The IRS released its final 199A regulations earlier this month, and many farmers are scrambling to determine how those regulations and the new tax law, in general, will affect their operations.
“It’s going to create what I call ugly tax returns,” says Paul Neiffer, a tax accountant with CliftonLarsonAllen LLP and author of The Farm CPA on Farm Journal’s Agweb.com. “We’re going to have all these gains over on form 4797-- the ordinary gain from selling or trading in property. So that's going to create some issues.”
One of those issues farmers need to address is recognizing financial gains from trading in farm equipment.
Under the old law, farmers could trade in farm machinery and not have it be taxable. The new law requires farmers to treat the trade-in value as the sales price of the equipment and report a gain or loss.
“We are already hearing about some implement dealerships putting no value on the trade-in,” says Neiffer, who addressed the tax law for farmers during the 2019 Top Producer Summit. “This will likely not work if the farm return is audited. The fair market value of the equipment should be reported as the sales price even if the bill of sale shows no value.”
Gain on selling farm equipment is not subject to self-employment tax, he adds. The value allocated to the trade-in is now eligible for 100% bonus depreciation or Section 179, which allows for self-employment income reduction.
Neiffer says the wild card is state income tax law. Many states will continue to allow 1031 trades on farm equipment. Other states might not, which might result in higher state income taxes for those farmers.
Another potential complication from the new tax law has to do with social security earnings. Farmers typically have wanted some, but that’s on schedule F and no longer available.
“They're going have to use what's called the optional self-employment method, and that gets you four quarters to get your $5,280 of earnings,” Neiffer says.
The new tax law continues to allow farmers to exchange farm real estate. However, be aware of certain traps. Farmland that contains certain depreciable property such as tiling, grain bins or hog barns, must be exchanged for similar property. It does not need to be the same but must be what is called Section 1245 real property.
Neiffer offers this explanation: Jerry Smith sells a quarter section. The land value is $1 million and grain bins on the site are worth $500,000. If Jerry purchases another quarter section worth $1.5 million that is only land, he has to report the grain bin sale for $500,000. However, if the quarter section has tile or grain bins, worth at least $500,000 there is no gain to report.
With so many complications, does the new tax law help any farmer? Neiffer says yes.
“For our middle-income farmers, making $50,000 to $150,000 and especially if they have kids, the new tax law is probably going to cut their taxes a fair amount. Higher income farmers will probably also see a little bit more of a deduction; lower level farmers may not, especially if they're retired or getting close to retirement.”
For farmers considering retirement and succession, there is good news on estate taxes. Farmers have a lifetime exemption amount of $11.4 million for 2019. Neiffer says this means most farm couples can be worth around $30 million or more and owe no federal estate taxes with minimal planning (but beware state estate taxes). Also, take note that if a new administration is voted into office in 2020, it could reduce that exemption amount back to earlier levels.
This year, some farmers may need an extension. “You might need one this year, especially if you deal with a co-op,” he says. “Right now, we have no idea how to file a tax return for a farmer that sells their product to a cooperative. The IRS was supposed to have guidance out by the end of the year. They didn't, and we don't know when we're going to see it.”