Did the drought impact your farming operations to the point that it will also impact your taxes for 2012? If it did, you have more than two months to engage in pre-tax planning to gain as much control as possible over your tax liabilities. Revenue from both crop and livestock operations might be impacted and the IRS code may have some help and hindrances for your tax reporting. Meet with your tax advisor as early as possible to make the decisions that will benefit your operation.
Farm operators with crop insurance claims and untimely livestock sales will be affected by the IRS rules. In the August issue of the Purdue University Agricultural Economics Report (pdf),economist and tax specialist George Patrick outlines several situations that affect producers.
An indemnity check from a crop insurance claim is usually taxed in the year received, unless it is for a yield loss by a producer who can show that more than half of his production is typically marketed in the year after it is produced. However the new combo types of crop insurance that indemnify both yield and revenue loss create a tax liability in the year the check is received. If the payment is for only a yield loss, then the deferral can be made into the following year, but producers who are paid from the harvest price option and benefit from the loss of revenue must report the indemnity payment in the year the check is received.
Some producers who filed early claims will receive their check in 2012 and will be taxed accordingly. Any claims that are filed late in the 2012 calendar year may not receive the check until 2013 and it becomes 2013 revenue. Subsequently, Patrick says if you want the payment in 2012, file the claim early enough to do that.
“Indemnities cannot be reported as income before they are actually or constructively received," he says. "An indemnity received in 2013 for a 2012 crop is reported as income in 2013 regardless of when the producer normally sells the crop. This may cause problems for producers wanting to include indemnities in their income for 2012.”
Patrick says indemnities paid from county basis group insurance are not eligible for the deferral because there is no direct relationship between the indemnity and the producer’s yield. Another issue is the size of the claim, and if it exceeds $200,000, there will be a three-year audit before payment, and that may delay the disbursement of the funds. Stored grain may also allow some flexibility, since it could be sold in December or held for January sale, in case of the need to manage income. If it is held for January sale, ensure the agreement prohibits any receipt of the funds before 2013.
Livestock tax issues
There are special federal income tax provisions intended to reduce the impact of distressed sales of livestock in “excess” of normal, says Patrick. Those are section 451-e, which allows postponement of the reporting of taxable gains on the sale of additional livestock, and section 1033-e,which allows the avoidance of paying taxes on the gain realized from the sale of breeding, draft or dairy animals if they are replaced within a specified time period.
Patrick says livestock producers in a county eligible for federal disaster assistance may be able to participate if the drought caused a sale of livestock. And he adds, “Sales in excess of a farmer’s normal business practice can be deferred until the animals normally would have been sold.”
A producer can cut the size of the herd because of lack of feed, and then re-invest when there are better conditions. But reporting of the gain on the income can only be deferred if there is a replacement of the stock. There is also some flexibility on the time and replacement property, which tax preparers can help with.
The drought disrupted many farming practices, but the Internal Revenue Service Code does recognize such disruptions and addresses them to the benefit of many farmers. For the 2012 drought, many producers may be able to benefit from the reporting of crop insurance indemnity checks and the untimely sale of livestock due to lack of forage.