Obviously, tax management decisions have their greatest impact on farm businesses in November and December. Crops have been harvested and it is possible to put together a fairly accurate estimate of the tax situation for the year. Once the new year begins, however, farm tax management does not have much bearing on normal buying, selling and operating decisions for the next nine or 10 months.
Farm tax management outside the year-end tax “season” (November through February) should emphasize “red flag” awareness of the consequences of those decisions with long-term impact on the farm business.
In this article, we want to take a brief look at several factors, by raising some key “red flag” questions and give you some suggestions on how to manage farm taxes.
1. Investing in facilities or improvements
• Can and should “fast” depreciation methods be used?
• How much of the cost will be eligible for investment credit?
• Would investment credit or depreciation be recaptured if the farm was sold?
• Will conservation or land-clearing costs be deductible?
• Would conservation or land-clearing deductions be recaptured if the farm was sold?
2. Buying a farm
• How much of the purchase price should be allocated to depreciable improvements? To the personal residence?
• Which improvements qualify for investment credit?
• If buying on contract, what is the tax impact to you of a trade-off between interest rate and price?
• What will be the repayment terms and how will annual payments be split between principal and interest?
3. Selling a farm
• How much of the sale price should be allocated to depreciable improvements? To the personal residence?
• Will there be recapture of investment credit, excess (“fast”) depreciation, conservation or land-clearing deductions?
• Can all or part of the gain on the personal residence be postponed? (Or excluded, if over age 65?)
• If selling on contract, will the total of all payments in the year of sale be under the limit allowed for installment reporting of gain?
• How will annual payments be split between adjusted basis, capital gain and interest?
• Would it be better to trade rather than sell the farm?
4. Changing farm business organization (forming partnership, corporation or farm operating agreement )
• What will be the tax status of the people in the farm business? (Self-employed farmers or employees?)
• How will income of the farm business be divided?
• Will income be distributed or retained for expansion of the business?
• What will be the tax treatment of property transferred between individuals or to a partnership or corporation?
• How will income tax be figured in a partnership? In a corporation? (There are important differences in the treatment of additional first-year depreciation, longterm capital gains, etc.)
The wide range and complexity of these farm tax management questions point to the importance of working with a competent tax advisor. This means more than just someone to prepare a return (although, preparing a complete and accurate return is essential.)
An advisor should be able to give the farm family complete and up-to-date information on their alternatives and help them apply the information to their situation. He should be knowledgeable and experienced in working with farm taxes and be available to answer questions at any time.
If you are concerned with how to manage farm taxes, the first stop is to have a complete and well organized set of records. The year’s records should be completed and summarized as soon after the end of the year as possible to allow enough time to do a good job of preparing a return.