Farm Program Payment Limitations and Entity Planning – Part One

Overview

A unique aspect of estate planning for farmers and ranchers is the need to incorporate (for many of these clients) farm program payment limitation planning into the mix.  The way the farming or ranching business is structured can impact eligibility for farm program benefits.

So, what are the essential farm program rules that impact the planning/structuring process?  That’s our focus this week.  Today is part one of the two-part series

2014 Farm Bill

Primary programs.  Under the 2014 Farm Bill, the total amount of payments received, directly and indirectly, by a person or legal entity (except joint ventures or general partnerships) for Price Loss Coverage (PLC) Agricultural Risk Coverage (ARC), marketing loan gains, and loan deficiency payments (other than for peanuts), may not exceed $125,000 per crop year. A person or legal entity that receives payments for peanuts has a separate $125,000 payment limitation ($250,000 for married persons).  Cotton transition payments are limited to $40,000 per year. For the livestock disaster programs, a total $125,000 annual limitation applies for payments under the Livestock Indemnity Program, the Livestock Forage Program, and the Emergency Assistance for Livestock, Honey Bees and Farm-Raised Fish program. A separate $125,000 annual limitation applies to payments under the Tree Assistance Program. 

Beginning in 2014, farmers were given a one-time opportunity to elect PLC or ARC for the 2014-2018 crop years.  If an election was not made, PLC applied beginning in 2015 with no payment available for 2014.  If ARC was elected, all producers with respect to a farm had to sign the election form. If PLC was elected, the owners of the farm had an option to update their yields to 90 percent of their average yields from 2008-2012.  All farm owners also could elect to reallocate their base acres based on the actual plantings for 2009-2012. 

PLC and ARC.  The PLC option works in tandem with a crop insurance Supplemental Coverage Option (SCO).  It is a risk management tool that is designed to address significant, multiple-year price declines.  It compliments crop insurance, which is not designed to cover multiple-year price declines.  A farmer that chooses the PLC option will receive a payment (consistent with payment limitations) when the effective price of a covered commodity is less than the target (“reference”) price for that commodity established in the statute (e.g., the target price for corn is $3.70/bu).  The effective price is the higher of the mid-season price or the national average loan rate for the covered commodity.  Thus, the PLC payment rate is the reference price less the effective price, and the PLC payment amount is the payment rate times the payment acres.  Putting it another way, the PLC payment is equal to 85 percent of the base acres of the covered commodity times the difference between the target price and the effective price times the program payment yield for the covered commodity.  SCO provides additional county-level insurance coverage not to exceed the difference between 86 percent and the coverage level in the individual insurance policy.  Because SCO is a form of crop insurance, payment limits do not apply.  But, a farmer selecting the PLC option must pay an additional premium for SCO coverage (but, the cost of the additional premium is 65 percent taxpayer subsidized). 

ARC is a risk management tool that addresses revenue losses.  Under the ARC, payments are issued when the actual county crop revenue of a covered commodity is less than the ARC county guarantee for the covered commodity and are based on county data, not farm data.   A producer electing ARC must unanimously select whether to receive county-wide coverage on a commodity-by-commodity basis or choose individual coverage that applies to all of the commodities on the farm.  Payment acres are 85 percent of base acres for county coverage, and 65 percent for individual farm coverage.  Under ARC, a producer must incur at least a 14 percent loss (defined as 86 percent of benchmark revenue) for coverage to kick-in.  The ARC county guarantee equals 86 percent of the previous five-year average national farm price, excluding the years with the highest and lowest price (the ARC guarantee price), times the five-year average county yield, excluding the years with the highest and lowest yield (the ARC county guarantee yield).  This guarantee revenue is based on five-year Olympic production and average crop price excluding the high and low years.  Both the guarantee and actual revenue are computed using base acres, not planted acres.  The payment is equal to 85 percent of the base acres (this is for county-elected ARC) of the covered commodity times the difference between the county guarantee and the actual county crop rev­enue for the covered commodity, not to exceed 10 percent of the benchmark county revenue (the ARC guarantee price times the ARC county guarantee yield).   In other words, if revenue is less than 76 percent of the previous five-year average national farm price, then the maximum 10 percent of benchmark revenue is paid, subject to the payment limit of $125,000 per person.

For 2014 and 2015 crops, ARC was more likely to result in a payment to a producer because of the higher Olympic average.  But, it is now less likely to make a payment in for 2016-2018 crops due to low crop prices.  If prices remain low, PLC will result in a payment.  The choice for any given producer will be different (there is no “one size fits all” with respect to the election) and ARC may be desired with respect to one crop and PLC may be best for another crop, for example.  In general, the bigger margin between expected prices and reference prices, the more likely it is that a producer would choose ARC.  However, the ARC and PLC was an irrevocable election and whatever the producer elected in 2014 will apply through the 2018 crop year.  The only way to make a new election is by having acres come out of CRP that are then put back into production.

Payments for PLC and ARC are issued after the end of the respec­tive crop year, but not before Oct. 1.  Thus, the 2016 crop payment will not be made until after October 1, 2017.  That means that no payments will be received in 2016, other than for ACRE or other related payments that are normally paid after the crop year.  In 2017, producers enrolled in the PLC who also participate in the federal crop insurance program may choose whether to purchase SCO.

From a practical/procedural standpoint, because a payment (if any) will not be issued until at or near the end of the producer’s marketing year, lenders could have a more difficult time determining a producer’s cash flow for crop loans.   

Monetary limit.  As previously noted, the Farm Bill established a payment limit of $125,000 per person or legal entity (excluding general partnerships and joint ventures).  This is the general rule.  Peanut growers are allowed an additional $125,000 payment limitation, and the spouse of a farmer is entitled to an additional $125,000 payment limit if the spouse is enrolled at the local Farm Service Agency (FSA) office.  The limit applies to all PLC, ARC, marketing loan gains, and loan deficiency payments. 

The payment limit is applied at both the entity level (for entities that limit liability) and then the individual level (up to four levels of ownership).  Thus, general partnerships and joint ventures have no payment limits.  Instead, the payment limit is calculated at the individual level.  However, an entity that limits the liability of its shareholders/members is limited to one payment limitation.  That means that the single payment limit is then split equally between the shareholders/members.  

AGI limitation.  To be eligible for a payment limit, an adjusted gross income (AGI) limitation must not be exceeded.  That limitation is $900,000, and applies to commodity programs, conservation programs and disaster programs.  The AGI limitation is an average of the three prior years, with a one-year delay.  In other words, farm program payments received in 2017 are based off of the average of AGI for 2013, 2014 and 2015.  While FSA had not treated the I.R.C. §179 deduction as allowed against AGI for S corporations and LLC’s taxed as partnerships, but did allow it for C corporations and individuals, beginning with 2017 crop year the deduction will be allowed against AGI for all entities.

The AGI limitation, which does not apply for crop insurance purposes, applies to both the entity and the owners of the entity, as illustrated in the following example: 

Example.  Assume that FarmCo receives $100,000 of farm program payments in 2015.  FarmCo’s AGI is $850,000.  Thus, FarmCo is entitled to a full payment limitation.  But, if one of FarmCo’s owners has AGI that exceeds the $900,000 threshold, a portion of FarmCo’s payment limit will be disallowed in proportion to that shareholder’s percentage ownership.  So, if the shareholder with income exceeding the $900,000 threshold owns 25 percent of FarmCo, FarmCo’s $100,000 of farm program payment benefits will be reduced by $25,000. 

Attribution Rule.  Under a rule of direct attribution, individuals and entities are credited with both the amount of payments received directly and also the amount received indirectly by holding an interest in an entity receiving payment.  In general, payments to a legal entity are attributed to the persons who have a direct or indirect interest in the legal entity.  But, payments made to a joint venture or general partnership are determined by multiplying the maximum payment amount by the number of persons and entities holding ownership interests in the joint venture or general partnership.  That means that joint ventures and partnerships are not subject to the attribution rules.

Program payments to legal entities are tracked through four levels of ownership.  If another legal entity owns any part of the ownership interest at the fourth level, then the payments to the entity receiving payments will be reduced by the amount of the indirect interest.  Thus, the entity has a limitation, and then each member has a limitation.  The measuring date for purposes of direct attribution is June 1.        

As applied to marketing cooperatives, the attribution rules apply to the producers as persons, and not to the cooperative association of producers.  Also, children under age 18 are treated the same as the parents.  It is also assumed that if one parent has filled their payment limit, payments made to a child could be attributed to the parent that has not filled their payment limit.  For payments made to a revocable trust, they are attributed to the trust’s grantor.  As applied to irrevocable trusts and estates, the Ag Secretary is directed to administer the rules so as to ensure "equitable treatment" of the beneficiaries.

Conclusion

In the next post, I will take a look at the payment limitation rules.  That will include a discussion of the “active personal management” test, recordkeeping requirements and entity planning implications.  Farm program payment limitation planning certainly complicates estate and business planning for farmers.