Livestock Indemnity Payments – What They Are and Tax Reporting Options

Overview

Recent wildfires in Kansas, Oklahoma and Texas have resulted in thousands of livestock deaths and millions of dollars of losses to the agricultural sector in those states.  Last week, one of the blog posts was devoted to casualty losses and involuntary conversions.  Today, I tackle another related subject – the USDA Livestock Indemnity Program (LIP) and how to report LIP payments.

2014 Farm Bill – The LIP Program

The LIP program, administered by USDA’s Farm Service Agency (FSA), was created under the 2014 Farm Bill to provide benefits to livestock producers for livestock deaths that exceed normal mortality caused by adverse weather, among other things.  The amount of a LIP payment is set at 75 percent of the market value of the livestock at issue on the day before the date of death, as the Secretary determines.  Eligible livestock include beef bulls and cows, buffalo, beefalo and dairy cows and bulls.  Non-adult beef cattle, beefalo and buffalo are also eligible livestock.  The livestock must have died within 60 calendar days from the ending date of the “applicable adverse weather event” and in the calendar year for which benefits are requested.  To be eligible, the livestock must also have been used in a farming (ranching) operation as of the date of death.  Contract growers of livestock are also eligible for LIP payments. However, ineligible for LIP payments are wild animals, pets, or animals that are used for recreational purposes (i.e., hunting dogs, etc.). 

As previously noted, LIP payments are set at 75 percent of the market value of the livestock as of the day before their death.  That market value is tied to a “national payment rate” for each eligible livestock category as published by the USDA.  For contract growers, the LIP national payment rate is based on 75 percent of the average income loss sustained by the contract grower with respect to the livestock that died.  Any LIP payment that a contract grower is set to receive will be reduced by the amount of monetary compensation that the grower received from the grower’s contractor for the loss of income sustained from the death of the livestock grown under contract. 

As for FSA payment limitations, a $125,000 annual payment limitation applies for combined payments under the LIP, Livestock Forage Program, and the Emergency Assistance for Livestock, Honey Bees and Farm-Raised Fish program.  In addition, to the payment limitation, and eligible farmer or rancher is one that has average adjusted gross income (AGI) over a three-year period that is less than or equal to $900,000.  For 2017, the applicable three-year period is 2013-2015.   For a particular producer, that could mean that tax planning strategies to keep average AGI at or under $900,000 need to be implemented.  That could include the use of deferral strategies, income averaging and amending returns to make or revoke an I.R.C. §179 election.

An eligible producer can submit a notice of loss and an application for LIP payments to the local FSA office.  The notice of loss must be submitted within the earlier of 30 days of when the loss occurred (or became apparent) or 30 days after then end of the calendar year in which the livestock loss occurred.  For contract growers, a copy of the grower contract must be provided.  For all producers, it is important to submit evident of the loss supporting the claim for payment.  Photographs, veterinarian records, purchase records, loan documentation, tax records, and similar data can be helpful in documenting losses.  Of course, the weather event triggering the livestock losses must also be documented.  In addition, certification of livestock deaths can be made by third parties on Form CCC-854, if certain conditions can be satisfied

Tax Reporting

Given that the wildfires occurred in the early part of 2017, it is likely that any LIP payments will also be received in 2017.  That’s not always the case.  Sometimes LIP payments are not paid until the calendar year after the year in which the loss was sustained.  For example, livestock losses in South Dakota a few years ago occurred late in the year, but payments weren’t received until the following year.   In any event, for LIP payments that are paid out, the FSA will issue a 1099G for the full amount of the payment. 

Death of breeding livestock.  While the 1099G simply reports the gross amount of any LIP payment to a producer for the year, there may be situations where a portion of the payment is compensation for the death loss of breeding livestock.  If the producer would have sold the breeding livestock, the sale would have triggered I.R.C. §1231 gain that would have been reported on Form 4797.  That raises a question as to whether it is possible to allocate the portion of the disaster proceeds allocable to breeding livestock from Schedule F to Form 4797.  This is an issue that many producers that have sustained livestock losses will have.  While it is true that gains and losses from the sale of breeding livestock sales are reported on Form 4797, the IRS will look for Form 1099-G amounts paid for livestock losses to show up on Schedule F – most likely on line 4a. 

Income inclusion and deferral.  The general rule is that any benefits associated indemnity payments (or feed assistance) are reported in income in the tax year that they are received.  That would mean, for example, that payments received in 2017 for livestock losses occurring in 2017 will get reported on the 2017 return.  Likewise, payments for livestock losses occurring in 2016 that were received in 2017 would also be reported in 2017.

The receipt and inclusion in income of LIP payments could also put a livestock producer in a higher income tax bracket for 2017.  In that instance, there might be other tax rules that can be used to defer the income associated with the livestock losses.  Under I.R.C. §451(e), the proceeds of livestock that are sold on account of weather-related conditions can be deferred for one year.  Under another provision, I.R.C. §1033(e), the income from livestock sales where the livestock are held for draft, dairy or breeding purposes that are involuntarily converted due to weather can be deferred if the livestock are replaced with like-kind livestock within four years.  The provision applies to the excess amount of livestock sold over sales that would occur in the course of normal business practices. 

While I.R.C. §451(e) requires that a sale or exchange of the livestock must have occurred, that is not the case with the receipt of indemnity payments for livestock losses.  So, that rule doesn’t provide any deferral possibility.  The involuntary conversion rule of I.R.C. §1033(3) is structured differently.  It doesn’t require a sale or exchange of the livestock, but allows a deferral opportunity until the animals acquired to replace the (excess) ones lost in the weather-related event   Thus, only the general involuntary conversion rule of I.R.C. §1033(a) applies rather than the special one for livestock when a producer receives indemnity (or insurance) payments due to livestock deaths.  Thus, for LIP payments received in 2017, they will have to be reported unless the recipient acquires replacement livestock within the next two years – by the end of 2019.  Any associated gain would then be deferred until the replacement livestock are sold.  At that time, any gain associated gain would be reported and the gain in the replacement animals attributable to breeding stock would be reported on Form 4797.

Conclusion

Livestock losses due to weather-related events can be difficult to sustain.  LIP payments can help ease the burden.  Having the farming or ranching operation structured properly to receive the maximum benefits possible is helpful, as is understanding the tax rules and opportunities for reporting the payments.