Being categorized as a farmer or rancher among your peers or with the USDA is one matter. However, whether all of your activities are farming for federal tax purposes can have very specific consequences.
A key definition in the tax law involves growing. An agricultural operation that's conducting crop or animal production is classified as a farmer. Activities that only provide services to an agricultural producer aren't farming. For example, doing custom work for a neighbor isn't producing, nor is the activity of vending supplies such as seed to other producers. In these cases, the taxpayer providing the service or good has no ownership or on-going possession of the inventory being grown, and thus is outside of the definition of being a farm producer. So when do these non-growing activities matter?
ELIGIBILITY FOR CASH ACCOUNTING
One of the most important tax privileges granted to farmers is the cash method of accounting. Prepaid expenses are deductible, inventories are ignored until sold, and sales are only taxed when payment is collected. On the other hand, those who manufacture or process goods are required to use the accrual method. If a farming business, say growing grain, extends into additional processing on its raised commodities (seed cleaning and bagging, for example), cases and rulings suggest the cash method remains available. But if the majority of the inventory is purchased from other growers and processed, the activity becomes an accrual method business. The usual solution is to maintain separate books and records on the accrual method, perhaps within a separate entity, for the processing activity.
ESTIMATED TAX PAYMENTS
The 1040 of a qualifying farmer has the privilege of avoiding quarterly estimated tax payments, requiring the payment of all tax at March 1 with an early filing. Alternatively, two-thirds of the tax can be paid by Jan. 15, which defers the 1040 farm filing and payment of the balance to April 15. These privileges require two-thirds of gross income in the 1040 to be from farm sources.
DEPRECIATION LIVES AND METHODS
A general purpose building used in a farming business, such as a machine shed or shop, has a 20-year recovery period and qualifies for 50% bonus depreciation. However, a similar building used principally in a non-farming business, such as housing over-the-road tractor-trailer rigs in a trucking business, is a 39-year asset not eligible for bonus depreciation. On the negative side, farm assets can't be depreciated at a greater rate than 150% declining balance (DB). So a combine used in farming is a seven-year 150% DB asset, while a combine used primarily in a custom harvesting business is a seven-year 200% DB asset.
In summary, if you have significant non-growing activities blended in with your farming business, have the conversation with your tax professional to determine if some of the rules mentioned here are an issue.
EDITOR'S NOTE: Andy Biebl is a CPA and tax principal with the firm of CliftonLarsonAllen LLP in Minneapolis with more than 40 years of experience in ag taxation, including 30 years as a trainer for the American Institute of CPAs and other technical seminars. He writes a monthly column for our sister magazine, The Progressive Farmer. To pose questions for future tax columns, e-mail AskAndy@dtn.com.
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