Ranchers and farmers may need to be planning more this year than usual. Congress finally passed the Farm Bill of 2014 with catch up provisions for 2012 and 2013. The bill also provided for payments due to losses from last year’s blizzard. The result is three years of income to report in 2014.
In previous years, farmers and ranchers have had tax elections to help mitigate the influx of taxable income due to abnormal sales of livestock due to drought. With Blizzard Atlas and the moisture received in 2014, drought for the most part has abated, thus no election is available.
An election that is available as a result of federal payments under the Farm Bill for Blizzard Atlas is an election to replace breeding livestock sold, or proceeds received, in the current year. The livestock must be replaced within two years from the year of sale. With this election the gain is not taxed but reduces the cost basis of the replacement livestock. This election is available for breeding livestock sold on account of drought or other weather-related conditions, whether or not a disaster designation is received. Proceeds such as insurance and government payments for livestock lost qualify as a “sale.” The replacement livestock must be of like-kind (bulls for bulls, cows for cows). To assist your taxpreparer in making this election, the application used to apply for livestock lost in Blizzard Atlas should be included with your tax information.
These elections have limits on the maximum number of livestock sales that can be deferred but no minimum, so the amount deferred can be adjusted to fit a particular tax situation. The elections can be made until the extended due date of Oct. 15 the following year so extending your return will allow some insight into the following year before you make the election. However, any tax owed would need to be paid at the time of the extension to avoid penalties and interest.
There is also an election to defer crop insurance received due to crop damage or destruction but only if the crop would have been sold in the following year using your normal business practice. This is a deferral for only one year and the election has to be made for all crop insurance proceeds that qualify so there is not much flexibility in the amount of deferral.
These elections need to be coordinated with the depreciation deduction allowed for the purchase of machinery, equipment and breeding stock. For the last couple of years we had the ability to write off up to $500,000 of current year purchases and in some cases it was better to use the depreciation deduction than to defer the income especially since the deduction could reduce the amount of income subject to social security tax. This is no longer as beneficial, as the law now limits the amount of first year write-off to $25,000. There has been some talk that this amount will be increased but at the current time there is no indication that it will. The 50% first year bonus depreciation for new property purchases also expired for at the end of 2013.
A sometimes very beneficial election that is still available is to compute the current year’s income tax by averaging the current year’s income from farming and ranching over a three year period. This allows the higher income from the current year to be taxed as if earned one-third in each of the prior three years allowing for a lower rate of tax. It works for operating income and livestock, machinery and equipment sales but does not work for land sales.
Give us a call today to further discuss these rules and your particular situation.