.40.

For many farmers, their rotation over the last few years has leaned toward corn-on-corn. Since it is likely that ARC will make larger payments for corn than soybeans, they should consider making the election to update their base acres to the 2009-2013 average . This may allow them to maximize their ARC-CO payments for 2014 and 2015. After those years, the crystal ball is very cloudy.

IRS Modifies Offshore Voluntary Disclosure Program (OVDP)

Jul 07, 2014

On June 18, 2014, the IRS announced new updated procedures for the voluntary disclosure program and new streamline filing procedures which in many cases substantially reduces the penalty exposure for non compliant taxpayers to 5% of the highest balance in foreign accounts and non-declared assets. I have personally worked with clients that were involved in the old voluntary disclosure program and I can tell you it is not a pleasant experience.

Under the old program the penalties could easily exceed 25% or more the assets held in the foreign accounts even if all of the income was reported on the income tax return. With many farmers holding accounts in Canada or farm operations out of the country, it is extremely important to properly report these accounts. The penalties for not reporting them can be extreme, although the new modifications do seem to reduce these substantially.

Changes made to the existing 2012 Voluntary Disclosure Program are as follows:

  • Requiring additional information from taxpayers applying to the program;
  • Eliminating the existing reduced penalty percentage for certain non-willful taxpayers in light of the expansion of the streamlined procedures;
  • Requiring taxpayers to submit all account statements and pay the offshore penalty at the time of the OVDP application;
  • Enabling taxpayers to submit voluminous records electronically rather than on paper;
  • Increasing the offshore penalty percentage (from 27.5% to 50%) if, before the taxpayer’s OVDP pre-clearance request is submitted, it becomes public that a financial institution where the taxpayer holds an account or another party facilitating the taxpayer’s offshore arrangement is under investigation by the IRS or Department of Justice.

For full details of the IRS announcement, you can access it here. If there are new changes, we will keep you posted.

The Continued Attack on Section 1031 exchanges

Jul 03, 2014

In the FY2015 budget proposal released by President Obama back in March of this year was certain provisions of importance to farmers. One provision is the permanent extension of Section 179 at the $500,000 level. This would be a welcome change, however, as previously discussed in several posts, this will not happen until after the mid-term elections.

Another provision that is also of importance is major proposed changes to Section 1031 exchanges. Under current law, a farmer is allowed to sell farmland (or other assets) for unlimited gains and as long as the proceeds from the sale is rolled over into other qualifying property, the gain is fully deferred until the property is fully disposed of (or if the person dies, a full step-up in basis will remove the gain from taxation permanently).

President Obama's budget proposal would limit the amount of gain from real property that could be deferred to $1 million on an annual basis (indexed to inflation). Here is the actual wording on the reasons for the change:

There is little justification for allowing deferral of the capital gain on the exchange of real property. The difficulty in valuing exchanged property is a primary historical justification for1031 deferral. However, this rationale has limited appeal. For the exchange of one property for another of equal value to occur, taxpayers must be able to value the properties. In addition, many, if not most, exchanges affected by this proposal are facilitated by qualified intermediaries who help satisfy the exchange requirement by selling the exchanged property and acquiring the replacement property. These complex three party exchanges were not contemplated when the provision was enacted. They highlight the fact that valuation of exchanged property is not the hurdle it was when the provision was originally enacted. Further, the ability to exchange unimproved real estate for improved real estate encourages “permanent deferral” by allowing taxpayers to continue the cycle of tax deferred exchanges.

I have underlined some of the reasons that I would like to expand upon:

  • In my opinion "the difficulty in valuing" property was not the primary historical justification for 1031 deferral. Simply, the law was intended to allow the taxpayer to exchange real property for other real property and defer the gain since the taxpayer would be in the same shoes after the exchange (and not have cash to pay the tax).
  • Taxpayers were always able to value the properties since if they did not value the property, why would they do the exchange. If they sold property for $1 million, you can count on the taxpayer knowing the value of the replacement property being $1 million.
  • The qualified intermediary (QI) was brought into existence by Congress in response to the "Starker" case. Congress could have just as easily written the law to provide for rules applying a 45 day identification rule and 180 rollover rule without the need of the QI. You can't state that the three party exchanges were contemplated when the provision was enacted when in fact, Congress created the provisions.
  • The Section 1031 rules do encourage "permanent deferral" and that is not necessarily a bad idea.

As you can see, President Obama has "reasons" for these changes, but it is fairly obvious this is not a correction of a "loop-hole" but rather an attempt to raise revenue. We will keep you posted on these proposed changes, but again, this will not happen before the mid-term elections. however, all bets are off after those elections and before December 31, 2014.

Trends in Irrigated Ground

Jul 01, 2014

I have seen numerous farmers with farm ground in normally non-irrigated areas of the corn belt put in irrigation over the last couple of years. Based on this, I thought I would recap the trends shown in irrigated ground from the 2012 AG census

In 1997, there were 15 states that had more than a million acres of irrigated ground. The top 3 were (1) California (8.9 million acres) (2) Nebraska (7.1 million acres) and Texas (5.8 million acres).

For 2012, the number of states over 1 million increased by 2 to 17 states. Number 1 is now Nebraska at 8.3 million acres. California dropped by 1 million acres and with the continued drought, I am guessing that 2014 numbers would be even lower. The largest percentage increase in these states was Arkansas which jumped about 1 million acres to 4.8 million acres and overtook Texas for third place.

Total irrigated acreage in the US has held fairly constant at about 56 million acres from 1997 to 2012. Although small compared to other regions, the amount of irrigated ground in the three key "I" states (Illinois, Indiana and Iowa) did increase from about 740,000 acres in 1997 to about 1.13 million in 2012. I would expect to see this trend continue.

Every state has irrigated acres. I thought Delaware or Rhode Island would have the least acres, but it is actually West Virginia with slightly more than 2,000 acres. Nebraska and California each have more irrigated acres than the all of the states with less than 1 million acres (cumulative 7.4 million acres).

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