2020 Year-End Tax Planning for Farmers
December 8, 2020
As the end of the year comes near, it is important to consider certain tax saving moves that can be made to help reduce tax liabilities for this year and future periods. If you believe any of these items may apply to you and your farm operation, please reach out to your tax professional at HBE.
100% Bonus Depreciation on Fixed Assets
Purchasing certain fixed assets and placing them into service before year-end may allow for 100% of the purchase to be deducted. Note, there are certain limitations on the amount that can be deducted for vehicles.
Section 199A – 20% Income Deduction
Certain limitations affecting the amount of the deduction apply when an individual’s taxable income is greater than $164,900 for single filers and $329,800 for married filers. If your taxable income is estimated to be around the limitation amount, it is important to discuss strategies to lower taxable income to avoid the limitations or maximize the 20% deduction.
Paying Your Spouse and Children a Wage
If a spouse is involved in the operations of the farm, you may want to consider paying them a wage. Paying a wage to a spouse allows you to also provide the spouse benefits such as medical insurance, medical reimbursements, and retirement. The wages and all benefits provided to the spouse would be deductible against the farm income.
You may also pay your children a wage for farm labor and deduct the amount from your farm income. Assuming the income is below certain limits, none of the wage would be subject to income tax on the child’s personal return. Social security and unemployment tax advantages may also apply if certain criteria are met. Contributions could also be made to a Roth IRA based on these earnings to help your child get an early start on saving for retirement.
Gifting of Grain to Children
Grain gifted to a child can create tax benefits. First, the income is excluded from your taxable income while the expenses are still deductible. Additionally, if the child holds the grain for at least one year after harvest before selling, the income is subject to favorable capital gain rates. Kiddie tax rules may apply.
Gifting of Grain to Charity
If you are unable to deduct charitable contributions because you do not itemize you may want to consider donating grain instead of making cash donations. This excludes the income from being taxed while still allowing you to deduct the expenses used to produce the gifted grain.
Tax deductible retirement accounts can be utilized to reduce taxable income. There are several tax-deductible retirement vehicles that you can make contributions to such as an IRA, SEP, or SIMPLE.
As a result of the CARES Act, required minimum distributions have been eliminated for 2020. Also, if certain qualifications are met, up to $100,000 can be distributed from an eligible retirement plan without the 10% penalty.
The current estate exemption is $11.5 million per person. Currently, only estates valued more than $11.5 million, or $23 million for married couples will be subject to the estate tax. However, with the newly elected administration, these Estate tax exemptions may be lowered. Estate planning is critical to take advantage of the current favorable Estate limitations.
Whether or not a farmer has a taxable estate, estate planning is vital for farmers that are considering retiring or transferring the farm to the next generation. Strategies can be put into place to minimize deferred tax liabilities, optimize entity selection, and ensure your farm is setup for future success after transition.
Prepayment of Farm Expenses
In order for prepayments to qualify as a deduction, the following requirements must be met.
- Must be an allowable prepaid expense, such as seed, gas, diesel, fertilizer, chemicals, etc.
- Must be a specific purchase at a fixed price and not just a deposit
- Should not exceed 50% of total farm expenses for the tax year
Deferred Payment Contracts
Deferred payment contracts are an effective tax planning tool. Normally, income is reported when cash from the sale is received. However, farmers are allowed to bring that income into the year of sale on a contract-by-contract basis. This provides the flexibility to sell grain today, but have the option to accelerate income in a year of low taxable income or deferring into the next year if desired. Tax planning is crucial, but having a deferred payment contract in place can provide increased flexibility options during tax preparation.
Net Operating Losses
As a result of the CARES Act, any net operating losses arising in 2018, 2019 and 2020 are required to be carried back five years. The two-year carryback option has been removed. Tax saving opportunities may result for farmers with losses in those years.
Paycheck Protection Program (PPP)
Per IRS guidance, expenses paid with PPP funds are currently a 2020 non-deductible expense. This could result in increased income and tax in 2020.
Coronavirus Food Assistance Program (CFAP)
All CFAP payments will be taxable income on all 2020 tax returns. As a result, those payments will need to be included in all year-end planning calculations.
Estimated Tax Payments
A common misconception is that as a farmer your return is always due on March 1. However, if a 4th quarter estimated tax payment is made by January 15 to pay the estimated amount of tax, the tax return due date is April 15 (October 15 if the return is extended).
Research and Development Tax Credits (R&D)
Farmers are eligible for tax credits if certain research and development activities are performed. A few examples of items that could potentially qualify include the following:
- Development of new strains of crops, plants, or livestock
- Creating improved breeding practices
- Researching genetics to improve breeding herd traits
- Experimentation with new or different fertilizers (organic, etc.)
- Development of new disease resistant crops or livestock
Nebraska Rural Development Credits
Tax credits are also available for livestock producers that invest at least $50,000 into new expansion or have employment growth of two or more employees. Applications must be submitted prior to the tax years those expected investments are made.
Beginning Farmer Tax Credit
Tax credits are available to farmers when renting certain agricultural assets such as land, facilities, breeding stock, and equipment to a new farmer. The new farmer can also receive personal property tax credits.
2020 has been a challenging year, but planning opportunities are available for Ag producers to optimize their tax and financial situations. Please reach out to your HBE advisor with any questions or for planning assistance.