It is fairly common for farmers to separate the farming operation from the land. This is referred to as self-rental.
Two court cases, McNamara and Martin, have said that an agricultural taxpayer who rents land to an entity in which they materially participate in should be able to exclude self-rental income from self-employment tax. There are a few caveats: Rent has to be at or below fair market value, and there can be no agreement requiring the landowners to materially participate in the farm.
Besides the self-employment savings, many farmers have placed their land in an LLC or trust for estate planning.
QUALIFIED BUSINESS INCOME
With Section 199A, the determination of land rents qualifying for qualified business income (QBI) has become increasingly difficult. Rental of land to a trade or business owned by the taxpayer that is commonly owned is a trade or business for the purposes of QBI. Common ownership means the taxpayer owns 50% or more.
The good news is related parties (brothers/sisters and lineal) are attributed to each other for common ownership. However, rental of land to a C corporation does not automatically qualify as trade or business for purposes of QBI.
There are two situations that require additional analysis: when you rent to an unrelated party and when you rent to a C corp. Rental is not inherently a trade or business. However, if the landowner is involved in an activity with continuity and regularity, and is engaged in the activity for income or profit, it might give rise to a trade or business.
In 2019, the IRS released a notice (Notice 2019-07) outlining a safe harbor to allow land rental to rise to the level of a trade or business. If activity gives rise to a trade or business, it qualifies for QBI.
Now the hard part: When does land rental rise to a trade or business, but not subject to the self-employment tax? The answer is a bit easier for a retired farmer who only rents his land. However, if you are actively farming using a C corp, the determination is very difficult.
I would strongly urge anyone who rents farmland to seek professional tax advice. Section 199A is very complex and may result in positive or negative tax situations.
Editor's Note: DTN Tax Columnist Rod Mauszycki, J.D., MBT, is a tax principal with CLA (CliftonLarsonAllen) in Minneapolis, Minnesota. Read Rod's "Ask the Taxman" column at about.dtnpf.com/tax. You may email Rod at email@example.com.
Copyright 2020 DTN/The Progressive Farmer. All rights reserved.