Feb 24, 2012

Ten things you should know about farm taxes

As farming promises to remain competitive, tax credits and other incentives become more valuable. Below are some items to keep in mind before meeting with your accountant.

1. What’s deductible? Generally speaking, to be deductible a business expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in one’s business, such as rent payments or equipment-rental costs. A necessary business expense is one that’s helpful and appropriate. An expense does not have to be indispensable to be considered necessary. For example, a business could operate without a computer, but the purchase of one might be a deductible expense.

2. Identify assets. Not “identifying” assets leads to missing deductions, according to Greg Scott of PwC’s Private Company Services in San Francisco. “A big mistake,” Scott said, “is not realizing that farm appraisers generally do not ID a lot of assets. They leave value ‘buried’ in the non-depreciable land cost.” Frequently overlooked depreciable costs include fences, roads, drainage and wells.

3. Do you market? “A farm may be able to take a deduction for advertising and promotion costs,” said Mildred Carter, senior tax analyst at CCH, a provider of tax and legal information in Riverwoods, Ill.

Did you invest in a direct mail or email campaign to help cultivate business? Some of the costs involved in the production of business advertising, i.e., printing and graphic-design services, may be deductible.

4. It’s all about business. Do not mix business and personal expenses.
“Keep personal and business expenses separate. Farmers tend to have loose controls when it comes to cash and tend to ‘co-mingle’ business and personal funds. You must protect the integrity of the business,” said Scott Hunziger, a CPA in Cutchogue, N.Y. “This will also help should you ever need bankruptcy protection.” Sole proprietors however, cannot “separate” themselves from their business.

5. Work at home? As many farmers live on the farm, a home office is a reasonable item. “You can deduct expenses for the business use of your home if you exclusively and regularly use part of it for business purposes,” Hunziger said. Items include relative depreciation of your home, real estate taxes paid, mortgage interest, insurance, telephone line(s), Internet, etc. If you claim this deduction, be careful, as this has been an IRS “red flag” area.

6. It’s my hobby. The IRS presumes an activity is for profit if it makes a profit during at least three of the last five tax years, including the current one. Not all producers of agricultural products, even those earning income from farming activities, meet such guidelines and are therefore not considered farms.

7. ‘Conservation expenses.’ “Many miss out on structuring ownership to qualify for the cash method of accounting, if eligible,” Scott said. “Whether using the cash method or not, you can deduct fertilizers, soil amendments, plus soil and water conservation costs.” While farmers can deduct “conservation” expenses, these can only be taken for land you or a tenant is farming or has farmed. Earth moving for such purposes as terracing, drainage, brush eradication and windbreak plantings, plus other activities, might count toward this deduction, according to IRS Publication 225, Farmer’s Tax Guide.

8. Bumper crops. Should you sell more crops than you normally would due to Mother Nature, you may be able to postpone the reporting of the gain from the additional sales until the following year. There are restrictions, i.e. you have to prove it.

9. Suffered a loss or theft? Casualty and theft losses of farm business property usually result in deductible losses. If a fire or storm destroyed a building or equipment, you may have a deductible loss. Should you receive an insurance or other form of reimbursement, you must subtract the reimbursement when calculating the loss and be able to prove such an event took place.

10. Need more deductions? The Federal Work Opportunity Tax Credit gives businesses a federal tax credit of up to 40 percent of income tax on the first $6,000 of wages paid to “disadvantaged workers,” including ex-convicts, the disabled and welfare recipients. Paperwork must be submitted within 30 days of hiring and can be cumbersome. The standard mileage deduction for 2011 is 51 cents per mile from Jan. 1 to June 30, and 55.5 cents for July 1 to Dec. 31. Like the Federal Work Opportunity Tax Credit, the mileage deduction applies to all businesses.

Important reminders:

• Keep business and personal expenses separate.
• Speak early with your accountant when contemplating a major financial decision.
• Proceed with caution when claiming the “home office” deduction.
• The IRS does not consider hobbies as businesses.
• Farms with non-traditional income sources might experience a different tax treatment.

By Joseph Finora Jr.

Joseph Finora Jr. is a financial writer in Laurel, N.Y. The information presented here is for informational purposes only and general in nature. It is not to serve as a substitute for professional tax advice.