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Back on track following the long series of schedules supplementing Form 1040, we draw your attention today to a summary of the most pertinent information regarding Schedule F and the farming taxation.
The farm business may be considered by some as just another business, but it is not quite true and the IRS treatment of farm income and loss sets the farm business on a chapter of its own, as you can see from Publication 225, Farmer’s Tax Guide. But first, let us define some specific terms. |
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All individuals, partnerships, or corporations cultivating, operating, or managing farms for gain or profit as owners or tenants are considered to be farmers (with the exception of taxpayers engaged in forestry or timber raising who are not considered farmers.)
Farms include plantations, ranches, ranges and orchards. Farmers may raise livestock, poultry or fish, or grow fruits or vegetables.
Farmers are subject to a variety of taxes at all levels of government, like any other taxpayers: federal income taxes, social security and self-employment taxes, estate taxes, property state income tax, excise taxes, corporate income taxes, and retail sales taxes.
Farmers benefit from both general tax provisions available to all taxpayers and from provisions specifically designed for for farmers.
Normally a taxpayer qualifies as a farmer or fisherman for a certain tax-year if at least two-thirds of the taxpayer’s total gross income was from farming or fishing in either of the two previous years.
Individuals actively engaged in farming activities must file Schedule F, Profit or Loss from Farming, along with Form 1040. The form itself is similar to Schedule C except it contains special items specific only to farmers as business owners.
Schedule F is used only by farmers who are considered to be sole proprietors. Those who operate their farming businesses through a corporation or other business entity
would report income and expenses on Form 1120, U.S. Corporation Income Tax Return, instead.
As another special requirement, farmers must indicate, using a six-digit code, the number which best describes their farming activities to facilitate the administration of the IRS.
The farming activities are broken down into three main categories and include crop production, animal production, and forestry and logging. These main categories are further broken down into sub-categories such as vegetable farming, fruit and tree nut farming, beef cattle ranching, aquaculture, and poultry and egg production.
When filling out Schedule F, farmers are required to state their crop or activity on Line A, and enter on Line B one of the 14 principal agricultural activity codes listed in Part IV on page 2 of the schedule, by selecting the code that best describes the source of most of their income.
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Farmers and ranchers are one of the few manufacturers to be exempted from using the accrual method of accounting, and are permitted to utilize the cash method of accounting. The cash method can be advantageous to farmers and ranchers because it allows the deferral of income and acceleration of expenses. The cash method requires revenue to be recognized in the year when cash is received and expenses are paid.
Farmers may use the crop method in conjunction with either cash or accrual accounting. Crop accounting is a special accounting method which allows farmers to deduct the entire cost of raising a crop in the year they realize income from it. If they do not sell the produce of a crop for a year or more after planting it, they are entitled to deduct costs (such as the price of seeds and labor to tend to the plant) in the year they sell. The IRS must pre-approve this deduction.
Line C of Schedule F requires you to specify the accounting method. If you use the cash method, check the box for "Cash." and complete Parts I and II of Schedule F. If you use an accrual method, check the box for "Accrual" and complete Parts II, III, and Part I, line 9 of Schedule F.
Part I of Schedule F is used for recording the farm income if using the cash accounting method. Part II is for reporting the farm expenses regardless of the accounting method used, and Part III is used to report the farm income for farmers using the accrual accounting method.
A farmer’s gross income includes amounts received in cash plus anything of value received instead of cash. Included are: proceeds from the sale of crops, produce, poultry, and livestock; fair market value of farm products, other property, or services, received in exchange for farm products or services (i.e., barter income); prizes; proceeds from sale of natural deposits; and other specific proceeds.
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In addition to the money earned from selling crops and livestock, Schedule F also reports other types of farming income, such as any crop insurance payouts, including federal disaster payments, money earned through a farming cooperative, and payments from an agricultural program.
Land and property sales are reported separately and are not considered in determining the net profit or loss. Sale of livestock for breeding, dairy or sport purposes are also not relevant to the farmer’s profit or loss statement. The value of produce consumed by farmers and their family isn’t included in the gross income.
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Under certain conditions, farmers may postpone reporting the sale or purchase of livestock or poultry until the next tax year. To be able to postpone reporting these assets, they must use the cash method of accounting, be able to demonstrate that the sale or purchase was due to extreme weather problems, live in an area that has been designated a weather disaster by the federal government and make your living primarily from farming.
The IRS allows a deduction for any expense necessary for the farming business to operate. This may include a proportional amount of the living expenses for the farmers themselves. Most farms include the farmer's personal residence, which is indistinguishable from the farm itself.
Farmers business expenses list may be quite extensive, however here are some of the items included: rent paid for farm; taxes and tax preparation fees; labor; repairs; fertilizer; car and truck expenses; interest on farm mortgages and other obligations incurred to carry on farm business; premiums on fire, storm, crop, theft, liability, and other insurance on farm business assets, etc.
Reasonable amounts paid for regular farm labor, piecework, contract, or other labor hired to perform farming operations are deductible. This includes wages paid in cash and other property. Deductible labor includes the actual cost of boarding hired farm labor and the costs of their health and workers’ compensation insurance. |
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Farmers who pay wages in cash include in their deductible labor costs the amount of social security, medicare and income tax withheld from those wages, as well as the portion of the social security and medicare taxes the farmer (as the employer) must pay.
Schedule F ultimately computes the net farming profit or loss that gets reported on the designated line of your 1040. If you have a profit or a loss, it gets combined with the other non-farming income reported on your return and increases or reduces your taxable income. The key to preparing an accurate Schedule F is to keep excellent records of your income, crops, livestock, other assets, and various expenses all throughout the year.
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When it comes to paying taxes, another special tax rule for farmers allows them to make a farm income averaging election to compute their current year (election year) income tax liability by averaging, over the prior three-year period (base years), all or a portion of the farmer’s current year income. For this, farmers must use Schedule J, Income Averaging for Farmers and Fishermen.
Making the income averaging election may result in a lower tax if the farmer’s current year income from farming is high and their taxable income for one or more of the three earlier years was low.
This method does not change the prior year tax. It only uses the prior year information to figure the current year tax. Farmers don’t have to have been engaged in a farming business in any of the base years in order to make a farm or fishing income averaging election.
There is so much more to be said about farmers taxation, but for now, it seems at least equally important to mention the changes brought by the Tax Cuts and Jobs Act to Schedule F as of 2018. |
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Beginning in 2018, a farming business may use the cash method of accounting if its average annual gross receipts for the 3 preceding tax years is $25 million or less.
Certain small farms with average annual gross receipts of $25 million or less in the 3 preceding tax years are not required to maintain an inventory.
Noncorporate taxpayers may be subject to excess business loss limitations. The excess farm loss rules don't apply in 2018. However, any loss from this activity that wasn't allowed last year because of the excess farm loss rules is treated as a deduction allocable to this activity in 2018. |
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| Net operating loss rules have changed. A farming net operating loss arising in 2018 must be carried back 2 years instead of 5 years. An election can be made to, instead, carry over the loss to a subsequent year. |
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For most taxpayers, NOLs arising in tax years ending after 2017 can only be carried forward. The 2-year carryback rule in effect before 2018, generally, does not apply to NOLs arising in tax years ending after December 31, 2017. Exceptions apply to certain farming losses and NOLs of insurance companies other than a life insurance company.
The maximum amount you can elect to deduct for most section 179 property you placed in service in 2018 is $1,000,000. This limit is reduced by the amount by which the cost of the property placed in service during the tax year exceeds $2,500,000.
The recovery period (meaning the length of time over which the IRS requires you to depreciate an asset) for certain farming machinery and equipment placed in service in 2018 is 5 years instead of 7 years. Farming businesses are no longer required to use the 150% declining balance method for 3-, 5-, 7-, and 10-year property used in a farming business and placed in service in 2018.
The special allowance will be phased down to 40% for certain property acquired before September 28, 2017, and placed in service in 2018.
The maximum net self-employment earnings subject to the social security part (12.4%) of the self-employment tax is $128,400 for 2018, up from $127,200 for 2017. There is no maximum limit on earnings subject to the Medicare part (2.9%) or, if applicable, the Additional Medicare Tax (0.9%).
Farmers face unique business problems and it is no surprise that there is a variety of tax forms, deductions, and tax strategies to assist independent farmers and fishermen. Enrolling professional help to navigate through all the provisions of the tax law and the new regulations is an expense that may return itself many times over. |
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