Agricultural Law and Taxation Blog

Contracts, Estate Planning and Wetlands

Overview

Digital contracts are becoming more common for farmers and ranchers.  That means there are some unique legal issues that might arise.  The first part of today’s article takes a brief look at what those might be. 

An estate planning tool in light of the uncertainty of whether the Trump tax cuts (Tax Cuts and Jobs Act (TCJA)) is a spousal lifetime access trust (SLAT).  I provide a very brief explanation of what a SLAT is. 

A new court decision from a federal court in Idaho provides insight as to how the Sackett test concerning the definition of a wetland under the Clean Water Act is to be applied.  The case involved an Idaho farming operation.  I survey the court’s decision.

Digital contracts, SLATs and wetlands – the topics of today’s blog

Digital Contract Basics

There are certain core elements to every contract – offer, acceptance and consideration. And, in general, there must be a meeting of the minds as to the essence of the contract.  A question is how those elements are satisfied in the context of digital contracts. For starters, any offer should include definite terms.  Vague terms will be interpreted according to the parties’ past course of dealing, if any, or be construed against the drafter, or be filled in based on law and precedent.  Make sure you know what you are signing, whether paper or digital

In addition, an acceptance must mirror the offer.  Any change in the terms means “no deal” until the original offeror accepts the new terms.  So, be careful with a digital contract where you “click to accept” the contract’s terms.  Make sure you know what you’re accepting.

Another requirement is consideration – an amount of payment.  But with a digital contract what about a free trial use period?  For example, could you sue a free online service provider when the product doesn’t work as promised?  Doubtful because of no consideration.

And make sure to read a digital contract – it’s easy for the offer, acceptance and consideration to get buried in the fine print.  A “meeting of the minds” is essential.   

Spousal Lifetime Access Trusts

Future tax policy is uncertain right now and a big concern for some farmers and ranchers is what the federal estate tax exemption will be after 2025.  If the exemption level drops, one strategy that might be effective to lessen a future estate tax burden is a spousal lifetime access trust, or SLAT. 

A SLAT is an irrevocable trust designed to provide income to a beneficiary spouse while removing the trust’s assets from the grantor spouse’s taxable estate. As an irrevocable trust, it can’t be modified or revoked, and the assets can’t be returned to the donor spouse.  The trustee must ensure that the trust assets are used according to the trust’s terms, and that the beneficiary spouse gets the income from the trust for life. 

When the beneficiary spouse dies, the remaining trust assets pass to designated beneficiaries free of estate tax.

The technique could work well now while the estate tax exemption is high - allowing a significant amount of asset value to be transferred to the trust and offset by the exclusion.  The value would also not be included in the beneficiary spouse’s estate. 

If a SLAT can be funded with assets that will appreciate, the tax benefits can be maximized.  One downside, however, is that the ultimate beneficiaries won’t get a step-up in basis at the time of the beneficiary spouse’s death.

Waters of the United States

The U.S. Supreme’s Court’s decision in the Sackett case in May of 2023 changed the way a “wetland” is defined for purposes of the federal government’s jurisdiction under the Clean Water Act (CWA).  The most recent lower court decision involving the new definition as applied to a farmer involves a case out of Idaho.

In United States v. Ace Black Ranches, LLP, No. 1:24-cv-00113- DCN, 2024 U.S. Dist. LEXIS 156797 (D. Idaho Aug. 29, 2024), the Environmental Protection Agency (EPA) claimed that the defendant discharged “pollutants” into a navigable water of the United States (a river that passes through the defendant’s ranch) and associated wetlands without a Clean Water Act discharge permit. The EPA and the U.S. Army Corps of Engineers (COE) notified the defendant that it was going to start investigating potential CWA violations. The defendant withdrew its initial consent to the investigation and filed a complaint and motion for preliminary injunction. The case was dismissed. The EPA then obtained an administrative warrant and inspected the ranch in 2021 and 2023. The EPA then sued, claiming that the ranch had violated the CWA by illegally discharging pollutants by constructing multiple road crossings in the Bruneau River (a navigable water) and associated wetlands which impeded the flow of water and polluted the river. The EPA also claimed that the defendant “disturbed the riverbed” by mining sand and gravel from the river, and that the defendant’s construction of a center pivot irrigation system cleared and leveled “nearly all of the Ranch’s wetlands.” The EPA sought a permanent injunction that would bar the ranch from further discharges and would require the ranch to restore the impacted parts of the river.

The ranch moved for dismissal for failure to state a claim. The court granted the defendant’s motion and dismissed the case. The court determined that the EPA failed to sufficiently specify in its complaint that the wetlands at issue had a continuous surface connection with the Bruneau River to be considered indistinguishable from it (the requirement needed to satisfy the “adjacency test” established in Sackett v. Environmental Protection Agency, 598 U.S. 651 (2023)). It was not enough for the EPA to assert that it could clear up any confusion during discovery. The court noted that the EPA had to put forth sufficient allegations at the pleading stage to entitle it to discovery. As such, the EPA failed to state a claim upon which relief could be granted. However, the court gave the EPA an opportunity to amend its complaint within 30 days of the court’s order.

‘Til next time…

Extended Livestock Replacement Period Applies in Areas of Extended Drought – IRS Updated Drought Areas

Overview

Each year, by the end of September, the IRS provides guidance on the extension of the replacement period under I.R.C. §1033(e)(2)(B) for livestock sold on account of drought, flood or other weather-related condition.  The extended replacement period allows taxpayers additional time to replace the involuntarily converted livestock with like-kind replacement animals without triggering gain on the sale.  

The IRS recently issued its 2024 guidance on the issue on the extended replacement period for drought (and other weather-related) sales of livestock.

The extension of the replacement period for livestock sold on account of weather-related conditions - it's the topic of today's post.

Background

With Notice 2024-70, 2024-70, I.R.B., the IRS issued its annual Notice specifying those areas that are eligible for an extension of the replacement period for livestock that farmers and ranchers must sell because of severe weather conditions (drought, flood or other weather-related conditions).  For livestock owners in the listed areas that were anticipating that their replacement period would expire at the end of 2024 now have at least until the end of 202 to replace the involuntarily converted livestock.

Involuntary Conversion Rules

In general.  I.R.C. §1033(e) provides that a taxpayer does not recognize gain when property is involuntarily converted and replaced with property that is similar or related in service or use.  Under I.R.C. §1033(e)(1), the sale or exchange of livestock that a taxpayer holds for draft, dairy or breeding purposes in an amount exceeding the number of livestock that the taxpayer would normally sell under the taxpayer’s usual business practice, is treated as a non-taxable involuntary conversion if the sale of the livestock is solely on account of drought, flood or other weather-related conditions. The weather-related conditions must result in the area being designated as eligible for assistance by the federal government. 

Note:   For purposes of this rule, poultry does not count as “livestock.”  Likewise, livestock raised for other purposes, such as slaughter or sport, are also not eligible for this relief.

The replacement period.  The livestock must be replaced with "like-kind" livestock. I.R.C. §1033(a)(1). Normally, the replacement period is four years from the close of the first tax year in which any part of the gain from the conversion is realized. I.R.C. §1033(e)(2)(A).  But the Treasury Secretary has discretion to extend the replacement period on a regional basis for “such additional time as the Secretary deems appropriate” (apparently without limit) if the weather-related conditions that resulted in the federal designation continue for more than four years.  I.R.C. §1033(e)(2)(B). If the IRS doesn’t extend the four-year replacement period, a taxpayer can request such an extension.  I.R.C. §1033(a)(2)(B)(ii). 

Note:  It is not clear when the four-year period begins.  It may begin on the date the area is designated as being eligible for assistance by the federal government or when the weather-related conditions begin.  IRS clarification is needed.

Note:  Any extension of the replacement period on a regional basis also extends the period in which a cash basis farmer may elect to defer gain for a year on the sale of excess livestock sold on account of weather-related conditions under I.R.C. §451(g). 

If the involuntary conversion of livestock is on account of drought and the taxpayer’s replacement period is determined under I.R.C. §1033(e)(2)(A), the extended replacement period under I.R.C. §1033(e)(2)(B) and Notice 2006-82, 2006-2 C.B. 529 is until the end of the taxpayer’s first taxable year after the first drought-free year for the applicable region.  That is defined as the first 12-month period that ends on August 31 in or after the last of the taxpayer’s four-year replacement period and does not include any weekly period for which exceptional, extreme or severe drought is reported for any location in the applicable region.  The “applicable region” is the county (and all contiguous counties) that experienced the drought conditions on account of which the livestock was sold or exchanged

Note:   If an area is designated as not having a drought-free year, the extended replacement period applies.

Thus, for a taxpayer who qualified for a four-year replacement period for livestock sold or exchanged on account of drought and whose replacement period is scheduled to expire at the end of 2022 (or, for a fiscal-year taxpayer, at the end of the first tax year that includes August 31, 2022), the replacement period extends until the end of the taxpayer’s first taxable year ending after a drought-free year for the applicable region.  In other words, eligible farmers and ranchers with a drought replacement period presently scheduled to expire on December 31, 2022, will now, in most instances, have until the end of their next tax year to replace the sold livestock (e.g., Dec. 31, 2023). 

Determining Eligible Locations

One way to determine if a taxpayer is in an area that has experienced exceptional, extreme or severe drought is to refer to the U.S. Drought Monitor maps that are produced on a weekly basis by the National Drought Mitigation Center  The U.S. Drought Monitor maps are archived at  https://droughtmonitor.unl.edu/Maps/MapArchive.aspx

Another way, of course, is to wait for the IRS to publish its list of counties, which it is required to issue by the end of September each year.

In accordance with the 2024 IRS Notice on the matter, the following is a list of the counties (and other areas) for which the 12-month period ending August 31, 2024, is not a drought-free year:

Alabama

Counties of Autauga, Baldwin, Barbour, Bibb, Blount, Bullock, Butler, Calhoun, Cherokee, Chilton, Choctaw, Clarke, Clay, Cleburne, Coffee, Colbert, Conecuh, Coosa, Covington, Crenshaw, Cullman, Dale, Dallas, DeKalb, Escambia, Etowah, Fayette, Franklin, Geneva, Greene, Hale, Henry, Houston, Jackson, Jefferson, Lamar, Lauderdale, Lawrence, Limestone, Lowndes, Madison, Marengo, Marion, Marshall, Mobile, Monroe, Montgomery, Morgan, Perry, Pickens, Pike, Randolph, Russell, Saint Clair, Shelby, Sumter, Talladega, Tallapoosa, Tuscaloosa, Walker, Washington, Wilcox, and Winston.

Arizona

Counties of Apache, Cochise, Coconino, Gila, Graham, Greenlee, Maricopa, Navajo, Pima, Pinal, Santa Cruz, and Yavapai.

Arkansas

Counties of Arkansas, Ashley, Bradley, Calhoun, Chicot, Cleveland, Columbia, Conway, Crittenden, Cross, Dallas, Desha, Drew, Faulkner, Fulton, Garland, Grant, Hot Spring, Jefferson, Lafayette, Lee, Lincoln, Little River, Lonoke, Miller, Mississippi, Monroe, Ouachita, Perry, Phillips, Pope, Prairie, Pulaski, Randolph, Saint Francis, Saline, Sevier, Sharp, Union, White, Woodruff, and Yell.

California

County of Siskiyou.

Colorado

Counties of Adams, Alamosa, Arapahoe, Archuleta, Baca, Bent, Boulder, Broomfield, Conejos, Costilla, Delta, Denver, Dolores, Grand, Gunnison, Hinsdale, Huerfano, Jackson, Jefferson, La Plata, Larimer, Las Animas, Mesa, Mineral, Montezuma, Montrose, Ouray, Prowers, Rio Grande, Saguache, San Juan, San Miguel, and Weld.

District of Columbia

District of Columbia.

Florida

Counties of Bay, Brevard, Broward, Charlotte, Collier, DeSoto, Escambia, Gadsden, Glades, Hardee, Hendry, Highlands, Hillsborough, Holmes, Indian River, Jackson, Lee, Manatee, Martin, Okaloosa, Okeechobee, Osceola, Palm Beach, Pasco, Pinellas, Polk, Saint Lucie, Santa Rosa, Sarasota, Walton, and Washington.

Georgia

Counties of Baker, Baldwin, Banks, Barrow, Bartow, Bibb, Bleckley, Butts, Calhoun, Carroll, Catoosa, Chattooga, Cherokee, Clarke, Clay, Cobb, Colquitt, Dade, Dawson, Decatur, DeKalb, Dooly, Dougherty, Douglas, Early, Elbert, Fannin, Floyd, Forsyth, Franklin, Fulton, Gilmer, Gordon, Grady, Gwinnett, Habersham, Hall, Haralson, Hart, Houston, Jackson, Jasper, Jones, Laurens, Lincoln, Lumpkin, Macon, Madison, Miller, Mitchell, Monroe, Murray, Oconee, Oglethorpe, Paulding, Peach, Pickens, Polk, Pulaski, Putnam, Quitman, Rabun, Randolph, Seminole, Stephens, Stewart, Terrell, Thomas, Towns, Twiggs, Union, Walker, Walton, Washington, White, Whitfield, Wilkes, Wilkinson, and Worth.

Hawaii

Counties of Hawaii, Honolulu, Kauai, and Maui.

Idaho

Counties of Benewah, Bonner, Bonneville, Boundary, Clark, Clearwater, Fremont, Idaho, Kootenai, Latah, Lemhi, Lewis, Nez Perce, Shoshone, and Teton.

Illinois

Counties of Adams, Bond, Boone, Brown, Clark, Clay, Clinton, Crawford, Cumberland, Edwards, Effingham, Fayette, Franklin, Hamilton, Hancock, Jackson, Jasper, Jefferson, Lawrence, McDonough, McHenry, Marion, Mercer, Monroe, Montgomery, Perry, Pike, Randolph, Richland, Rock Island, Saint Clair, Schuyler, Shelby, Stephenson, Wabash, Washington, Wayne, White, Williamson, and Winnebago.

Indiana

Counties of Bartholomew, Brown, Clay, Daviess, Decatur, Dubois, Gibson, Greene, Jackson, Jefferson, Jennings, Knox, Lawrence, Martin, Monroe, Orange, Owen, Pike, Ripley, Scott, Sullivan, and Washington.

Iowa

Counties of Adair, Adams, Allamakee, Appanoose, Audubon, Benton, Black Hawk, Boone, Bremer, Buchanan, Buena Vista, Butler, Calhoun, Carroll, Cass, Cedar, Cerro Gordo, Cherokee, Chickasaw, Clarke, Clay, Clayton, Clinton, Crawford, Dallas, Davis, Decatur, Delaware, Des Moines, Dubuque, Fayette, Floyd, Franklin, Greene, Grundy, Guthrie, Hamilton, Hancock, Hardin, Harrison, Henry, Howard, Humboldt, Ida, Iowa, Jackson, Jasper, Jefferson, Johnson, Jones, Keokuk, Kossuth, Lee, Linn, Louisa, Lucas, Lyon, Madison, Mahaska, Marion, Marshall, Mills, Mitchell, Monona, Monroe, Montgomery, Muscatine, Page, Palo Alto, Plymouth, Pocahontas, Polk, Pottawattamie, Poweshiek, Ringgold, Sac, Shelby, Sioux, Story, Tama, Taylor, Union, Van Buren, Wapello, Warren, Washington, Wayne, Webster, Winnebago, Winneshiek, Woodbury, Worth, and Wright.

Kansas

Counties of Allen, Anderson, Atchison, Barber, Barton, Bourbon, Butler, Chase, Chautauqua, Clark, Clay, Cloud, Coffey, Comanche, Cowley, Crawford, Decatur, Dickinson, Douglas, Edwards, Elk, Ellis, Ellsworth, Finney, Ford, Franklin, Geary, Gove, Graham, Grant, Gray, Greeley, Greenwood, Hamilton, Harper, Harvey, Haskell, Hodgeman, Jackson, Jefferson, Jewell, Johnson, Kearny, Kingman, Kiowa, Labette, Lane, Leavenworth, Lincoln, Linn, Lyon, McPherson, Marion, Marshall, Meade, Miami, Mitchell, Montgomery, Morris, Morton, Neosho, Ness, Norton, Osage, Osborne, Ottawa, Pawnee, Phillips, Pottawatomie, Pratt, Rawlins, Reno, Republic, Rice, Riley, Rooks, Rush, Russell, Saline, Scott, Sedgwick, Seward, Shawnee, Sheridan, Sherman, Smith, Stafford, Stanton, Stevens, Sumner, Thomas, Trego, Wabaunsee, Washington, Wilson, Woodson, and Wyandotte.

Kentucky

Counties of Adair, Allen, Barren, Bell, Boyd, Boyle, Breathitt, Breckinridge, Butler, Carter, Casey, Clay, Clinton, Cumberland, Edmonson, Elliott, Floyd, Grayson, Green, Greenup, Hardin, Harlan, Hart, Jackson, Johnson, Knott, Knox, Larue, Laurel, Lawrence, Leslie, Letcher, Lincoln, McCreary, Magoffin, Marion, Martin, Metcalfe, Monroe, Morgan, Nelson, Ohio, Owsley, Perry, Pulaski, Rockcastle, Russell, Taylor, Warren, Wayne, and Whitley.

Louisiana

Parishes of Acadia, Allen, Ascension, Assumption, Avoyelles, Beauregard, Bienville, Bossier, Caddo, Calcasieu, Caldwell, Cameron, Catahoula, Claiborne, Concordia, De Soto, East Baton Rouge, East Carroll, East Feliciana, Evangeline, Franklin, Grant, Iberia, Iberville, Jackson, Jefferson, Jefferson Davis, Lafayette, Lafourche, La Salle, Lincoln, Livingston, Madison, Morehouse, Natchitoches, Orleans, Ouachita, Plaquemines, Pointe Coupee, Rapides, Red River, Richland, Sabine, Saint Bernard, Saint Charles, Saint Helena, Saint James, Saint John the Baptist, Saint Landry, Saint Martin, Saint Mary, Saint Tammany, Tangipahoa, Tensas, Terrebonne, Union, Vermilion, Vernon, Washington, Webster, West Baton Rouge, West Carroll, West Feliciana, and Winn.

Maryland

Counties of Allegany, Frederick, Garrett, Howard, Montgomery, Prince George's, and Washington.

Massachusetts

Counties of Dukes and Nantucket.

Michigan

County of Dickinson, Gogebic, Iron, and Ontonagon.

Minnesota

Counties of Aitkin, Anoka, Becker, Beltrami, Benton, Big Stone, Blue Earth, Brown, Carlton, Carver, Cass, Chisago, Clearwater, Cook, Cottonwood, Crow Wing, Dakota, Dodge, Douglas, Faribault, Fillmore, Freeborn, Goodhue, Hennepin, Houston, Hubbard, Isanti, Itasca, Jackson, Kanabec, Kittson, Koochiching, Lake, Lake of the Woods, Le Sueur, Lincoln, Lyon, McLeod, Mahnomen, Marshall, Martin, Meeker, Mille Lacs, Morrison, Mower, Murray, Nicollet, Nobles, Norman, Olmsted, Otter Tail, Pennington, Pine, Pipestone, Polk, Ramsey, Red Lake, Redwood, Renville, Rice, Rock, Roseau, Saint Louis, Scott, Sherburne, Sibley, Stearns, Steele, Todd, Traverse, Wabasha, Wadena, Waseca, Washington, Watonwan, Winona, Wright, and Yellow Medicine.

Mississippi

Counties of Adams, Alcorn, Amite, Attala, Benton, Bolivar, Calhoun, Carroll, Chickasaw, Choctaw, Claiborne, Clarke, Clay, Coahoma, Copiah, Covington, DeSoto, Forrest, Franklin, George, Greene, Grenada, Hancock, Harrison, Hinds, Holmes, Humphreys, Issaquena, Itawamba, Jackson, Jasper, Jefferson, Jefferson Davis, Jones, Kemper, Lafayette, Lamar, Lauderdale, Lawrence, Leake, Lee, Leflore, Lincoln, Lowndes, Madison, Marion, Marshall, Monroe, Montgomery, Neshoba, Newton, Noxubee, Oktibbeha, Panola, Pearl River, Perry, Pike, Pontotoc, Prentiss, Quitman, Rankin, Scott, Sharkey, Simpson, Smith, Stone, Sunflower, Tallahatchie, Tate, Tippah, Tishomingo, Tunica, Union, Walthall, Warren, Washington, Wayne, Webster, Wilkinson, Winston, Yalobusha, and Yazoo.

Missouri

Counties of Adair, Andrew, Audrain, Barton, Bates, Benton, Bollinger, Boone, Buchanan, Caldwell, Callaway, Camden, Cape Girardeau, Carroll, Carter, Cass, Cedar, Chariton, Christian, Clark, Clay, Clinton, Cole, Cooper, Crawford, Dade, Dallas, Daviess, DeKalb, Dent, Douglas, Franklin, Gasconade, Gentry, Greene, Harrison, Henry, Hickory, Holt, Howard, Howell, Iron, Jackson, Jefferson, Johnson, Knox, Laclede, Lafayette, Lewis, Linn, Livingston, Macon, Madison, Maries, Marion, Miller, Moniteau, Monroe, Montgomery, Morgan, Nodaway, Oregon, Osage, Perry, Pettis, Phelps, Pike, Platte, Polk, Pulaski, Putnam, Ralls, Randolph, Ray, Reynolds, Ripley, Saint Clair, Sainte Genevieve, Saint Francois, Saline, Schuyler, Scotland, Shannon, Shelby, Sullivan, Texas, Vernon, Washington, Wayne, Webster, Worth, and Wright.

Montana

Counties of Beaverhead, Big Horn, Blaine, Broadwater, Carbon, Carter, Cascade, Chouteau, Daniels, Deer Lodge, Fallon, Flathead, Gallatin, Garfield, Glacier, Granite, Hill, Jefferson, Judith Basin, Lake, Lewis and Clark, Liberty, Lincoln, McCone, Madison, Meagher, Mineral, Missoula, Park, Phillips, Pondera, Powder River, Powell, Ravalli, Richland, Roosevelt, Rosebud, Sanders, Sheridan, Silver Bow, Stillwater, Sweet Grass, Teton, Toole, and Valley.

Nebraska

Counties of Adams, Antelope, Banner, Blaine, Boone, Box Butte, Brown, Buffalo, Burt, Butler, Cass, Cedar, Cherry, Clay, Colfax, Cuming, Custer, Dakota, Dawes, Dawson, Dixon, Dodge, Douglas, Fillmore, Franklin, Gage, Greeley, Hall, Hamilton, Holt, Hooker, Howard, Jefferson, Kearney, Knox, Lancaster, Logan, Loup, McPherson, Madison, Merrick, Morrill, Nance, Nuckolls, Pierce, Platte, Polk, Rock, Saline, Sarpy, Saunders, Scotts Bluff, Seward, Sheridan, Sherman, Sioux, Stanton, Thayer, Thomas, Thurston, Valley, Washington, Wayne, Webster, and York.

Nevada

County of Humboldt.

New Mexico

Counties of Bernalillo, Catron, Chaves, Cibola, Colfax, Curry, DeBaca, Dona Ana, Eddy, Grant, Guadalupe, Harding, Hidalgo, Lea, Lincoln, Los Alamos, Luna, McKinley, Mora, Otero, Quay, Rio Arriba, Roosevelt, Sandoval, San Juan, San Miguel, Santa Fe, Sierra, Socorro, Taos, Torrance, Union, and Valencia.

New York

Counties of Cattaraugus, Genesee, Livingston, Monroe, and Wyoming.

North Carolina

Counties of Alamance, Alexander, Alleghany, Anson, Ashe, Avery, Beaufort, Bertie, Bladen, Brunswick, Buncombe, Burke, Cabarrus, Caldwell, Caswell, Catawba, Chatham, Cherokee, Clay, Cleveland, Columbus, Craven, Cumberland, Davidson, Davie, Edgecombe, Forsyth, Gaston, Graham, Granville, Greene, Guilford, Harnett, Haywood, Henderson, Hoke, Iredell, Jackson, Johnston, Jones, Lee, Lenoir, Lincoln, McDowell, Macon, Martin, Mecklenburg, Mitchell, Montgomery, Moore, New Hanover, Pamlico, Pender, Person, Pitt, Polk, Randolph, Richmond, Robeson, Rockingham, Rowan, Rutherford, Sampson, Scotland, Stanly, Stokes, Surry, Swain, Transylvania, Union, Vance, Warren, Washington, Watauga, Wayne, Wilkes, Wilson, Yadkin, and Yancey.

North Dakota

Counties of Adams, Benson, Bottineau, Bowman, Burke, Cavalier, Divide, Grand Forks, McHenry, McKenzie, Nelson, Pembina, Pierce, Ramsey, Renville, Rolette, Towner, Walsh, Ward, and Williams.

Ohio

Counties of Adams, Athens, Belmont, Brown, Carroll, Champaign, Clark, Clinton, Coshocton, Delaware, Fairfield, Fayette, Franklin, Gallia, Greene, Guernsey, Harrison, Highland, Hocking, Jackson, Jefferson, Lawrence, Licking, Madison, Meigs, Monroe, Montgomery, Morgan, Muskingum, Noble, Perry, Pickaway, Pike, Ross, Scioto, Tuscarawas, Union, Vinton, Warren, and Washington.

Oklahoma

Counties of Alfalfa, Atoka, Beaver, Beckham, Blaine, Bryan, Caddo, Canadian, Carter, Choctaw, Cleveland, Coal, Comanche, Cotton, Craig, Custer, Dewey, Ellis, Garfield, Garvin, Grady, Grant, Greer, Harmon, Harper, Hughes, Jackson, Jefferson, Johnston, Kay, Kingfisher, Kiowa, Latimer, Le Flore, Love, McClain, McCurtain, Major, Marshall, Murray, Noble, Nowata, Osage, Pawnee, Payne, Pittsburg, Pontotoc, Pottawatomie, Pushmataha, Roger Mills, Seminole, Stephens, Texas, Tillman, Washington, Washita, Woods, and Woodward.

Oregon

Counties of Benton, Clackamas, Clatsop, Columbia, Coos, Crook, Curry, Deschutes, Douglas, Gilliam, Harney, Hood River, Jackson, Jefferson, Josephine, Klamath, Lane, Lincoln, Linn, Malheur, Marion, Morrow, Multnomah, Polk, Sherman, Tillamook, Umatilla, Union, Wallowa, Wasco, Washington, and Yamhill.

Pennsylvania

Counties of Bedford, Cambria, Fayette, Franklin, Fulton, Greene, Indiana, Somerset, Washington, and Westmoreland.

South Carolina

Counties of Abbeville, Aiken, Allendale, Anderson, Bamberg, Beaufort, Berkeley, Calhoun, Cherokee, Chester, Chesterfield, Clarendon, Colleton, Darlington, Dillon, Dorchester, Fairfield, Florence, Georgetown, Greenville, Greenwood, Hampton, Horry, Jasper, Kershaw, Lancaster, Laurens, Lee, Lexington, McCormick, Marion, Marlboro, Newberry, Oconee, Orangeburg, Pickens, Richland, Saluda, Spartanburg, Sumter, Union, Williamsburg, and York.

South Dakota

Counties of Brookings, Butte, Custer, Deuel, Fall River, Grant, Harding, Lake, Lawrence, Lincoln, McCook, Meade, Minnehaha, Moody, Oglala Lakota, Pennington, Perkins, Roberts, Turner, and Union.

Tennessee

Counties of Anderson, Bedford, Benton, Bledsoe, Blount, Bradley, Campbell, Cannon, Carroll, Carter, Cheatham, Chester, Claiborne, Clay, Cocke, Coffee, Crockett, Cumberland, Davidson, Decatur, DeKalb, Dickson, Dyer, Fayette, Fentress, Franklin, Gibson, Giles, Grainger, Greene, Grundy, Hamblen, Hamilton, Hancock, Hardeman, Hardin, Hawkins, Haywood, Henderson, Henry, Hickman, Houston, Humphreys, Jackson, Jefferson, Johnson, Knox, Lauderdale, Lawrence, Lewis, Lincoln, Loudon, McMinn, McNairy, Macon, Madison, Marion, Marshall, Maury, Meigs, Monroe, Montgomery, Moore, Morgan, Obion, Overton, Perry, Pickett, Polk, Putnam, Rhea, Roane, Robertson, Rutherford, Scott, Sequatchie, Sevier, Shelby, Smith, Stewart, Sumner, Tipton, Trousdale, Union, Van Buren, Warren, Wayne, Weakley, White, Williamson, and Wilson.

Texas

Counties of Anderson, Andrews, Angelina, Aransas, Archer, Armstrong, Atascosa, Austin, Bailey, Bandera, Bastrop, Baylor, Bee, Bell, Bexar, Blanco, Borden, Bosque, Bowie, Brazoria, Brazos, Brewster, Briscoe, Brooks, Brown, Burleson, Burnet, Caldwell, Calhoun, Callahan, Cameron, Camp, Carson, Cass, Chambers, Cherokee, Childress, Clay, Cochran, Coke, Coleman, Collin, Collingsworth, Colorado, Comal, Comanche, Concho, Cooke, Coryell, Cottle, Crane, Crockett, Crosby, Culberson, Dallas, Dawson, Deaf Smith, Delta, Denton, DeWitt, Dickens, Dimmit, Donley, Duval, Eastland, Ector, Edwards, Ellis, El Paso, Erath, Falls, Fannin, Fayette, Fisher, Floyd, Foard, Fort Bend, Franklin, Freestone, Frio, Gaines, Galveston, Garza, Gillespie, Glasscock, Goliad, Gonzales, Grayson, Gregg, Grimes, Guadalupe, Hale, Hall, Hamilton, Hardeman, Hardin, Harris, Harrison, Haskell, Hays, Hemphill, Henderson, Hidalgo, Hill, Hockley, Hood, Hopkins, Houston, Howard, Hudspeth, Hunt, Irion, Jack, Jackson, Jasper, Jeff Davis, Jefferson, Jim Hogg, Johnson, Jones, Karnes, Kaufman, Kendall, Kenedy, Kent, Kerr, Kimble, King, Kinney, Kleberg, Knox, Lamar, Lampasas, La Salle, Lavaca, Lee, Leon, Liberty, Limestone, Lipscomb, Live Oak, Llano, Loving, Lubbock, Lynn, McCulloch, McLennan, McMullen, Madison, Marion, Martin, Mason, Matagorda, Maverick, Medina, Menard, Midland, Milam, Mills, Mitchell, Montague, Montgomery, Morris, Motley, Nacogdoches, Navarro, Newton, Nolan, Oldham, Orange, Palo Pinto, Panola, Parker, Parmer, Pecos, Polk, Potter, Presidio, Rains, Randall, Reagan, Real, Red River, Reeves, Refugio, Robertson, Rockwall, Runnels, Rusk, Sabine, San Augustine, San Jacinto, San Patricio, San Saba, Schleicher, Scurry, Shackelford, Shelby, Smith, Somervell, Starr, Stephens, Sterling, Stonewall, Sutton, Tarrant, Taylor, Terrell, Terry, Throckmorton, Titus, Tom Green, Travis, Trinity, Tyler, Upshur, Upton, Uvalde, Val Verde, Van Zandt, Victoria, Walker, Waller, Ward, Washington, Webb, Wharton, Wheeler, Wichita, Wilbarger, Willacy, Williamson, Wilson, Winkler, Wise, Wood, Yoakum, Young, Zapata, and Zavala.

Virginia

Cities of Alexandria, Buena Vista, Charlottesville, Covington, Danville, Fairfax, Falls Church, Galax, Harrisonburg, Lexington, Lynchburg, Manassas, Manassas Park, Martinsville, Radford, Roanoke, Salem, Staunton, Waynesboro, and Winchester. Counties of Accomack, Albemarle, Alleghany, Amherst, Appomattox, Arlington, Augusta, Bath, Bedford, Bland, Botetourt, Buchanan, Buckingham, Campbell, Carroll, Charlotte, Clarke, Craig, Culpeper, Fairfax, Fauquier, Floyd, Fluvanna, Franklin, Frederick, Giles, Grayson, Greene, Halifax, Henry, Highland, Lee, Loudoun, Louisa, Lunenburg, Madison, Mecklenburg, Montgomery, Nelson, Northampton, Orange, Page, Patrick, Pittsylvania, Prince Edward, Prince William, Pulaski, Rappahannock, Roanoke, Rockbridge, Rockingham, Russell, Scott, Shenandoah, Smyth, Spotsylvania, Stafford, Tazewell, Warren, Washington, Wise, and Wythe.

Washington

Counties of Adams, Asotin, Benton, Chelan, Clallam, Clark, Columbia, Cowlitz, Douglas, Ferry, Franklin, Garfield, Grant, Grays Harbor, Island, Jefferson, King, Kitsap, Kittitas, Lewis, Lincoln, Okanogan, Pacific, Pend Oreille, Pierce, San Juan, Skagit, Skamania, Snohomish, Spokane, Stevens, Thurston, Wahkiakum, Walla Walla, Whatcom, Whitman, and Yakima.

West Virginia

County of Barbour, Berkeley, Boone, Braxton, Brooke, Cabell, Calhoun, Clay, Doddridge, Fayette, Gilmer, Grant, Greenbrier, Hampshire, Hardy, Harrison, Jackson, Jefferson, Kanawha, Lewis, Lincoln, Logan, McDowell, Marion, Marshall, Mason, Mercer, Mineral, Mingo, Monongalia, Monroe, Morgan, Nicholas, Ohio, Pendleton, Pleasants, Pocahontas, Preston, Putnam, Raleigh, Randolph, Ritchie, Roane, Summers, Taylor, Tucker, Tyler, Upshur, Wayne, Webster, Wetzel, Wirt, Wood, and Wyoming.

Wisconsin

Counties of Adams, Ashland, Barron, Bayfield, Brown, Buffalo, Burnett, Calumet, Chippewa, Clark, Columbia, Crawford, Dane, Dodge, Door, Douglas, Dunn, Eau Claire, Florence, Fond du Lac, Forest, Grant, Green, Green Lake, Iowa, Iron, Jackson, Jefferson, Juneau, Kewaunee, La Crosse, Lafayette, Langlade, Lincoln, Marathon, Marinette, Marquette, Monroe, Oneida, Outagamie, Pepin, Polk, Portage, Price, Richland, Rock, Rusk, Sauk, Sawyer, Taylor, Trempealeau, Vernon, Vilas, Walworth, Washburn, Waukesha, Waupaca, Waushara, Winnebago, and Wood.

Wyoming

Counties of Albany, Big Horn, Campbell, Carbon, Converse, Crook, Fremont, Goshen, Hot Springs, Johnson, Laramie, Lincoln, Natrona, Niobrara, Park, Platte, Sheridan, Sublette, Teton, Washakie, and Weston.

Guam

Island of Guam.

Republic of the Marshall Islands

Atolls of Kwajalein, Majuro, and Wotje.

Federated States of Micronesia

States of Pingelap, Ulithi, Woleai, and Yap.

Commonwealth of the Northern Mariana Islands

Islands of Rota and Saipan.

United States Virgin Islands

Islands of Saint Croix, Saint John, and Saint Thomas.

More “Stuff” in the Ag Law and Tax World

Overview

Agricultural law and taxation is very dynamic.  It deals with real issues facing farmers and ranchers and isn’t just legal theory that one sits around and contemplates – it’s reality.

With today’s article, I look at a few more common issues facing farmers, ranchers and rural landowners in general. 

SAF fuel, R&D credit, drones and cleaning fencerows – these are the topics of today’s post.

Sustainable Aviation Fuel

The USDA’s “Climate Smart Agriculture (CSA) Program” establishes practices for cultivating corn and soybeans for use as sustainable aviation feedstocks.  A clean fuel tax credit is available for those that sell or use sustainable aviation fuel or SAF, and farmers are being incentivized to adopt “sustainable” farming practices to grow crops used to produce the fuel.  The credit applies for each gallon of SAF produced.  The purported idea is to reduce greenhouse gas emissions. 

USDA received millions of dollars under the Green New Deal (a.k.a. the “Inflation Reduction Act of 2022) and then established the idea of CSA farming practices.  A tax credit was also created for 2023 and 2024 (I.R.C. §40B) for the production of “clean” fuel.  The whole deal is “hooked” together via contracts between USDA and major national commodity groups who, in turn, enter into agreements with third parties to certify that a farmer (who is also a contracting party) is growing corn and soybeans in an approved manner.  Essentially, a corn or soybean farmer must use no-till and cover crops. 

An ethanol plant receiving the crops grown in the government-approved manner can reduce it’s carbon score perhaps enough that the SAF produced will qualify the plant for a credit (switching to I.R.C. §45Z after 2024) for 2025 and 2026. 

But there’s no way to “identity preserve” corn and make sure that’s the only corn that goes into the SAF.  Another problem is that powering airplanes with crops is inefficient and unsustainable.  Some studies indicate that it takes 1.7 gallons of corn ethanol to produce a gallon of SAF.  To reach the U.S. goal of 35 billion gallons of ethanol-based SAF, 114 million acres of corn will be needed.  Another “laugh” in all of this is that the government, in putting together the model to measure the reduction in a plant’s carbon score as a result of the way crops are produced, didn’t account for the fuel used in producing the crops.

Oh, in one of the producer contracts I reviewed recently for farmer, the following provision was included:

"Lifecycle Emissions Reductions. The [national commodity organization] Partnership for Climate-Smart Commodities will compensate Producer for practices believed to contribute to lifecycle GHG emissions reductions. This compensation is in no way based on real or perceived soil carbon sequestration.” [emphasis added].

Carbon reduction… yeah…  I am thinking the point of all of this is something other than reducing carbon.  Be careful of any crop production contracts that you sign.

Research and Development Credit

A business can potentially be eligible for a tax credit for qualified expenses associated with research and development (R&D). Over the years, Congress has expanded the availability of the credit, and many farmers may now qualify to take it.  But the provision is quite detailed and there are some unscrupulous promoters. 

The R&D tax credit might apply if your farming operation has qualifying research expenses.  The credit could be about 10 to 15 percent which can reduce payroll tax or your overall tax burden.   But there’s a four-part test you must satisfy.  The research must create a new or improved product or process to increase performance, function, reliability or quality. The research must also involve experimentation and minimize uncertainty about the development of a product or process.  Finally, the research must rely on hard sciences such as engineering, chemistry or biology.

Can it work for you?  Possibly.  The IRS says your entire farm is not a research lab.  But expenses associated with a test plot might work.  That’s a point some promoters don’t clearly make.  Indeed, last year the IRS criminal investigation division examined an R&D promoter that was aggressively targeting farmers.  

Also, you probably should incur at least $100,000 of qualified expenses to make it worthwhile for tax purposes. 

Drones, Privacy and the U.S. Supreme Court

The use of drones in agriculture is increasing.  Some of the uses of drones include scouting crops and monitoring livestock.  But drones can also be used for questionable purposes.  Soon the U.S. Supreme Court will consider whether to hear a case involving the Texas drone law. 

All states have drone laws outlining the permissible and impermissible use of drones.  The Texas law, like many other states, has surveillance provisions and no-fly provisions.  The law says that a drone can’t be used to capture an image of an individual or privately owned real property with the intent to conduct surveillance. Newsgathering is not an exempted use.  And, the law’s no-fly provision makes it unlawful to fly a drone over certain structures including a confined animal feeding operation. 

Two media organizations challenged the law as unconstitutional on free speech grounds and the trial court agreed.  But the appellate court reversed.  Now the U.S. Supreme Court is going to consider whether to take the case at a conference on September 30.  The case is an important one for agriculture, particularly because of the vulnerability of farming and ranching operations and agribusinesses that have property in the open to being surveilled by the government., as well as organizations that want to do them harm.  That last point is particularly true with respect to confinement animal operations.

The case is National Press Photographers Association v. McCraw, 90 F.4th 770 (5th Cir. 2024), pet. for cert. filed, No. 23, 1105 (Apr. 9, 2024). 

Issues when Cleaning Out a Fencerow

Cleaning up fencerows seems to be an ongoing project.  But the cleanup process can generate legal issues that you might not have thought about.  For example, what should you do if there’s a tree in the fence line?  In that situation, each adjacent owner has an ownership interest in the tree. It’s considered to be jointly owned, and you could be liable for damages if you cut it down and your neighbor objects.  But, if only the branches or roots of a tree extend past the property line and onto an adjoining neighbor’s property, the branches and roots don’t give the neighbor an ownership interest in the tree.  In that situation, you can trim the branches that hang over onto your property.  That’s an important point, for example, if you are dealing with a thorn tree that can puncture tires.

Always make sure to trim branches, bushes and vines on a property line with care.  Keep the neighbor’s rights in mind when doing the cleanup work.  Maintaining good communication is aways beneficial when property line work is involved.  Also, if a neighbor’s tree falls onto your property, it’s your responsibility to clean up the mess – but you can keep the resulting firewood.  The converse is also true.  And, it’s not a trespass to be on your neighbor’s side of the fence when doing fence maintenance, such as cleaning out a fence row.

Conclusion

That’s another “snippet” of various legal and tax issues.  More next time.

Contracts; Insurance and Property Rights - Impacts for Your Farming/Ranching Operation

Merger Clauses in Contracts

Normally the terms of a written contract define the parameters of a deal.  That’s particularly the case if the contract contains a “merger” clause.  That’s a clause that says the terms of the written agreement constitute the entire understanding of the parties. But, without a merger clause, it might be possible to introduce evidence of additional terms or agreements that the parties entered into that might be contrary to the contract’s written terms. 

For example, assume you agree to sell three acres so the buyer can build a house and the contract says that the buyer gets possession after you harvest your growing crop.  But you and the buyer agree orally that the buyer can get possession early by paying you for the amount of lost net crop income if possession is taken before crop harvest.  The buyer wants possession early and you provide an invoice for your estimated lost income.  The buyer then pays for building materials, but you then change your mind and want to stick to the contact language on possession occurring after harvest.  Without a merger clause in the written sales contract, the buyer will have a good argument that payment of your invoice for crop damage is enough to trigger early possession.

Tort Liability and Installment Land Contracts

Sometimes agricultural land is sold by an installment sale contract.  It’s a method for the long-term financing of farmland purchases.  The buyer gets possession and equitable title, but legal title stays with the seller until a specified part of the principal and interest has been paid.  But does that mean that the seller has liability for damage to the property or persons on the property while holding legal title?  

The seller finances the purchase of farmland under an installment sale contract and retains legal title until a certain amount of principal and interest has been paid.  The down payment is usually low which helps beginning farmers and others with minimal amounts of cash. The buyer is also normally given possession, even though the general rule is that possession follows legal title.  In most cases, the party in possession pays real property taxes and assessments, and the buyer typically has an obligation to insure the premises either at the time the contract is entered into or at the time of possession.  That’s an important point. 

A purchaser’s status as an equitable owner means that the seller under an installment land contract is not liable for torts on the property once it has been conveyed to the buyer.  It’s the buyer’s possession of the property that is the key.  And, that’s why it’s important that the buyer carry insurance even though the seller still has legal title.

Liability Insurance

Liability insurance is part of the overall risk-management program for a farm or ranch.  But, when the farming or ranching activity changes, it’s a good idea to double-check to make sure existing coverage is adequate or whether a policy rider needs to be obtained.

In a recent case the insured’s homeowner’s policy provided coverage to others “caused by an animal owned by or in the care of an insured.”  The insured then bought 10 black heifers and penned them inside a barbed-wire enclosure behind his home.  But the heifers got out and onto the adjacent road where a motorist hit them.  The motorist sued for damages and the insurance company denied coverage under a policy exclusion for “bodily injury or property damage arising out of business or farming engaged in by an insured.”  The policy defined “farming” as “the operation of an agricultural… enterprise…” but did not define the term “enterprise.” 

Despite the somewhat unclear policy language, the trial court concluded that the insured’s purchase and ownership of the cattle constituted an “enterprise” within the exclusion’s scope.  The appellate court affirmed. 

Make sure you evaluate your coverage when circumstances change. While it’s common to evaluate liabilities at insurance renewals, periodic checks on exposures can avoid coverage gaps like the one in this case.

The case is Clark v. Alfa Insurance Corporation, No. 2022-CA-01251-COA, 2024 Miss. App. LEXIS 296 (Miss. Ct. App. Jul. 23, 2024).

Property Rights

Property rights are a fundamental constitutional right.  But recently the executive branch and certain administrative agencies have ventured into the realm of property rights in a negative way for rural landowners. Involved is a global agenda couched in altruism – saving people from the ravages of “climate change.”   

A 2012 Earth Summit established a goal of setting aside 50 percent of the world’s land and water for conservation by 2050.  In late January 2021, the President issued an Executive Order establishing a goal of putting 30 percent of U.S. land and water under permanent government control by 2030. That’s in addition to the 36 percent of U.S. land that is already owned or controlled by federal and state governments. At the same time, the Interior Department issued an order removing state and local control over federal land acquisitions.

Lawsuits have been filed challenging government control of private land that would curtail mining, ranching and other activities, and one State passed a law allowing it to overrule some federal directives.  Historically, courts deferred to administrative agency efforts to withdraw land and natural resources from private use, but that deferential standard has now changed.  It will take some time to see how that works out in the courts.

Also, some legal commentators are asserting that the U.S. Constitution should be used to negatively impact private property rights because of “climate change.”  They’re calling for a “constitutional revolution.”  That’s worth keeping an eye on.  Land is the number one asset for farmers and ranchers and to the extent the government controls the land or farming and ranching activities, it controls the means of food production.

Stay tuned.

More Legal and Tax Issues Involving Farmers and Ranchers

Overview

With today’s article I look at more legal and tax issues that farmers and ranchers need to know about.  Being aware of legal and tax issues is a means of overall risk management for the operation. 

More discussion of legal and tax issues – it’s the topic of today’s post.

Getting Sued in Another State – The Personal Jurisdiction Issue

Walters v. Lima Elevator Co., 84 N.E.3d 1218 (Ind. Ct. App. 2017)

If you engage in a business transaction involving your farm or ranch in another state and a lawsuit is filed based on that transaction, does that state’s legal system have jurisdiction over you?  In 1945, the U.S. Supreme Court said that a party (particularly a corporation or a business) could be sued in a state if the party had “minimum contacts” with that state.  International Shoe Company v. State of Washington, 326 U.S. 310 (1945).  Over time, many courts have wrestled with the meaning of “minimum contacts,” but it basically comes down to whether the party is deriving the benefit of doing business with that particular state or is sufficiently using the resources of that state.  That’s oversimplifying the application of the Court’s reasoning, but I think you get the point.

In terms of applying the “minimum contacts” theory to farm businesses, a recent case provides a good illustration.  In the case, a Michigan farmer ordered seed from an Indiana elevator about 20 miles away.  It was the third time he had done this.  He bought the seed on credit, and when it was ready he went to the elevator to pick it up.  When he didn’t pay for the seed, the elevator sued him in the local court in Indiana.  He sought to dismiss the case on the basis that the Indiana court didn’t have jurisdiction over him. He claimed that he lacked sufficient minimum contacts with Indiana to be sued there.  The court disagreed.  The Michigan farmer had “purposely availed” himself of the privilege of conducting business in Indiana.  Because of that, the court reasoned, he could have reasonably anticipated being subject to the Indiana judicial system if he didn’t pay his bill.  His due process rights were also not violated – his farm was less than 20 miles away from the Indiana elevator.

If you intentionally conduct business in a state and are sued as a result of your contacts and actions with that state, that state’s courts will likely have personal jurisdiction over you.

Social Security Planning for Farmers

Introduction

Part of retirement planning for a farmer includes Social Security benefits.  Relatedly, if you are nearing retirement age you might be asking yourself when you should start drawing Social Security benefits. The answer is, “it depends.”  But there are a few principles to keep in mind.

The first point to keep in mind is that maximum Social Security benefits can be received if you don’t withdraw benefits until you reach full retirement age – that’s presently between ages 66 and 67.  Additional benefits can be achieved for each year of postponement until you reach age 70.  Another point is that some Social Security benefits are reduced once certain income thresholds are reached.  For 2024, if you haven’t reached full retirement age and earn more than $22,320, benefits get reduced $1 for every $2 above the limit.  During the year in which you reach full retirement age, the earnings limit is $59,520 with a $1 dollar reduction for every $3 dollars over the limit. Once you hit full retirement age, the limit on earning drops off. 

In-kind wages count toward the earnings limitation test, but employer-provided health insurance benefits don’t.  Also, federal farm program payments are not earnings for years other than the first year you apply for Social Security benefits. 

So, when should you start drawing benefits?  It depends on your particular situation and your retirement plan.  The Social Security Administration has some useful online calculators that can help.  Check out ssa.gov.

Common Estate Planning Mistakes of Farmers

What are some common mistakes that farmers and ranchers make when it comes to estate planning? 

Consider the following:

• Not ensuring title ownership of property complies with your overall estate planning goals and objectives. This includes the proper use of jointly held property, as well as IRAs and other documents that have beneficiary designations. 
• Not knowing what the language in a deed means for purposes of passage of the property at death.
• Leaving everything outright to a surviving spouse when the family wealth is potentially subject to federal estate tax.
• Thinking that “fair” means “equal.” If you have both “on-farm” and “off-farm” heirs, the control of the family business should pass to the “on-farm” heirs, and the “off-farms” heirs should get an income interest that is roughly balanced in value to that of the “on-farm” heirs’ control interest.  Leaving the farm to all the kids equally is rarely a good idea in that situation.
• Letting tax issues drive the process.
• Not preserving records and key documents in a secure place where the people that will need to find them know where they are. 
• And not routinely reviewing your plan. Life events may have changed your goals or objectives.

I could list more, but these are some big ones.  Try to avoid these mistakes with your estate plan.

When is a Partnership Formed?

Farmers and ranchers often do business informally.  That informality can raise a question of whether the business arrangement has created a partnership.  If that is determined to be the case, numerous legal issues might be created. 

A big potential issue is that of unlimited liability.  Partners are jointly and severally liable for the debts of the partnership that arise out of partnership business.  Also, a partnership files its taxes differently than do individuals, and assets that are deemed to be partnership assets could pass differently upon the death of someone deemed to be a partner.

So how do you know if your informal arrangement is a partnership?  From a tax standpoint, if you’re splitting net income from the activity rather than gross, IRS could claim the activity is a partnership.  While simply jointly owning assets is not enough, by itself, to constitute a partnership, if you refer to you and your co-worker as “partners” or create a partnership bank account or fill out FSA documents as a “partnership,” a court could conclude the activity is a partnership.  Most crop-share or livestock share leases are not partnerships, but you must be careful.  It’s best to execute a written lease and clearly state that no partnership is intended if you don’t want questions to come up.

The IRS missed asserting that an informal partnership arrangement had been created by a mother and her daughter in a Tax Court case last year involving an Oklahoma ranch, and also lost on a hobby loss argument.  Carson v. Comr., 2024 U.S. Tax Ct. LEXIS 1624 (U.S. Tax Ct. May 18, 2023).  Don't count on IRS missing the same arguments in your situation.

Conclusion

There will be more issues to discuss next time.

Kansas Supreme Court Upholds Property Rights – Right-to-Farm Law Inapplicable when Farming Operation Not in Compliance with State Law – All of It

Overview

The Kansas Supreme Court has affirmed two lower courts with all of the opinions providing a thorough explanation of property rights with respect to road ditch rights-of-way, as well as the common law of trespass and nuisance and the application of the Kansas Right-to-Farm law.  The case involved what is perhaps the most egregious ag nuisance case in the history of Kansas that has reached the Kansas Supreme Court.  

Of trespass, nuisance and right-to-farm laws – it’s the topic of today’s post.

Background Facts

In Ross v. Nelson, No. 125,274, 2024 Kan. LEXIS 78 (Kan. Sup. Ct. Aug. 23, 2024), aff’g., 63 Kan. App.2d 634, 534 P.3d 634 (2023), the defendant (Nelson) owned multiple farming operations and installed about two miles of pipeline in the road ditch right-of-way next to a public road to transport liquified hog waste to spread on his crop fields.  He installed the three underground pipes (two to carry water to his hog operation and one to carry the effluent) without the consent of the adjacent landowners (the plaintiffs).  He also did not follow the applicable county permitting process.  The defendant’s daughter-in-law later filled-out a permit application and paid the fee for installing the pipes but neither the county clerk nor Road and Bridge Supervisor ever signed the permit application.  The defendant also created an impression with the County Commissioners that he had the permission of the landowners adjacent to the roadway where he was wanting to install pipes.  The County Attorney advised the Commissioners that the adjacent landowners had to consent before the application could be approved.  But the fact remained that the Commission never granted approval to install the pipes and the County Attorney called the Sheriff who temporarily stopped the installation process.  However, the defendant later completed the installation. The Sheriff also contacted the Kansas Department of Health and Environment (KDHE), but the KDHE explained that it does not oversee piping installation between hog operations and disposal sites.  The KDHE regulates the disposal of hog waste.

Note:  The defendant consistently maintained that he didn’t need permission to install the pipes in the road ditch right-of-way.  He also lobbied the county commissioners and the state legislature for express authority to lay the pipelines.  His lobbying efforts were not successful. 

Once installed, the pipes ran for a mile along each of the plaintiffs’ road frontages.  The liquified hog manure was sprayed from a pivot irrigation system (and end gun) near a home of one of the plaintiffs.  The plaintiffs, also farmers, sued for trespass and nuisance. 

The spray from the pivot came within 200 feet of one of the plaintiffs’ homes.  As noted, neither of the plaintiffs gave permission to the defendant to lay pipes in the road right-of-way, and the defendant choose not to dispose of the hog waste on other land that he owned where no one lived nearby. 

In the Spring of 2019, the waste was pumped through the pipelines and effluent was sprayed on the field.  The plaintiffs filed a report with the Sheriff concerning the odor.  The report noted that hog waste mist would drift onto the plaintiffs’ property and sprayed one of the plaintiffs personally as well as their home which then became covered in flies.  The wife of one of the plaintiff couples moved to their Nebraska home.   One of the plaintiffs had planned to sell their farmland to one of their tenants, but the sale fell through because of the odor.

Trial Court

The plaintiffs sued for trespass and nuisance.  The trial court ruled for the plaintiffs on both issues.  On the trespass issue, the trial court noted that the defendant did not have a public purpose for installing pipes in the road right-of-way and he didn’t have permission – either from the landowners, the county or the legislature.   

The trial court also ruled for the plaintiffs on the nuisance issue.  The Kansas Right-to-Farm law didn’t apply to authorize the defendant’s conduct because the nuisance was the result of the defendant’s trespass. 

The trial court also added a claim for punitive damages. 

The jury returned a verdict of $126,720 in property damages for the plaintiffs, plus $2,000 in nuisance damages plus $50,000 of punitive damages. 

The defendant appealed.

Appellate Court

The appellate court affirmed and in doing so made some important points relevant to all farming operations.

Use of road ditch right-of-way.  The appellate court pointed out that a road ditch right-of-way cannot be used for private purposes without first securing the adjacent landowners’ permission or otherwise receiving local or legislative authority.  The right-of-way is owned by the adjacent property owners.  The public has an easement to use the roadway for travel, that’s it.  Shawnee County Commissioners v. Beckwith, 10 Kan. 603 (1873).  The ownership of the land and “everything connected with the land over which the road is laid out” does not pass to the public but remains with the owner of the underlying (and adjacent) land.  Id.  While the defendant lobbied the legislature for a change in the law on this point, the bill died in committee.  Thus, the defendant’s laying of the pipes in the road ditch right-of-way was a trespass. 

The appellate court specifically noted that “fee owners of real property containing a public roadway have a possessory right to use, control, and exclude others from the land, as long as they do not interfere with the public’s use of the road.  In contrast, the public has an easement over the property to use the road for transportation purposes…but not other rights beyond those purposes.  Any further use by member of the public may be authorized through state action, provided the landowner is compensated for the diminished property rights, or through the landowner’s consent.”  The scope of the public’s easement in a road ditch right-of-way, the court noted, must be for a public purpose.  Any private use must be merely incidental to the public purpose.  Stauber v. City of Elwood, 3 Kan. App. 2d 341, 594 P.2d 1115, rev. den. 226 Kan. 793 (1979).  

Because the defendant was using the road ditch right-of-way solely for his private purposes, he had no right to lay the pipelines without permission or official government authority.  He had neither.  The appellate court pointed out that it was immaterial that the pipelines didn’t interfere with public travel.  The appellate court also rejected as absurd and with no support in Kansas law the defendant’s argument that supplying pork for ultimate public consumption constituted a public purpose.  Consequently, the appellate court upheld the trial court’s determination that the defendant had committed a trespass.

Nuisance and right-to-farm.  The appellate court also upheld the trial court’s consideration of the nuisance claim and the resulting jury award for the plaintiffs on the nuisance claim.  The general legal principle underlying the doctrine of nuisance is that property must be used in such a manner that it does not injure that of others.  See, e.g., Wilburn v. Boeing Airplane Co., 188 Kan. 722, 366 P.2d 246 (1961).  However, there is a limitation placed on nuisance laws.  Many states, including Kansas, have adopted what are know as a “right-to-farm” law.  Such a law limits the extent to which a farm operation may be considered to be a nuisance.  Under the Kansas right-to-farm law, if a farming operation is conducted according to good agricultural practices and was established before surrounding nonfarming activities, the courts must presume that there is no nuisance.  Kan. Stat. Ann. §2-3202(a).  An activity is a good agricultural practice if it “is undertaken in conformity with federal, state, and local laws and rules and regulations.”  Kan. Stat. Ann. §2-3202(b). 

The defendant claimed that the Kansas right-to-farm law protected his fertilization practices from nuisance claims and that there was no evidence submitted at trial to support the jury’s finding that spraying the effluent as fertilizer was a nuisance. 

The appellate court noted that neither party raised on appeal whether the defendant’s activity predated the plaintiffs’ residing nearby.  Thus, the appellate court presumed that the right-to-farm law could apply to protect the defendant’s activity.  The appellate court also did address the fact that the plaintiffs were also farmers.  It has been held in a district court case in Kansas that the Kansas right-to-farm provisions do not apply to disputes between farmers, since the law is designed to protect farmers only from nuisance claims brought by nonfarmers. 

The defendant’s basic argument was that his manure spreading activity was protected by the right-to-farm law because he was in compliance with all federal and state and local laws rules and regulations.  This was in spite of him already found to have committed a trespass which allowed him to engage in the activity that gave rise to the nuisance claim.  The defendant (and amici) tried to finesse this hurdle by asserting that the common law of nuisance was not part of state law.  The appellate court concluded that this was another of the defendant’s absurd arguments and rejected it.  The appellate court determined that the nuisance was the result of a trespass (a violation of state law) and was not protected. 

Punitive damages.  The appellate court also upheld the trial court’s assessment of punitive damages against the defendant.  While an award of punitive damages is a relatively rare occurrence, it will be assessed where the court determines that the evidence warrants it based on the defendant’s particularly bad conduct.  Here, the appellate court determined that witness testimony was persuasive – the wife of one of the plaintiff couples hadn’t stayed at the home for a year; the plaintiffs couldn’t host guests at their home because of the hog odor; a plaintiff’s house was covered with the effluent mist and coated with flies; there was a lingering stench both outside and inside a plaintiff’s home; spray drifted onto one of the plaintiffs; and after the lawsuit was filed, the defendant sprayed twice as much fertilizer as he had the prior year.  The defendant also piled truckloads of manure across from one of the plaintiffs’ homes for several days straight.  The appellate court concluded that this was clearly “willful” and “reprehensible” conduct that warranted imposing punitive damages. 

The defendant claimed that the punitive damage award should be set aside due to “instructional error.”  He claimed that the jury verdict form was unclear as to whether the punitive damages were for trespass or for nuisance.  But his attorney failed to object to the verdict form and the appellate court determined that the form was not clearly erroneous. 

Kansas Supreme Court

On further review, the Kansas Supreme Court affirmed on all points.  The Court determined that the plaintiffs had standing to sue for trespass because they owned the fee interest to road’s subsurface that the defendant interfered with.  The Court also concluded that the defendant committed a trespass as a matter of law.  The defendant’s burying of pipelines in the subsurface area of the county road was within the scope of the highway easement.  Thus, without the plaintiff’s permission to put the pipelines in the road subsurface area, the defendant committed a trespass.  In addition, the scope of the highway easement was limited to public uses that facilitated the highway’s purposes.  The defendant’s use of the highway easement for his own personal purposes exceeded that scope.  The pipelines did not involve any public use.  In addition, the county had no authority to authorize any use of the highway easement that exceeded its scope that encumbered an adjacent landowner’s private property rights. 

The Court also agreed with the lower courts that the defendant was not entitled to summary judgment on the plaintiff’s nuisance claim.  The state right-to-farm statute was inapplicable because the defendant’s trespass meant that he was not in conformity with state law – a prerequisite for the application of the statutory protection from nuisance suits for farming operations.  See Kan. Stat. Ann. §2-3202(b). 

Note:  The Kansas Livestock Association and the Kansas Farm Bureau submitted a “friend of the court” brief on the defendant’s behalf claiming that erred by analyzing the right-to-farm issue under Kan. Stat. Ann. §2-32-2(b) and that Kan. Stat. Ann. §2-3202(c) applied instead (a provision that allows for the statutory protection from nuisance suits when an ag activity is expanded or changed, etc.).  However, the defendant never at any point claimed subsection (c) applied and the defendant’s legal counsel “specifically asserted that subsection (c) did not apply.”  As a result, the Court considered the issue to have been waived. 

Conclusion

The appellate court’s opinion and the Supreme Court’s opinion are both thorough and well thought-out.  The outcome of this litigation is a “win” for property rights in upholding an adjacent owner’s rights in road ditch rights-of-way and noting that the protections of the right-to-farm law is limited to situations where the farming operation accused of committing a nuisance is in compliance with state law – all of it, including state common law. 

The appellate court began its opinion by stating that the case arose “at the intersection of property rights, public roadways and the Kansas Right to Farm Act.”  Unfortunately, the path that led to that intersection was lined with arrogance, greed and a lust for power.  Fortunately, the Supreme Court affirmed the protection of property rights from being co-opted by, as the Court termed it, “an industrial hog-farming operation” that “ruffled more that a few feathers.” 

Ag Law and Tax – More Potpourri of Issues

Overview

The never-ending stream of legal and tax issues facing farmers and ranchers continues unabated.  There’s never a dull moment.  In today’s article I take a brief look as several of the issues that farmers and ranchers.

More ag law and tax potpourri of issues – it’s the topic of today’s post.

 Pre-Paid Farm Expenses and Death

Many cash-basis farmers pre-pay next-year’s input expenses in the current year and deduct the expense against current year income.  The IRS has specific rules for pre-paying and deducting.  In addition, what happens if you pre-pay and deduct expenses for inputs and then die before using them?

Three conditions must be satisfied to currently deduct pre-paid input expenses.  The pre-purchase must involve a binding contract for the purchase of specific goods of a minimum quantity that you will use in your farming business over the next year; you must have a business purpose for the purchase; and the pre-purchase must not materially distort your income over time.   Make sure you have a written contract for your pre-purchases that specifically identifies the goods you are buying to use in your farming business – such as seed, feed and fertilizer.  It’s not too difficult to come up with a business purpose for the pre-purchases such as locking in a price or a supply.

But what if you pre-pay for inputs in the fall and then die in the Spring after you file your tax return deducting the cost but before you can use the inputs?  For a cash basis farmer, those inputs are inventory at death.  That means they’ll be included in your estate and, assuming you have a surviving spouse they can pass to the surviving spouse who can then use them to put the crops in the ground and deduct their cost again on that year’s return. 

This happened in a Tax Court case a few years ago, and the IRS denied the deduction on the surviving spouse’s return as having already been taken.  But the surviving spouse won.  That’s the way the tax Code works because of the step-up in basis of the inputs at the death of the first spouse.

The case is Backemeyer v. Comr., 147 T.C. No. 17 (2016).

Expensing the Cost of Raising Calves

Often large ranches or dairies that are on the accrual method of accounting assume that the cost of cattle and cows must be capitalized and depreciated.  But that assumption may be only partially correct. 

So how should a ranch or a dairy on the accrual method handle the cost of cattle and cows purchased for dairy production or breeding?  While the normal rule is capitalization, the cost to raise calves born on the farm may be expensed as incurred, even if the accrual method of accounting is used.  That’s the case if the farm is not a tax shelter.  While the tax shelter rule hardly ever applies in the farm setting, it can if 35 percent or more of losses are allocated to limited partners.  An active farmer is not a limited partner and if the interest was passed down in a multi-generational family business, it’s also not a limited partner interest under the tax shelter rules.  

It's crucial that the animals are produced in a “farming business.”  That can be an issue if a significant part of the income comes from processing or packing milk products, for example.  In that situation, check to see whether there is more than a single business and how much income each business generates.

Of course, these complications can be avoided if a switch to the cash method of accounting can be made. That might be possible because many times the use of the accrual method is for non-tax business reasons.

Filing of False Forms 1099-Misc.

IRS Form 1099-Misc.is used to report various types of income.  It’s an information return that you send to another taxpayer.  Some of the most common reasons for filing Form 1099-Misc. include anyone you paid more than $600 to for the year for work performed for your business, professional services of any amount, royalty payments and other payments such as prize money or rent.  But be careful who you send a Form 1099-Misc. to. 

In a recent case, a farmer bought the defendant’s land at a court-ordered tax sale.  Shortly thereafter, the plaintiff received Forms 1099-Misc. reporting more than $15 million in connection with the land. The receipt of the Forms was due to the defendant’s issuance of them in retaliation for the plaintiff’s purchase of the land.

There are rules that penalize this behavior, and the plaintiff sued for damages for the fraudulently filed Forms.  The court agreed and imposed a per-Form penalty of the greater of $5,000 or actual damages and ordered that the Forms 1099(c) should reflect $0 in income paid.

So, if you get upset with someone, don’t think you can create a tax problem for them by filing a phony Form 1099-Misc.  It just might come back to bite you.

The case is Scot Thompson Farms, LLC v. Hap Holdings Trust, No 8:23CV25, 2023 U.S. Dist. LEXIS 107772 (D. Neb. Jun. 21, 2023), appeal filed, No. 23-2712 (8th Cir. Jul. 26, 2023) and case dismissed when appellant failed to timely file documents.

Beneficial Ownership Reporting & Unauthorized Practice of Law

At the beginning of 2024 a new reporting requirement kicked in for many businesses.  It’s part of a law designed to crack down on the use of shell corporations to evade paying taxes.  Presently, the courts are sorting out whether the requirement is constitutional.  Another question is whether a non-lawyer can fill out the report and file it. 

The new reporting rule requires most businesses that file with the state to register with the Financial Crimes Enforcement Network and file a report listing the business owners.  The filing is done online.  Businesses in existence before 2024 have until the end of this year to file. New businesses this year have 90 days to file.  Certain farm entities are exempt, but most smaller entities are not.  Even if your farm entity is exempt, you might have an equipment LLC, a land LLC, or any other related entity that’s not. 

Recently New Jersey took the position that if the report for a business is simple, a non-lawyer can complete it and file it.  A complex report must be completed by an attorney.  On the other hand, a recommendation has been made to the Iowa Supreme Court that it’s not the unauthorized practice of law for a non-lawyer to complete the report and file it.  That seems incorrect inasmuch as certain trusts that hold business interests are “reporting entities” and these trusts are very complex and will need to be interpreted. 

That means in Iowa your CPA or other tax professional can complete the report and file it for you.  Whether they will is an entirely separate question.

Blowing Dirt and Liability

Occasionally, there are news reports about traffic accidents due to blowing dirt from farm fields.  It tends to happen in the Spring during planting season when high winds blow dirt across a roadway and severely limit visibility.  That raises a legal question - is a farmer or other rural landowner responsible for injuries or death resulting from accidents where blowing dirt from their field is a factor? 

The matter of soil erosion from farm fields has been a concern of the federal and state governments for many years.  Federal programs designed to address soil erosion were first established as a result of the 1930s Dust Bowl, and some state laws also go back that far.

State provisions typically require landowners to take certain actions designed to minimize soil erosion.  In Kansas, for example, county commissioners can take action to minimize soil erosion.  The Iowa statute was upheld in 1979 against a constitutional challenge. 

But what about the liability issue for a farmer that owns land adjacent to a roadway?  The answer is that a farmer will generally not be liable for injuries or death resulting from obscured visibility due to blowing dirt if the farmer is following an approved soil conservation plan for the farm or is otherwise using generally accepted good farming practices. 

Conclusion

So many issues to discuss – these are the ones that have been on my mind recently. 

More Legal Scenarios Involving Farmers and Ranchers

Overview

As I have noted many times before.  There are many ways in which the law intersects with the daily lives of farmers and ranchers.  Today’s article addresses several of those areas.  Just a little thinking out loud on a random basis.

Self-defense; Good Samaritan laws; preparing for the exit; and cleaning out fencerows – some random topics addressed in today’s post.

Self-Defense

A common question in agricultural settings is how far you can go in defending your personal property from those that would cause damage or steal.  

Agricultural property is often exposed to those who might want to steal, damage or destroy. Where’s the line drawn in far you can go to protect it?  In general, to protect property from vandalism and theft, you have a right to use force that is reasonably necessary under the circumstances.  But you can’t use force beyond what could reasonably be believed necessary under the circumstances, and you can’t use such force as is likely to lead to great bodily injury or death. 

A famous Iowa case from the early 1970s points out that you can’t use force that could physically harm or kill another person in defending your personal property if your life isn’t likewise threatened.  For instance, be careful using guard dogs to ward off trespassers.  The general rule with respect to guard dogs is that you can’t use any more force through an animal than you could personally.  So, if a guard dog injures or kills an intruder, it is the same as if you had done it. Likewise, liability for a dog's dangerous propensities cannot be avoided by posting a sign notifying trespassers of a dog's presence. 

You can take steps to protect your property. Just don’t use any force that is more than what is necessary for the situation.

Relatedly, what can you do within the bounds of the law to defend yourself from an animal such as a dog or a bull or other farm animal that isn’t yours?  In recent years, some states have enacted “stand your ground” provisions that allow you to use whatever force you think is necessary to protect yourself from an equivalent threat, up to and including lethal force.  You don’t have a duty to get away before using force. But you can’t just fire away at will.  Your use of deadly force must be justified – and that you’ll have to prove.  You don’t get a presumption that you could use deadly force. 

In rural settings, the issue often comes up with dogs and livestock that don’t belong to you.  If the animal threatens you with great bodily harm or death, then you can take the animal’s life.  But you’ll have to establish through video or eyewitness testimony that your action was justified.  You’ll likely be charged with animal cruelty or damage to property and then you must establish that you acted properly based on the circumstances.  Remember whether you acted properly is based on whether you had a reasonable fear for your life.  A jury will determine that question if the matter ends up in court. 

So, only take an animal’s life when it’s the last resort, and make sure you have evidence to back up your action. 

Good Samaritan Laws

You’re not legally required to render aid to another person who is in peril.  But does the law provide any protection if you try to help? 

The law used to discourage people from helping others in peril.  One extreme example was the Genovese case in Queens, New York in 1964.  Many people watched from their homes as Kitty Genovese was attacked in the early morning hours on her return to her apartment from work.  No one did anything until it was too late.  They later said that they feared liability for getting involved.  This event helped spur the enactment in all states of “Good Samaritan” laws.

A Good Samaritan law specifies that if you help a person in peril without expectation of compensation, you can only be held liable for injuries resulting from recklessness or willful intent to injure.  These state laws also provide slightly different treatment for emergency medical technicians and hospital staff.

Even though the law doesn’t require you to help someone else in peril, if you do you won’t be liable for any injuries resulting from your attempt to help unless your assistance is reckless, or you intentionally injure the person.  Kitty’s situation was horrible, but it did result in a good change in the governing legal rules. And, in agricultural settings, the rule can also apply in situations where aid is rendered to livestock in peril. 

Preparing for the Exit

When it comes to estate planning, we tend to think of wills and trusts and powers of attorney.  But there are other things you can do before those documents are drafted that will make creating those documents easier and smooth the transition upon death. 

When you work on your estate plan, don’t forget to organize and document other information for those that will need it.  A good idea is to put in a binder a list of your retirement plan information, and copies of health and life insurance policies. Burial plot location and funeral instructions.  Also, provide your email, computer and phone passwords as well as bank account information and data about your debts and bills.  Also, put in that binder copies of your driver’s license, birth certificate, social security card, and marriage license.  Also include documents related to real estate, a list of your assets, land that you own, stored crops, livestock and marketing contracts.  Also include copies of crop insurance policies and USDA program contracts and all your key business relationships. 

Make sure the right person knows where to find the binder and make sure they have access to it. 

Having this information collected will be helpful for any additional steps in the estate planning process. It will also likely allow more efficient use of an attorney’s time in drafting the necessary documents for your estate plan.

Issues when Cleaning Out a Fencerow

Cleaning up fencerows seems to be an ongoing project.  But the cleanup process can generate legal issues that you might not have thought about. 

When you’re cleaning out a fence row legal issues can arise that you might not have thought about.  For example, what should you do if there’s a tree in the fence line?  In that situation, each adjacent owner has an ownership interest in the tree. It’s considered to be jointly owned and you could be liable for damages if you cut it down and your neighbor objects.  But, if only the branches or roots of a tree extend past the property line and onto an adjoining neighbor’s property, the branches and roots don’t give the neighbor an ownership interest in the tree.  In that situation, you can trim the branches that hang over onto your property.  That’s an important point, for example, if you are dealing with a thorn tree that can puncture tires.

Always make sure to trim branches, bushes and vines on a property line with care.  Keep the neighbor’s rights in mind when doing the cleanup work.  Maintaining good communication is aways beneficial when property line work is involved.  Also, if a neighbor’s tree falls onto your property, it’s your responsibility to clean up the mess – but you can keep the resulting firewood.  The converse is also true.  And it’s not a trespass to be on your neighbor’s side of the fence when doing fence maintenance, such as cleaning out a fence row.

Conclusion

There will be more issues to discuss next time.

More Legal and Planning Issues to Ponder

Overview

There’s always something to think about or plan for when it comes to ag law and tax.  Just educating yourself about law and tax in terms of being able to identify the issues that might arise can be very helpful to your farming business if you then find legal and tax counsel to assist you with your plan or take steps to minimize your legal exposure. 

More things legal and tax to ponder – it’s the topic of today’s post.

Sweat Equity – Don’t Count on It

Farming arrangements tend to be informal.  That can include reliance upon “sweat equity” as a transition plan.  The next generation builds up the business by investing money and time with the belief of ownership and control in the future.  All goes well…until it doesn’t.  The next generation may believe that their reward for “sweat equity” that is based on trust and commitment will be eventual ownership and control of the family farming operation.  But, this informality can be a risky approach.  The antidote to this risk is to formalize and document relationships and expectations and write out a solid plan for the future.  Also, maintaining clear and open communication and dealing in actual dollars is also important.  Sweat equity can’t be invested and it can’t be saved. 

If you want the business to continue into the next generation, make sure to structure the business with a solid operating agreement so that the farming heir is protected from losing the business due to issues with siblings.  If siblings are to be bought out, think through how the payments would be made. 

While sweat equity built up by working hard for future rights is commendable, it can lead to serious family fights and disappointment.  The last thing the next generation wants is to have invested substantial time and money in the family farm to end up not ever getting ownership and control. 

It’s money well spent to put a succession plan in place.  What’s your family farm legacy worth?

Farmers and Estimated Tax 

If you’re a farmer, you can make one estimated tax payment each year on January 15. If you don’t do that, you can elect to file and pay 100 percent of your income tax liability by March 1 each year.  This all means that qualification as a “farmer” is critical.  To be a farmer for estimated tax purposes, at least two-thirds of your gross income must be from farming.  Some items of income don’t qualify as farm income such as cash rent.  But gains from selling livestock do, and starting with 2023 returns, gains from selling or trading farm equipment also count as farm income.   

So if you have too much cash rent, you might not be a “farmer” for estimated tax purposes. But, if you qualified in 2023, you’ll automatically qualify in 2024. If you didn’t qualify last year, then make sure you don’t have too much non-farm income so that you’ll qualify this year.

If you don’t meet the definition of a farmer and you don’t make any estimated tax payments, you’ll get hit with a penalty.  Also, as a non-farmer, you’ll have to pay in the lesser of 100 percent of your 2023 tax or 90 percent of 2024 tax. 

If you think that this might apply to you, make sure to review it with your tax advisor to see what your options are.  You might have time this year to restructure lease arrangements or sell livestock or equipment so that you have enough farm income to count as a farmer.

Negligent Entrustment

If you have a farm employee, what’s the extent of your liability exposure, and what steps should you take to minimize those potential legal problems?  In a Texas case last year, a young man was killed while riding an ATV driven by the teenage son of a farming operation’s employee.  The accident occurred off the farm’s premises during a fishing excursion. The farm owner was sued for wrongful death based on negligent entrustment.  Both the trial court and the appellate court determined that there was no negligent entrustment because there wasn’t a special relationship between the ATV driver and the farm.  He wasn’t an employee and the accident occurred while the ATV was being used for personal rather than business purposes.  The courts also pointed out that the farm owner didn’t know or have reason to know that the employee’s son was an unlicensed driver or didn’t know how to handle an ATV. 

As a farm owner, make sure to carefully train employees on usage of farm equipment, machinery and vehicles.  A written guide for usage of these items in an employee handbook might be a good idea.  Address issues such as off-farm use and use by family members.  Also, make sure your liability insurance is adequate by getting a thorough review of what the policy does and does not cover.  Those steps could help minimize your liability exposure.

The case is Mitschke v. Borromeo, No. 07-20-00283-CV, 2023 Tex. App. LEXIS 5117 (Tex. Ct. App. Jul. 12, 2023).

Current Deduction vs. Capitalization

You can claim a tax deduction for amounts spent for repairs on your farm. But an expense that improves property cannot be currently deducted.  So, where’s the line drawn between the two?

The rules as to what is a currently deductible “repair” and what must be capitalized, added to basis and depreciated over time have never provided a bright line. The basic issue is distinguishing between deductible ordinary and necessary expenses paid or incurred during the tax year in carrying on a trade or business, and amounts spent to restore property.  Amounts paid for incidental repairs are currently deductible.  But amounts paid for new property or for permanent improvements or betterments that increase the value of any property, as well as amounts spent to restore property should be capitalized and added to basis.

Expenses for materials and supplies are fully deductible if the items purchased will be used in the farming business over the next 12 months – that includes replacement tractor tires.  There is a safe harbor rule that can be used, but any amount beyond the safe harbor that is paid to improve existing property should be capitalized.  The rules are detailed and tricky.

So, the next time you overhaul that tractor engine or replace disc blades or work on your pivot irrigation equipment, make sure you know the tax rules that apply beforehand so you can get the best tax result for your farming business. 

Conclusion

Just some thoughts today to get you thinking about what can improve the bottom line of your farming operation.

FBAR; Read Before Signing; Reporting 4-H Income and Attorney-Client Privilege

Overview

One of the things that my law students learn shortly into a new semester is that agricultural law covers a wide array of topic matters and will address many areas of the law that they have yet to be exposed to.  That is on display in today’ blog article.

Post-death FBAR penalties, reading contracts, proper reporting of 4-H Fair income, and a limitation on the attorney-client privilege – these are the topics of today’s post.

FBAR Penalties Post-Death

In recent years some American farmers have started farming operations in foreign countries, particularly in South America.  For these farmers, a provision of the Bank Secrecy Act is important, and the penalties are harsh if the rule is violated. 

If you have a foreign account containing $10,000 or more, you must report it to the IRS by the annual tax filing deadline.  In a United States v. Gaynor, No. 2:21-cv-00382-JLB-KCD, 2023 U.S. Dist. LEXIS 157733 (M.D. Fla. Sept. 6, 2023), a surviving spouse inherited her husband’s foreign bank and investment accounts when he died in 2003.  She didn’t learn about the accounts for some time and, as a result, didn’t make the required filings with the financial crimes network – a branch of the IRS.  She eventually got everything reported. When she died in 2021, the IRS came after the estate for almost $20 million in penalties for a willful failure to file the required forms for several years.  But the court said her failure to file wasn’t willful.  So, the estate escaped having to pay the enormous amount. 

If you have farming activities outside the U.S. and have foreign bank accounts, make sure you file Form FinCen 114 and report those accounts each year to the IRS.  The penalties can be huge – especially if the failure to file was willful.  And, they can be imposed on your estate post-death. 

If this reporting requirement might apply to you, ask your tax professional about it.

The Necessity of Reading Contracts Before Signing

I am sure you have heard it said that you shouldn’t sign anything before reading it.  We’ve all violated that rule in some fashion.  Most of the time, there might not be any consequences, but sometimes those consequences can be significant.  That’s especially true when it comes to financial documents.In a recent case, a farmer consolidated loans with a local bank in return for a 30-year installment note.  Or so he thought.  Actually, the note said that he had 30 years to pay it off with annual payments unless the bank decided to demand payment in full at any time.  He didn’t read that part.  He also thought the interest rate was a fixed 4.25 percent, but that was only for the first five years.  After that the rate became variable.  He signed the note and the associated paperwork and was current on the payments through the first three years, when the bank demanded payment in full in 14 days.

Local banks don’t normally sell these types of instruments on a secondary market.  That should be a tip that you won’t get a long-term fixed rate. What happened in this situation was that the bank was looking at recently submitted financials and determined that while the farmer was able to make the current annual payment, that wouldn’t be the case when the interest rate became a much higher variable rate.  So, the bank called the loan. 

That left the farmer with limited options – either pay the note in full immediately, get the bank to sign a forbearance agreement and get a loan from another bank with better terms, mediate the dispute or file Chapter 12 bankruptcy.  None of those are great options. 

Make sure you read and understand what you sign.  The legal consequences of not doing so can be significant.

Proper Reporting of 4-H Fair Sale Income

Members of 4-H clubs or FFA Chapters often raise livestock as part of the educational program.  When that livestock is sold at the end of the fair, what are the tax issues that are involved?

When a 4-H or FFA animal is sold after the fair, the net income should be reported on the other income line of the 1040.  It’s not subject to self-employment tax if the animal was raised primarily for educational purposes and not for profit and was raised under the rules of the sponsoring organization.  It’s also not earned income for “kiddie-tax” purposes.  But, if the animal was raised as part of an activity that the seller was engaged in on a regular basis for profit, the sale income should be reported on Schedule F.  That’s also true if the 4-H or FFA member has other farming activities.  By being reported on Schedule F, it will be subject to self-employment tax.

There are also other considerations.  For example, if the seller wants to start an IRA with the sale proceeds, the income must be earned.  Also, is it important for the seller to earn credits for Social Security purposes? 

Raising livestock as a 4-H or FFA project can provide valuable life-lessons in responsibility.  By understanding the tax rules associated with the project sales, it can also teach a valuable lesson in business.

Crime-Fraud Exception to the Attorney-Client Privilege

Communications between an attorney and client are protected by the attorney-client privilege.  But if the legal advice given leads to you engaging in an illegal or fraudulent activity, the advice may not be protected, and serious consequences could result.  

Normally, communications with your attorney are protected from disclosure.  But an exception applies if your attorney provides legal advice that leads to you committing a fraudulent act or crime.  See, e.g., United States v. Zolin, 491 U.S. 554 (1989).  For the rural attorney the exception can come up in bankruptcy planning as well as estate planning where asset protection is involved.  There are legitimate strategies to utilize, but others are not and can be challenged as fraudulent or illegal.    This area of the law requires careful attention to detail both by the attorney and the client and the rules can be complex. 

Make sure you get sound planning advice from your attorney and maybe have a second set of eyes in the firm look over a proposed plan.  If you are working with a solo practitioner, get permission to have the plan reviewed.  The law does allow a degree of asset protection when it comes to estate planning as well as farm bankruptcy.  But it must be done properly.  If you get good advice and don’t follow it, you could end up in serious legal trouble and maybe even as a target of a grand jury investigation.  

Those would not be pleasant experiences.

Conclusion

There are many ways that the law intersects agriculture.  Again, this just is a brief sample of some of the ways.

From Transition Documents to Inflation to Recent SCOTUS Opinions on Agency Deference and Water Compacts

Buy-Sell Agreements

Buy-sell agreements can be very important to help assure smooth transitioning of the business from one generation to the next.  But it’s important that a buy-sell agreement be carefully drafted and followed. 

In my view, next to a properly drafted will or trust, a buy-sell agreement is often an essential part of transitioning the family farming or ranching operation to the next generation.  A well-drafted buy-sell agreement is designed to prevent the transfer of business interests outside the family unit. 

But the key is that they must be drafted carefully and strictly followed.  In a recent case, two brothers owned the family business.  The corporation owned life insurance on each brother so that if one died, the corporation could use the proceeds to redeem his shares – it was a standard redemption-style buy-sell agreement.  One brother died, and the IRS included the value of his stock interest in his estate on the basis that the corporation’s fair market value included the life insurance proceeds intended for the stock redemption. 

The courts have reached different conclusions as to whether that’s correct, and the U.S. Supreme Court took the case to clear up the difference.  Recently, the Supreme Court said the policy proceeds were included in the corporate value.  That had the effect of increasing the deceased brother’s estate such that it triggered about an additional $1 million in estates tax compared to what would have been the result had the policy proceeds not been included in the corporation upon his death.   

The problem was that the brothers didn’t annually certify the value of the corporation or have it appraised.  Going forward, proper drafting of buy-sell agreements will be critical and naming the corporation as the beneficiary of the insurance proceeds may not be best.  That indicates that a cross-purchase agreement is the correct approach, perhaps pairing it with an insurance LLC. 

I will have more details on the implications of the Court’s decision on business transition planning in Vol. 1, Ed. 2 of the Rural Practice Digest at mceowenaglawandtax.substack.com  

The case is Connelly v. United States, 144 S. Ct. 1406 (2024).

Effects of Inflation

It’s a “Tax”

Inflation and deflation – what’s its impact on your farming or ranching operation or your plan to transition farm assets to the next generation?  The impact is likely substantial. 

Much recent news has focused on the Fed leaving interest rates unchanged to fight inflation. But prices are still high and rising faster than expected.  Two years ago, inflation peaked at about 9 percent and today it’s hovering around 3 or 4 percent.  So why haven’t prices dropped?  It’s because inflation isn’t the price level, it’s the rate of increase in prices.  A reduction from 9 percent to 3 percent doesn’t mean that prices should drop 6 percent, it means that they will go up 3 percent. 

Three years ago, you could transfer $300,000 worth of equipment over two years and the buyer would only have to pay an interest cost of about $1,500.  Now that’s almost $25,000.  If you want to sell $1 million of farmland on an installment basis to the next generation, the interest cost three years ago was about $160,000.  Now it’s $400,000. 

Deflation is a different story.  When prices drop the dollars in your pocket are worth more, but your loans and debts become more costly in real terms.

So, you’re being taxed by the amount of inflation. The Fed hints at dropping interest rates to manage inflation, but the reality is that it should be raising rates to curb inflation.

Administrative Agencies – Jury Trials and “Chevron” Deference

Right to a Jury Trial.  Late in its recently concluded term, the U.S. Supreme Court issued two opinions involving federal administrative agencies.  Both opinions could have a significant positive impact or farmers and ranchers involved in the federal administrative process.  In the first case, the Court determined that when the Securities and Exchange Commission (SEC) seeks to impose civil penalties against a defendant for alleged securities fraud, the Constitution’s Seventh Amendment requires that the defendant receive a jury trial.  The Court based its reasoning that SEC fraud is essentially the same as a common law fraud claim which squarely fits within the Seventh Amendment’s requirement of a jury trial. 

The Court’s opinion is of significance to agriculture because of the frequency with which ag producers encounter administrative agencies and sub-agencies such as the USDA, the NRCS, the FSA, the EPA and the COE, for example.  Justice Gorsuch noted in his concurrence that during the period under study in the case, the SEC was about 90 percent of the matters that it heard compared to 69 percent of the matters that were litigated in court.  Historically, the same is true of USDA disputes involving ag producers. Requiring jury trials when the USDA seeks to impose a fine on an issue that essentially involves a matter of the common law – such as a drainage issue or a Swampbuster issue or crop insurance fraud, could have the effect of fewer enforcement actions against farmers being brought in the first place.

The case is Securities and Exchange Commission v. Jarkesy, No. 22-859, 2024 U.S. LEXIS 2847 (U.S. Sup. Ct. Jun. 27, 2024).

“Chevron Doctrine” Repealed.  The day after Jarkesy was decided, the U.S. Supreme Court repealed an administrative review rule known as the Chevron Doctrine. It stems from a prior decision of the Court in 1984.  The implications on agriculture of the Court’s most recent decision reversing its 1984 decision could be enormous. 

Under the Chevron Doctrine, Courts are to defer to administrative agency interpretations of a statute where the intent of the Congress was ambiguous and where the interpretation is reasonable or permissible.  That set a low hurdle for an agency to clear.  If the agency’s interpretation of a statute was not arbitrary, capricious or manifestly contrary to the statute, the agency’s interpretation would be upheld.

Now the Supreme Court said it got it wrong back in 1984.  The Court said that the Chevron Doctrine’s presumption was misguided because agencies have no special competence in resolving statutory ambiguities. Courts do. The decision is a big one for agriculture because of the many administrative issues farmers and ranchers can find themselves entangled in.  At least in theory, the Court’s opinion establishes a higher threshold for agency rulemaking – close may be good enough in horseshoes and hand grenades, but it won’t be any more when it comes to agency rulemaking.  That will likely also have an impact on the administrative agency review process.

Time will tell of the true impact of the Court’s decision on agriculture.  But since the Chevron decision, the number of pages in the Federal Register - where agencies are required to publish their proposed and final rules – has nearly doubled.  And so has the litigation.    

Again, I will have more detailed coverage of the implications of the Court’s decision in Vol. 1, Ed. 2 of the Rural Practice Digest found at mceowenaglawandtax.substack.com

The case is Loper Bright Enterprises, et al. v. Raimondo, No. 22-451, 2024 U.S. LEXIS 2882 (U.S. Sup. Ct. Jun. 28, 2024).

Water Law and State Compacts

Water in the West is a big issue for agriculture because of its relative scarcity.  Sometimes, the states enter into agreements to determine water usage of water that flows between them.  One of those agreements, or Compacts, was recently before the U.S. Supreme Court.  

The Rio Grande Compact was signed in 1938 by Colorado, New Mexico, and Texas, and approved by the Congress the next year, to equitably apportion the waters of the Rio Grande Basin.  Under the Compact, Colorado committed to deliver a certain amount of water to the New Mexico state line.  A minimum quality standard was also established. 

In 2014, Texas sued New Mexico for allowing the Rio Grande’s water reserves to be channeled away for its use which deprived Texas of its equal share in the river's resources.  In 2018, the Supreme Court said the federal government should be a party to the case. 

To resolve the dispute, Texas and New Mexico entered into a proposed consent decree.  But recently the Supreme Court blocked it because the federal government’s interests were essential to the Compact.  That had been clear since 2018. 

So, when states try to determine water allocation, if the federal government has an interest, the Congress must approve the deal – that’s clearly stated in the Constitution at Article I, Section 10, Clause 3: “No State shall, without the Consent of Congress,… enter into any Agreement or Compact with another State”… The federal government is likely to have an interest in water deals among the states, particularly in the West. 

More discussion coming in the Rural Practice Digest, Vol. 1, Ed. 2 at mceowenaglawandtax.substack.com

The case is Texas v. New Mexico, No. 141 Orig., 2024 U.S. LEXIS 2713 (U.S. Sup. Ct. June 21, 2024).

Of Fences; Agritourism; Liquidity; Solar Panels & Blight; and Trees and Motorists

Overview

With today’s post I focus on additional common issues that farmers, ranchers and rural landowners frequently face. 

Fence Disputes

One of the more common questions that I get involves disputes concerning fences.  Fences are often critical in agriculture, so how can a dispute over fencing get resolved within the bounds of the law?   A good place to start is by checking the land records to see if prior owners had recorded a fence agreement.  If they did, the agreement would bind you and your neighbor.  If there is no recorded fence agreement, you could execute a new one and have it recorded with the County Register of Deeds.  Once it’s recorded it will bind all future owners.

If a boundary is in dispute because of conflicting surveys, any boundaries and markers set by the first survey control in a conflict with a subsequent survey.  This is true even if there were errors in the original survey. 

When a boundary dispute involves a disagreement between surveys, consider how the use of the land has been affected by the original survey’s location of the boundary.  If the fence was erected along the old but erroneous survey line, and you and your neighbor have actively farmed to the fence line, the fence should not be moved.  If the fence does not follow either the original survey or the later survey, the true boundary line may need to be designated.

As a last resort, if the issue is building or maintaining a fence, the “fence viewers” can be called to come out and make a view and a determination of responsibility.  Each state has its own procedure for requesting a fence view and resolving fence building and maintenance disputes. Do you know the rules in your state?

Agritourism

Most states have agritourism laws that are designed to provide enhanced liability protection for injuries to participants or spectators associated with the inherent risks of a covered activity.  Agritourism is generally defined broadly to include such things as corn mazes, hayrides, tours, roadside stands and other similar activities.  Posting warning signs might also be required to receive the protection of the statute, as might the registering of the property with the state. 

On the liability issue, a landowner is generally protected except for “wanton or willful” negligence.  Also, having participants sign liability release forms may be required.  State law might also provide tax credits and might protect the property’s ag tax classification.    

Engaging in an agritourism activity on your farm can be a good way to generate additional income, but make sure you know the details of your state’s law.  Also, your comprehensive farm liability policy probably won’t cover any claim arising from an agritourism activity.  That’s because it’s likely to be defined as a non-farm business pursuit of the insured that falls within an exception to coverage. 

Farms and Ranches – The Liquidity Problem

Concerns about the possibility of a reduced federal estate tax exemption are big in agriculture.  If a drop in the exemption would impact the farming or ranching business, is there a plan in place to pay the resulting tax?  It’s a real problem because ag estates are typically illiquid – farmers are often “asset rich, but cash poor.” 

Liquidity refers to how easy it is to convert an asset into cash.  Farmers and ranchers often have assets worth a substantial amount in terms of market value but may lack sufficient cash to meet current needs.  What is at the heart of the liquidity problem?  Farming and ranching often involves a substantial investment in capital assets.  There typically isn’t a pile of liquid funds or assets that can be easily converted into cash.  This can create problems upon death particularly if the goal is to keep the farm or ranch in the family for subsequent generations and there are both on-farm and off-farm heirs.  This is a big problem for some. 

While many estates don’t have an estate tax problem under current law, they could if the exemption drops.  For instance, a current gross estate of about $14 million or twice that for a couple would not incur any federal estate tax, but if the exemption drops to about half of those levels starting in 2026 as will happen if Congress doesn’t act, the tax bill could be substantial.  If there aren’t liquid funds to pay the tax, then the money will have to be borrowed or assets sold.  That’s not a good result, but there are planning steps that can be taken to correct the potential problem.  Yes, estate and business planning will cost, but solid plans for most people can be established for a fairly economical price – especially when you consider that the cost if for the protection and furtherance of your family’s farming/ranching legacy.

Solar Panels and Zoning

Many local zoning rules leave the door wide open to the potential for farmland to be converted into usage for solar panels – with no extra step required to go from agricultural to solar.  Some of this is occurring on prime farmland.  But leasing farmland for the placement of solar panels can destroy the land’s potential to return to farming.  That’s because often fine sand is spread on the farmland where the panels will be placed to kill off plant growth under the panels.  This doesn’t happen in every situation, but where it does, it destroys the possibility of growing anything in that field again without incurring significant remediation costs.  And solar energy agreements may only require remedial work at the end of the contract – which could be 50 years or so into the future.

One study has forecast that 83 percent of solar energy development will be on farm and ranchland unless current government policies are changed.  About half of that amount is projected to be on the nation’s most productive soil. 

Local zoning and planning commissions are at the forefront of the issue.  Rezoning or permitting should be necessary to convert farmland to solar fields – solar power generation is an industrial use.  Traditionally a change in zoning classification involves a public process.  That should be the case in this instance too.

Liability to Motorists

Here’s one I don’t get every day, although there are cases from time-to-time on this, and there was a somewhat related Kansas case a few years ago on the issue of a landowner’s duty (if any) to trim trees and brush near roadways.  The question is whether you are responsible if a tree on your farm falls onto an adjacent road and causes injury? 

The issue came up in a recent Texas case.  There a windstorm uprooted a large oak tree on a farm, and it fell across a road.  A driver hit the tree and sued for her injuries.  She claimed the farmer failed to inspect the farm premises to ensure that objects on the farm were not a hazard to motorists.  The farmer pointed out that there was no evidence that she had received any notice regarding problems with the tree and produced an affidavit from an arborist that the tree was healthy and would have required tremendous wind to blow it down. 

The court ruled for the farmer – there is no duty to parties injured off premises because the landowner is not in possession and control of those areas.  In addition, the court said that a landowner doesn’t owe a duty to make an adjoining road safe or to warn travelers of potential danger.  There can be exceptions in special situations, but none of those applied in the case.  For example, this case involved a farm in a rural area and there was no evidence that the farmer knew or should have known of the danger posed by the tree, and any potential danger wasn’t evident by looking at the tree.

And…motorists have a duty to drive according to the conditions – that includes being able to spot a large oak tree blocking both lanes of a road in time to avoid hitting it.

The case is Bell v. Cain, No. 06-23-00060-CV, 2024 Tex. App. LEXIS 1993 (Tex, Ct. App. Mar. 21, 2024).

Rural Practice Digest - Substack

Overview

I have started a new Substack that contains the “Rural Practice Digest.”  You can access it at mceowenaglawandtax.substack.com.  While I will post other content from time-to-time that is available without a paid subscription, the Digest is for paid subscribers.  The inaugural edition is 22 pages in length and covers a wide array of legal and tax topics of importance to agricultural producers, agribusinesses, rural landowners and those that represent them.

Contents

Volume 1, Edition 1 sets the style for future editions - a lead article and then a series of annotations of court opinions, IRS developments and administrative agency regulatory decisions.  The lead article for Volume 1 concerns losses related to cooperatives.  The USDA is projecting that farm income will be down significantly this year.  That means losses will be incurred by some and some of those will involve losses associated with interests in cooperatives.  The treatment of losses on interests in cooperatives is unique and that’s what I focus on in the article.

The remaining 19-pages of the Digest focus on various other aspect of the law that impacts farmers and ranchers. Here’s an overview of the annotation topics that you will find in Issue 1:

• Chapter 12 Bankruptcy
• Partnership Election – BBA
• Valuation Rules and Options
• S Corporation Losses
• Nuisance
• Fair Credit Reporting Act
• Irrigation Return Flow Exemption and the CWA
• What is a WOTUS?
• EPA Regulation Threatens AI
• Trustee Liability for Taxes
• Farm Bill
• Tax Reimbursement Clauses in IDGTs
• QTIP Marital Trusts and Gift Tax
• FBAR Penalties
• Conservation Easements
• Hobby Losses
• Sustainable Aviation Fuel
• IRS Procedures and Announcements
• Timeliness of Tax Court Petition
• BBA Election
• SCOTUS Opinion on Fees to Develop Property
• Quiet Title Act
• Animal I.D.
• “Ag Gag” Update
• What is a “Misleading” Financing Statement
• Recent State Court Opinions
• Upcoming Seminars

Substack Contents

In addition to the Rural Practice Digest, I plan on adding video content, practitioner forms and other content designed to aid those representing agricultural clients in legal and tax matters, and others simply interested in keeping up on what’s happening in the world of agricultural law and taxation.

Conclusion

Thank you in advance for your subscription.  I trust that you will find the Digest to be an aid to your practice.  Your comments are welcome.  mceowenaglawandtax.substack.com

From the Desk…and Email…and Phone… (Ag Law Style)

Overview

Today’s post is a summary of just a snippet of the items that have come across my desk in recent days.  It’s been a particularly busy time.  The semester has ended at the two universities I teach at, exams are graded and now the seminar season heats up in earnest for the rest of the year.  This week it’s Branson for a two-day farm tax and farm estate/business planning seminar.  Then it’s back to the law school to do the anchor leg of the law school’s annual June CLE.  Next week it’s a national probate seminar and a fence law CLE.  The following week involves battling the IRS on a Tax Court case and the line between currently deductible expenses and those that must be capitalized.  Oh, and I’ll soon start a new subscription publication.  The first edition of the first volume is about ready.  So stay tuned.

For now, today’s post is on miscellaneous ag law topics.

Aerial Crop Dusting

Most cases involving injury to property or to individuals are based in negligence.  That means that someone breached a duty that was owed to someone else that caused damage to them or injured their property.  But there are some situations where a strict liability rule applies.  One of those involves the aerial application of chemicals to crops.  It is perhaps the most frequent application of the doctrine to agriculture. It’s based on the notion that crop dusting is an inherently dangerous activity. In addition, some states may have regulations applicable to aerial crop dusting.  For example, in Arkansas, violation of aerial crop spraying regulations constitutes evidence of negligence, and the negligence of crop sprayers can be imputed to landowners. 

If you utilize crop dusting as part of your farming operation, it’s best from a liability standpoint to hire the work done.  In that event, if chemical drift occurs and damages a neighbor’s crops, trees or foliage, you won’t be liable if you didn’t control or were otherwise involved in how the spraying was to be done.  Especially if all applicable regulations are followed.

Right of First Refusal

A right of first refusal allows the holder the right to buy property on the same terms offered to another bona fide purchaser.  Once notified, the holder can either choose to buy the property on the same terms offered to a third party or decline and allow the owner to sell to the third party.  A right of first refusal can be useful in ag land transactions when there is a desire to ensure that a party has a chance to acquire the property. 

A right of first refusal can be useful in certain settings involving the sale of agricultural land.  Perhaps a longstanding tenant would like to be given a chance to acquire the leased land.  Or maybe a certain family member should be given the chance to buy into the family farming operation.  But it is critical that the property actually be offered to the holder of the right before it is sold to someone else.  If that doesn’t happen the owner can be sued for monetary damages and the third party that had either actual or constructive notice of the right of first refusal can be sued for specific performance.

When a right of first refusal is involved, it’s a good idea to record it on the land records to put the public and any potential buyer on notice.  Also, investigate changes concerning the property – such as to whom lease payments are being made.  The holder must stay vigilant to protect their right.

Ag Leases and Taxes

Leasing farmland is critical to many farmers and farming operations.  What’s the best way to structure an ag lease from a tax standpoint?  Tenants and landlords are often good at understanding the economics of a farm lease and utilize the best type of lease to fit their situation.  A farm lease can be structured to appropriately balance the risk and return between the landlord and tenant. 

There are also many income tax issues associated with leasing farmland.  For the tenant farmer, the lease income is income from a farming business.  That means it’s subject to self-employment tax.  It also means that the tenant can take advantage of the tax provisions that are available for persons that are engaged in the trade or business of farming. 

Whether the landlord gets those same tax advantages depends on whether the landlord is materially participating.  If so, the landlord has self-employment income, but is eligible to exclude at least a portion of USDA cost-share payments from income. The landlord can also deduct soil and water conservation expenses, as well as fertilizer and lime costs.  A landlord engaged in farming can also elect farm income averaging, can receive federal farm program benefits, and can have a special use valuation election made in the estate at death to help save federal estate tax. 

The right type of lease can be very beneficial. 

Corporate Loans

Lending corporate cash to shareholders of a closely-held corporation can be an effective way to give the shareholders use of the funds without the double-tax consequences of dividends.  But an advance or loan to a shareholder must be a bona fide loan to avoid being a constructive dividend.  In addition, the loan must have adequate interest. If it doesn’t meet these criteria, it will be taxed as a dividend distribution.  In addition, it’s not enough for you to simply declare that you intended the withdrawal to be a loan.  There must be additional reliable evidence that the transaction is a debt.  So, what does the IRS look for to determine if a loan is really a loan?

If you have unlimited control of the corporation, there’s a greater potential for a disguised dividend, and if the corporation hasn’t been paying dividends despite having the money to do so, that’s another strike.  Did you record the advances on the corporate books and records as loans and execute notes with interest charged, a fixed maturity date and security given?  Were there attempts to repay the advances in a bona fide manner?  The control issue is a big one for farming and ranching corporations, and few farm corporations pay dividends.  This makes it critical to carefully build up evidence supporting loan characterization. 

NewH-2A Rule

The H-2A temporary ag worker program helps employers who anticipate a lack of available domestic workers.  Under the program foreign workers are brought to the U.S. to perform temporary or seasonal ag work including, but not limited to, labor for planting, cultivating, or harvesting.  Recently, the Department of Labor published a Final Rule designed to enhance protections for workers under the H-2A program. 

Effective June 28, a new Department of Labor final rule will take effect.  The rule is termed, “Improving Protections for Workers in Temporary Agricultural Employment in the United States.”   The rule will impact the temporary farmworker program.  The rule’s purpose is to increase wage transparency, clarify when an employee can be terminated for cause, and prevent employer retaliation among temporary seasonal ag workers. There are also expanded transportation safety requirements, new employer disclosure requirements and new rules for worker self-advocacy.   

The rule is lengthy and complex, but here’s a few points of particular importance:

• New restrictions on an employers’ ability to terminate workers;
• Workers employed under the H-2A program have the right to payment for three-fourths of the hours offered in the work contract, even if the work ends early; housing and transportation until the worker leaves; payment for outbound transportation; and, if the worker is a U.S. worker, to be contacted for employment in the next year, unless they are terminated for cause.
• An employer may only terminate a worker “for cause” when the employer demonstrates the worker has failed to comply with employer policies or rules or to satisfactorily perform job duties after issuing progressive discipline, unless the worker has engaged in egregious misconduct. The rule establishes five conditions that must be satisfied to ensure disciplinary and/or termination processes are justified and reasonable.
• For vehicles that are required by Department of Transportation regulations to be manufactured with seat belts, the employer must retain and maintain those seat belts in good working order and prohibit the operation of a vehicle unless each worker is wearing a seat belt.

Only applications for H-2A employer certifications submitted to the Department of Labor on or after August 29 will be subject to the new rule. 

You can expect legal challenges to the rule.  But, in the meantime, if you use temporary foreign workers on your farm, you should start creating and implementing policies and procedures to comply with the new rule as well as updating your existing H-2A applications.

The rule is published at 89 Fed. Reg. 33898.

Conclusion

The topics in ag law and tax are diverse.  There’s never a dull moment. 

An Electronic Identification Mandate for the Cattle Industry

Overview

The United States entered the World Trade Organization (WTO) at its formation on January 1, 1995.  The express purpose of the WTO is to increase imports and exports around the world.  At the time of the WTO’s formation, recommendations were made for nations to adopt animal identification (animal I.D.) procedures to track disease in animals as a means to facilitate trade.  In the U.S., efforts concerning animal I.D. began in 1999, but accelerated in 2002

As a result of a Canadian cow infected with bovine spongiform encephalopathy (BSE) the USDA, in 2003, the USDA’s Animal and Plant Health Inspection Service (APHIS) proposed the National Animal Identification System (NAIS) which contained mandatory registration of premises and exclusive use of electronic identification devices (EID eartags) on all classes of cattle, from birth to slaughter, by cattle farmers and ranchers (producers).  The NAIS led to voluntary premises identification. 80 percent of hog farms voluntarily participated as did 95 percent of poultry operations.  However, the NAIS proved to be unpopular with cattle producers.  Only 18 percent of cattle operations voluntarily participated in the NAIS.  As a result, the Congress stopped the funding of the program and a 2010 USDA Factsheet acknowledged that the “vast majority of participants were highly critical of the program [NAIS].”  The USDA then promised it would take a new approach that “offers more flexibility, lower cost options, and is less burdensome.”

The new approach to animal identification in the cattle industry – it’s the topic of today’s post.

Animal I.D. – What is it?

Animal I.D. refers to keeping records on individual farm animals or groups of farm animals so that they can be easily tracked from their birth through the marketing chain. Historically, animal I.D. was used to indicate ownership and prevent theft, but the reasons for identifying and tracking animals have evolved to include rapid response to animal health and/or food safety concerns. As such, traceability is limited specifically to movements from the animal’s point of birth to its slaughter and processing location.

2010 Development

On February 5, 2010, the USDA announced that it was abandoning the NAIS and proposing a new plan known as Animal Disease Traceability (ADT) that was to be designed to be a state-administered program allowing states (and Indian Tribes) to choose their own degree of animal identification and traceability of livestock populations within their borders.   But a state program would be subject to a USDA requirement that all animals moving in interstate commerce have a form of ID that allows traceability back to their originating state or tribal nation.

Note:  The USDA Secretary of Agriculture has the authority to regulate interstate movement of farm-raised livestock.  See 7 U.S.C. §8305. 

2013 Final Rule

This new approach was published in a 2013 final rule requiring adult cattle shipped interstate (across state lines) to be affixed with an official animal I.D. device.  The device must contain an official identification number on a metal ear clip, plastic numeric eartag, EID eartag, or group lot identification.  Backtags could be used under certain circumstances and registered brands and tattoos could also be used when agreed to by the shipping and receiving states. Cattle shipped interstate must also be accompanied by an interstate certificate of veterinary inspection or other documentation.

Note:  The USDA’s Animal and Plant Health Inspection Service (APHIS) expressly stated that the 2013 rule “is designed to allow producers to use tags that do not require any electronic or special equipment to read the official eartags.” 78 Fed. Reg. 2,058.

Note:   The requirement for the use of group lot identification number (GIN) is that cattle and bison managed as one group throughout the preharvest production chain are not required to be individually identified. Instead, the GIN is recorded on documents accompanying the animals as they move interstate. See 89 Fed. Reg. 39,548. As such, the new rule favors vertically integrated cattle and bison production systems as they can avoid the cost of individual animal identification..

The stated purpose of the 2013 rulemaking was to improve USDA’s ability to trace livestock in the event that disease is found, which the agency states will “minimize[e] not only the spread of disease but also the trade impacts an outbreak may have.” 78 Fed. Reg., at 2,063.

While the USDA promised flexibility to cattle producers (which prioritized flexibility early on) with the 2013 rule, the USDA made it clear that it would not end APHIS’ quest to expand its animal I.D. mandate. In fact, although the agency did not disclose it would be eliminating the option for producers to choose either low-cost non-EID eartags or high-cost EID eartags, the agency did disclose its future intention to substantially expand the classes of cattle required to bear  official identification eartags. The agency stated that it viewed the inclusion of feeder cattle as an “essential component” of an “effective traceability system in the long term.” 78 Fed. Reg. 2,047. Indeed, the agency contemplated it would conduct a “separate future rulemaking” to include feeder cattle. Id.

Note:  In April of 2019, the USDA produced a Fact Sheet followed by the issuance of a Notice specifying that radio frequency identification (RFID) was going to be the only option going forward.  The Notice was challenged in court on the grounds that the USDA lacked the legal authority to mandate RFID use and issued the plan without allowing time for public comment in violation of the Administrative Procedure Act and without publishing it in the Federal Register.  Ranchers Cattlemen Action Legal Fund United Stocgrowers of America v. United States Department of Agriculture, filed Oct. 3, 2019 (D. Wyo). The lawsuit also accused the agency of violating the Federal Advisory Committee Act (FACA), which requires federal agencies to follow certain protocols around establishing and utilizing advisory committees.  Within three weeks of the lawsuit being filed, the USDA shelved the plan and asked the court to dismiss the case, which the court did.

2024 New Final Rule

On May 9, 2024, the USDA published a new final rule eliminating the flexibility, lower cost options, and less burdensome requirements promised in the 2013 final rule. Under the new final rule, effective November 5, 2024, adult cattle and bison shipped interstate must bear an EID eartag (though cattle and bison bearing an official animal identification device pursuant to the 2013 final rule may retain that device throughout its lifetime).  This new rule effectively eliminates the flexibility given producers under the 2013 final rule to use lower-cost eartags that don’t require premises registration.   

The purported purpose of the mandatory use of EID eartags is to improve APHIS’ “ability to trace the cattle and bison that are currently required to have official identification and that meet this requirement with eartags [meaning the new rule would have no impact on cattle shipped interstate when using brands or tattoos when agreed to by both the shipping and receiving states].” 89 Fed. Reg., 39,542.  This traceability is (according to APHIS) for disease traceability purposes. 

The new rule also places additional emphasis on trade noting that one of its goals is that by making the overall “process of tracing infected and exposed animals more efficient,” EID eartags “would be critical to reopening export markets.” 89 Fed. Reg. 39,544.

Scope and classes of cattle. The new rule will not increase the number of cattle subject to the EID eartag mandate beyond the number of cattle already covered under the 2013 rule. The new rule states that 11 million cattle will be impacted by the EID mandate, an estimate APHIS based on the number of official identification eartags that have been used in previous years, and which represents only 11-12% of the U.S. cattle and bison inventory. See 89 Fed. Reg. 39,558.   

The new rule does not change the type or class of animals subject to the EID eartag mandate from those covered under the 2013 rule. The classes of cattle subject to the new mandate continue to include “all sexually intact cattle and bison 18 months of age or over; all female dairy cattle of any age and all male dairy cattle born after March 11, 2013; cattle and bison of any age used for rodeo or recreational events; and cattle and bison of any age used for shows or exhibitions.” 89 Fed. Reg. 39,545. Cattle and bison are exempted from official identification requirements under both the 2013 final rule and the new rule if they are going directly to slaughter. See id.

Cost to producers.  APHIS claimed that the cost of purchasing EID eartags was the only additional cost associated with the new mandate and estimated the cost for producers would be approximately $26.1 million dollars, representing an average cost of $30.39 per cattle or bison operation each year. See 89 Fed. Reg. 39,561. This estimated cost for the new rule falls within the cost range the agency estimated in the 2013 rule. See 78 Fed. Reg. 2,058.

However, when responding to comments received for the 2013 rule that at least one study estimated that the cost of a NAIS-type system would range as high as $1.9 billion, APHIS expressly stated that it did not dispute the cost factors used in the study based on its belief that the management practices associated with those cost factors were not needed to comply with the 2013 rule. See Id. 

Shortcomings Acknowledged by APHIS. APHIS asserts its testing of the 2013 rule’s efficacy finds that “States on average can trace animals [at least to the State where an animal was either shipped from or the State where the animal was officially identified] in less than 1 hour[.]” 89 Fed. Reg. 39541.

Despite this touted success, APHIS has acknowledged at least four shortcomings associated with the 2013 rule, but only one of which is addressed in the new rule:

• APHIS acknowledges that 70 percent of cattle would need to be traceable for it to be fully prepared for a possible incursion of a foreign animal disease. See 89 Fed. Reg. 38542. As stated above, the new rule does not require any more cattle to be officially identified than are required under current regulations.

• APHIS acknowledges in the 2013 rule that the digitization of interstate certificates of veterinary inspections (ICVIs), which must accompany cattle and bison shipped interstate, “is important to increase administrative efficiencies and to support timely traceability.” 78 Fed. Reg. 2,055. Yet, the agency did not require the digitization of such records in the 2013 rule and does not require it in the new rule.

• APHIS acknowledges that eartags on the animal and accompanying ICVIs and other paper documentation work in tandem, and both are essential to the process of animal disease traceability. The agency claims that if both these interdependent tools are in electronic form, there is a “significant advantage over non-EID tags and paper record systems.”

Note:  The mandate only applies to producers, not the veterinary community.  This would appear to  jeopardize the ability of APHIS to achieve a significant advantage in tracing back diseased cattle.  The justification given for not requiring the digitization of ICVIs is that they “may sometimes be impracticable for the regulated community,” without specifying the reason such a mandate would be impracticable. 

• APHIS acknowledges that while it is requiring producers to purchase and affix EID tags to their cattle and bison, it is not requiring anyone in the industry to purchase or even use the electronic equipment needed to read and record the EID tags (e.g., electronic readers and data management systems). See 89 Fed. Reg., 39,557. In other words, while APHIS is imposing its EID mandate on producers’ cattle and bison, whether the data in those EID tags are ever transferred electronically to a digital data management system remains purely discretionary. This calls into question the agency’s stated purpose for the EID mandate itself – to reduce or eliminate errors associated with transcribing numbers on visual tags to a database and to more “rapidly and accurately read and record tag numbers and retrieve traceability information.” 89 Fed. Reg., 39,543.   

Note:  The significance of this is that the agency, as stated above, is contemplating including feeder cattle in a future rule.  When combined with the new rule’s EID eartag mandate, it would essentially resurrect a NAIS-type system.  This could reasonably be anticipated to result in a substantial cost increase to producers, including equipment and labor costs because feeder cattle are not currently required to bear any official animal identification under the 2013 rule. Given that approximately 25 million steers and heifers are slaughtered each year, including feeder cattle (i.e., lighter weight steers and heifers intended for eventual slaughter), a future rulemaking would likely increase the number of cattle subject to the EID mandate from 11 million to 36 million.  

Actions to Overturn

Senator Mike Rounds, (R-SD) has introduced S. 4282, A bill to prohibit the Secretary of Agriculture from implementing any rule or regulation requiring the mandatory use of electronic identification eartags on cattle and bison, to reverse the new rule.

On May 9, 2024 Congresswoman Harriet Hageman (R-WY) issued a public statement stating,  “In the coming weeks, I will introduce a joint resolution of disapproval pursuant to the Congressional Review Act (CRA) to overturn this harmful rule.” 

Note:  The CRA is located at 5 U.S.C. §§801-808.

In addition, Senators Rounds and Tester (D-MT), are also pushing the U.S. Senate to pass a resolution of disapproval which could lead to the invalidation of the 2024 final rule under the CRA.

Legal Issues/Challenges

An animal I.D. program raises the possibility of potential legal liability if disease can be traced back to a particular farm or producer.  If a farmer is deemed to be a “merchant,” goods that are not merchantable cannot be placed in commerce.  A diseased animal is not merchantable.  The courts are split on whether a farmer is a merchant.  Importantly, some states (such as Kansas) have statutorily exempted livestock producers from liability under for breach of the warranty of merchantability as well as the warranty of fitness for a particular purpose.   The exemptions exist primarily in the major livestock producing states.  The states with exemptions vary widely in their statutory approach to the exemption.

It is also possible that a strict liability claim could be brought against a livestock seller for selling an unreasonably dangerous defective product.  However, a primary question is whether livestock are “products” for this purpose. 

Perhaps greater potential liability would lie in a negligence claim.  Under a negligence theory, the plaintiff would have to show that the producer owed the plaintiff a duty that was breached and the breach of the duty caused the plaintiff’s injury.  Any increased transparency of an animal I.D. system could make it easier for a plaintiff to prevail on a negligence (as well as a warranty or strict liability) claim. 

An additional concern involves the privacy of information that would be collected under a mandatory animal I.D. program and whether that information could be generally available to the public pursuant to a Freedom of Information Act (FOIA) request. 7 U.S.C. §552. The FOIA entitles the public to obtain records that federal agencies hold.  While the FOIA applies to “agency records” maintained by “agencies” within the executive branch of the federal government, an exemption prevents the disclosure of confidential information that could harm an individual.  7 U.S.C. §552(b).  Also exempt is public access to various types of business-related information as well as commercial or financial information or any other confidential information, the release of which could harm the provider.  The extent of that exemption would likely be tested in court.

Conclusion

The new rule appears to be a corrective step in APHIS’ incremental march toward the fulfillment of its implied objective to ultimately increase the number of cattle and bison subject to its EID mandate. The only measurable effect of the new rule is to eliminate the flexibility, lower costs, and less burdensome requirements promised in the 2013 rule. Neither the number of cattle or classes of cattle subject to official identification requirements will change.

The new rule does not address the shortcomings identified with the 2013 rule and appears only to ensure cattle and bison shipped interstate will bear an electronic device, but without an accompanying mandate that those devices be read or recorded electronically, thus calling into question the potential efficacy of the new mandate.

What is really needed for effective disease traceability is the digitization of the accompanying ICVI which is associated with the tag number on the cow.  The 2024 rule doesn’t require this. 

Further, because the new rule incentivizes vertical integration with its lower-cost and less burdensome GIN method, the rule will likely facilitate the ongoing consolidation and concentration of the U.S. cattle industry.    

Another problem with the rule is that it has a disparate impact on producers based on their geographic location.  If a producer lives in a state with packing plants, the producer’s animals need not cross state lines and would not be subject to the animal I.D. rule.  However, producers in a state without a packing plant would be subject to the rule.  This could lead to a constitutional challenge based on disparate impact. 

Yet another question is where the chips used in RFID come from.  Currently, approximately eight companies are certified as manufacturers of EID tags.  It is not known where these companies are getting the chips.  The possibility exists that the chips are coming from China.  If that is the case, the use of the chips provides the possibility that China would gain the ability to discern the location of livestock herds in the U.S. and present the U.S. with a national security issue. 

The United States used to bar imports from countries with BSE or foot and mouth disease.  It seems that a much more effective (and acceptable) approach would be to put that ban back in place instead of imposing a mandatory animal I.D. program. 

So, what’s the big deal with animal I.D.?  Why does the USDA care so much about this?  Why do the meatpackers not oppose animal I.D.?  The USDA is promoting the rule as having a minimal impact on producers.  That’s likely by design with additional mandates to come in the future. 

Finally, given the USDA’s recent push for “Climate Smart Agriculture” and its attempts to entice producers via tax credits to adopt certain “climate friendly” practices, it’s certainly plausible to conclude that USDA’s end goal is to monitor greenhouse gas emissions from farms and ranches across the U.S. by requiring associated information to be on the EID tag.  If that’s correct, mandatory animal I.D. may actually be the beginning of the end of freedom for the American cattle rancher.

Musings in Agricultural Law and Taxation – of Conservation Easements; IDGTs and Takings

Overview

The ag law and tax world continues to go without rest.  It’s amazing how frequently the law intersects with agriculture and rural landowners.  It really is “where the action is” in the law.  From the U.S. Supreme Court all the way to local jurisdictions, the current developments just keep on rolling.

More recent developments in ag law and tax – it’s the topic of today’s post.

An Easement is Not Worth More than the Underlying Property

Oconee Landing Property, LLC, et al. v. Comr., T.C. Memo. 2024-25

In the latest round of the continuing saga involving donated conservation easement tax fraud, the Tax Court uncovered another abusive tax shelter.  IRS guidelines make it clear that a conservation easement’s value is the value of the forfeited development rights based on the land’s highest and best use.  To qualify as a highest and best use, a use must satisfy four criteria: (1) the land must be able to accommodate the size and shape of the ideal improvement; (2) a property use must be either currently allowable or most probably allowable under applicable laws and regulations; (3) a property must be able to generate sufficient income to support the use for which it was designed; and (4) the selected use must yield the highest value among the possible uses. 

Note:  A tract’s highest and best use is merely a factor in determining fair market value. It doesn’t override the standard IRS valuation approach – that being the price at which a willing buyer and a willing seller would arrive at.  See, e.g., Treas. Reg. §1.170A-1(c)(2).  See also Boltar LLC v. Comr., 136 T.C. 326 (2011).

In this case, the taxpayer donated 355 acres of undeveloped land to a land trust.  The 355-acre tract was part of a larger tract that was a nationally recognized golf resort with associated developments.  When the larger tract wouldn’t sell, the taxpayer became interested in the possibility of granting a conservation easement on the 355 acres.  Ultimately, the taxpayer valued the 355 acres at about $60,000 per acre and claimed a charitable deduction for the entire amount - $20.67 million.  The IRS disallowed the deduction due to lack of donative intent – the entire scheme involved a pre-determined agreement to secure inflated appraisals so that investors would be able to deduct more than their respective investments. 

Note:  The amount of the deduction that can be claimed is subject to a limitation based on a percentage of the taxpayer’s contribution base.  I.R.C. §170(b)(1)(H).  However, if the donor is a “qualified farmer or rancher” and the donated property is used in agricultural or livestock production, the deduction may be up to 100 percent of the donor’s contribution base.  I.R.C. §170(b)(1)(E)(iv).  For corporate farms and ranches, see I.R.C. §170(b)(2)(B) and for the definition of a “qualified farmer or rancher” see I.R.C. §170(b)(1)(E)(v) and Rutkoske v. Comr., 149 T.C. 133 (2017). 

While the Tax Court determined that the donated easement had value, it agreed with the IRS that the value of the tract was approximately $5 million.  However, the lack of a qualified appraisal as the regulations require be attached to the return wiped out any associated deduction.  Simply setting a target value for the appraiser to hit coupled with the taxpayer’s knowledge that the value was overstated is not a qualified appraisal. 

Note:  Form 8283, Section B, as an appraisal summary must be fully completed and attached to the return for noncash donations greater than $5,000. 

In addition, the Tax Court pointed out that the 355-acre tract had been transferred to a developer (a partnership) who then donated the easement.  That meant that the donation was of ordinary income property which limited any deduction to the basis in the property.  Because there was no evidence offered as to the basis of the property, the deduction was zero.  I.R.C. §170(e)(1)(A).

For good measure, the Tax Court tacked on a gross overstatement penalty of 40 percent.  In determining the penalty, the Tax Court agreed with the IRS position that the highest and best use of the tract was as a “speculative hold for mixed-use development” and the easement was worth less than $5 million.  The Tax Court also tacked on a 20 percent penalty on the portion of the underpayment that wasn’t associated with the erroneous valuation. 

Note:  The rules associated with donated conservation easements are technical and must be precisely complied with.  While large tax savings can be achieved by donating a permanent conservation easement (especially for farmers and ranchers), carefully following all of the rules is critical.  Predetermining a valuation is a big “no-no.” 

IRS Changes Position on Gift Tax Treatment of IDGT Tax Reimbursement Clauses

C.C.A. 202352018 (Nov. 28, 2023) 

An Intentionally Defective Grantor Trust, or IDGT, is a tool used in estate planning to keep assets out of the grantor’s estate at death, while the grantor is responsible for paying income tax on the trust’s earnings.  Those tax payments are not gifts by the grantor to the beneficiaries.  If that tax burden proves to be too much it has been possible to give an independent trustee discretion to distribute funds from the trust to the grantor for making those tax payments.  The IRS said in 2016 that also wouldn’t trigger any gift or income tax consequences for the grantor.  Priv. Ltr. Rul. 201647001 (Aug. 8, 2016).  But now IRS says that a reimbursement clause in an IDGT does trigger gift tax when the trustee distributes trust funds to the grantor.  IRS now deems such a clause to result in a change in the beneficial interests in the trust rather than constituting merely being administrative in nature. 

Note:  While the IRS did not address the issue, it would seem that if state law authorizes the trustee to reimburse the grantor, as long as the trust doesn’t prohibit reimbursement, no gift tax should be triggered.  

“Takings” Cases at the U.S. Supreme Court

Devillier v. Texas, 144 S. Ct. 938 (2024) 

Sheetz v. El Dorado County, 144 S. Ct. 893 (2024) 

Devillier – Is the Fifth Amendment “self-executing”?  The family involved in Devillier has farmed the same land for a century.  There was no problem with flooding until the State renovated a highway and changed the surface water drainage.  In essence, the renovation turned the highway into a dam and when tropical storms occurred, the water no longer drained into the Gulf of Mexico.  Instead, the farm was left flooded for days, destroying crops and killing cattle.  The family sued the State of Texas to get paid for the Taking.

Note:  Constitutional rights don’t usually come with a built-in cause of action that allows for private enforcement in courts – in other words, “self-executing.”  They’re generally invoked defensively under some other source of law or offensively under an independent cause of action. 

The family claimed that the Takings Clause is an exception based on its express language – “nor shall private property be taken for public use, without just compensation.”  The case was removed to federal court and the family won at the trial court.  However, the appellate court dismissed the case on the basis that the Congress hadn’t passed a law saying a private citizen could sue the state for a constitutional taking.  In other words, the federal appellate court determined that the Fifth Amendment’s Takings Clause isn’t “self-executing.” 

The U.S. Supreme Court agreed to hear the case with the question being what the procedural vehicle is that a property owner uses to vindicate their right to compensation against a state.  The U.S. Supreme Court unanimously reversed the lower court, although it did not hold that the Fifth Amendment is “self-executing.”  Texas does provide an inverse condemnation cause of action under state law to recover lost value by a Taking. The Supreme Court noted that Texas had assured the Court that it would not oppose the complaint being amended so that the case could be pursued in federal court based on Texas state law. 

Sheetz - traffic impact mitigation fee and government extortion.  Sheetz claimed that a local ordinance requiring all similarly situated developers pay a traffic impact mitigation fee posed the same threat of government extortion as those struck down in Nollan v. California Coastal Commission, 483 U.S. 825 (1987), Dolan v. City of Tigard, 512 U.S. 374 (1995), and Koontz v. St. Johns River Water Management District, 570 U.S. 595 (2013). Those cases, taken together, hold that if the government requires a landowner to give up property in exchange for a land-use permit, the government must show that the condition is closely related and roughly proportional to the effects of the proposed land use. 

In this case, Sheetz claimed that test meant that the county had to make a case-by-case determination that the $24,000 fee was necessary to offset the impact of congestion attributable to his building project - a manufactured home on a lot that he owns in California.  He paid the fee, but then filed suit to challenge its constitutionality under the Fifth Amendment.   The U.S. Supreme Court unanimously ruled in his favor.  The Court determined that nothing in the Takings Clause indicates that it doesn’t apply to fees imposed by state legislatures. 

Summer Seminars – Branson and Jackson Hole

Registration for both of the national summer seminars that Paul Neiffer and I will be doing is now open.  The Branson (College of the Ozarks) seminar is in-person only, but the Jackson Hole event is offered both in-person and online.  For those attending the Jackson Hole seminar in-person, a room block is established at the Virginian Resort at a reduced rate.

The topics that we will cover are the same at both locations (although the material for Jackson Hole will be updated and current through mid-July).

Here’s a list of the topics we will be covering:

• Federal Tax Update
• Farm Bill Update
• Beneficial Ownership Information (BOI) Reporting
• Depreciation Planning
• Tax Planning Considering the Possible Sunset of TCJA
• How Famers Might Benefit from the Clean Fuel Production Tax Credit
• Conservation Easements
• Federal Estate and Gift Tax Update
• SECURE Act 2.0
• Split Interest Land Transactions
• Manager-Managed LLCs
• Types of Trusts
• Monetized Installment Sales
• Charitable Remainder Trusts or Cash Balance Plans
• Special Use Valuation
• Buy-Sell Agreements (planning in light of the Connelly decision)

Registration

For more information about the Branson event, and registration, click here:   https://www.washburnlaw.edu/employers/cle/farmandranchtaxjune.html

For more information about the Jackson Hole event, and registration, click here:   https://www.washburnlaw.edu/employers/cle/farmandranchtaxaugust.html

What’s Going on with Swampbuster?

Overview

There have been several significant recent developments involving the Swampbuster program with potential long-term impact for farming operations that participate in the federal farm programs.  The issues involve how the government delineates wetlands for Swampbuster purposes, requests for reconsideration of determinations of wetland status, certifications and the constitutionality of the Swampbuster program as a whole.

Swampbuster significant developments – that’s the topic of today’s post.

Background

The conservation-compliance provisions of the 1985 Farm Bill introduced the concept of “Swampbuster.” Swampbuster was introduced into the Congress in January of 1985 at the urging of the National Wildlife Federation and the National Audubon Society. It was originally presented as only impacting truly aquatic areas and allowing drainage to continue where substantial investments had been made. Thus, there was virtually no opposition to Swampbuster.

Swampbuster – Wetland Delineation Rules

How does the USDA determine if a tract of farmland contains a wet area that is subject to regulation?  The legislation creating Swampbuster charged the soil conservation service (SCS) with creating an official wetland inventory with a particular tract being classified as a wetland if it had (1) the presence of hydric soil; (2) wetland hydrology (soil inundation for at least seven days or saturated for at least 14 days during the growing season); and (3) the prevalence of hydrophytic plants under undisturbed conditions. In other words, to be a wetland, a tract must have hydric soils, hydrophytic vegetation and wetland hydrology.  The presence of hydrophytic vegetation, by itself, is insufficient to meet the wetland hydrology requirement and the statute clearly requires the presence of all three characteristics. B&D Land & Livestock Co. v. Schafer, 584 F. Supp. 2d 1182 (N.D. Iowa 2008).  

Interim Rules

Under the June 1986 interim rules, wetland was assumed to be truly wet ground that had never been farmed. In addition, “obligation of funds” (such as assessments paid to drainage districts) qualified as commenced conversions, and the Fish and Wildlife Service (FWS) had no involvement in ASCS or SCS decisions. In September of 1986, a proposal to exempt from Swampbuster all lands within drainage districts was approved by the chiefs of the ASCS, SCS, FmHA, FCIC and the Secretary of Agriculture. However, the USDA proposal failed in the face of strong opposition from the FWS and the EPA.

Final Rules

The final Swampbuster rules were issued in 1987 and greatly differed from the interim rules. The final Swampbuster rules eliminated the right to claim prior investment as a commenced conversion. Added were farmed wetlands, abandoned cropland, active pursuit requirements, FWS concurrence, a complicated “commenced determination” application procedure, and special treatment for prairie potholes. Under the “commenced conversion” rules, an individual producer or a drainage district is exempt from Swampbuster restrictions if drainage work began before December 23, 1985 (the effective date of the 1985 Farm Bill). If the drainage work was not completed by December 23, 1985, a request could be made of the ASCS on or before September 19, 1988, to make a commencement determination. Drainage districts must satisfy several requirements under the “commenced conversion” rules. A project drainage plan setting forth planned drainage must be officially adopted. In addition, the district must have begun installation of drainage measures or legally committed substantial funds toward the conversion by contracting for installation or supplies.

The final rules defined “farmed wetlands” as playa, potholes, and other seasonally flooded wetlands that were manipulated before December 23, 1985, but still exhibited wetland characteristics. Drains affecting these areas can be maintained, but the scope and effect of the original drainage system cannot be exceeded. 7 C.F.R. § 12.33(b).  Prior converted wetlands can be farmed, but they revert to protected status once abandoned. Abandonment occurs after five years of inactivity and can happen in one year if there is intent to abandon.  A prior converted wetland is a wetland that was totally drained before December 23, 1985. Under 16 U.S.C. §3801(a)(6), a “converted wetland” is defined as a wetland that is manipulated for the purpose or with the effect of making the production of an agricultural commodity possible if such production would not have been possible but for such action.   See, e.g., Clark v. United States Department of Agriculture, 537 F.3d 934 (8th Cir. 2008).  If a wetland was drained before December 23, 1985, but wetland characteristics remain, it is a “farmed wetland” and only the original drainage can be maintained.

Identifying a Wetland – The Boucher Saga

The process that the USDA uses to determine the presence of wet areas on a farm that are subject to the Swampbuster rules (known as the “on-site” wetland identification criteria) are contained in 7 C.F.R. §12.31.   The application of the rules was at issue in a case involving an Indiana farm family’s longstanding battle with the USDA. 

Facts and administrative appeals.  The facts of the litigation reveal that the plaintiff (and her now-deceased husband) owned the farm at issue since the early 1980s. The farmland has been continuously used for livestock and grain production for over 150 years. The tenants that farm the land participated in federal farm programs. In 1987, the plaintiffs were notified that the farm might contain wetlands due to the presence of hydric soils.  This was despite a national wetland inventory that was taken in 1989 that failed to identify any wetland on the farm.  In 1991, the USDA made a non-certified determination of potential wetlands, prior converted wetlands and converted wetlands on the property. In 1994, the plaintiff’s husband noticed that passersby were dumping garbage on a portion of the property. To deter the garbage-dumping, the plaintiff’s husband cleaned up the garbage, cleared brush, and removed five trees initially and four more trees several years later.  The trees were upland-type trees that were unlikely to be found in wetlands, and the tree removal impacted a tiny fraction of an acre.  The USDA informed the landowners that the tree removal might have triggered a wetland/Swampbuster violation and that the land had been impermissibly drained via field tile (which it had not). 

Because the land at issue was farmed, the USDA’s Natural Resources Conservation Service (NRCS) used an offsite comparison field to compare with the tract at issue for a determination of the presence of wetland.  The comparison site chosen was an unfarmed depression that was unquestionably a wetland.  In 2002, an attempt was made to place the farm in the Conservation Reserve Program, which triggered a field visit by the NRCS. However, a potential wetland violation had been reported and NRCS was tasked with making a determination of whether a wet area had been converted to wetland after November 28, 1990. The landowners requested a certified wetland determination, and in late 2002 the NRCS made a “routine wetland determination” that found all three criteria for a wetland (hydric soil, hydrophytic vegetation and hydrology) were present by virtue of comparison to adjacent property because the tract in issue was being farmed. The landowners were notified in early 2003 of a preliminary technical determination that 2.8 acres were converted wetlands and 1.6 acres were wetlands.  The NRCS demanded that the landowners plant 300 trees per acre on the 2.8 acres of “converted wetland.”

The landowners requested a reconsideration and a site visit. Two separate site visits were scheduled and later cancelled due to bad weather. The landowners also timely notified NRCS that they were appealing the preliminary wetland determination and requested a field visit, asserting that NRCS had made a technical error. A field visit occurred in the spring of 2003 and a written appeal was filed of the preliminary wetland determination and a review by the state conservationist was requested. The appeal claimed that the field visit was inadequate.  The husband met with the State Conservationist in the fall of 2003.  No site visit occurred, and a certified final wetland determination was never made.  The landowners believed that the matter was resolved.

The husband died, and nine years later a new tenant submitted a “highly erodible land conservation and wetland conservation certification” to the FSA. Permission was requested from the USDA to remove an old barn and house from a field to allow farming of that ground. In late 2012, the NRCS discovered that a final wetland determination had never been made and a field visit was scheduled for January of 2013 shortly after several inches of rain melted a foot of snow on the property.  At the field visit, the NRCS noted that there were puddles in several fields.  The NRCS used the same comparison field that had been used in 2002, and also determined that underground drainage tile must have been present (it was not).   

Based on the January 2013 field visit, the NRCS made a final technical determination that one field did not contain wetlands, another field had 1.3 acres of wetlands, another field had 0.7 acres of converted wetlands and yet another field had 1.9 acres of converted wetlands. The plaintiff (the surviving spouse) appealed the final technical determination to the USDA’s National Appeals Division (NAD).   At the NAD, the plaintiff asserted that either tile had been installed before the effective date of the Swampbuster rules in late 1985 or that tiling wasn’t present (a tiling company later established that no tiling had been installed on any of the tracts); that none of the tracts showed water inundation or saturation; that none of the tracts were in a depression; and that the trees that were removed over two decades earlier were not hydrophytic, were not dispositive indicators of wetland, and that improper comparison sites were used.  The NRCS claimed that the tree removal altered the hydrology of the site.  The USDA-NAD affirmed the certified final technical determination.  The plaintiff appealed, but the NAD Director affirmed.  The plaintiff then sought judicial review.    

Trial court decision.  The trial court affirmed the NAD Director’s decision and granted summary judgment to the government.   Boucher v. United States Department of Agriculture, No. 1:13-cv-01585-TWP-DKL, 2016 U.S. Dist. LEXIS 23643 (S.D. Ind. Feb. 26, 2016). The court based its decision on the following:

• The removal of trees and vegetation had the “effect of making possible the production of an agricultural commodity” where the trees once stood and, thus, the NRCS determination was not arbitrary or capricious with respect to the converted wetland determination.
• The NRCS followed regulatory procedures found in 7 C.F.R. §12.31(b)(2)(ii) for determining wetland status on the land that was being farmed by comparing the land to comparable tracts that were not being farmed.
• Existing regulations did not require site visits during the growing season.
• “Normal circumstances” of the land does not refer to normal climate conditions but instead refers to soil and hydrologic conditions normally present without regard to the removal of vegetation.
• The ten-year timeframe between the preliminary determination and the final determination did not deprive the plaintiff of due process rights.

Appellate Decision

The appellate court reversed the trial court decision and remanded the case for entry of judgment in the plaintiff’s favor and award her “all appropriate relief.”  Boucher v. United States Dep’t of Agric., No. 16-1654, 2019 U.S. App. LEXIS 23695 (7th Cir. Aug. 8, 2019).  On the comparison site issue (the USDA’s utilization of the on-site wetland identification criteria rules), the USDA claimed that 7 C.F.R. § 12.31(b)(2)(ii) allowed them to select a comparison site that was "on the same hydric soil map unit" as the subject property, rather than on whether the comparison site has the same hydrologic features as the subject tract(s).  The appellate court rejected this approach as arbitrary and capricious, noting that the NRCS failed to try an "indicator-based wetland hydrology" approach or to use any of their other tools when picking a comparison site. In addition, the appellate court noted a COE manual specifies that, “[a] hydrologist may be needed to help select and carry out the proper analysis" in situations where potential lack of hydrology is an issue such as in this case.   However, the NRCS did not send a hydrologist to personally examine the plaintiff’s property, claiming instead that a comparison site was not even necessary.  Based on 7 C.F.R. §12.32(a)(2), the USDA claimed, the removal of woody hydrophytic vegetation from hydric soils to permit the production of an agricultural commodity is all that is needed to declare the area "converted wetland."

The appellate court concluded that this understanding of the statue was much too narrow and went against all the other applicable regulatory and statutory provisions by completely forgoing the basis of hydrology that the provisions are grounded in.   Accordingly, the appellate court reasoned that because hydrology is the basis for a change in wetland determination, the removal of trees is merely a factor to determine the presence of a wetland, but is not a determining factor.  In addition, the appellate court pointed out that the NRCS never indicated that the removal of trees changed the hydrology of the property during the agency appeal process – a point that the USDA ignored during the administrative appeal process.   The appellate court rather poignantly stated, “Rather than grappling with this evidence, the hearing officer used transparently circular logic, asserting that the Agency experts had appropriately found hydric soils, hydrophytic vegetation, and wetland hydrology…”.

Observation:  The USDA-NRCS was brutalized (rightly so) by the appellate court’s decision for its lack of candor and incompetence.  Those same agency characteristics were also illustrated in the Eighth Circuit decision of Barthel v. United States Department of Agriculture, 181 F.3d 934 (8th Cir. 1999).  Perhaps much of the USDA/NRCS conduct relates to the bureaucratic unilateral decision in 1987 to change the rules to include farmed wetland under the jurisdiction of Swampbuster.   That decision has led to abuse of the NAD process and delays that have cost farmers untold millions. 

Certification Requests - the “Grassley” Amendment

In 1990, the Congress amended the Swampbuster Act to provide a review provision specifying that a prior wetland certification “shall remain valid and in effect…until such time as the person affected by the certification requests review of the certification by the Secretary.”  16 U.S.C. §3822(a)(4).  This became known as the “Grassley Amendment” named after Senator Charles Grassley of Iowa.  The purpose of the amendment was to prevent farmers from being subjected to multiple certifications based on new methods the NRCS had begun using to make wetland determinations.  Under the rule, a farmer could request a recertification upon demand. 

However, based on the statutory amendment, the USDA developed a regulation, known as the “Review Regulation,” providing procedural requirements a farmer must follow to make an effective review request.  The regulation said a request to review a certification could be made only if a natural event had altered the topography or hydrology of the land or if NRCS believed that the existing certification was erroneous.  7 C.F.R. §12.30(c)(6). 

The Foster Case

Facts and trial court decision.  In Foster v. United States Department of Agriculture, 609 F.Supp.3d 769 (D. S.D. 2022), the plaintiff owned farmland containing a .8-acre portion that USDA certified as a “wetland” in 2011 under the Swampbuster provisions of 16 U.S.C. §§3801, 3821-3824.  The wetland was about 8.5 inches deep at certain times during the year, particularly in the spring after snow melted and didn’t drain anywhere.  The wetland resulted from a tree belt that had been planted in 1936 to prevent soil erosion.  Snow accumulated around the tree belt in the winter and melted in the spring with the water collecting in a low spot in of the field before soaking into the ground or evaporating.  In about one-half of the crop years, the puddle would dry out in time for planting.  In other years it had to be drained to plant crops.  The certification meant that the puddle could not be drained so that it and the surrounding land could not be farmed without the loss of federal farm program benefits. 

In 2008, Foster requested a review of a certification and USDA granted the request simply on the basis of the statute which plainly states that a review of a certification is available upon request.    The request was granted even though the regulation was in place at that time.  The area was recertified as a wetland in 2011.  This was despite Foster having dug two test holes to monitor water levels in the disputed area – one of which was immediately next to the trees.  The data Foster collected showed that the trees slowed the drying of the soil in the hole next to the trees.  The USDA/NRCS refused the data, claiming that Foster didn’t have the expertise to interpret the data.  As a result, Foster installed two weather stations and hired an engineering firm to “officially” conclude that the tree belt was slowing the drying of the soil. 

Foster challenged the 2011 recertification, but the trial court affirmed the determination as not arbitrary and capricious (the judicial deference standard given administrative agency decisions).  The U.S. Court of Appeals for the Eighth Circuit affirmed, and the U.S. Supreme Court declined to review the case.  Foster v. Vilsack, 820 F.3d 330 (8th Cir. 2016), cert. den., 137 S. Ct. 620 (2017). 

Note:  Before Foster’s request for review of the 2011 certification, another South Dakota farmer with a similar set of facts successfully had NRCS remove a wetland label on a .3-acre portion of a field.  Like Foster’s situation, the .3-acre portion was impacted by snow caught in a tree belt.  Thus, after the court decisions, the question remained as to whether a farmer has a legal obligation to present evidence of changed conditions.  The statute contains no such requirement.  In 2008, the recertification request was granted with no obligation on Foster’s part to provide evidence of changed conditions.  The evidence provided was not requested.  Also, published NRCS infiltration rates for the soil type of the depression indicated that the ponding would be gone in less than two weeks (the required inundation period for a wetland finding). 

In 2017, Foster again sought a review of the certification under 16 U.S.C. §3822(a)(4) which, as noted, provides for review of a final certification upon request by the person affected by the certification.  The USDA/NRCS didn’t respond on the basis that Foster didn’t provide new information that the NRCS hadn’t previously considered.  Foster filed for review again in 2020 along with professionally prepared engineering reports from two firms that concluded that the area in question ponded due to the tree belt and was an artificial wetland not subject to Swampbuster. 

The USDA denied review in 2020 citing its own regulation of 7 C.F.R. §12.30(c)(6) which required the plaintiff to show how a natural event changed the topography or hydrology of the wetland that caused the certification to no longer be a reliable indicator of site conditions.  The plaintiff claimed that new evidence existed that would refute the 2011 certification, and also claimed that 16 U.S.C. §3822(a)(4) provided no restriction on the ability to get a review and, as a result, 7 C.F.R. §12.30(c)(6) violated the due process clause by restricting reviews and was arbitrary and capricious under the Administrative Procedure Act.   

The trial court held that 7 C.F.R. §12.30(c)(6) merely restricted when an agency must review a final certification.  The trial court also determined that 7 C.F.R. §12.30(c)(6) did not violate the due process clause as the plaintiff did not show any independent source of authority providing him with a right to certification review on request. The USDA’s denials of review were found not to be arbitrary or capricious and that the plaintiff failed to provide any evidence that the natural conditions of the site had changed, which would require a review of the certification.  The plaintiff also claimed that the Swampbuster provisions were unconstitutional under the Commerce Clause and the Tenth Amendment.  

The trial court rejected the plaintiff’s claims and determined that the statute of limitations on challenging the certification had run.  The trial court also held that the USDA was entitled to summary judgment on the plaintiff’s claim that Swampbuster was unconstitutional, holding that the provisions were within the power of the Congress under the spending clause of Article I, Section 8 of the Constitution.  The trial court also ruled that Swampbuster did not infringe upon state sovereignty by requiring states to implement a federal program, statute or regulation. The trial court further rejected the plaintiff’s claim that a part of Swampbuster violated the Congressional Review Act, finding that the provision at issue was precluded from judicial review.  The court dismissed all the plaintiff’s claims against the USDA and denied the ability for the area to be reviewed again. 

The appellate court.  Foster filed an appeal with the U.S. Court of Appeals for the Eighth Circuit on August 16, 2022, and the appellate court issued its opinion on May 12, 2023. Foster v. United States Department of Agriculture, 68 F.4th 372 (8th Cir. 2023). The appellate court affirmed.  The court stated that NRCS noted the engineer’s report and asked the engineering firm to identify any evidence that the NRCS had not fully considered the tree belt at the time of the 2011 recertification decision.  The appellate court stated, “Neither Foster nor the engineering firm ever responded to the request.”  The court went on to state that the NRCS reviewed the engineering report, compared it to the record, and declined the review request for noncompliance with the regulation.

Note:  The court’s statement that the NRCS requested additional evidence is false.  The NRCS letter of May 14, 2020, to Foster by State Conservationist Jeffrey Zimprich merely stated that, “Based on the evidence you provided, I am unable to determine that any of the conditions mentioned above for a redetermination apply.”  There was no request for additional information that was made to either Foster or the engineering firms.

The appellate court concluded that the regulation was not inconsistent with the Swampbuster Act.  There was simply nothing that could be gleaned from the Grassley Amendment as guidance to what constitutes a proper review request.  As such the statute was ambiguous and the administrative procedural requirements were permissible.  The Grassley Amendment was merely so that farmers had a way to contest new NRCS wetland delineations for Swampbuster purposes.  It did not preclude USDA/NRCS from developing procedural requirements to challenge a certification.    

The appellate court also affirmed the trial court’s finding with respect to the Congressional Review Act for lack of authority to review the claim.  The appellate court also affirmed the trial court’s finding that the NRCS refusal to consider the request was not arbitrary and capricious.

Note:  In the concluding paragraph of the appellate court’s opinion, the appellate court stated that, “the NRCS requested Foster’s engineering firm to identify evidence showing the NRCS had failed to consider the tree belt on the Site when it made its prior certification.  The record shows no indication that Foster or his engineering firm responded to this request.”  Unfortunately, the appellate court offers no support for this assertion and there is no record of such a request ever having been made.  What the appellate court bases this statement on is not known.

Note:  As of late April 2024, NRCS field offices are not authorized to give out wetland determinations. 

The Grassley Amendment is clear that can rely on a wetland determination until a new determination is requested.  The point of the amendment is to bar NRCS from unilaterally changing a determination once made.  A farmer may request a redetermination.  While it is reasonable to require that new information bearing on a site’s wetland status be provided when a redetermination is requested, Foster provided that information in the form of professional engineering reports.  Here, NRCS failed to understand the professional reports submitted with the review request and also did not make a clear request for additional information/clarification.  Indeed, no request at all was made for additional information.  Clearly, the .8-acre depression was the result of snowpack caused by a tree belt and NRCS’ own data showed that the ponding of the depression would be gone in less than two weeks.  A regulation that allows a farmer to receive a redetermination upon NRCS admitting it made an error (one of the two possibilities for a review to be granted) makes it highly unlikely that a review would be granted.

Note:  On August 10, 2023, Foster filed a petition for certiorari with the U.S. Supreme Court.  Presently, the Court has not ruled on the petition.  That could mean that the Court is holding the case until it decides two cases involving the amount of deference to be given federal administrative agencies.  Those two cases will likely be decided in June of 2024. 

More Certification Problems

In early 2024, a federal trial court vacated a 2020 NRCS final rule specifying that ag wetlands the agency designated between 1990 and 1996 would be considered “certified” if the maps that created them at the time were “legible.”  National Wildlife Federation v. Lohr, No. 19-cv-2416 (TSC), 2024 U.S. Dist. LEXIS 29975 (D. D.C. Feb. 22, 2024).  From 1996-2013, a pre-1996 delineation map was considered “certified” based on the map’s accuracy and wouldn’t have to be recertified.  Then NRCS changed the certification process because it was trying to clear a backlog of requests for certified wetland determinations.  So, under the 2020 final rule, any map delineating wetlands between 1990 and 1996 that was “legible” was deemed “certified.”  The court determined that the final rule violated the Administrative Procedure Act because the rule amounted to a change in agency policy and did not constitute “reasoned decision making.”  It was not simply a clarification in agency policy.  While the NRCS claimed that the 2020 final rule was intended to “clear up state-level confusion” the court disagreed and determined the final rule was not entitled to deference

Constitutional Challenge

With a case filed on April 16, 2024, an Iowa farming operation is challenging the constitutionality of the Swampbuster program.  CTM Holdings, LLC v. United States Department of Agriculture, No. 6:24-cv-02016 (N.D. Iowa) (filed Apr. 16, 2024).  The plaintiff is a family farming operation that owns a 72-acre tract at issue in the case.  On the tract, the NRCS determined that nine acres are “wetland” based on a 2010 determination that was made for a prior owner which the plaintiff’s request for a redetermination was denied and which could not be appealed.  The suit seeks to set aside the Swampbuster regulations that led the agency to that conclusion on the basis that the regulations impose unconstitutional conditions and are in excess of the agency’s statutory authority. 

The plaintiff asserts several claims:

• The Swambuster regulations violate the Congress’ power under the Commerce Clause because the 9-acre wetland is purely intrastate.
• The Swampbuster regulations impose unconstitutional conditions by conditioning a government benefit on the waiver of a constitutional right.
• The Swampbuster regulations amount to an unconstitutional “taking” of the plaintiff’s private property – a “per se” physical taking by appropriating a permanent conservation easement without paying for it.
• The Swampbuster regulations exceed the agency’s statutory authority by adding “woody vegetation” to the statutory definition of “converted wetland.”
• The Swampbuster regulations exceed the agency’s statutory authority violate the Grassley Amendment by including regulatory requirements for a farmer to receive a certification review of a wetland when the statute requires none.

On the claims, it will be extremely difficult for the plaintiff to prevail on its “unconstitutional conditions” and “takings” claims.  A farmer need not participate in the farm programs (although the economics often dictate that non-participation is not a consideration), but once participation occurs the rules of the various programs must be complied with.  But the Commerce Clause and conduct in excess of statutory authority claims could have “legs.”

As for the Commerce Clause claims, expect the government to respond that Swampbuster is constitutional via the Constitution’s Spending Clause, (contained in Article I, Section 8, Clause 1 of the Constitution) and that overrides a Commerce Clause challenge.  For instance, in United States v. Dierckman, 201 F.3d 915 (7th Cir. 2000), a farmer challenged the government’s determination of the presence of wetlands on his farm that, if farmed, would result in farm program benefit ineligibility.  The farmer alleged, among other things, that the Swampbuster rules constituted a taking. The U.S. Court of Appeals for the Seventh Circuit disagreed, finding that the 1985 Farm Bill was not an exercise of direct regulatory power which requires a connection to interstate commerce under the commerce clause, but merely established rules conditioning the receipt of federal farm program benefits on wetland preservation. As such, the court reasoned, the Swampbuster provisions in the 1985 Farm Bill constituted indirect regulation invoking the Congress’ spending power and are, therefore, not limited by the commerce clause in requiring a connection to interstate commerce.

Dierckman was a Seventh Circuit opinion.  While the U.S. Supreme Court has not addressed the constitutionality of the Swampbuster program, it has ruled unconstitutional a processing and floor tax imposed on cotton processors under the Agricultural Adjustment Act of 1933.  United States v. Butler, 297 U.S. 1 (1936).  The government claimed the Act was valid because the Spending Clause permitted the Congress to appropriate funds for the “general welfare”  which in the case involved a Congressional effort to aid farmers during the Great Depression.  The Court didn’t have to address that question because it determined that the power to regulate agriculture had been reserved to the states.

Since the Butler decision, Spending Clause jurisprudence has not really focused on the constitutionality of congressional spending.  Instead, the focus has been on whether the conditions imposed on the receipt of federal taxpayer dollars achieve ends that are within the constitutionally enumerated powers of the Congress.  See, e.g., South Dakota v. Dole, 483 U.S. 203 (1987)( conditioning receipt of federal highway funds on a state’s adoption of a twenty-one-year-old drinking age was sufficiently related to the funding program; the dissent noted, “If the spending power is to be limited only by Congress’ notion of the general welfare, the reality...is that the Spending Clause gives ‘power to the Congress...to become a parliament of the whole people, subject to no restrictions save such as are self-imposed.’ This...was not the Framers’ plan and it is not the meaning of the Spending Clause.”).  In other words, the question is whether the conditions imposed on the receipt of funds are related to the program being funded and whether there are no other constitutional provisions that would be violated by the conditional grant of the funds.        

Conclusion

Much has been happening in the Swampbuster world recently.  The future of the current litigation should help provide more guidance on the issues that have been troublesome for awhile.

Branson Summer Seminar on Farm Income Tax and Estate/Business Planning

Overview

On June 12-13, I will be conducting a farm income tax and farm estate and business planning seminar at the Keeter Center on the campus of College of the Ozarks near Branson, MO.  This is a live, in-person presentation only.  No online option is available.  My partner in presentation is Paul Neiffer.  Paul and I have done these summer events for a number of years and are teaming up again this summer to provide you with high quality training on the tax issues you deal with for your farm and ranch clients.

Topics

Here’s a list of the topics that Paul and I will be digging into:

• Federal Tax Update
• Farm Bill Update
• Beneficial Ownership Information (BOI) Reporting
• Depreciation Planning
• Tax Planning Considering the Possible Sunset of TCJA
• How Famers Might Benefit from the Clean Fuel Production Tax Credit
• Conservation Easements
• Federal Estate and Gift Tax Update
• SECURE Act 2.0
• Split Interest Land Transactions
• Manager-Managed LLCs
• Types of Trusts
• Monetized Installment Sales
• Charitable Remainder Trusts or Cash Balance Plans
• Special Use Valuation
• Buy-Sell Agreements (planning in light of the Connelly decision)

Registration

The link for registration is below and can be found on my website – www.washburnlaw.edu/waltr and the seminar is sponsored by McEowen, P.L.C.  You may mail a check with your registration or register and pay at the door.  Early registration is eligible for a lower rate.  Certification is pending with the National Association of State Boards of Accountancy (NASBA) to qualify for 16 hours of CPE credit and corresponding CLE credit (for attorneys). 

Here is the specific link for the event:  https://www.washburnlaw.edu/employers/cle/farmandranchtaxjune.html

Jackson Hole

Paul and I will present the same (but updated) seminar in Jackson Hole, Wyoming, on August 5 and 6.  That event will also be broadcasted live online.

We hope to see you there!

Rights of Co-Tenants (and Adverse Possession of Minerals)

Overview

An issue to consider when setting up an estate plan is whether it is beneficial to leave assets in co-equal ownership to the children.  In a farm setting, the issue can come up when the parents have traditional bypass, credit shelter trust arrangements set up, as well as in the less complex estates where farmland is left outright in co-equal ownership to the children. But a drawback of co-equal ownership is the right of partition of a co-owner. That’s a particularly acute problem when parents have both on-farm and off-farm heirs.

Another issue that can come up involves the rights of a co-owner with a minority ownership percentage to terminate a lease or capitalize on mineral interests without the consent of co-owners.  That was indeed what was involved in a recent case, and it’s the topic of today’s post.

O’Malley v. Adams

228 N.E.3d 379 (Ill. Ct. App. 2023)

This case presented the interesting issues of whether a tenant in common that owns at least one-half interest in mineral rights can drill for oil and gas without the permission of the cotenants, and whether the mineral interest can be adversely possessed. 

Here, the “Prather Trust” and the “O’Malley Trust,” because of various estate planning strategies, ended up as cotenants of farmland.  The trustee of the O’Malley Trust held a 50 percent interest in the mineral estate in farmland and claimed it had acquired the Prather Trust’s 50 percent interest in the mineral estate by adverse possession.  The trial court issued summary judgment for the Prather Trust on the adverse possession issue.  Prather Trust filed counterclaim for an accounting, claiming that O’Malley trust had removed and sold oil and natural gas from the mineral estate without the Prather Trust’s knowledge or consent and that the title insurance company issued a title policy falsely declaring that the O’Malley Trust had merchantable title to 100 percent of the minerals in the mineral estate. The Title Company moved for summary judgment on the basis that removal and sale of minerals by a tenant without permission of cotenant is not a tort under Illinois law, but the court denied the motion.

The trustees of the “Prather Trust” sued the title insurance company for slander of title to the trust’s 50 percent interest in the mineral estate and for conversion of the trust’s share of proceeds from the sale of extracted minerals.  The title company sought summary judgment on the basis that removal and sale of minerals by a tenant in common, without consent of a co-tenant, is not a tort under Illinois law.  The trial court denied the title company’s motion and certified three questions of law to the Illinois Court of Appeals.  However, the title insurance company sought leave to appeal to the Illinois Supreme Court.  The appellate court denied leave to appeal, but then it was allowed by means of a supervisory order from the Illinois Supreme Court.  As a result, an interlocutory appeal allowed.

Three questions were certified to the Illinois Court of Appeals:  1)  Does Illinois law provide a tenant in common owning at least one-half of the mineral interest in land an unfettered right to drill for oil and gas without cotenant permission?; 2) Whether Illinois law (stat. 765 ILCS 520/2) impose a mandatory requirement that a co-tenant must always seek court permission before drilling for oil and gas?; and 3) whether Illinois case law preclude a nondrilling cotenant from bringing a conversion claim against a drilling cotenant when the drilling cotenant removes oil and gas from property without the nondrilling cotenant’s permission, and preclude a nondrilling cotenant from brining a slander of title claim against their cotenant after the cotenant’s decision to grant a lease to a third party to drill for oil and gas on the property?

The title insurance company claimed that a tenant in common owning at least 50 percent of the mineral interest in land can drill for, remove and sell the minerals from the mineral estate without permission of other cotenant(s), and that the only remedy of the nondrilling cotenant is an accounting.  As such, a 50 percent or more owner doesn’t have to follow the Oil and Gas Rights Act as a precondition to drilling and that failing to follow the procedure is not a tort.  Conversely, the Prather Trust claimed that permission of a cotenant(s) is required before removal and sale of minerals or a valid court order must be obtained, and that drilling cotenant is liable for trespass and conversion.

The appellate court answered the certified questions in the negative.  Illinois law does not provide a tenant in common owning at least one-half of the mineral interest in land an unfettered right to drill for oil and gas without cotenant permission.  As to whether Illinois law (stat. 765 ILCS 520/2) imposes a mandatory requirement that a cotenant must always seek court permission before drilling for oil and gas, the appellate court said court permission was only necessary when a cotenant objects.  The appellate court also determined that Illinois case law did not preclude a nondrilling cotenant from bringing a conversion claim against a drilling cotenant when the drilling cotenant removes oil and gas from property without the nondrilling cotenant’s permission.  Illinois law also does not preclude a nondrilling cotenant from brining a slander of title claim against their cotenant after the cotenant’s decision to grant a lease to a third party to drill for oil and gas on the property. 

Adverse Possession?

The appellate court did not address the adverse possession issue.  Perhaps it will be discussed as the case heads back to the trial court for further proceedings.  But let’s take a closer look at the issue of whether mineral interests can be adversely possessed.

Example – Kansas approach.  The Kansas statute on adverse possession is typical:

Kan. Stat. Ann. §60-503. Adverse possession. No action shall be maintained against any person for the recovery of real property who has been in open, exclusive and continuous possession of such real property, either under a claim knowingly adverse or under a belief of ownership, for a period of fifteen (15) years.

Other state adverse possession statutes may also include a requirement of “hostility” (e.g., without permission of the true owner).  Once the elements of the state statute are satisfied for the statutory period (15 years in Kansas), the adverse possessor can bring a quiet title action to acquire legal ownership of the disputed property. 

Does adverse possession apply to minerals?  The answer can be complicated.  The bifurcation of surface and mineral rights (oil, gas, coal and metals) raises a question of how adverse possession applies when the property at issue (mineral rights) is subsurface and cannot be seen or accessed from the surface, and can be owned by a party different than the surface owner.  Does acquiring title to the surface also mean that the subsurface minerals are adversely possessed?  The answer is “no” unless there has been exploration or exploitation of the minerals that satisfies the adverse possession statute.  Indeed, some states have statutes that bar acquiring title to minerals by adverse possession.  However, if the adverse possessor of the surface uses or occupies the subsurface minerals, a claim of ownership of the minerals might be possible via adverse possession. Actual possession of the minerals is the key.  As applied, that concept means that if the mineral estate has been severed from the surface estate such that the two estates are owned by different parties, the adverse possession of the surface estate doesn’t constitute adverse possession of the mineral estate absent actual possession (i.e., usage by drilling and production) of the minerals.  See, e.g., Natural Gas Pipeline Company of America v. Pool, 124 S.W.3d 188 (Tex. 2003).  This also means that a royalty interest cannot be adversely possessed because it is a no-possessory interest – there is no royalty until production occurs.  This is also the result with respect to a non-participating royalty interest and an overriding royalty interest. See, e.g., Connaghan v. Eighty-Eight Oil Company, 750 P.2d 1321 (Wyo. 1988).  But an operating working interest is a possessory interest that can be adversely possessed.  As for a non-operating working interest, the caselaw is either non-existent in jurisdictions or unclear as to whether adverse possession applies.

So, what can a mineral interest owner do to protect against a possible adverse possession claim?  Leasing the mineral rights to an active company would be a good approach as it would establish a visible use of the mineral rights that is ongoing. 

Conclusion

Co-ownership of farmland among the children after the parents are gone rarely works out well.  The recent Illinois case points out some of the issues that can arise.  Perhaps on remand the Illinois court will address the adverse possession issue with respect to minerals.