Joe Kristan of Roth & Company, a CPA firm in Des Moines, Iowa writes a very good blog on income taxes and in one of his more recent posts, he recaps a case (Thomann TC Memo 2010-241) where a farmer attempted to take Section 179 on equipment that was leased to their farm corporation.
During 2004, 2005 and 2006, the farmers bought equipment in their own names and took Section 179 on the purchase cost. The land and equipment was rented to both a corporation owned by the farmers and an unrelated third party corporation, however, the leases were not in writing.
When you have a non-corporate taxpayer renting equipment, the tax laws restrict whether you can take Section 179. Such leased equipment is normally ineligible for Section 179 unless two requirements are met:
- First, the term of the lease, taking into account options to renew, must be less than 50% of the class life of the equipment, and
- During the initial twelve month period after the transfer of the equipment to the lessee, business expenses related to the equipment must exceed 15% of rental income provided by the equipment.
In this case, the IRS argued that the informal leases between the farmer and the corporations meant that they could never meet the first requirement. The Tax Court agreed. The Tax Court did not even address the second point which was probably not met either.
This ruling ended up costing the farmers about $100,000 of which over $16,000 was for penalties.
What this means to our farmers is that they need to be very careful to document in writing their farm lease between them and their farming corporation or LLC. If the farmer wants to take Section 179 expense on farm equipment, I would highly recommend that all equipment be purchased by the corporation and expensed inside the corporation, not on the farmers form 4835. If the farmer does want to purchase the equipment directly and take Section 179, they must meet the two steps shown above, which for most farmers is extremely difficult to meet, especially step 2.
Remember, Section 179 for this year and next is available on up to $500,000 of equipment cost, so this provision can be a major benefit to the farmer, but watch your P's and Q's to make sure it does not come back and bite you.