Written by Guido van der Hoeven
October 18, 2018
Income Tax Planning for 2018
Farmers in North Carolina, like elsewhere in the United States, are working through crop acres to harvest this year’s production. In parts of North Carolina harvest was affected by Hurricanes Florence and Michael. Year-end tax planning for farm businesses may provide for challenges to get to “that number” which was the target set earlier in the spring of the year. Weather events, commodity prices and external events (tariffs) to the farm economy affect the bottom line as year-end approaches and by connection tax planning.
This article will address two sides of the tax planning coin. First, the situation some farmers may discover is that more income is desired to get to the business’ long-run taxable income target. Secondly a farm business may have had a better-than-average year and the goal is to reduce taxable income to the long-run target. Additionally, this article is offered in the context that tax planning for farmers and livestock producers is a year-long management activity which comes into sharper focus as the harvest season concludes.
Increasing Taxable Income for 2018
- With the Tax Cuts and Jobs Act of 2017 (TCJA) which was passed in December of 2017, the standard deduction amount was increased. For Married Filing Joint filers the standard deduction is $24,000; for single filers it’s $12,000 and for Head-of-Household it’s $18,000. Farmers will want to be sure to generate Adjusted Gross Income (AGI) of at least these amounts dependent upon filing status. These amounts represent tax free income and if one doesn’t use them the tax benefit opportunity is lost and cannot be carried forward.
- If possible farmers need to consider selling grain and livestock this year instead of in 2019. This puts income into 2018. Beef cattle producers need to consider market animal weights and their general long-term plan; delaying livestock sales below or above target market weight may reduce enterprise profits.
- An opportunity may exist to increase farm incomes in 2018 by postponing paying for 2018 expenses (usually purchases in the last couple months of the year) until 2019. Delaying payment of these costs such as: chemicals, lime, and fertilizer, seed, and fuel increases taxable income in 2018.
- If the farm has incurred a large repair, such as an engine overhaul, consider capitalizing the repair and depreciating the repair. Similarly, farmers may amortize fertilizer and soil amendments such as lime over a period of time instead of electing to immediately expense these costs by reporting the amounts on their business tax form which commonly is Schedule F, Profit or Loss from Farming.
- Farmers might want to “slow down” depreciation by using the alternate depreciable life of an asset. For example, a $100,000 new tractor in 2018 has a MACRS 5-year depreciable life at 200% declining balance, choosing to use the alternate depreciable life and straight-line depreciation can increase taxable income by $15,000. [$20,000 MACRS GDS depreciation – $5,000 MACRS ADS depreciation) To accomplish this farmers must elect out of Bonus Depreciation discussed below.
- Farmers may want to delay making year-end payments of property taxes, accrued interest and any large bills due on large repairs (obviously this should be worked out in advance with the vendor as they too have obligations).
Decreasing Taxable Income in 2018
For some farmers and livestock producers, 2018 may have been a “good” year from an income tax perspective due to decisions that were made in 2017 which brought additional income into this tax year as well as good conditions for the farm’s production this year. Therefore, the focus may be to lower taxable income. There are several strategies to do so. Strategies exist that are prior to year-end and some strategies are after the year is completed.
Prior to year-end actions to consider:
- Farmers and livestock producers might consider delaying sales until 2019. Generally this can be accomplished in one of two ways. First, simply hold onto the production and sell after the first of the year if the farm uses the cash-method of accounting. Second, if the farmer is satisfied with a price being offered now, sell the commodity using a deferred contract with payment of a specified commodity after January 1, 2019, at a specified price per unit of the commodity with a clause that prohibits the farmer from receiving payment any sooner than the contract allows.
- Farmers might consider pre-paying inputs for 2019 by purchasing the items before December 31, 2018 if they use the cash method of accounting. Generally, there is a limitation to how much can be purchased in advance. A rule discussed in the Farmer’s Tax Guide, IRS Publication 225, is 50% of historic inputs.
- Capital asset purchases such as machinery and equipment could be purchased and placed into service prior to year-end and be available for post year-end tax planning. HOWEVER, do so only if this is in the long-term business plan of the farm. Said another way, don’t let the tax tail wag the business dog. (Use of the Expensing Election and Bonus Depreciation follows in the next section.)
- As the year-end approaches, farmers and livestock producers may consider paying property taxes, accrued interest and any accrued rent up to December 31, 2018 to further decrease income. Be aware that limitations in the Internal Revenue Code (IRC) prevent prepaying interest, rents and insurance premiums.
Post year-end tax management strategies
- TCJA increased the amount of IRC section 179 expensing to $1,000,000 with an investment limit of $2.5 million. Farmers and livestock producers if they purchased depreciable assets in 2018 can make the election to expense all or part of these purchases subject to the rules for section 179.
- TCJA also allows for Bonus depreciation of 100% of new and used depreciable assets purchased in 2018. The law presumes that farmers and livestock producers will use Bonus Depreciation. Doing so, in some cases, may create a loss which might not be in the best interest of the agricultural business. Farmers have the option to elect out of Bonus Depreciation on a class by class basis; e.g., elect out for all 3-year class life property.
- Continued contribution to or initial creation of a retirement plan can reduce income taxes. The plans that reduce current year income taxes are: traditional IRAs, SEP-IRAs, SIMPLE IRA, solo 401-Ks, and defined benefit plans (though rare). There are rules which apply when the plan must be established in order for the contribution to be deducted against 2018 income.
Farmers and livestock producers may be more interested in non-deductible retirement plans due to their distributions being income tax free in retirement. These plans are Roth IRAs and Roth 401-Ks for example.
Farmers and livestock producers are strongly encouraged to seek professional tax preparation assistance to address areas of tax management for their businesses. Seeking competent tax advice by someone who is familiar with your business and who can communicate the language of tax in the context of agriculture can help farmers and livestock producers achieve goals relative to income and self-employment tax management.
Sources of information:
IRS Publication 225, The Farmer’s Tax Guide
Center for Agricultural Law and Taxation at Iowa State University
If you have questions please contact Guido van der Hoeven, Extension Specialist/Senior Lecturer, Department of Agricultural and Resource Economics, NC State University. Phone 919-515-9071, email: firstname.lastname@example.org