First, I hope everyone had a great Thanksgiving Holiday. I spent the week in San Diego with my family including my only granddaughter who celebrated birthday #1 on Friday. I had a little trepidation in seeing her since the last four times I had visited her in Denver she started crying within 10 seconds of seeing me. However, during this week, she thought her granddad was one of best persons to be around. She even fussed a bit when she saw grandma for the first time but by the end of the week things were back to normal - grandma was #1 and granddad was less than #1.
Now for some tax stuff. We continue to get quite a few comments about how to calculate the Section 199A when dealing with cooperatives. Let's review the history of the old Section 199 deduction. Cooperatives were treated as an "extension" of farmers, therefore, the cooperative would calculate the 9% Domestic Production Activities Deduction (DPAD) on the sales made by the farmer to the cooperative and only the cooperative could receive any DPAD on those sales. The cooperative could then keep it or pass some or all of it to the patrons.
The original Section 199A deduction had no DPAD for cooperatives, but the grain glitch fix created a new "DPAD" (calculated the same as the old DPAD) for cooperatives and again they could either keep it or pass part of out to the patron (farmer).
Farmers will still calculate the 20% Section 199A deduction on all of their net qualified business income (QBI) from sales including payments from cooperatives (unlike old 199). DPAD passed through to a farmer is now required to reduce QBI (according to the IRS). This is different from old rules but makes sense since under old 199, a farmer only got the DPAD deduction from the cooperative, thus it would not reduce the old Section 199 Qualified Income from other income that the farmer might have.
After calculating net farm QBI, the farmer will then be required to determine if it needs to be reduced by the lesser of:
- 9% of QBI related to cooperative payments (after reducing for the full DPAD allocated to the farmer), or
- 50% of cash wages paid by the farmer allocated to cooperative payments
This calculation HAS to be performed even if no DPAD is passed through to the farmer.
What still needs to be determined is what portion of cooperative payments will be part of this calculation. The June 18, 2019 Proposed Regulations indicated that only "qualified payments" are part of this calculation. But what are qualified payments. We don't know for sure yet. These will be reported in Box 7 of Form 1099-PATR.
We surmise it will equal most if not all of the payments that a farmer receives from the cooperative including patronage dividends (Box 1) plus per unit retains (Box 3). However, it may not and in one case this is good news - in another it is bad news.
First, the good news. Some commentators surmise that if the cooperative is limited in their DPAD calculation, then only the portion that is qualified will be what the farmer calculates their reduction on. For example, assume a farmers sells $1 million of grain to the cooperative, but the cooperative can only needs $200,000 of the grain sales in calculating final DPAD. Therefore, the farmer will calculate the reduction on $200,000 not $1 million. This would be good news.
However, there is quite a bit of the proposed regulations dealing with cooperative specified service trade or business (SSTB) income. This income would not be allowed as QBI, thus a farmer would have to reduce their QBI by the SSTB % of cooperative payments. This would result in the farmer getting no QBI deduction on these payments.
Nobody really knows for sure since the proposed regulations did not provide much guidance on this. Time is ticking since cooperatives need to issue Form 1099-PATR(s) by January 31, 2020. If they do not issue these forms timely, the proposed regulations indicate that none of the farmers payments received from a cooperative will qualify for any Section 199A deduction. In that case, the only deduction they get on those payments is the DPAD from the cooperative, if any.
Therefore, we need to know and soon since we are in the process of doing year-end tax planning and for most of our farmers, we really don't know what their Section 199A deduction will be without this final guidance.
And the final bottom line is likely we will have three buckets of QBI for our farmers this tax season. One bucket for "qualified" payments from cooperatives. One bucket for "non-qualified" payments (which in many cases will be zero) and finally, one bucket for everything else.