Taxes come at us from every direction. Fill up your car at the pump and you pay taxes. Make a long-distance phone call and pay again. For farmers, the tax load can be particularly troubling because taxes often fall due even if the farm doesn't make a dime.
Taxes are one of the few certainties in life, and they will never disappear completely. For that reason, farm tax specialists advocate a two-pronged approach to taxes — try to get rid of the worst and minimize the rest through a strategy that takes advantage of every legal tax break.
Tax experts list those that are particularly troubling:
“You have to pay them whether you're having a good or a bad year,” says Michael Evanish, a tax consultant with the Pennsylvania Farm Bureau.
Estate taxes are due to be phased out gradually between now and 2010. However, the phase-out is only temporary. In 2011, estate taxes will be back on the books in full force unless Congress votes to end them entirely.
When a farmer sells capital assets such as land, he must pay capital gains taxes on the appreciation in value, even though that appreciation may represent nothing more than inflationary increases. The potential tax bill keeps some farmers from selling assets even when they may need to raise cash in a tight year.
This tax was designed to keep large corporations from using loopholes to escape taxation. Unfortunately, it is also applied to farmers when they can least afford it — the years in which they lose money. Farmers may be required to pay alternative minimum taxes even when no taxes would otherwise be owed, says Pat Wolff, tax specialist for the American Farm Bureau Federation.
To ease the burden on agriculture, Farm Bureau has set long-term goals to get Congress to permanently eliminate estate taxes, capital gains and alternative minimum taxes.
Wolff says Farm Bureau also wants Congress to enact risk management accounts, which would allow a farmer to take up to 20% of his income from high-profit years and hold it tax-free until he needs it. The money could be banked for five years under the proposal. Taxes would be paid when a farm used the money. This would help farmers cope with the ups and downs of farm income.
Real estate taxes are likely to remain a problem because many states use them to finance schools or other critical programs. But there are ways to minimize them — for example, by convincing state legislatures to exempt certain assets from the tax. In Pennsylvania, grain farmers won a tax exemption for grain bins and silos, says Evanish.
Congress may never deliver every tax break sought by the farm sector. In fact, taxes could go up if the country's financial situation continues to worsen or if the deficit grows too large. For those reasons, tax experts tell farmers to do what America's wealthiest citizens do — take advantage of every legal tax break available. This involves considerable advanced planning.
“There are a ton of things farmers can do with income taxes,” says Evanish. “There always have been and there always will be. I have a staff of 40 accountants who visit the 4,000 Pennsylvania Farm Bureau members we do books for every year. The key issue is sitting down and determining a long-term tax strategy.”
Every year, the strategy may shift. “If you have a crop failure, your tax planning is a whole lot different than if you have a bumper crop. If you make a lot of money, you might want to look for ways to minimize taxes. There are things you can do to reduce taxes in a good year, like stocking up on fuel and fertilizer or buying new equipment,” he says. Farmers can also put cash into tax-deferred retirement accounts or buy more land.
Another strategy is to use farm-income averaging, which averages out income from high- and low-profit years for tax purposes. This keeps some income out of the higher tax brackets in high-profit years and allows that income to be taxed later at a lower rate.
Doing your own taxes will save the cost of an accountant, but it may cost you dearly in the long run. The agricultural tax laws are a potential nightmare and they're getting worse as Congress adds new layers and new complexities to the tax code.
Farmers who do their own taxes risk missing valuable tax breaks, or underpaying their taxes and drawing a penalty and perhaps unwanted special attention from the IRS.
“If somebody is preparing their own tax return, they probably aren't correctly calculating the 179 deduction for depreciating capital expenses,” says Chris Hesse, an agricultural tax specialist and director of tax services for Lemaster and Daniels, of Moses Lake, WA. “Or they're not taking full advantage of the 179 deduction.
“People also miss out on the opportunity for farm income averaging,” says Hesse, who recommends the use of tax preparers well-versed in ag tax law. “If a tax preparer doesn't do a lot of ag tax work, for example, he's not going to remember to use farm income averaging.”
Without help, farmers also may fail to use losses to reduce future tax liabilities. “Farmers say, ‘I don't have to pay taxes,’ and then they don't look any further,” Hesse says. “Even though you have a loss, there are reasons to do tax planning. There may be opportunities to make the most of the loss, for example, by using a loss to shield future income from taxes.”
If you're worried about your financial health, take a look at a new publication from South Dakota State University (SDSU).
Called Your Annual Financial Checkup, the new publication offers information about taking your farm or business through a thorough financial examination, says its author, Jack Davis, extension management specialist.
The publication discusses ratios for liquidity, solvency, coverage, profitability and efficiency, offering insight about what ratios would be considered in the comfort, caution or danger zones for each.
The publication is available in pdf format at http://agbiopubs.sdstate.edu/articles/ExEx5046.pdf.
Sharpen your management strategy by attending USDA's 79th Agricultural Outlook Forum, Feb. 20-21, 2003, in Arlington, VA, for the latest on commodity prospects and front-burner issues.
The program will highlight competitive challenges faced by U.S. farmers. Focus sessions will examine domestic issues such as the growing burden of regulations and trade competition from Central and Eastern Europe, Brazil and Asia.
For full program and registration details, log on to www.usda.gov/oce or call 877-891-2208.
Speeches presented at the forum will be posted on the Internet after March 3.