Saturday, April 10, 2021
Federal Farm Programs and the AGI Computation
Overview
Many farmers participate in federal farm programs and receive subsidies on a per-person basis. There are limits to the amount of subsidies that can be received. However, to be eligible to participate in most federal farm programs the applicant (individual or entity) must have an average adjusted gross income (AGI) of $900,000 or less.
What is AGI for farm program eligibility purposes? How is it computed? Does it matter if the applicant is an individual or an entity?
The computation of AGI for farm program eligibility purposes – it’s the topic of today’ post.
In General
A prerequisite to participating in many federal farm programs is annually certifying that average AGI doesn’t exceed a $900,000 threshold. The measuring period is the prior three years, skipping the immediately prior year. The $900,000 limit applies to most USDA farm programs, but there are some exceptions – particularly those concerning conservation or disasters. An applicant must provide the IRS with written consent to allow the USDA to verify AGI. The consent (via USDA Form CCC-941) allows the IRS to verify to the FSA, based on a farm program applicant’s tax return information, whether (for most farm programs) the $900,000 limit is not exceeded. The consent covers the three tax years that precede the immediately preceding tax year for which farm program benefits are being sought. Thus, for 2021, the relevant tax years are 2019, 2018 and 2017. For a farmer or a farming operation that has not been operating for the three-year period before the immediately preceding year, the FSA uses an average of income for the years of operation. FSA 5-PL, Para. 312, subparagraph F.
Note: Worksheets used in determining AGI calculations should be retained for at least three years.
Defining AGI – The FSA Way
As noted, average AGI is measured over the three taxable years preceding the most immediately preceding complete taxable year for which benefits are requested. FSA 5-PL, Para. 293. The FSA, in its 5-PL at Paragraph 296, subparagraph B, sets forth the following Table for guidance on AGI determinations using a producer/applicant’s data that has been reported to the IRS:
|
If determining AGI for…. |
Then see IRS Form…. |
AND use the amount entered on…. |
|
Corporations |
1120 or 1120-S |
Either of the following: · Line 30 (total taxable income) plus line 19 (charitable contributions) · For S corporations, use only Form 1120-S, line 21 (ordinary business income). |
|
Estates or trusts |
1041 |
Line 23 (taxable income) plus line 13 (charitable deductions) |
|
LLCs, LLPs, LP or similar type organization taxed as partnership |
1065 |
Line 22 (total income from trade or business) plus line 10 (guaranteed payments to partners). |
|
Persons |
1040 |
Line 8b (AGI) |
|
Tax-exempt or charitable organizations |
990-T |
Line 31 (unrelated business taxable income) minus income that CCC determines to be from noncommercial activity. |
For a sole proprietor filing a joint return, an exception exists from the need to report the full amount reported as AGI on the final IRS tax return for the applicable year. Under the exception, a certification may be provided by a CPA or an attorney that specifies what the amounts would have been if separate tax returns would have been filed for the applicable year. FSA 5-PL, Para. 296, subparagraph A.
Schedule K Issues
IRS Form 1120-S and Form 1065 do not refer to income or deductions reported on Schedule K-1. A Schedule K-1 is the IRS Form that is used to report amounts that are passed through to each taxpayer that has an interest in a “flow-through” entity such as an S corporation, partnership, trust or an estate. Consequently, any I.R.C. §179 deduction (i.e., expense method depreciation) would not be factored into the average AGI computation for a farming operation that is a flow-through entity seeking farm program benefits. But it would be taken into account for a C corporation. Thus, a C corporation and an S corporation with identical taxable incomes may not be treated similarly for farm program eligibility purposes. This is particularly true for an S corporation farming entity, for example, that has AGI over the $900,000 threshold without factoring in any I.R.C. §179 amount but is under the limitation when the I.R.C. §179 deduction is taken into account.
Threatened with litigation on this disparate treatment, the FSA backed down and the 5-PL was later amended to reflect the rule change allowing the I.R.C. §179 deduction for flow-through entities as well as sole proprietorships and C corporations. However, FSA still ignores other K-1 items in the computation of AGI for purposes of the $900,000 AGI computation. At least this is the position of the national FSA. There may be variations at the local and state level. Consistent application of the regulations has never been a staple of the FSA.
Certifying Income – Form CCC-941
A producer seeking farm program benefits, as noted above, must annually certify income to the FSA to ensure that the $900,000 threshold (in most instances) is not exceeded. The verification process starts with the FSA’s referral of the applicant’s AGI certification and written consent to the IRS to use the applicant’s tax information on file and disclose certain information to the FSA for AGI verification purposes. FSA 5-PL, Para. 301, Subparagraph A. Consent for disclosure of tax information is valid only if the IRS receives it within 120 calendar days of the date the Form CCC-941 was signed. FSA 5-PL, Para. 301, Subparagraph E.
If an attorney or CPA statement is provided, both the statement and the completed Form CCC-941 must be submitted to the local FSA office before the Form CCC-941 is considered to be complete and AGI is updated in the producer’s file. The submitted Form CCC-941 is then sent to the IRS and the statement of the attorney/CPA is attached to a copy of the Form that FSA retains. FSA 5-PL, Para. 302, Subparagraph A.
Form CCC-941 is required to determine payment eligibility for all persons; legal entities; interest holders in a legal entity, including embedded entities to the fourth level of ownership interest, regardless of the level of interest held; and, members of a general partnership or joint venture, regardless of the number of members. FSA 5-PL, Par. 294. It is submitted under the same name and TIN as is used for tax filing purposes. For example, for farm assets and land that have been transferred to a revocable trust, the identification on Form CCC-941 is the grantor’s name and Social Security number.
If Form CCC-941 is not filed for a program year, the producer is not eligible for farm program payments for that year. Any program payments erroneously paid will have to be returned, with interest.
Note: Technically, the FSA rules state that to comply with the AGI requirement for the applicable crop, program or fiscal year, a person or legal entity must provide either a completed Form CCC-941 for that year or a statement from a CPA or attorney that the average AGI does not exceed the applicable limitation. But, in all cases, the portions of Form CCC-941 pertaining to consent of disclosure of tax information must be completed and signed by the person (or entity) subject to AGI compliance. FSA 5-PL, Par. 294, subparagraph B.
The form must be personally signed by the applicant – either in their own name or, if the application is on behalf of an entity, by the designated officer(s). If the applicant is a minor, the Form can be signed by a parent or guardian. One spouse cannot sign for the other spouse, however, absent a duly executed power-of-attorney (POA). Likewise, neither IRS Form 2848 nor an FSA POA (Form 211) is acceptable. FSA 5-PL, Para. 302, Subparagraph C.
Note: A Table contained in the FSA 5-PL, Amendment 4, page 6-34 at Para. 302, subparagraph C, sets forth the signature authority for Form CCC-941.
If the applicant is a grantor trust, the Form must denote the grantor’s name. For a deceased person, Form CCC-941 may be filed by the surviving spouse, an authorized representative or an entity that is responsible for filing the final Federal income tax return for the decedent. FSA 5-PL, Para. 302, subparagraph D. If filing is by an authorized representative, proof of such authorization must be provided by attachment to Form CCC-941.
If a Form CCC-941, as submitted to the IRS, is incomplete or illegible it will be returned to the FSA along with IRS Notice 1398 containing the reason(s) for the rejection. FSA 5-PL, Para. 301, Subparagraph H. The FSA will then contact the person or entity that submitted the Form and explain the reason(s) for the rejection as well as provide assistance to get the Form corrected. Id., Subparagraph H.
Form CCC-941 authorizes the FSA to obtain AGI data from the IRS. When the IRS receives the Form, it matches the identity of the name on the Form with the tax records associated with the name. The IRS then calculates AGI according to the FSA’s definition of the term and reports to the FSA whether the applicant is within the $900,000 threshold. If the IRS reports to the FSA that a producer is over the AGI limit, FSA then sends the producer a letter informing them that they have 30 days to provide a third-party verification by a CPA or an attorney that the producer’s average AGI is within the threshold along with associated tax records. If an entity is the farmer, this letter will be required for both the entity and the individual. If, upon review, the FSA still deems the producer to not be eligible for benefits, the producer may file an administrative appeal within 30 days of the determination.
Note: It’s important for a producer/applicant to respond to the FSA within the 30-day timeframe so as to preserver administrative appeal rights. However, the FSA 5-PL does state that appeal rights exist even if requested information is not timely provided. FSA 5-PL, Para. 297, Subparagraph E.
The failure to provide the FSA with correct and accurate information to establish AGI compliance can result in ineligibility for all program payments and benefits that are subject to the AGI limitation for the applicable years. In addition, the producer/entity will have to refund any benefits already paid due to the incorrect information and face possible civil or criminal prosecution. FSA 5-PL, Para. 297, Subparagraph D.
A person or entity that lacks tax records or is not required to file tax returns may document AGI by providing to FSA annual budgets and a statement of operations; annual public financial disclosures; financial statements; or any other documentation as FSA deems acceptable.
Note: Some farmers have expressed concern about the information the IRS shares with the FSA. However, the IRS does not report the applicant’s income, AGI (or average AGI), or any determination on the applicant’s eligibility or ineligibility for farm program payments. The IRS merely computes AGI according to the FSA approach and reports to the FSA whether the producer/applicant is over or under the applicable threshold. FSA 5-PL, Para. 303, subparagraph B. FSA maintains the information that the IRS provides to it in a secure database, and the information is not subject to a Freedom of Information Act request. Id., subparagraph C.
Exception for Exceeding the AGI Threshold
The 75 percent test. There are some farm programs for which the $900,000 AGI limit does not apply if at least 75 percent of AGI is derived from farming, ranching or forestry activities. For this purpose, “farm AGI” is comparable to net income from farming and may be identical to net farm profit (or loss) on Schedule F. The FSA definition of “farm AGI” also includes income from the sale of farmland, breeding livestock and ag conservation easements, for example. However, the term does not include income derived from the sale of farm equipment as well as income derived from the sale of production inputs and services. However, if at least two-thirds of total AGI from all sources is from farming, the income from the sale of farm equipment and production inputs and services counts as farm AGI. FSA 5-PL, Para. 312, subparagraph F.
In recent years, the market facilitation program (MFP) and the Coronavirus Food Assistance Program (CFAP) are examples of farm programs that don’t subject the applicant to a $900,000 AGI limitation. A producer applying for benefits from such a program must certify that the 75 percent test is satisfied. For this purpose, the FSA might require the producer to sign Form CCC-942. Alternatively, a letter from the producer’s professional tax preparer (an attorney of a CPA) can suffice. For entities that are applying for benefits, a certification letter is required for the entity and for the individual producer.
Note: The FSA cannot send certifications with respect to the 75 percent farm AGI test to the IRS for verification.
For purposes of the 75 percent test, the FSA, in a Table in the FSA 5-PL, Amendment 6, Para. 312, subparagraph B, defines income from farming, ranching and forestry. The Table illustrates that the term is defined broadly.
Wages paid by a farm employer do not constitute farm income. Thus, if an applicant’s only income is from wages earned via employment with, for example, a farming C corporation, the wages do not count as farm income for purposes of the 75 percent test. But, of course, this is only an issue if the producer/applicant’s income is over the $900,000 threshold.
The FSA regulations and associated guidance do not address whether income from a farmer’s foreign sales that are funneled through an IC-DISC counts as farm income for purposes of the 75 percent test. An IC-DISC allows a farmer that will be selling into an export market to essentially transfer income from the farmer to the tax-exempt IC-DISC via an export sales commission. An IC-DISC can be formed and utilized by any taxpayer that manufactures, produces, grows or extracts (MPGE) property in the U.S. that is held primarily for sale, lease or rental in the ordinary course of the taxpayer’s trade or business. That definition certainly includes farmers. The property to be exported is transferred to the IC-DISC which then sells the assets into an export market. While there is no “official” guidance on the issue, it would seem reasonable that such income counts as farm income.
Conclusion
Farmers participating in federal farm programs are subject to many detailed rules. In recent years, such payments have made up a substantial portion of total farm income. That makes compliance with the rules and staying within the average AGI limit critical.
April 10, 2021 in Income Tax, Regulatory Law | Permalink | Comments (0)
Monday, April 5, 2021
Tax Considerations When Leasing Farmland
Overview
A lot of farmland is leased. Farmers (and landlords) are often good at understanding the components of economic risk associated with a farm lease and utilize the best type of lease accordingly. But what about tax issues? There are numerous income tax issues associated with leasing farmland. Sometimes the tax issues of leasing also impact estate and business planning issues for the farm landlord. These can be very important issues that shouldn’t be overlooked when deciding the type of lease to utilize.
Tax and planning considerations when leasing farmland – it’s the topic of today’s post.
Types of Leases
Different types of agricultural land leasing arrangements exist. The differences are generally best understood from a risk/return standpoint.
- Cash leases involve the periodic payment of a rental amount that is either a fixed number of dollars per acre, or a fixed amount for the entire farm. Typically, such amounts are payable in installments or in a lump sum.
- A flexible cash lease specifies that the amount of cash rent fluctuates with production conditions and/or crop or livestock prices.
- A hybrid cash/guaranteed bushel lease contains elements similar to those found in crop-share leases. For example, a hybrid cash lease usually specifies that the rental amount is to be determined by multiplying a set number of bushels by a price determined according to terms of the lease, but at a later date. The tenant will market the entire crop. The landlord benefits from price increases, while requiring no management or selling decisions or capital outlay. However, the rental amount is adversely affected by a decline in price. The tenant, conversely, will not bear the entire risk of low commodity prices, as would be the case if a straight-cash lease were used, but does bear all of the production risk and must pay all of the production costs. The tenant delivers a set amount of a certain type of grain to a buyer by a specified date. The landlord determines when to sell the grain, and is given an opportunity to take advantage of price rises and to make his or her own marketing decisions. However, the landlord must make marketing decisions, and also is subject to price decreases and the risk of crop failure. For the tenant, the required capital outlay will likely be less, and the tenant should have greater flexibility as to cropping patterns. While the rental amount may be less than under a straight-cash lease, the tenant will continue to bear the risk of crop failure.
- A minimum cash or crop share lease, involves a guaranteed cash minimum. However, the landlord has the opportunity to share in crop production from a good year (high price or high yield) without incurring out-of-pocket costs. For a tenant, the minimum cash payment likely will be less than under a straight-cash lease because the landlord will receive a share of production in good years. The tenant, however, still retains much of the production risk. In addition, the tenant typically does not know until harvest whether the tenant will receive all or only part of the crop. This may make forward cash contracting more difficult.
- Under a crop-share leasing arrangement, the rent is paid on the basis of a specified proportion of the crops. The landlord may or may not agree to pay part of certain expenses. There are several variations to the traditional crop-share arrangement. For example, with a crop share/cash lease, rent is paid with a certain proportion of the crops, but a fixed sum is charged for selected acreage such as pasture or buildings, or both. Under a livestock-share leasing arrangement, specified shares of livestock, livestock products and crops are paid as rent, with the landlord normally sharing in the expenses. For irrigation crop-share leases, rent is a certain proportion of the crops produced, but the landlord shares part of the irrigation expenses. Under labor-share leases, family members are typically involved and the family member owning the assets has most of the managerial responsibility and bears most of the expenses and receives most of the crops. The other family members receive a share of yield proportionate to their respective labor and management inputs.
Self-Employment Tax
Type of lease matters. Self-employment tax is imposed on net earnings derived from self-employment. I.R.C. §1402. That phrase is defined as gross income derived by an individual from a trade or business that the taxpayer conducts. Id. However, rents from real estate and from personal property leased with real estate are excluded from the definition of net earnings from self-employment. I.R.C. §1402(a)(1). Likewise, income from crop-share and/or livestock-share rental arrangements for landlords who are not materially participating in the farming operation are not classified as self-employment income subject to Social Security tax (and, thus, do not count toward eligibility for Social Security benefits in retirement). I.R.C. §1402(a)(1)(A). Only if the rental income is produced under a crop or livestock-share lease where the individual is materially participating under the lease does the taxpayer generate self-employment income. Id.
Avoiding self-employment tax. Income received under a cash rental arrangement is not subject to self-employment tax, nor does such income count toward eligibility for Social Security benefits in retirement. An exception to this rule exists if the lessor leases land to an entity in which the lessor is materially participating. I.R.C. §1402(a)(1)(A). IRS has won several cases in which they have successfully attributed the lessor’s material participation in the entity to the leasing arrangement with the result that passive cash rent income is transformed into material participation income subject to self-employment tax. But, if the rental income represents a fair market rate of rate, the rental income is not subject to self-employment tax. Martin v. Comr., 149 T.C. 293 (2017). So, the key to avoiding self-employment tax on “self-rentals” is to make sure that the lease is a “passive” lease (i.e., a cash lease) and that the rental rate is set at a fair market rate of rent (or very closely to it).
Material participation leases. The key concept for farm landlords attempting to qualify rental income as self-employment subject to Social Security tax is material participation. Rental income is self-employment income if it results from a material participation lease. If the lease is a material participation lease, the income is subject to self-employment tax. If it is not such a lease, the income is not subject to the tax. A lease is a material participation lease if (1) it provides for material participation in the production or in the management of the production of agricultural or horticultural products, and (2) there is material participation by the landlord. Both requirements must be satisfied. While a written lease is not required, a written lease does make a material participation arrangement easier to establish. In addition, agricultural program payments that are received under a crop-share or livestock-share lease are considered to be self-employment income for Social Security purposes if the landlord materially participates under the lease.
Observation: Managing earned income in retirement years is important and can influence the type of lease that is utilized. Once full retirement age is reached, a taxpayer can receive an unlimited amount of income without the loss of Social Security benefits. Full retirement age is either 66, 67, or 66 and a certain number of months, depending on your year of birth. For persons age 62 to 65, the earnings limit in 2021 is $18,240. For excess amounts, benefits are reduced $1 for every $2 over the limit. For a person reaching full retirement age in 2021, the limit increases to $50,520. Above that level, $1 in Social Security benefits are lost for every $3 of earnings. A key point in all of this is that, for retired farm landlords under full retirement age, they may not be able to receive full Social Security benefits if they are materially participating under a lease.
Income Tax Considerations
USDA cost-sharing payments. Under certain federal farm programs, especially those programs designed to provide environmental benefits, the USDA shares in part of the expense associated with complying with the program. If certain requirements are satisfied, the farmer that receives cost-share payments can exclude them from income. I.R.C. §126. Crop-share and livestock-share landlords are eligible to exclude cost-share payments from income.
Soil and water conservation expenses. Taxpayers engaged in farming can (upon satisfying several requirements) deduct soil and water conservation expenses in the year incurred under a one-time election, rather than capitalizing the expenditures. I.R.C §175. One of those requirements is that the taxpayer be engaged in the business of farming. A farm operator or landowner receiving rental income under a crop-share or livestock-share lease satisfies the test. But, a landlord collecting rental income on a cash rent basis is not eligible to deduct soil and water conservation expenses on the associated real estate. The landlord must materially participate in the farming operation.
Fertilizer and lime. A taxpayer can deduct fertilizer and lime costs by making an election on the tax return, if the taxpayer is in the trade or business of farming. I.R.C. §180. For farm landlords, the lease must be a crop-share or livestock-share lease. A landlord under a cash rent lease cannot deduct the cost of fertilizer and lime. A farm landlord must be materially participating under the lease.
Interest. Most farm interest is fully deductible as business interest. Crop-share and livestock-share leases with substantial involvement in decisionmaking by the landlord are deemed to be “businesses” for this purpose.
Farm income averaging. Income averaging is available for farmers and fishermen, and allows current farm income to be averaged over three prior base years. I.R.C. §1301. The provision is available by election (by filing Schedule J) and provides the benefit of applying lower income tax rates from the prior base years. A “farming business” for purposes of income averaging is defined as the trade or business of farming involving the cultivation of land or the raising or harvesting of any agricultural or horticultural commodity and includes operating a nursery or sod farm or the raising or harvesting of trees bearing fruit, nuts, or other crop or ornamental trees (but not evergreen trees more than six years old when severed from the roots). Also included in the definition is the raising, shearing, feeding, caring for, training and managing animals. Crop-share landlords are deemed to be engaged in the business of farming if the lease is in writing and is entered into with the tenant before the tenant begins significant activities on the land.
Special Use Valuation.
As I wrote in a recent post, a special use valuation election can be made in an estate to value the farmland used in farming at its agricultural value rather than fair market value. That eliminates factors that put upward price pressure on the land and helps the land stay in farming by the family be reducing or eliminating the federal estate tax on the decedent’s estate. However, many tests have to be satisfied to make the election, one of which requires the decedent (if the decedent was a landlord) to have had material participation under a lease for five of the last eight years before the earlier of retirement, disability or death if a special use valuation election is going to be made for the agricultural real estate included in the decedent-to-be’s estate. I.R.C. §2032A(b)(1)(A).
The solution, if a family member is present, may be to have a non-retired landlord not materially participate, but rent the land that is to be elected in the landlord’s estate upon death to a materially participating family member or to hire a family member as a farm manager. Cash leasing of elected land to family members is permitted before the landlord dies, but generally not after death. The solution, if a family member is not present, is to have the landlord retire at full retirement age or older, materially participate during five of the eight years immediately preceding retirement, and then during retirement rent out the farm via a non-material participation crop-share or livestock-share lease.
Leases and Farm Program Benefits
Leases can also have an impact on a producer’s eligibility for farm program payments. In general, to qualify for farm program payments, an individual must be “actively engaged in farming.” Each “person” who is actively engaged in farming is eligible for one payment limit of federal farm program payments. A tenant qualifies as actively engaged in farming through the contribution of capital, equipment, active personal labor or active personal management. Likewise, a landlord qualifies as actively engaged in farming by the contribution of the owned land if the rent or income for the operation’s use of the land is based on the land’s production or the operation’s results (not cash rent based on a guaranteed share of the crop). In addition, the landlord’s contribution must be “significant,” must be “at risk,” and must be commensurate with the landlord’s share of the profits and losses from the farming operation.
A landlord who cash leases land is considered a landlord under the payment limitation rules and may not be considered actively engaged in farming. In this situation, only the tenant is considered eligible. Under the payment limitation rules, there are technical requirements that restrict the cash-rent tenant’s eligibility to receive payments to situations in which the tenant makes a “significant contribution” of (1) active personal labor and capital, land or equipment; or (2) active personal management and equipment.
Conclusion
Utilizing the “correct” farm lease for your farming operation involves more than just the economics of the relationship. Taxes and planning considerations also play an important role. Properly consideration should be made. Do your “due diligence.”
April 5, 2021 in Income Tax | Permalink | Comments (0)
Friday, April 2, 2021
Ag Law and Taxation - 2017 Bibliography
Overview
Today's post is a bibliography of my ag law and tax blog articles of 2017. This will make it easier to find the articles you are looking for in your research. In late January I posted the 2020 bibliography of articles. In late February I posted the bibliography of the 2019 articles. Last month, I posted the 2018 bibliography of articles. Today’s posting is the bibliography of my 2017 articles. Later this month I will post the 2016 bibliography.
The library of content continues to grow with relevant information for you practice or your farming/ranching business.
The 2017 bibliography of articles – it’s the subject matter of today’s post.
BANKRUPTCY
The Most Important Agricultural Law and Tax Developments of 2016
Top Ten Agricultural Law and Tax Developments of 2016 (Ten Through Six)
Top Ten Agricultural Law Developments of 2016 (Five Through One)
Farm Financial Stress – Debt Restructuring
Qualified Farm Indebtedness – A Special Rule for Income Exclusion of Forgiven Debt
What Are a Farmer’s Rights When a Grain Elevator Fails?
Agricultural Law in a Nutshell
https://lawprofessors.typepad.com/agriculturallaw/2017/07/agricultural-law-in-a-nutshell.html
The Business of Agriculture – Upcoming CLE Symposium
Tough Financial Times in Agriculture and Lending Clauses – Peril for the Unwary
What Interest Rate Applies to a Secured Creditor’s Claim in a Reorganization Bankruptcy?
PACA Trust Does Not Prevent Chapter 11 DIP’s Use of Cash Collateral
Are Taxes Dischargeable in Bankruptcy?
https://lawprofessors.typepad.com/agriculturallaw/2017/12/are-taxes-dischargeable-in-bankruptcy.html
Christmas Shopping Season Curtailed? – Bankruptcy Venue Shopping, That Is!
BUSINESS PLANNING
The Most Important Agricultural Law and Tax Developments of 2016
Top Ten Agricultural Law and Tax Developments of 2016 (Ten Through Six)
Top Ten Agricultural Law Developments of 2016 (Five Through One)
C Corporation Penalty Taxes – Time to Dust-Off and Review?
Divisive Reorganizations of Farming and Ranching Corporations
The Scope and Effect of the “Small Partnership Exception”
Using the Right Kind of an Entity to Reduce Self-Employment Tax
Employer-Provided Meals and Lodging
https://lawprofessors.typepad.com/agriculturallaw/2017/05/employer-provided-meals-and-lodging.html
Self-Employment Tax on Farming Activity of Trusts
Minority Shareholder Oppression Case Raises Several Tax Questions
Farm Program Payment Limitations and Entity Planning – Part One
Farm Program Payment Limitations and Entity Planning – Part Two
Summer Ag Tax/Estate and Business Planning Conference
An Installment Sale as Part of an Estate Plan
The Use of a Buy-Sell Agreement for Transitioning a Business
The Business of Agriculture – Upcoming CLE Symposium
Forming a Farming/Ranching Corporation Tax-Free
Farmers Renting Equipment – Does it Trigger A Self-Employment Tax Liability?
New Partnership Audit Rules
https://lawprofessors.typepad.com/agriculturallaw/2017/09/new-partnership-audit-rules.html
Self-Employment Tax on Farm Rental Income – Is the Mizell Veneer Cracking?
IRS To Finalize Regulations on Tax Status of LLC and LLP Members?
H.R. 1 – Farmers, Self-Employment Tax and Business Arrangement Structures
Summer 2018 – Farm Tax and Farm Business Education
Partnerships and Tax Law – Details Matter
CIVIL LIABILITIES
The Most Important Agricultural Law and Tax Developments of 2016
Top Ten Agricultural Law and Tax Developments of 2016 (Ten Through Six)
Top Ten Agricultural Law and Developments of 2016 (Five Through One)
Recreational Use Statutes – What is Covered?
Is Aesthetic Damage Enough to Make Out a Nuisance Claim?
Liability Associated with a Range of Fires and Controlled Burns
What’s My Liability for Spread of Animal Disease
Dicamba Spray-Drift Issues
https://lawprofessors.typepad.com/agriculturallaw/2017/07/dicamba-spray-drift-issues.html
Agricultural Law in a Nutshell
https://lawprofessors.typepad.com/agriculturallaw/2017/07/agricultural-law-in-a-nutshell.html
The Business of Agriculture – Upcoming CLE Symposium
Right-to-Farm Laws
https://lawprofessors.typepad.com/agriculturallaw/2017/09/right-to-farm-laws.html
CONTRACTS
The Most Important Agricultural Law and Tax Developments of 2016
Top Ten Agricultural Law and Tax Developments of 2016 (Ten Through Six)
Top Ten Agricultural Law Developments of 2016 (Five Through One)
Another Issue With Producing Livestock on Contract – Insurance
The Ability of Tenants-in-Common To Bind Co-Tenants to a Farm Lease – and Related Issues
Ag Goods Sold at Auction – When is a Contract Formed?
Agricultural Law in a Nutshell
https://lawprofessors.typepad.com/agriculturallaw/2017/07/agricultural-law-in-a-nutshell.html
The Business of Agriculture – Upcoming CLE Symposium
Ag Contracts and Express Warranties
https://lawprofessors.typepad.com/agriculturallaw/2017/09/ag-contracts-and-express-warranties.html
What Remedies Does a Buyer Have When a Seller of Ag Goods Breaches the Contract?
COOPERATIVES
The Most Important Agricultural Law and Tax Developments of 2016
Top Ten Agricultural Law Developments of 2016 (Five Through One)
What Is a Cooperative Director’s Liability to Member-Shareholders and Others?
CRIMINAL LIABILITIES
The Necessity Defense to Criminal Liability
The Business of Agriculture – Upcoming CLE Symposium
What Problems Does The Migratory Bird Treaty Act Pose For Farmers, Ranchers and Rural Landowners?
ENVIRONMENTAL LAW
Drainage Activities on Farmland and the USDA
The Application of the Endangered Species Act to Activities on Private Land
Eminent Domain – The Government’s Power to “Take” Private Property
Spray Drift As Hazardous Waste?
https://lawprofessors.typepad.com/agriculturallaw/2017/07/spray-drift-as-hazardous-waste.html
What Problems Does The Migratory Bird Treaty Act Pose For Farmers, Ranchers and Rural Landowners?
The Prior Converted Cropland Exception From Clean Water Act Jurisdiction
Air Emission Reporting Requirement For Livestock Operations
ESTATE PLANNING
Rights of Refusal and the Rule Against Perpetuities
Some Thoughts On Long-Term Care Insurance
Overview of Gifting Rules and Strategies
Disinheriting a Spouse – Can It Be Done?
https://lawprofessors.typepad.com/agriculturallaw/2017/04/disinheriting-a-spouse-can-it-be-done.html
Specific Property Devised in Will (or Trust) That Doesn’t Exist At Death – What Happens?
Discounting IRAs for Income Tax Liability?
Special Use Valuation and Cash Leasing
Self-Employment Tax On Farming Activity Of Trusts
Would an Interest Charge Domestic International Sales Corporation Benefit a Farming Business?
An Installment Sale as Part of An Estate Plan
Using An IDGT For Wealth Transfer and Business Succession
Federal Tax Claims in Decedent’s Estates – What’s the Liability and Priority?
Estate Tax Portability – The Authority of the IRS To Audit
Digital Assets and Estate Planning
https://lawprofessors.typepad.com/agriculturallaw/2017/10/digital-assets-and-estate-planning.html
INCOME TAX
The Burden of Proof in Tax Cases – What are the Rules?
The Home Office Deduction
https://lawprofessors.typepad.com/agriculturallaw/2017/02/the-home-office-deduction.html
IRS To Continue Attacking Cash Method For Farmers Via the “Farming Syndicate Rule”
Using Schedule J As A Planning Tool For Clients With Farm Income
Deductibility of Soil and Water Conservation Expenses
Should Purchased Livestock Be Depreciated or Inventoried?
The Changing Structure of Agricultural Production and…the IRS
Farm-Related Casualty Losses and Involuntary Conversions – Helpful Tax Rules in Times of Distress
Charitable Contributions Via Trust
https://lawprofessors.typepad.com/agriculturallaw/2017/03/charitable-contributions-via-trust.html
Ag Tax Policy The Focus in D.C.
https://lawprofessors.typepad.com/agriculturallaw/2017/04/ag-tax-policy-the-focus-in-dc-.html
For Depreciation Purposes, What Does Placed in Service Mean?
Tax Treatment of Commodity Futures and Options
Discounting IRAs for Income Tax Liability?
Like-Kind Exchanges, Reverse Exchanges, and the Safe Harbor
Insights Into Handling IRS Disputes
https://lawprofessors.typepad.com/agriculturallaw/2017/05/insights-into-handling-irs-disputes.html
Employer-Provided Meals and Lodging
https://lawprofessors.typepad.com/agriculturallaw/2017/05/employer-provided-meals-and-lodging.html
Self-Employment Tax On Farming Activity Of Trusts
Minority Shareholder Oppression Case Raises Several Tax Questions
Input Costs – When Can a Deduction Be Claimed?
Like-Kind Exchange Issues
https://lawprofessors.typepad.com/agriculturallaw/2017/06/like-kind-exchange-issues.html
Tax Issues With Bad Debt Deductions
https://lawprofessors.typepad.com/agriculturallaw/2017/06/tax-issues-with-bad-debt-deductions.html
Like-Kind Exchanges – The Related Party Rule and a Planning Opportunity
Tax Treatment of Cooperative Value-Added Payments
Would an Interest Charge Domestic International Sales Corporation Benefit a Farming Business?
Timber Tax Issues – Part One
https://lawprofessors.typepad.com/agriculturallaw/2017/07/timber-tax-issues-part-one.html
Timber Tax Issues – Part Two
https://lawprofessors.typepad.com/agriculturallaw/2017/07/timber-tax-issues-part-two.html
An Installment Sale as Part of An Estate Plan
Using An IDGT For Wealth Transfer and Business Succession
Prospects for Tax Legislation
https://lawprofessors.typepad.com/agriculturallaw/2017/08/prospects-for-tax-legislation.html
Deferred Payment Contracts
https://lawprofessors.typepad.com/agriculturallaw/2017/08/deferred-payment-contracts.html
When Is A Farmer Not A “Qualified Farmer” For Conservation Easement Donation Purposes?
Substantiating Charitable Contributions
Forming a Farming/Ranching Corporation Tax-Free
Farmers Renting Equipment – Does It Trigger A Self-Employment Tax Liability?
Commodity Credit Corporation Loans and Elections
New Partnership Audit Rules
https://lawprofessors.typepad.com/agriculturallaw/2017/09/new-partnership-audit-rules.html
Alternatives to Like-Kind Exchanges of Farmland
South Dakota Attempts To Change Internet Sales Taxation – What Might Be The Impact On Small Businesses?
Fall Tax Schools
https://lawprofessors.typepad.com/agriculturallaw/2017/09/fall-tax-schools.html
Self-Employment Tax on Farm Rental Income – Is the Mizell Veneer Cracking?
Tax Treatment of Settlements and Court Judgments
The “Perpetuity” Requirement For Donated Easements
The Tax Rules Involving Prepaid Farm Expenses
It’s Just About Tax School Time
https://lawprofessors.typepad.com/agriculturallaw/2017/10/its-just-about-tax-school-time.html
IRS To Finalize Regulations On Tax Status of LLC and LLP Members?
The Deductibility (Or Non-Deductibility) of Interest
H.R. 1 - Farmers, Self-Employment Tax and Business Arrangement Structures
The Broad Reach of the Wash-Sale Rule
https://lawprofessors.typepad.com/agriculturallaw/2017/11/the-broad-reach-of-the-wash-sale-rule.html
Comparison of the House and Senate Tax Bills – Implications for Agriculture
Partnerships and Tax Law – Details Matter
Senate Clears Tax Bill - On To Conference
Are Taxes Dischargeable in Bankruptcy?
https://lawprofessors.typepad.com/agriculturallaw/2017/12/are-taxes-dischargeable-in-bankruptcy.html
Bitcoin Fever and the Tax Man
https://lawprofessors.typepad.com/agriculturallaw/2017/12/bitcoin-fever-and-the-tax-man.html
House and Senate to Vote on Conference Tax Bill This Week
Another Tax Bill Introduced, Year-End Planning, and Jan. 10 Seminar/Webinar
PUBLICATIONS
Agricultural Law in a Nutshell
https://lawprofessors.typepad.com/agriculturallaw/2017/07/agricultural-law-in-a-nutshell.html
REAL PROPERTY
Another Issue When the Definition of “Agriculture” Matters – Property Tax
The Ability of Tenants-in-Common To Bind Co-Tenants to a Farm Lease – and Related Issues
Like-Kind Exchanges, Reverse Exchanges, and the Safe Harbor
Like-Kind Exchange Issues
https://lawprofessors.typepad.com/agriculturallaw/2017/06/like-kind-exchange-issues.html
Easements on Agricultural Land – Classification and Legal Issues
Should I Enter Into An Oil and Gas Lease?
REGULATORY LAW
Checkoffs, The Courts and Free Speech
https://lawprofessors.typepad.com/agriculturallaw/2017/01/checkoffs-the-courts-and-free-speech.html
Joint Employment Situations In Agriculture – What’s the FLSA Test?
Farmers, Ranchers and Government Administrative Agencies
IRS To Target “Hobby” Farmers
https://lawprofessors.typepad.com/agriculturallaw/2017/03/irs-to-target-hobby-farmers.html
Drainage Activities on Farmland and the USDA
What is a “Separate Person” For Payment Limitation Purposes?
Livestock Indemnity Payments – What They Are and Tax Reporting Options
Can One State Regulate Agricultural Production Activities in Other States?
Farm Program Payment Limitations and Entity Planning – Part One
Farm Program Payment Limitations and Entity Planning – Part Two
Eminent Domain – The Government’s Power to “Take” Private Property
Department of Labor Overtime Rules Struck Down – What’s the Impact on Ag?
The Prior Converted Cropland Exception From Clean Water Act Jurisdiction
Air Emission Reporting Requirement For Livestock Operations
Federal Labor Law and Agriculture
https://lawprofessors.typepad.com/agriculturallaw/2017/11/federal-labor-law-and-agriculture.html
Electronic Logs For Truckers and Implications for Agriculture
SECURED TRANSACTIONS
Ag Supply Dealer Liens – Important Tool in Tough Financial Times
“Commercial Reasonableness” of Collateral Sales
What Are A Farmer’s Rights When a Grain Elevator Fails?
Selling Collateralized Ag Products – The “Farm Products” Rule
SEMINARS AND CONFERENCES
Fall Tax Schools
https://lawprofessors.typepad.com/agriculturallaw/2017/09/fall-tax-schools.html
Another Tax Bill Introduced, Year-End Planning, and Jan. 10 Seminar/Webinar
Summer 2018 - Farm Tax and Farm Business Education
The Business of Agriculture – Upcoming CLE Symposium
Summer Ag Tax/Estate and Business Planning Conference
WATER LAW
Prior Appropriation – First in Time, First in Right
Kansas Water Law - Reactions to and Potential Consequences of the Garetson decision
Public Access To Private Land Via Water
Big Development for Water in the West - Federal Implied Reserved Water Rights Doctrine Applies to Groundwater
April 2, 2021 in Bankruptcy, Business Planning, Civil Liabilities, Contracts, Cooperatives, Criminal Liabilities, Environmental Law, Estate Planning, Income Tax, Insurance, Real Property, Regulatory Law, Secured Transactions, Water Law | Permalink | Comments (0)
Friday, March 26, 2021
C Corporation Compensation Issues
Overview
A “hot-button” audit issue for S corporations involves the issue of “reasonable compensation” for shareholders. Compensation is also an important issue in the C corporate context. While in the S corporate context the temptation is to set compensation too low, the concern is just the opposite when a C corporation is involved.
But, what is “reasonable compensation”? Why does it matter?
Compensation issues in the C corporation context – it’s the topic of today’s post.
The Basic Problem
A corporate-level deduction is allowed for “reasonable” salaries and compensation paid to employees for their personal services. Because of the dual-level taxation associated with C corporations (on corporate income when earned and again when paid as dividends) C corporations have an incentive to pay larger than normal salaries so as to reduce their taxable income and get corporate earnings to owners with only one level of tax. But, the IRS can challenge what it deems to be “excessive” salaries as disguised dividends resulting in a loss of a corporate deduction from taxable income and the addition of the “excessive” amount to the corporation’s net taxable income. Conversely, in certain situations, corporate employees may receive only a nominal salary in an attempt to minimize FICA and Medicare taxes. Upon audit, IRS may increase the salary with the result that FICA and Medicare tax will be due, plus interest and penalties. Another problem associated with setting salaries too low is that the corporation could be assessed for payroll taxes on the unreported compensation. The penalties and interest associated with unreported compensation are often greater than an income tax deficiency assessment. The quarterly payroll deposit rules will typically have been violated, resulting in cascading penalties that include the failure to timely deposit and failure to properly report.
What is a “Reasonable” Salary?
Corporate salaries must be “reasonable” in light of the personal services that are actually rendered. I.R.C. §162(a)(1). However, “reasonable” is not defined in the Code, and the Regulations provide only that “reasonable compensation is an amount paid for like service by like enterprises under like circumstances.” Treas. Regs. §§1.162-7(b)(3) and 1.1366-3(a). Thus, the facts and circumstances of each particular situation are determinative of the outcome. The courts, in numerous cases involving the issue, have set forth several factors to be used in determining the reasonableness of salaries, including. Likewise the IRS Audit Manual utilizes the same factors.
The factors are as follows:
- The level of the salary in light of the employee’s qualifications
- The compensation paid in light of the nature and extent of the employee’s work, with consideration paid to the role that the shareholder plays in the corporation (e.g., the employee’s position, number of hours worked and duties performed)
- How the compensation compares to compensation paid for similar services by similar entities
- Whether the compensation is reasonable in relation to the salary history of the corporation
- Whether the compensation is reasonable in light of the character and financial condition of the corporation
- Whether a hypothetical, independent investor would conclude that there is an adequate return on investment after considering the shareholder’s compensation
- The size and complexity of the business
- How the amount of salaries paid compares to corporate sales and net income
- General economic conditions
- How the amount of salaries compare to shareholder distributions and retained earnings
- The corporation’s dividend history
- Whether the employee and employer dealt at arm’s length
- Whether the employee guaranteed the employer’s debt
- Whether there has been a “catch-up” element involved where the corporation is making up for years when the employee was under paid
- Whether the corporation has developed compensation policy for employees allowing them to participate in the company’s success
The cases confirm that no single factor controls. Instead, a combination of the factors must be considered. In addition, the factors are not all inclusive and may not be given equal weight. Fewer or additional factors may be appropriate, depending on the surrounding facts and circumstances.
What’s “reasonable compensation” for an owner of a closely-held farming or ranching operation? The answer to that question depends on how the factors listed above apply to the facts and circumstances of the particular situation.
Tax Planning Strategy
As a tax planning strategy, before year-end, each shareholder/employee’s compensation should be reviewed for reasonableness and increased by payment of a year-end bonus if needed. While reasonableness is based on the facts and circumstances, compensation can often be set at the low end of a wide salary range that is both reasonable and supportable. The better the documentation explaining why wages and bonuses are appropriate, the more likely that the payments can withstand IRS attack.
Consider the following example:
Joe starts up an accounting practice, and employs Blake and Terry. Joe operates as a personal service corporation. The firm has a successful first year, generating an extra $300,000 in corporate net income. Joe declares a bonus for himself in the amount of $300,000, which eliminates the corporation’s taxable income. However, $200,000 of the $300,000 in additional income was generated by the efforts of Blake and Terry. Joe actually spent a couple of months of the year taking a sabbatical in the north woods of Minnesota playing his ukulele for the animals that would listen and giving a break to Blake and Terry from his dry humor. Joe claimed he continued to “manage’ the practice from his remote location.
The IRS would likely take the position that the extra time and effort expended by Joe in managing the accounting practice is, at best, a nominal factor to be taken into account when a large portion of the income is based on the services rendered by other employees. So, IRS would likely conclude that $200,000 of net income paid to Joe is actually a non-deductible dividend to Joe. The resulting additional corporate income is taxed at the 21 percent rate applicable to personal service corporations. The result would be an added tax liability of $42,000.
Joe could elect to have the company taxed as an S corporation. Joe would then refrain from declaring and paying the $300,000 bonus to himself, instead picking it up as an S corporation distribution which is taxed to the shareholders on a pro rata basis. But, if Joe does this, IRS could examine the $300,000 paid as an S corporation distribution to determine whether it actually should be treated as compensation to Joe. If all or a portion of the $300,000 is deemed to be compensation, Social Security and Medicare tax will be assessed on the amount deemed to be compensation. Also, with an S election, if Joe were to set his compensation at the amount of the maximum for qualified retirement plan funding, with the balance of corporate net income structured as an S corporation distribution, that would avoid Medicare tax on the amount of the S corporation distribution. IRS, however, would likely examine that scenario to determine whether the compensation amount is too low.
Prominent Case
There have been numerous prominent cases on the issue of reasonable compensation. A particularly high-profile one involved the founder and CEO of Menards, a chain of “home improvement” stores located in the Midwest.
In Menard, Inc. v. Commissioner, 560 F.3d 620 (7th Cir. 2009), the IRS challenged the $20 million salary of a corporate CEO (who was also a shareholder/employee that worked full time and owned all of the voting stock and 56 percent of the non-voting stock) as unreasonable. The compensation plan for the CEO included a base salary, a profit-sharing plan and a bonus plan that had been in place since 1973. Over $17 million of the total amount was paid in accordance with a bonus plan that had been in place since 1973. The bonus was tied to 5 percent of the corporation’s net income before taxes. The Tax Court disallowed all but $7 million of the salary (after comparisons to CEO salaries of competing businesses – Home Depot and Lowe’s) determining it to be a disguised dividend. On further review, the appellate court reversed. The appellate court determined that, the under the CEO’s management, corporate revenues grew from $788 million in 1991 to $3.4 billion in 1998 (the year at issue) and the corporation’s taxable income grew from $59 million to $315 million during the same timeframe. The corporation’s rate of return on shareholder’s equity in 1998 was higher than that of either company the Tax Court used for comparison purposes. The appellate court noted that the CEO handled a large part of the duties which were normally delegated in other companies to subordinates. In addition, the fact that there was no independent Board of Directors for the corporation required the CEO to accept greater responsibility and duties that normally don’t apply to comparable CEOs. Thus, to the appellate court, the 5 percent of net corporate income did not look at all like a dividend and the appellate court held that the Tax Court committed clear error in holding that the salary was excessive. That was particularly the case, the court noted because the compensation that the Tax Court determined to be a disguised dividend was paid before a determination of the corporation’s net income for the year, and was paid on an annual basis. That meant that it was not a set dollar amount that constituted a dividend.
The appellate court was also highly skeptical of the Tax Court’s remark that the owner of a business has no need for incentive compensation because ownership is incentive enough. The appellate court reasoned that owners should not be treated differently from other managers and also stated that the Tax Court had established itself as the “super-personnel department for closely-held corporations.”
Recent Case
In Aspro, Inc. v. Comr., T.C. Memo. 2021-8, the petitioner was a C corporation in the asphalt paving business incorporated under Iowa law with its principal place of business in Iowa. The petitioner had three shareholders and did not declare or distribute any dividends to them during the tax years in issue (2012-2014) or in any prior year. This was despite the petitioner having significant profits before setting management fees. Thus, the shareholders didn’t receive any return on their equity investment. The petitioner did not enter into any written management or consulting services agreements with any of its shareholders. Also, there was no management fee rate or billing structure negotiated or agreed to between the shareholders and petitioner at the beginning of any of the years in issue. In addition, none of the shareholders invoiced or billed the petitioner for any services provided indirectly via other legal entities that the shareholders controlled. Instead, the petitioner’s board of directors would approve the management fees to be paid to the shareholders at a board meeting later in the tax year, when the board had a better idea how the company was going to perform and how much earnings the company should retain. But, the board minutes did not reflect how the determinations were made. The petitioner’s board did not attempt to value or quantify any of the services performed on its behalf and simply approved a lump-sum management fee for each shareholder for each year. The amounts were not determined after considering the services performed and their values. There was no correlation between management fees paid and services rendered. In total, the shareholders received management fees exceeding $1 million every year for the years in issue. The management fees were simply paid after-the-fact in an attempt to zero-out the petitioner’s taxable income.
The IRS completely denied the petitioner’s claimed deductions for management fees and amounts the petitioner claimed for the domestic production activities deduction for the years in issue. The Tax Court upheld the IRS position denying the deduction. The Tax Court determined that the petitioner failed to prove that the management fees were neither ordinary and necessary business expenses or reasonable in accordance with Treas. Reg. §1.162-7. Based on the facts and circumstances, the Tax Court concluded that the absence of the dividend payments where the petitioner had available profits created an inference that at least some of the compensation represented a distribution with respect to corporate stock. While the management fees loosely corresponded to each shareholder’s percentage interest, the Tax Court inferred that the shareholders were receiving disguised distributions based on each shareholder’s equity interest.
As for the services rendered to the petitioner via the shareholders’ controlled entities, the Tax Court noted that if the services were to be compensated, the petitioner should have invoiced directly for the services. The services, as a result, did not provide even indirect support for the management fees the petitioner paid to its shareholders. The Tax Court also noted that the management fees were not set in advance for services to be provided and there was no management agreement that supported any objective pricing that the parties bargained for. The shareholders also could not explain how the management fees were determined, and the corporate president (and one of petitioner’s board members) displayed a misunderstanding of the nature of deductible management fees and stock distributions. The Tax Court also noted that the effect of the deduction for management fees was to create little taxable income to the petitioner, indicating that the fees were disguised distributions. The Tax Court further determined that the petitioner’s president rendered no services to the petitioner other than being the president and, as such was already overcompensated by his base salary and annual bonus totaling approximately $500,000 annually. Thus, the additional management fee was completely unreasonable as to him.
Conclusion
Paying “reasonable compensation” in the context of closely-held corporations is critical.
March 26, 2021 in Business Planning, Income Tax | Permalink | Comments (0)
Wednesday, March 24, 2021
Court and IRS Happenings in Ag Law and Tax
Overview
It’s been a while since I have written a summary of what’s been happening in the courts concerning developments relevant to agricultural producers, ag businesses and rural landowners. It’s always helpful to stay informed of the ag legal issues that the courts are addressing.
Current court developments in the courts involving ag law and tax – it’s the topic of today’s post.
Nuisance Case Against Hog CAFO Continues
Barden v. Murphy-Brown, LLC, No. 7:20-CV-85-BR, 2021 U.S. Dist. LEXIS 47809 (E.D. N.C. Mar. 15, 2021)
The plaintiff sued the defendant for trespass, negligence, civil conspiracy and unjust enrichment arising from odor, dust, feces, urine and flies from a neighboring hog facility that housed 20,000-head of the defendant’s hogs. The plaintiff sought compensatory and punitive damages. The defendant sought to dismiss the complaint for failure to join to the lawsuit the farmer that operated the hog facility via a contact with the defendant as an indispensable party. The court disagreed as the farmer’s conduct was likely irrelevant to the outcome of the litigation and any impact that an adverse judgment against the defendant might have on the farmer’s interests at the farm was speculative.
The defendant also sought dismissal on the basis that the plaintiff’s complaint failed to state a claim for relief that was other than speculative. The defendant cited the state (NC) right-to-farm (RTF) law as barring all of the plaintiff’s claims. However, the court disagreed noting that conditions that constitute a nuisance can also constitute a trespass (and other causes of action). Thus, the plaintiff’s complaint was not restricted to allegations of a nuisance cause of action which the RTF law would bar. The court noted that the NC RTF law was different from other state RTF laws that covered non-nuisance tort claims related to farming operations along with nuisance claims. The NC RTF law only covered nuisance-related claims and had no application to non-nuisance claims.
As to whether the plaintiff adequately alleged the non-nuisance claims, the court concluded that the plaintiff sufficiently alleged, at a minimum, a claim for unintentional trespass by not consenting to dust, urine and fecal matter from entering its property. On the plaintiff’s negligence claim, the court determined that it was reasonably foreseeable that if the defendant did not act reasonably in managing the facility that dust and animal waste would be present on the plaintiff’s property. As such, the defendant owed the plaintiff a duty and there was a causal link with any potential breach of that duty. Thus, the plaintiff properly stated a claim for negligence. The plaintiff also alleged that the defendant conspired with its corporate parent to mislead the public about the science of hog manure removal and various constitutional violations. The court rejected this claim because any conspiracy was between the defendant and its corporate parent and not with any independent party. The plaintiff also claimed that the defendant unjustly enriched itself by using the plaintiff’s property for a de facto easement without paying for it. The court rejected the claim because the plaintiff had conferred no benefit on the plaintiff which gave rise to any legal or equitable obligation on the defendant’s part to account for the benefit received. However, the court refused to strike the plaintiff’s allegations relating to the defendant’s Chinese ownership, influence and exploitation as well as the defendant’s financial resources. The court determined that such allegations had a bearing on the defendant’s motivation, extent of harm and ability to implement alternative technology.
1914 Fence Agreement Fixes Boundary
Eggemeyer v. Hughes, No. 08-19-0002-CV, 2021 Tex. App. LEXIS 691 (Tex. Ct. App. Jan. 28, 2021)
The parties owned adjacent tracts of land north and south of each other separated by section lines. The defendant claimed that the section lines delineated the boundary and that a barbed wire fence constructed from a survey was built in its location due to practicalities. The plaintiff claimed that the fence, which existed 150 yards to the north of the section lines, was the boundary. The disputed acreage between the section lines and the fence was 90 acres.
In 1914, prior owners of the tracts had executed a fence agreement that was filed in the county register of deeds office. In the agreement they fixed the boundary in accordance with a metes and bounds description that referred to natural landmarks. The plaintiff’s deed referred to the 1914 agreement. In 2013, the plaintiffs sought to place a water well close to the boundary and negotiations with the defendant revealed that the parties had different views of the actual boundary. The defendants sought a declaratory judgment seeking to enforce the 1914 agreement and the plaintiffs filed an adverse possession claim. The trial court upheld the 1914 fence agreement and dismissed the plaintiff’s claims.
On further review the appellate court affirmed. While the non-permanent markers referred to in the 1914 fence agreement could not be found, the appellate court determined that there was sufficient evidence to support the defendant’s claim of ownership of the disputed acres via the 1914 fence agreement. The appellate court also remanded the case on the issue of attorney fees.
Boundary by Acquiescence Established by Landowners’ Conduct
Waggoner v. Alford, No. CV-19-931, 2021 Ark. App. 120 (Ark. Ct. App. Mar. 10, 2021)
The defendants purchased land adjacent to the plaintiff’s property on which they built a house. The defendants had a survey completed which indicated that their house was twenty-seven feet from the property line. This initial survey treated the plaintiff’s wire fence as the boundary. The plaintiff commissioned a survey nine years later that revealed that the fence was not the true boundary, and the defendants’ house encroached thirty-three feet onto the plaintiff’s property. A subsequent survey by the defendants made the same finding. The plaintiff sued to eject the defendants from the disputed .828-acre tract. The defendants claimed that the plaintiff’s fence constituted a boundary by acquiescence. The plaintiff argued that the fence was never intended to act as a boundary line, but rather as a means for keeping his horses on his property for a period of two to three years.
The trial court determined that the defendants had proved title to the disputed .828-acre tract. On appeal, the plaintiff argued that a boundary by acquiescence had not been established. Specifically, the plaintiff argued that the parties had not mutually consented to the fence as the property line. The appellate court noted that an express agreement between the parties is not necessary, and silent acquiescence can be established when a boundary line can be inferred from the conduct of the parties over a period of time. The appellate court noted that the defendants had maintained the disputed property for eight years before the plaintiff objected. As a result, the appellate court held that the evidence supported the finding of a boundary by acquiescence.
Trump-Era WOTUS Rule Applies in All States
Colorado v. United States Environmental Protection Agency, No. 20-1238, 2021 U.S. App. LEXIS 6070 (10th Cir. Mar. 2, 2021)
The “Navigable Waters Protection Rule” (NWPR) issued in April 2020, defines the Clean Water Act (“CWA”) term “waters of the United States” (“WOTUS”). The definition is a key aspect of administering the CWA. Only waters that constitute a WOTUS are subject to the CWA requirements and regulations. However, the Congress left the definition of a WOTUS up to the Environmental Protection Agency (EPA) to write rules defining the term. The NWPR is the most recent attempt at a regulatory definition.
In 2020, the Colorado federal district court entered a preliminary injunction that barred the NWPR from taking effect in Colorado as applied to the discharge permit requirement of Section 404 of the CWA. On appeal, the appellate court reversed. The appellate court noted that Colorado had failed to show irreparable harm without the issuance of the preliminary injunction. The result of the appellate court’s decision is that the NWPR is presently in effect in every state in the U.S.
CWA Contains “Knowing” Requirement, But WOTUS is Not Vague
United States v. Lucero, No. 10074, 2021 U.S. App. LEXIS 6307 and 6327 (9th Cir. Mar. 4, 2021)
The defendant, in 2014, operated a business that charged construction companies for the dumping of soil and debris on dry lands near San Francisco bay. The Environmental Protection Agency (EPA) later claimed that the dry land was a “wetland” subject to the dredge and fill permit requirements of Section 404 of the Clean Water Act (CWA). As a result, the defendant was charged with (and later convicted of) violating the CWA without any evidence in the record that the defendant knew or had reason to know that the dry land was a wetland subject to the CWA.
On further review, the appellate court noted that the CWA prohibits the “knowing” discharge of a pollutant into covered waters without a permit. At trial, the jury instructions did not state that the defendant had to make a “knowing” violation of the CWA to be found guilty of a discharge violation. Accordingly, the appellate court reversed on this point. However, the appellate court ruled against the defendant on his claim that the regulation defining “waters of the United States” was unconstitutionally vague, and that the 2020 Navigable Waters Protection Rule should apply retroactively to his case.
Conservation Easement Deduction Allowed for Donated Façade Easement
C.C.M. AM 2021-001 (Mar. 8, 2021)
The taxpayer donated an easement on a building in a registered historic district on which the taxpayer had installed an accessibility ramp to comply with the Americans With Disabilities Act (ADA). The IRS determined that the installation of the ramp would not disqualify the taxpayer’s deduction. The IRS viewer the ramp as “upkeep” essential to the preservation of the structure. Such upkeep, if required to comply with the ADA, does not jeopardize the donor’s eligibility for a charitable deduction under I.R.C. §170(h)(4)(B) with respect to a building in a registered historic district.
No Exception From Early Withdrawal Penalty for Payment of Living Expenses
Catania v. Comr., T.C. Memo. 2021-33
The petitioner retired at age 55 and transferred his 401(k) funds to a traditional IRA. Two years later, the petitioner withdrew $37,000 from the IRA to pay for maintenance on his home and other living expenses. The IRS applied a 10 percent penalty to the amount withdrawn because the petitioner had not reached age 59.5 at the time of the withdrawal. The Tax Court agreed with the IRS, determining that the Code contains no exception to early retirement account withdrawals for payment of living expenses and/or home maintenance.
Conclusion
These are just some of the recent developments in the ag law and tax world. There’s never a dull moment.
March 24, 2021 in Environmental Law, Income Tax, Real Property | Permalink | Comments (0)
Sunday, March 21, 2021
Ag Law and Taxation - 2018 Bibliography
Overview
Today's post is a bibliography of my ag law and tax blog articles of 2018. Many of you have requested that I provide something like this to make it easier to find the articles, and last month I posted the bibliography of the 2020 and 2019 articles. Soon I will post the bibliography of the 2017 articles and then 2016. After those are posted. I will post one long bibliography containing all of the articles up to that point in time. Then, to close out 2021, I will post the articles of 2021.
The library of content is piling up.
Cataloging the 2018 ag law and tax blog articles - it's the topic of today's post.
BANKRUPTCY
Top Ten Agricultural Law and Tax Developments of 2017 (Ten through Six)
Chapter 12 Bankruptcy – Feasibility of the Reorganization Plan
Farm Bankruptcy and the Preferential Payment Rule
Can a Bankrupt Farm Debtor Make Plan Payments Directly to Creditors?
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
Chapter 12 Bankruptcy and the Tools-of-the-Trade Exemption
Developments in Ag Law and Tax
https://lawprofessors.typepad.com/agriculturallaw/2018/11/developments-in-ag-law-and-tax.html
The “Almost Top Ten” Ag Law and Tax Developments of 2018
BUSINESS PLANNING
The “Almost Top Ten” Agricultural Law and Tax Developments of 2017
The Spousal Qualified Joint Venture
https://lawprofessors.typepad.com/agriculturallaw/2018/02/the-spousal-qualified-joint-venture.html
The Spousal Qualified Joint Venture – Implications for Self-Employment Tax and Federal Farm Program Payment Limitations
Form a C Corporation – The New Vogue in Business Structure?
Tax Issues When Forming a C Corporation
End of Tax Preparation Season Means Tax Seminar Season is About to Begin
Converting a C Corporation to an S Corporation – The Problem of Passive Income
Valuation Discounting
https://lawprofessors.typepad.com/agriculturallaw/2018/05/valuation-discounting.html
Valuation Discounting – Part Two
https://lawprofessors.typepad.com/agriculturallaw/2018/05/valuation-discounting-part-two.html
The Impact of the TCJA on Estates and Trusts
Buy-Sell Agreements for Family Businesses
When is an Informal Business Arrangement a Partnership?
Management Activities and the Passive Loss Rules
Expense Method Depreciation and Trusts
Qualified Business Income Deduction – Proposed Regulations
Intentionally Defective Grantor Trust – What is it and How Does it Work?
When Can a Corporate Shareholder be Held Liable for Corporate Debts and Liabilities?
Farm Wealth Transfer and Business Succession – The GRAT
Social Security Planning for Farmers
https://lawprofessors.typepad.com/agriculturallaw/2018/10/social-security-planning-for-farmers.html
Corporations Post-TCJA and Anti-Corporate Farming Laws
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
What Happens When a Partner Dies?
https://lawprofessors.typepad.com/agriculturallaw/2018/10/what-happens-when-a-partner-dies.html
What are the Tax Consequences on Sale or Exchange of a Partnership Interest?
The “Almost Top Ten” Ag Law and Tax Developments of 2018
CIVIL LIABILITIES
The “Almost Top Ten” Agricultural Law and Tax Developments of 2017
Landlord Liability for Injuries Occurring on Leased Premises
When Does a Rule of Strict Liability Apply on the Farm?
When Can I Shoot My Neighbor’s Dog?
https://lawprofessors.typepad.com/agriculturallaw/2018/05/when-can-i-shoot-my-neighbors-dog.html
Reasonable Foreseeability
https://lawprofessors.typepad.com/agriculturallaw/2018/05/reasonable-foreseeability.html
What is “Agriculture” for Purposes of Agritourism?
Negligence – Can You Prove Liability?
https://lawprofessors.typepad.com/agriculturallaw/2018/06/negligence-can-you-prove-liability.html
Wind Farm Nuisance Matter Resolved – Buy the Homeowners Out!
Torts Down on the Farm
https://lawprofessors.typepad.com/agriculturallaw/2018/08/torts-down-on-the-farm.html
Roadkill – It’s What’s for Dinner
https://lawprofessors.typepad.com/agriculturallaw/2018/09/roadkill-its-whats-for-dinner.html
What Difference Does it Make if I Post My Property “No Trespassing”?
Liability for Injuries Associated with Horses
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
Developments in Ag Law and Tax
https://lawprofessors.typepad.com/agriculturallaw/2018/11/developments-in-ag-law-and-tax.html
The “Almost Top Ten” Ag Law and Tax Developments of 2018
CONTRACTS
Is a Farmer a Merchant? Why it Might Matter
Some Thoughts on the Importance of Leasing Farmland
Contract Rescission – When Can You Back Out of a Deal?
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
Disclaiming Implied Warranties
https://lawprofessors.typepad.com/agriculturallaw/2018/11/disclaiming-implied-warranties.html
The “Almost Top Ten” Ag Law and Tax Developments of 2018
COOPERATIVES
The Qualified Business Income (QBI) Deduction – What a Mess!
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
The “Almost Top Ten” Ag Law and Tax Developments of 2018
CRIMINAL LIABILITIES
Curtilage – How Much Ag Property is Protected from a Warrantless Search?
Establishing the Elements of a Cruelty to Animals Charge
What Difference Does it Make if I Post My Property “No Trespassing”?
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
The “Almost Top Ten” Ag Law and Tax Developments of 2018
ENVIRONMENTAL LAW
The “Almost Top Ten” Agricultural Law and Tax Developments of 2017
Top Ten Agricultural Law and Tax Developments of 2017 (Five through One)
Is a CWA Permit Needed for Pollution Discharges via Groundwater?
Non-Tax Ag Provisions and the Omnibus Bill
Wetlands and Farm Programs – Does NRCS Understand the Rules?
Regulation of Wetlands and “Ipse Dixit” Determinations
WOTUS Developments
https://lawprofessors.typepad.com/agriculturallaw/2018/08/wotus-developments.html
Does the Migratory Bird Treaty Act Apply to Farmers?
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
Is Groundwater a “Point Source” Pollutant?
“Waters of the United States” Means “Frozen Soil”?
Developments in Ag Law and Tax
https://lawprofessors.typepad.com/agriculturallaw/2018/11/developments-in-ag-law-and-tax.html
Can an Endangered Species be Protected in Areas Where it Can’t Survive?
The “Almost Top Ten” Ag Law and Tax Developments of 2018
ESTATE PLANNING
The “Almost Top Ten” Agricultural Law and Tax Developments of 2017
The Tax Cuts and Job Acts – How Does it Impact Estate Planning?
What’s the Charitable Deduction for Donations From a Trust?
The Spousal Qualified Joint Venture
https://lawprofessors.typepad.com/agriculturallaw/2018/02/the-spousal-qualified-joint-venture.html
Why Clarity in Will/Trust Language Matters
Some Thoughts on the Importance of Leasing Farmland
End of Tax Preparation Season Means Tax Seminar Season is About to Begin
Modifying an Irrevocable Trust – Decanting
Valuation Discounting – Part Two
https://lawprofessors.typepad.com/agriculturallaw/2018/05/valuation-discounting-part-two.html
The Impact of the TCJA on Estates and Trusts
Impact of Post-Death Events on Valuation
Beneficiary Designations, Changed Circumstances and the Contracts Clause
Qualified Business Income Deduction – Proposed Regulations
Spousal Joint Tendencies and Income Tax Basis
Farm and Ranch Estate Planning in 2018 and Forward
The TCJA, Charitable Giving and a Donor-Advised Fund
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
Unpaid Tax at Death – How Long Does IRS Have to Collect?
The “Almost Top Ten” Ag Law and Tax Developments of 2018
INCOME TAX
The “Almost Top Ten” Agricultural Law and Tax Developments of 2017
Top Ten Agricultural Law and Tax Developments of 2017 (Five through One)
The Qualified Business Income (QBI) Deduction – What a Mess!
The Tax Cuts and Jobs Act – How Does it Impact Estate Planning?
What’s the Charitable Deduction for Donations from a Trust?
Can Farmers Currently Deduct Research Expenditures?
Innovation on the Farm – Will the Research and Development Credit Apply?
What Happens When the IRS Deems an Ag Activity to Be a Hobby?
The Spousal Qualified Joint Venture – Implications for Self-Employment Tax and Federal Farm Program Payment Limitations
Livestock Sold or Destroyed Because of Disease
Form a C Corporation – The New Vogue in Business Structure?
Deductible Repairs Versus Capitalization
The Tax Treatment of Farming Net Operating Losses
Congress Modifies the Qualified Business Income Deduction
IRS Collections – The Basics
https://lawprofessors.typepad.com/agriculturallaw/2018/03/irs-collections-the-basics-.html
Tax Issues Associated with Oil and Gas Production
Refundable Fuel Credits – Following the Rules Matters
Distinguishing Between a Capital Lease and an Operating Lease
End of Tax Preparation Season Means Tax Seminar Season is About to Begin
Passive Activities and Grouping
https://lawprofessors.typepad.com/agriculturallaw/2018/04/passive-activities-and-grouping.html
Divorce and the New Tax Law – IRS Grants Some Relief
Gifts of Ag Commodities to Children and the New Tax Law
Post-Death Sale of Crops and Livestock
Is There a Downside Risk to E-Filing Your Taxes?
Purchase and Sale Allocations to CRP Contracts
Converting a C Corporation to an S Corporation – The Problem of Passive Income
The Impact of the TCJA on Estates and Trusts
The TCJA and I.R.C. 529 Plans
https://lawprofessors.typepad.com/agriculturallaw/2018/05/the-tcja-and-irc-529-plans.html
Farmers, Self-Employment Tax, and Personal Property Leases
State Taxation of Online Sales
https://lawprofessors.typepad.com/agriculturallaw/2018/06/state-taxation-of-online-sales.html
The Depletion Deduction for Oil and Gas Operations
Charitable Giving Post-2017
https://lawprofessors.typepad.com/agriculturallaw/2018/07/charitable-giving-post-2017.html
When is an Informal Business Arrangement a Partnership?
Management Activities and the Passive Loss Rules
Tax Issues on Repossession of Farmland
Outline of Tax Proposals Released
https://lawprofessors.typepad.com/agriculturallaw/2018/07/outline-of-tax-proposals-released.html
Life Estate/Remainder Arrangements and Income Tax Basis
Expense Method Depreciation and Trusts
Qualified Business Income Deduction – Proposed Regulations
The Qualified Business Income Deduction and “W-2 Wages”
Tax Consequences on Partition and Sale of Land
Deducting Residual Soil Fertility
https://lawprofessors.typepad.com/agriculturallaw/2018/09/deducting-residual-soil-fertility.html
Social Security Planning for Farmers
https://lawprofessors.typepad.com/agriculturallaw/2018/10/social-security-planning-for-farmers.html
Eliminating Capital Gain Tax – Qualified Opportunity Zones
The TCJA, Charitable Giving and a Donor-Advised Fund
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
What is Depreciable Farm Real Property?
What is “Like-Kind” Real Estate?
https://lawprofessors.typepad.com/agriculturallaw/2018/10/what-is-like-kind-real-estate.html
Developments in Ag Law and Tax
https://lawprofessors.typepad.com/agriculturallaw/2018/11/developments-in-ag-law-and-tax.html
Trusts and Like-Kind Exchanges
https://lawprofessors.typepad.com/agriculturallaw/2018/11/trusts-and-like-kind-exchanges.html
Unpaid Tax at Death – How Long Does IRS Have to Collect?
Non-Depreciable Items on the Farm or Ranch
What are the Tax Consequences on Sale or Exchange of a Partnership Interest?
Expense Method Depreciation and Structures on the Farm
Deduction Costs Associated with Items Purchased for Resale
https://lawprofessors.typepad.com/agriculturallaw/2018/12/sale-of-items-purchased-for-resale.html
Claiming Business Deductions? – Maintain Good Records, and… Hire a Tax Preparer
https://lawprofessors.typepad.com/agriculturallaw/income-tax/page/7/
Depletion – What is it and When is it Available?
The “Almost Top Ten” Ag Law and Tax Developments of 2018
INSURANCE
Beneficiary Designations, Changed Circumstances and the Contracts Clause
Recent Developments Involving Crop Insurance
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
Farm Liability Policies – Are All Activities on the Farm Covered?
The “Almost Top Ten” Ag Law and Tax Developments of 2018
REAL PROPERTY
In-Kind Partition and Adverse Possession – Two Important Concepts in Agriculture
Some Thoughts on the Importance of Leasing Farmland
Prescriptive Easements and Adverse Possession – Obtaining Title to Land Without Paying for It
Purchase and Sale Allocations to CRP Contracts
Tax Issues on Repossession of Farmland
The Accommodation Doctrine – Working Out Uses Between Surfaces and Subsurface Owners
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
What is “Like-Kind” Real Estate?
https://lawprofessors.typepad.com/agriculturallaw/2018/10/what-is-like-kind-real-estate.html
Negative Easements – Is There a Right to Unobstructed Light, Air, or View?
The “Almost Top Ten” Ag Law and Tax Developments of 2018
REGULATORY LAW
The “Almost Top Ten” Agricultural Law and Tax Developments of 2017
Top Ten Agricultural Law and Tax Developments of 2017 (Ten through Six)
Is There a Constitutional Way to Protect Animal Ag Facilities?
Trade Issues and Tariffs – Are Agriculture’s Concerns Legitimate?
Federal Crop Insurance – Some Recent Case Developments
Non-Tax Ag Provisions in the Omnibus Bill
Are Mandatory Assessments for Generic Advertising of Ag Commodities Constitutional?
Wind Farm Nuisance Matter Resolved – Buy the Homeowners Out!
Regulation of Wetlands and “Ipse Dixit” Determinations
Ag Employment – Verifying the Legal Status of Employees
Roadkill – It’s What’s for Dinner
https://lawprofessors.typepad.com/agriculturallaw/2018/09/roadkill-its-whats-for-dinner.html
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
“Waters of the United States” Means “Frozen Soil”?
How Long Can a Train Block a Crossing?
https://lawprofessors.typepad.com/agriculturallaw/2018/11/how-long-can-a-train-block-a-crossing.html
The “Almost Top Ten” Ag Law and Tax Developments of 2018
SECURED TRANSACTIONS
Ag Finance – Getting the Debtor’s Name Correct on the Financing Statements
What Are “Proceeds” of Crops and Livestock?
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
The “Almost Top Ten” Ag Law and Tax Developments of 2018
SEMINARS AND CONFERENCES
Agricultural Law and Economics Conference
Summer Farm Income Tax/Estate and Business Planning Conference
Upcoming Seminars
https://lawprofessors.typepad.com/agriculturallaw/2018/08/upcoming-seminars.html
Fall Tax Seminars
https://lawprofessors.typepad.com/agriculturallaw/2018/09/fall-tax-seminars.html
Year-End Ag Tax Seminar/Webinar
https://lawprofessors.typepad.com/agriculturallaw/2018/12/year-end-ag-tax-seminarwebinar.html
WATER LAW
Top Ten Agricultural Law and Tax Developments of 2017 (Ten through Six)
Top Ten Agricultural Law and Tax Developments of 2017 (Five through One)
The Accommodation Doctrine – Working on Uses Between Surface and Subsurface Owners
Agricultural Law Online!
https://lawprofessors.typepad.com/agriculturallaw/2018/10/agricultural-law-online.html
Drainage Issues – Rules for Handling Excess Surface Water
The “Almost Top Ten” Ag Law and Tax Developments of 2018
March 21, 2021 in Bankruptcy, Business Planning, Civil Liabilities, Contracts, Cooperatives, Criminal Liabilities, Environmental Law, Estate Planning, Income Tax, Insurance, Real Property, Regulatory Law, Secured Transactions, Water Law | Permalink | Comments (0)
Friday, March 19, 2021
August National Farm Tax and Estate/Business Planning Conference
Overview
On August 2-3, in Missoula, Montana, at the Hilton Garden Inn, Washburn Law School will hold the second of two summer 2021 national conferences focusing on farm and ranch income tax and farm and ranch estate/business planning. This first of the two national conference is in Ohio on June 7-8. You may read about the details of that event here: https://lawprofessors.typepad.com/agriculturallaw/2021/03/june-national-farm-tax-and-estatebusiness-planning-conference.html.
These are great conferences for attorneys, CPAs and other tax practitioners, agribusiness professionals, farmers, and others interested in learning more about the legal and tax issues associated with income tax planning and management and estate and business planning for those engaged in the trade or business of farming.
The August 2-3 Monana conference – it’s the topic of today’s post.
Day 1 Agenda
On Monday, August 2, our focus will be on farm income tax issues. Joining me for the day is Paul Neiffer, a Principal (Agribusiness) with CliftonLarsonAllen, LLP. Paul and I have worked together on the seminar circuit for a number of years and enjoy teaching together to farm tax audiences. Many of you know of Paul via his Farm CPA Today blog.
I will begin Day 1 with an update on what’s been happening in the courts and IRS/Treasury that has implications for those engaged in farming. Paul will then address the lingering issues with the Employee Retention Credit (ERC) and the Paycheck Protection Program (PPP) and the varied client situations and questions that arose during the 2020 tax season. The morning session will then continue with coverage of various miscellaneous topics – NOL rules; like-kind exchanges; amending partnership returns; oil and gas taxation basics. Paul will then conclude the morning with a discussion of the final I.R.C. §199A regulations.
After the luncheon, Matthew Bohlmann, the IRS-CI Senior Analyst National Coordinator for the Identity Theft program under Cyber Crimes-Headquarters, will explain how to protect your practice and your clients against cyber threats and tax fraud, and steps that your offices can take to protect client data. After Matt’s session, Paul and I will address various tax and entity structuring issues relevant to maximizing federal farm program payments for farmers. Then, I will take a dive into the tax legislation and policy arena to assess what has happened and what might happen in the near future that impacts tax planning.
Day 2 Agenda
On Tuesday, August 3, we change our focus to the estate and business planning side of things. 2021 is a big year for potential change in this area of the law, with huge implications for farm and ranch clients (and others). What is going to happen with the level of the estate tax exemption? What about the present interest annual exclusion? Will corporate tax rates change? Will the QBID be eliminated? What’s the IRS doing with the partnership audit rules? Should a client’s business organizational form be changed? The answers to all of these questions are up in the air right now. But each one of them is critically important.
I will begin Day 2 with an overview of caselaw and IRS administrative and regulatory developments. Following my update session, Dr. Gary Brester, an Emeritus Professor in the Department of Ag Econ at Montana St. University will address how farmers and ranchers can maintain competitiveness for success. What’s the impact and role of technology on production agriculture? What’s the current status of the U.S. food and fiber sector? Dr. Brester will address these and other issues during his presentation. It is always a good idea to be in tune with the economic environment that clients function in. Doing so helps anticipate legal and tax issues that might arise and provides planning opportunities that otherwise might be missed.
After the morning break, I will touch on some selected issues with respect to the special use valuation election that can be made on a farmer/rancher’s estate tax return. This is a very complex provision of the Code, and it may be back in “vogue” again if the federal estate tax exemption is reduced from its current level. To round out the morning, I will discuss corporate reorganizations. Of course, this topic is being driven by the possibility of changes in the law that could impact how the farming or ranching operation should be structured. A major focus will be on divisive reorganizations.
After the luncheon, Robert Moore, an attorney practicing near Columbus, Ohio will continue the discussion of the use of business entities in farm succession planning. Mr. Moore has a focus on estate and business planning for farmers in his practice. He will address several strategies for succession planning and how to keep the family in the farm for subsequent generations.
Following the afternoon break, Katherine Merck of the Falen Law Offices of Cheyenne, Wyoming, will address property law issues that arise in the process of transitioning the farm/ranch business to the next generation. Many real estate issues can arise in the business succession process including easements on land; water and grazing rights; and details with respect to legal descriptions, just to name a few.
The concluding session of Day 2 will be an hour of ethics by Prof. Shawn Leisinger from the law school. This session will an interactive session with attendees involving ethical issues surrounding clients with end-of-life decisions that need to be made by the client and family members. This is a very important topic that practitioners often have to deal with and some rather thorny ethical issues must be dealt with.
Online Attendance
If you can’t make the conference in-person, both days will be live simulcast over the web. You will be able to interact with the speakers by asking questions and hearing responses.
Location
The conference will be held at the Hilton Garden Inn in Missoula. Missoula is located near some of the most beautiful parts of the United States. Missoula is located between Glacier National Park and Yellowstone National Park, and is also near the Bitterroot Mountain Range and Lolo Pass. There are plenty of sight-seeing and vacation opportunities that can be wrapped around the event.
Room Block
A room block has been established for the weekend before the conference and through the conference.
Rates
The fee for the conference varies depending on whether you are claiming continuing education credit. If not, the registration rate is lower. We welcome farmers, ranchers and others that don’t need continuing education credit to attend along with those that will be claiming professional education credit.
Additional Sponsors
As of today, we are thankful for the sponsorship of the First State Bank of Nebraska; the Falen Law Offices of Cheyenne, Wyoming, Agrilegacy and Base. You may learn more about the sponsors here:
If you are interested in becoming a sponsor, please contact me. It’s a great way to market your business.
More Information
You can learn more about the August conference and register here: https://www.washburnlaw.edu/employers/cle/farmandranchtaxaugust.html
Conclusion
I hope to see you at one of the conferences this summer or, if not, I hope that you are able to attend online. This content and discussion will be valuable to your practice and/or farming or ranching operation.
March 19, 2021 in Business Planning, Estate Planning, Income Tax | Permalink | Comments (0)
Wednesday, March 17, 2021
Selling Farm Business Assets – Special Tax Treatment (Part Three)
Overview
Last week, in Part One, I discussed the basic structure and scope of I.R.C. §1231. In Part Two, I continued the discussion with the definition of “livestock for purposes of I.R.C. §1231, the “holding period” requirement and the procedure for netting gains and losses, as well as the proper classification of unharvested crops that are sold with land.
Section 1231 also can be involved in transactions involving water rights, self-rents of livestock and timber. Section 1231 transactions continued - it’s the topic of today’s post.
Does a Sale of Water Qualify?
Whether a sale of water qualifies for Section 1231 treatment depends on whether the seller retains a continuing interest in the water. Vest v. Comr., 57 T.C. 128 (1971), aff’d., 481 F.2d 238 (5th Cir. 1973). If the seller retains an economic interest, the gain on sale is treated as ordinary income. This includes, reserving the right to use water for livestock purposes where it does not amount to a sale of the water in place. Puckett v. Comr., T.C. Memo. 1964-40, aff’d., 355 F.2d 551 (5th Cir. 1966).
In the Vest case, for example, the taxpayers owned land and associated water and mineral rights. The Shell Oil Company (Shell) proposed to buy the water rights along with a right-of-way so that the water and mineral rights could more easily be developed. The taxpayers entered into a contract with Shell to transfer the water rights to all water between 3,000 and 6,500 feet beneath their land. The taxpayers reserved a sufficient quantity of water for their own exploration and production of minerals. Ultimately, Shell paid the taxpayers over $26,000 for the water that it extracted and transported from the property of neighboring landowners. The taxpayers reported the income as capital gain, but the IRS determined that it was ordinary income from a “lease.” The Tax Court ruled against the IRS, determining that the transaction between the parties amounted to a sale of the water in place and a permanent interest in the property for a right-of-way.
On further review, the appellate court noted that the transaction was not easy to categorize as it contained elements of both a lease and a sale. Ultimately, however, the appellate court determined that the taxpayers had retained an economic interest in the water rights and the right-of way. The taxpayers simply had not transferred to Shell all of the water in place or a specific quantity of it, and Shell controlled the conditions under which its obligation arose to make payment over a 75-year timeframe. It had no duty to extract any “purchase price water” at all and, if it did not, the taxpayers would receive nothing. This relationship between payment and production, the appellate court noted, meant that the taxpayers had retained an economic interest in the water rights that had been transferred to Shell and that the proceeds from the transaction were ordinary income.
Note: In Gladden v. Comr., 112 T.C. 209 (1999), the Tax Court held that the water rights that the petitioners relinquished in the Colorado River were capital assets because the allocation of the rights was directly linked to the capital investment in the land. As such, the transaction amounted to a sale or exchange.
Self-Rental of Livestock – Converting Capital Gain to Ordinary Income?
What is the result when the taxpayer leases livestock that otherwise qualify for Section 1231 to an entity that the taxpayer owns? Does Section 1231 tax treatment apply in some fashion? In Dudden v. Comr., 893 F. 2d 174 (8th Cir 1990), the taxpayers (a married couple) were the sole shareholders of a farming corporation engaged in the trade or business of raising hogs. They held title to brood sows and gilts (the breeding herd) and leased the animals to the corporation under a sow lease agreement. Under the lease, the corporation was given possession of the breeding “sow” herd. As noted, the taxpayers retained legal title to the sows and gilts. Sows were kept for about two years (roughly five breedings) before the corporation culled them and returned them to the taxpayers. When a sow was culled, one gilt was placed in the breeding herd as a replacement. Title to the gilt remained with the taxpayers. Thus, the breeding herd was constantly maintained at 150 sows.
The taxpayers sold the culled sows (which were raised sows) and reported the gain as a Section 1231 gain, and took the position that the “lease” did not trigger gain because it was a mere bailment – title to replacement gilts never vested in the corporation and the corporation could not sell replacement gilts. The corporation was entitled to all pigs farrowed (whether gilt or barrow), except those designated as replacement gilts. The corporation fed and cared for the replacement gilts until they reached a breeding weight of 220 pounds. The gilts were then transferred to the taxpayers and the taxpayers raised them to a breeding weight of 270 pounds at which point the gilts were reintroduced in the breeding herd via a re-lease to the corporation. A gilt pen was maintained where the replacement gilts were the ones that had superior genetics.
The IRS disagreed with the taxpayers’ tax treatment of the transaction, claiming that the taxpayers received “rent” when a gilt was placed in the breeding herd as a beginning sow even though the taxpayers neither paid nor deducted any “rent” expense. The amount of the rent, according to the IRS was the slaughter value of the gilt on the day of the placement in the breeding herd. The taxpayer, according to the IRS then had basis in the gilt that could be depreciated over the next two years. That deprecation, the IRS maintained, would be recaptured to the extent of the deprecation upon sale as a culled sow. Thus, the IRS position was that the taxpayers were engaged in the trade or business of selling culled sows, the income from which should be reported on Schedule F. The IRS took this position even though the selling of culled sows was not a major part of the taxpayers’ overall farming operation. It merely served as a means of getting the taxpayers’ children into the farming operation without significant capital investment.
The Tax Court agreed with the IRS position. Dudden v. Comr., 91 T.C. 642 (1988).
The appellate court, while noting that the lease did have characteristics of a bailment, upheld the Tax Court’s determination that the taxpayers realized potential rental income when the corporation transferred the 220-pound replacement gilts to the taxpayers, and rental income when the gilts reached 270 pounds and were re-leased to the corporation. That rental income, the appellate court held, should have been recognized when the gilts were reintroduced into the breeding herd and re-leased to the corporation. The lease, the appellate court noted, provided a means by which the taxpayers could draw income from the corporation in the form of value from the replacement gilts that they didn’t initially possess and didn’t need to buy. The appellate court pointed out that the lease stated that the transfer of replacement gilts constituted consideration for the lease – they were rent that the corporation “paid” in exchange for the right to use the taxpayers’ breeding herd, a breeding herd that the taxpayers held title to but didn’t have a current possessory interest in.
The appellate court noted that rent is typically taxable as ordinary income upon receipt in the hands of a cash basis taxpayer. I.R.C. §61(a)(5). The appellate court took the position that, under the lease, the corporation held title to the gilts farrowed and title to the replacement gilts vested in the taxpayers when the 220-pound replacement gilts were acquired under the lease. Based on this construction of the lease, there was a potential for realized income at this point in time. It then followed, according to the appellate court, that when the replacement gilts reached 270 pounds (their breeding weight), the taxpayers actually realized rental income because they then had beneficial ownership (title, burden and expense). As such, the lease was the same as a crop share lease with the taxpayers as landlords and rental income was recognized when the replacement gilts were re-leased to the corporation and reintroduced into the breeding herd. That was the point in time when there was an addition to capital and livestock were reduced to money or an equivalent of money. Thus, the appellate court reasoned, the crop-share recognition rule applied. See Treas. Reg. §1.61-4(a)(5). The money equivalent (ordinary income) of the rental income, the appellate court concluded, could be measured from the USDA price quotation sheets for slaughter value on the date when the taxpayers selected the replacement gilts. Added to that amount would be the value of the corporation’s cost of providing food and care for the gilts while they were being prepared for breeding.
Note: The appellate court’s construction of the lease and computation of “rental income” is highly suspect. The taxpayers maintained title to a replacement gilt from the time of birth. There was no title transfer. Possession was transferred, but that was no different than what occurred by the corporation’s use of the breeding herd. In addition, the appellate court’s use of USDA price quotation sheets for slaughter value of gilts to peg the rental income is suspect. A completely separate live market existed for the sale of gilts which yielded different (and more accurate) prices.
Special Rule for Timber
For timber farmers (those in the trade or business of harvesting and selling timber), the sale of the timber generates ordinary income. But, an election can be made by an owner of standing timber or a taxpayer that holds a contract right to cut timber (and has held the right for more than a year) to treat the cutting of timber as a sale or exchange that is eligible for capital gain treatment. Id. Via the election, the taxpayer gets capital gain treatment on the income in the value of the timber until it is cut. A later sale generates ordinary income or loss.
Capital gain treatment is also the result when a standing timber owner disposes of timber. I.R.C. §631(b).
Christmas trees. “Timber” includes evergreen trees if they are more than six years old at the time they are cut and are sold for ornamental purposes (e.g., Christmas Trees). I.R.C. §631(a). But, sale of Christmas trees on a “choose and cut” basis are not eligible for capital gain treatment. Eck v. Comr., 99 T.C. 1 (1992); Rev. Rul., 77-229, 1977-2 C.B. 210. Also, Christmas trees that are less than six years old at the time of cutting are not “timber” and are subject to the capitalization rules of I.R.C. §263A. That means that all of the costs of raising the trees must be added to basis unless the taxpayer elects out of the application of the rules. I.R.C. §263A(d)(3). If the election is made, when the trees are sold the costs that would otherwise have been capitalized are subject to recapture as ordinary income and alternative depreciation is required. I.R.C. §263A(e).
Conclusion
Section 1231 assets are accorded special tax treatment under the Code. For farmers and ranchers that treatment can come up in many common transactions.
March 17, 2021 in Income Tax | Permalink | Comments (0)
Monday, March 15, 2021
Selling Farm Business Assets – Special Tax Treatment (Part Two)
Overview
Last week, in Part One, I discussed the basic structure and scope of I.R.C. §1231. In today’s post I continue with the definition of “livestock for purposes of I.R.C. §1231, the “holding period” requirement and the procedure for netting gains and losses, as well as the proper classification of unharvested crops that are sold with land.
The unique tax treatment of “Section 1231” assets for farmers and ranchers, Part Two of what has now become a Three-Part series – it’s the topic of today’s post.
Benefit of Section 1231
As mentioned in Part One, upon the sale or exchange of Section 1231 property, the result is either capital gain or ordinary loss. Net gains from the sale of Section 1231 assets are long-term capital gains. As such, they are taxed at favorable rates. Presently, long-term capital gains are taxed at the rate of zero percent, 15 percent, or 20 percent, depending on a combination of the taxpayer’s taxable income and marital status. For a husband and wife filing jointly, the 20 percent rate kicks-in at an income above $501,600. The capital gain rate for a married couple filing jointly is zero up to an income level of $80,800.
If the losses on Section 1231 transactions exceed the gains, the net loss is treated as an ordinary loss. That’s also a favorable outcome for the taxpayer. But, it’s important to remember that I.R.C. § 1231 does not apply to depreciation that must be recaptured as ordinary income under either I.R.C. § 1245 (depreciable personal property and certain real property) or I.R.C. §1250 (depreciable real property that is not I.R.C. §1245 property).
Definition of “Livestock”
“Livestock” is defined broadly for Section 1231 purposes. The term includes cattle, hogs, horses, mules, donkeys, sheep, goats, fur-bearing animals and other mammals. Treas. Reg. §1.1231-2(a)(3). The term can also include trophy deer that are raised as part of a taxpayer’s trade or business of farming. See TAM 9615001 (Oct. 17, 1995). But “livestock” for Section 1231 purposes does not include poultry, chickens, turkeys, pigeons, geese, other birds, fish, frogs or reptiles. Treas. Reg. §1.1231-2(a)(3). In general, the term includes any mammal held for breeding or sporting purposes. including some furbearing animals. For example, Chinchilla count if the taxpayer holds them for breeding purposes. Greer v. Comr., 17 T.C. 965 (1951), acq., 1953-1 C.B. 4. Mink and fox also count Rev. Rul. 57-88, 1957-1 C.B. 88. Likewise, culled mink pelts also can be treated as a Section 1231 asset in the hands of a taxpayer engaged in the trade or business of raising mink for the purpose of selling mink pelts. United States v. Cook, 270 F.2d 725 (8th Cir. 1959). But, bees (and probably, other insects) are not “livestock” for Section 1231 purposes. Sykes v. Comr., 57 T.C. 618 (1972).
Holding Period
To receive Section 1231 treatment, qualified livestock that are held for a qualified purpose (draft, dairy, breeding or sporting purposes) a taxpayer must hold the livestock for a required amount of time. I.R.C. §1231(b)(3). For cattle and horses, the holding period is at least 24 months. I.R.C. §1231(b)(3)(A). For all other livestock, the holding period is at least 12 months. I.R.C. §1231(b)(3)(B).
Measuring – general rule. A taxpayer determines whether the holding period has been satisfied by not counting the day on which an asset was acquired and including the day on which the asset is sold. Rev. Rul. 66-7, 1966-1 C.B. 188; Caspe v. United States, 694 F.2d 1116 (8th Cir. 1982).
Measuring – sale by an estate. Property that is included in a decedent’s estate at death and receives a basis equal to the fair market value of the property at death under I.R.C. §1014 is treated at having been held for more than one year. I.R.C. §1223(9). It doesn’t matter how long the taxpayer actually held the property before death. Id. Likewise, for property that a decedent holds until the date of death, if it is disposed of within 18 months after the decedent’s death, it is deemed to have been held more than 18 months. IRS Notice 97-59, 1997-2 C.B. 309. But, this rule doesn’t apply to livestock – the special holding periods for livestock contained in I.R.C. §1231(b)(3)(A)-(B) continue to apply. Rev. Rul. 75-361, 1975-2 C.B. 344. Thus, the decedent must have held the livestock for the applicable holding period before death for the heir to receive long-term capital gain treatment upon sale by the estate.
The “Netting” Process
For Section 1231 assets, net gains from them are long-term capital gains. If losses are greater than gains, the net loss is treated as an ordinary loss. I.R.C. §1231(a)(2). Stated another way, if net Section 1231 losses exceed net Section 1231 gains, the gains and losses are not treated as “gains and losses from sales or exchanges of capital assets.” Id. The instructions to IRS Form 4797 set forth how to report Section 1231 transactions. But, in a nutshell, long-term capital gains and losses (including Section 1231 gains and losses) are separated by the tax rates that apply to them. The assets are separated by type (e.g., capital loss carryovers; collectibles; unrecaptured I.R.C. §1250 gain; gain taxed at 10 percent, etc.). Then, short-term capital losses (including short-term capital loss carryovers) are applied first to reduce short-term capital gains in a particular order (tied to the applicable tax rate). After that, any net loss from a particular tax rate group reduces gain from gains that are taxed at different rates in a specified order. This is all set forth in the instructions to Form 4797 in good detail.
What About Unharvested Crops Sold With Land?
For land that is sold with an unharvested crop, if both the land and the growing crops are used in the seller’s trade or business of farming and are sold (or exchanged or compulsorily or involuntarily converted) to the same buyer in a single transaction, the land and crops are considered to be “property used in the trade or business.” I.R.C. §1231(b)(4). If the seller held the land for more than a year before the sale, Section 1231 treatment is available. Treas. Reg. §1.1231-1(c)(5).
But, a catch is present if the taxpayer is on the cash method. In this situation, when computing taxable income, the seller cannot claim any deductions for the unharvested crop attributable to the crop’s production either for the tax year of sale or not. The seller must capitalize the costs of raising the crop. I.R.C. §268.
Another point is that Section 1231 treatment is not available for an unharvested crop if the seller retains any right or option, either directly or indirectly, to reacquire the land that the crop is growing on. Treas. Reg. §1.1231-1(f); Priv. Ltr. Rul. 8504014 (Oct. 22, 1984). For this purpose, a right that is incident to a mortgage (or other security interest) is not considered to be a “right or option.” Treas. Reg. §1.1231-1(f).
Note: A leasehold or an estate for a term of years is not “land” for purposes of Section 1231. Id. Thus, when a crop is raised on land where the taxpayer (as landlord) sells the lease and the unharvested crop in one transaction, the sale results in ordinary income. Bidart Brothers v. United States, 262 F.2d 607 (9th Cir. 1959).
The sale of raised crops or livestock in the estate of a decedent that was an active farmer generally results in ordinary income recognition. Sale of land on which crops constituting property are growing, by an estate, results in capital gain treatment for the income attributable to the crop. I.R.C. §§268; 1231(b)(4). If the crops are harvested during the process of liquidating the farming business and selling the land, it might be possible to characterize the sale of the crops as part of the liquidation and achieve capital gain treatment.
Conclusion
In Part Three next time, I will continue the Section 1231 discussion as applied to the sale of water rights, livestock self-rent situations, and timber sales. Stay tuned.
March 15, 2021 in Income Tax | Permalink | Comments (0)
Tuesday, March 9, 2021
Tax Update Webinar
Overview
This Friday, Mar. 12, I will be doing a two-hour tax update webinar. I will address the late 2020 legislation, new guidance from the SBA and IRS and the tax changes included in the recent massive spending legislation enacted into law.
Upcoming tax update webinar – it’s the topic of today’s post.
Recent Legislation
The 2020 tax filing season has been a difficult one for practitioners given the lateness of tax legislation contained in the Consolidated Appropriations Act, 2021 (CAA). The CAA, 2021 contains many individual, business, payroll, disaster, and energy-related tax provisions. The legislation also extends many provisions that were set to expire at the end of 2020. Other provisions on the new law are virus-related, including additional "stimulus" payments and an extension of payroll credits as well as pension and other employee benefit provisions and modifications to the Payroll Protection Program (PPP). In addition, changes were made to the rules surrounding the deductibility of business meals provided by restaurants in 2021 and 2022. For farmers and ranchers, the CAA, 2021 makes changes to the existing Coronavirus Food Assistance Program (CFAP) and appropriates additional funds for various agricultural programs.
If the lateness of 2020 legislation impacting tax returns didn’t pose enough tax problems for practitioners, in recent days, the U.S. Senate passed its version of the nearly $2 trillion spending bill, the “American Rescue Plan Act.” The Senate’s version is basically the same as the House bill, but the Senate did make some changes that require the bill to go back to the House for another (and final) vote.
Provisions in the bill that impact tax are as follows:
- Extension of $300 per week unemployment benefit through September 6 (it would have expired in mid-March. In addition, the first $10,200 of unemployment benefits is tax-free (not in original House bill).
- A third round of stimulus checks in the amount of $1,400.
- An increase in the child tax credit to $3,000 (up from $2,000) for children between the age of 6 and 17 and $3,600 for children under 6. The credit would be direct deposited periodically in the taxpayer's account.
- Expansion of the Employee Retention Tax Credit;
- Tax-free virus-related student debt relief;
- Extension to September 30 of the tax credits to businesses that provide paid family leave; and
- Increased Obamacare tax subsidies.
Registration Information
During the webinar, I will bring you up to speed on the key changes since late December and provide insight as to how the changes impact farm and non-farm businesses. I will also suggest planning steps that taxpayers should be taking now based on the new changes.
For registration information, click here: https://washburnlaw.edu/employers/cle/taxupdatecaa.html
March 9, 2021 in Income Tax | Permalink | Comments (0)
Sunday, March 7, 2021
Selling Farm Business Assets – Special Tax Treatment (Part One)
Overview
In general, gains and losses arising from the sale of farmland, depreciable assets used in the farm business, draft, breeding, dairy and sporting livestock, unharvested crops sold with the land, and some other transactions receive a special form of tax treatment. This is a very advantageous tax treatment for farmers and ranchers. The section of the Internal Revenue Code involved is I.R.C. §1231, and assets that receive this special tax treatment are known as “Section 1231” assets.
In today’s Part One of a Two-Part series, I discuss the basic structure and scope of Section 1231. Later this week, in Part Two, I will take a look at the definition of “livestock,” the “holding period,” the procedure for netting gains and losses, and some other special situations involving Section 1231 assets.
The unique tax treatment of “Section 1231” assets for farmers and ranchers, Part One of a Two-Part series – it’s the topic of today’s post.
Basic Structure
Upon the sale or exchange of Section 1231 property, the result is either capital gain or ordinary loss. Net gains from the sale of Section 1231 assets are long-term capital gains. As such, they are taxed at favorable rates. Presently, long-term capital gains are taxed at the rate of zero percent, 15 percent, or 20 percent, depending on a combination of the taxpayer’s taxable income and marital status. For a husband and wife filing jointly, the 20 percent rate kicks-in at an income above $501,600. The capital gain rate for a married couple filing jointly is zero up to an income level of $80,800.
If the losses on Section 1231 transactions exceed the gains, the net loss is treated as an ordinary loss. That’s also a favorable outcome for the taxpayer.
This favorable tax treatment, however, can only be achieved if all of the eligibility requirements for I.R.C. §1231 are satisfied.
What is Section 1231 Property – The “Scope” Question
The “use” issue – burden of proof. To be Section 1231 property, the property must be used in the taxpayer’s trade or business. I.R.C. §1231(b). The property cannot be held for sale to customers. The property must also be subject to depreciation and held for more than one year. I.R.C. §1231(b)(1). Real property also qualifies if it is used in the taxpayer’s trade or business and held for more than a year. Id. But, property is not Section 1231 property if it is inventory property; property held primarily for sale to customers in the ordinary course of business; a copyright, literary, musical or artistic composition or a U.S. government publication. I.R.C. §§1231(b)(1)(C-D). The taxpayer bears the burden to establish that property qualifies as Section 1231 property. For instance, in Gettings v. Comr., T.C. Memo. 1988-328, the court held that sales of cattle were not eligible for capital gain treatment because the taxpayer couldn’t prove that the cattle were not held for sale to customers in the ordinary course of business or that the cattle were depreciable assets. The Tax Court pointed out that the taxpayer considered all of his cattle as available for sale at any time.
By statute, Section 1231 assets include timber, coal and iron ore (I.R.C. §1231(b)(2)); cattle and horses that the taxpayer holds for draft, dairy or sporting purposes that are held for 24 months or more from the date of acquisition (I.R.C. §1231(b)(3)(A)); other livestock that is held for draft, dairy or sporting purposes that are held for 12 months or more (I.R.C. §1231(b)(3)(B)); and unharvested crops on land that used in the taxpayer’s trade or business and held for more than one year if the crop and the land are sold or exchanged (or compulsorily or involuntarily converted at the same time to the same person). I.R.C. §1231(b)(4). Poultry is not “livestock” for purposes of I.R.C. §1231.
Determining use. The requirement that the asset be held for use in the taxpayer’s trade or business (I.R.C. §1231(a)) is key. Income from the sale of assets that are held “primarily for sale to customers in the ordinary course of business” do not receive Section 1231 treatment. The regulations and the courts point out that the reason or purpose for which a taxpayer “holds” and animal is based on the facts. A key fact in that determination is how the taxpayer uses any particular animal. Thus, an animal that is held for ultimate sale to customers in the ordinary course of the taxpayer’s business may still be deemed to be held for draft, dairy or breeding purposes. Treas. Reg. §1.1231-2(b)(1). The examples in the regulations under Treas. Reg. §1.1231-2(b)(2) are very helpful illustrations of how the use of an animal impacts eligibility for Section 1231 treatment.
The caselaw is also helpful in defining the scope of Section 1231. In Contra Biltmore Co. v. United States, 129 F. Supp. 366 (W.D.N.C. 1955), aff’d., 228 F.2d 9 (4th Cir. 1955), the issue was whether bull-calves between six and eleven months of age, and heifer-calves between six and twenty-four months old raised and sold by a dairy cattle herder, were 'property held primarily for sale to customers or were property used in the taxpayer’s trade or business. The IRS prevailed on its argument that bulls and heifers that were sold before they reached the age of productivity were not Section 1231 assets even though the taxpayer retained them as standby replacements. Likewise, calves of a producing herd have been held to not constitute section 1231 property. Fox v. Comr., 198 F.2d 719 (4th Cir. 1952). The court determined that the calves were the production of Section 1231 property. In Bandes v. Comr., T.C. Memo. 1982-355, the issue was whether the sale of pregnant gilts were properly characterized as long-term capital gain under I.R.C. §1231. The taxpayer retained two females from each litter for breeding purposes. The Tax Court disallowed Section 1231 treatment upon a finding that the taxpayers did not intend to hold the gilts for breeding purposes. Instead, the Tax Court determined that the taxpayer was attempting to convert ordinary income to capital gain through the operation of Section 1231. Facts matter.
For farmers that maintain a breeding herd the herd is often culled of unfit animals. The sale of culled cows, for example, can qualify for Section 1231 treatment if the farmer can show that the culled cows were no longer suitable for breeding purposes or at least different from those livestock that were not sold. The motive to cull is controlling rather than when the culling occurred or how the animals were culled. But, if heifers are culled shortly before the annual spring sale, that could cause the IRS to question the purpose for which the heifers are held. See, e.g., Hillman v. United States, 2002-2 U.S.T.C. para. 50,700 (D. S.D. 2002). If the facts indicate that that taxpayer was in the business of selling breeding stock, a court is likely to deny section 1231 treatment for the culled animals. See, e.g., A. Duda & Sons, Inc. v. United States, 560 F.2d 669 (5th Cir. 1977), rev’g., 383 F. Supp. 1303 (M.D. Fla. 1974). Be careful in promoting and marketing the sale of the culled animals! You don’t want to be too visible. In addition, the IRS could asset self-employment tax on the sale proceeds. Again, relevant to that determination is the degree of marketing and promotion of the annual spring sale.
Other situations. An animal can still be determined to be held for a breeding purpose if it is disposed of within a reasonable time after its intended use is prevented or made undesirable by reason of accident, disease, unfitness or something similar. Treas. Reg. §1.1231-2(b)(1). Also, if the taxpayer’s plans change and animals must be sold, Section 1231 treatment might be proper. See, e.g., Coldwater Cattle Co. v. United States, No. 2756-Civil, 1961 U.S. Dist. LEXIS 5430 (N.D. Tex. Jan. 9, 1961); Clingman v. United States, No. F-75-194 Civ., 1977 U.S. Dist. LEXIS 17033 (E.D. Cal. Mar. 7, 1977). Similarly, weather can play a role. In Carter v. Comr., 257 F2d 595 (5th Cir. 1958), the taxpayer bought heifers to start a breeding herd but sold them shortly thereafter because weather conditions made feeding difficult. The court held that Section 1231 treatment was available for the sale of the heifers.
With respect to the sale of pregnant breeding stock, the question is whether an allocation of a portion of the selling price must be made to the unborn young? The Tax Court has said that no allocation is required. In Metz v. United States, No. 1446, 1962 U.S. Dist. LEXIS 5176 (E.D. Ky. Mar. 27, 1962), the Tax Court reasoned that allocation was not required to an unborn because of the uncertainty of a successful birth.
For horses, if a horse is held for racing purposes (e.g., for racing at a public track or a horse trained for racing purposes) the regulations, in general, consider the horse to be held for sporting purposes. Treas. Reg. §§1.1231-2(c)(1) & (c)(1)(i). But, if a horse has never been raced or trained for racing, it would likely not be considered to be held for racing purposes. Horses used for team roping may present a problem for the taxpayer in establishing the existence of a trade or business - a prerequisite for Section 1231 treatment. See, e.g., Gallegos v. Comr., T.C. Memo. 2021-25. A colt that isn’t fit for sporting purposes can still qualify for section 1231 treatment even if it hasn’t been trained very much or raced. For instance, in Kirk v. Comr., 47 T.C. 177 (1966), acq., 1967-1 C.B. 2, the Tax Court held that horses that had been culled because they weren’t adequate for use a harness horses in the hands of a professional harness racer qualified for Section 1231 treatment.
In Bradshaw v. United States, No. 2154, 1971 U.S. Dist. LEXIS 10564 (E.D. Ky. Dec. 1, 1971), the plaintiff kept approximately four stallions and 35 mares for breeding. Normally about 25 foals were born each year. After weaning in the fall, the plaintiff culled the foals and sold them at public auction before training them. The plaintiff reported the gain as ordinary income. The rest of the yearlings were broken to bridal and lead. Throughout the training process, some of the horses were determined to be undesirable for showing or breeding. These horses continued to train, but they were classified as “cull” and sold at private sales. The IRS claimed that the plaintiff was in the business of selling show horses and that if a buyer wanted to purchase any horse on his farm, he would sell the horse and report the gain as long-term capital gain. The horses that the plaintiff sold included mares, stallions and geldings. Geldings cannot be used for breeding purposes, so the plaintiff relied on the general provisions of I.R.C. § 1231(b)(1) (an asset used in the trade or business that is subject to depreciation and has been held for more than one year) rather than the more specific provisions of I.R.C. §1231(b)(3) (the provision for livestock). The court cited the Kirk case for the proposition that the existence of the (b)(3) did not preclude the horses from qualifying under the general provisions of (b)(1). The IRS did not appeal, but issued an Action on Decision stating that the decision was probably wrong because the horses sold were not segregated from the remaining horses, but were kept in training and sold only when buyers selected them from purchase. However, the IRS noted that the jury verdict was not clearly erroneous. 1971 AOD LEXIS 486 (Dec. 10, 1971).
For embryo transplants, the animal from which the embryo came is the section 1231 asset – it is deemed to be held for breeding purposes. Rev. Rul. 86-24, 1986-1 C.B. 80; Treas. Reg. §1.1231-2(b)(1). When the cow in which the implanted embryo is purchased, the purchase price is to be allocated between the cow and the embryo of the basis of the fair market value of each. The cost allocated to the embryo is capitalized. The resulting calves that are born from the embryo implantation will trigger ordinary income (or loss) on sale if they are held for sale to customers in the ordinary course of business. With respect to embryo transplant services, however, the IRS is on the look-out for sham transactions. Investments in cattle breeding operations may be suspect from the IRS standpoint. The transaction must have economic substance. If not, the IRS will disregard the transaction. See, e.g., In re Gran, 964 F.2d 822 (8th Cir. 1992); Boyer v. Comr., T.C. Memo. 1992-724.
Conclusion
In Part Two, I will continue the discussion of other aspects of Section 1231. It’s a unique and beneficial part of the Code for farmers and ranchers.
March 7, 2021 in Income Tax | Permalink | Comments (0)
Friday, March 5, 2021
June National Farm Tax and Estate/Business Planning Conference
Overview
On June 7-8 at the Shawnee State Park Lodge and Conference Center near West Portsmouth, Ohio, Washburn Law School will hold the first of two summer 2021 national conferences focusing on farm income tax and farmer estate/business planning. The second event will be August 2-3 in Missoula, Montana. These are great conferences for attorneys, CPAs and other tax practitioners, agribusiness professionals, farmers, and others interested in learning more about the legal and tax issues associated with income tax planning and management and estate and business planning for those engaged in the trade or business of farming.
The June 7-8 Ohio conference – it’s the topic of today’s post.
Day 1 Agenda
On Monday, June 7, our focus will be on farm income tax issues. Joining me for the day is Paul Neiffer, a Principal (Agribusiness) with CliftonLarsonAllen, LLP. Paul and I have worked together on the seminar circuit for a number of years and enjoy teaching together to farm tax audiences. Many of you know of Paul via his Farm CPA Today blog.
I will begin Day 1 with an update on what’s been happening in the courts and IRS/Treasury that has implications for those engaged in farming. Paul will then address the lingering issues with the Employee Retention Credit (ERC) and the Paycheck Protection Program (PPP) and the varied client situations and questions that arose during the 2020 tax season. The morning session will then continue with coverage of various miscellaneous topics – NOL rules; like-kind exchanges; amending partnership returns; oil and gas taxation basics. Paul will then conclude the morning with a discussion of the final I.R.C. §199A regulations.
After the luncheon, Matthew Bohlmann, the IRS-CI Senior Analyst National Coordinator for the Identity Theft program under Cyber Crimes-Headquarters, will explain how to protect your practice and your clients against cyber threats and tax fraud, and steps that your offices can take to protect client data. After Matt’s session, Paul and I will address various tax and entity structuring issues relevant to maximizing federal farm program payments for farmers. Then, I will take a dive into the tax legislation and policy arena to assess what has happened and what might happen in the near future that impacts tax planning.
Day 2 Agenda
On Tuesday, June 8, we change our focus to the estate and business planning side of things. 2021 is a big year for potential change in this area of the law, with huge implications for farm and ranch clients (and others). What is going to happen with the level of the estate tax exemption? What about the present interest annual exclusion? Will corporate tax rates change? Will the QBID be eliminated? What’s the IRS doing with the partnership audit rules? Should a client’s business organizational form be changed? The answers to all of these questions are up in the air right now. But each one of them is critically important.
I will begin Day 2 with an overview of caselaw and IRS administrative and regulatory developments. Following my update session, Dr. William Snell from the University of Kentucky Ag Econ Department will provide his insights into the current status of the farm economy. It is always a good idea to be in tune with the economic environment that clients function in. That helps anticipate legal and tax issues that might arise and provides planning opportunities that otherwise might be missed. After the morning break, I will touch on some selected issues with respect to the special use valuation election that can be made on a farmer/rancher’s estate tax return. This is a very complex provision of the Code, and it may be back in “vogue” again if the federal estate tax exemption is reduced from its current level. To round out the morning, I will discuss corporate reorganizations. Of course, this topic is being driven by the possibility of changes in the law that could impact how the farming or ranching operation should be structured. A major focus will be on divisive reorganizations.
After the luncheon, Robert Moore, an attorney practicing near Columbus, Ohio will continue the discussion of the use of business entities in farm succession planning. Mr. Moore has a focus on estate and business planning for farmers in his practice. He will address several strategies for succession planning and how to keep the family in the farm for subsequent generations. Following the afternoon break I will go through the issues facing farmers in financial distress and provide some insight into strategies for managing tax and legal issues that are inherent in such situations.
The concluding session of Day 2 will be an hour of ethics by Prof. Shawn Leisinger from the law school. This session will an interactive session with attendees involving ethical issues surrounding clients with end-of-life decisions that need to be made by the client and family members. This is a very important topic that practitioners often have to deal with and some rather thorny ethical issues must be dealt with.
Online Attendance
If you can’t make the conference in-person, both days will be live simulcast over the web. You will be able to interact with the speakers by asking questions and hearing responses.
Location
The conference will be held at the Shawnee State Park Lodge and Conference Center in southern Ohio near West Portsmouth Ohio. The location is almost equally distanced from Lexington, KY, Columbus, OH and Cincinnati, OH. If you will be flying in, flights into any of those airports would be your best choice.
Room Block
A room block has been established for the weekend before the conference and through the conference.
Rates
The fee for the conference varies depending on whether you are claiming continuing education credit. If not, the registration rate is lower. We welcome farmers, ranchers and others that don’t need continuing education credit to attend along with those that will be claiming professional education credit.
Additional Sponsors
As of today, we are thankful for the sponsorship of the Wright and Moore Law Company of Delaware, OH, and AgriLegacy. You may learn more about the Wright and Moore Law Company here: https://www.ohiofarmlaw.com/ and AgriLegacy here: https://agrilegacy.com/ If you are interested in becoming a sponsor, please contact me.
More Information
You can learn more about the conference and register here: https://washburnlaw.edu/employers/cle/farmandranchtaxjune.html
August Conference
On August 2-3 we will conduct the second of the two summer conferences in Missoula, MT. The program agenda there will be slightly different, and I will do a separate post on that conference next week. That conference will also be simulcast over the web for those unable to attend in person.
Conclusion
I hope to see you at one of the conferences this summer or, if not, I hope that you are able to attend online. This content and discussion will be valuable to your practice and/or farming or ranching operation.
March 5, 2021 in Business Planning, Estate Planning, Income Tax | Permalink | Comments (0)
Sunday, February 28, 2021
Ag Law and Taxation - 2019 Bibliography
Overview
Today's post is a bibliography of my ag law and tax blog articles of 2019. Many of you have requested that I provide something like this to make it easier to find the articles, and last month I posted the bibliography of the 2020 articles. Soon I will post the bibliography of the 2018 articles and then 2017 and 2016.
The library of content is piling up.
Cataloging the 2019 ag law and tax blog articles - it's the topic of today's post.
BANKRUPTCY
Non-Dischargeable Debts in Bankruptcy
https://lawprofessors.typepad.com/agriculturallaw/2019/02/non-dischargeable-debts-in-bankruptcy.html
Developments in Agricultural Law and Taxation
More Recent Developments in Agricultural Law
More Ag Law and Tax Developments
https://lawprofessors.typepad.com/agriculturallaw/2019/05/more-ag-law-and-tax-developments.html
Farmers, Bankruptcy and the “Absolute Priority” Rule
Ag in the Courtroom
https://lawprofessors.typepad.com/agriculturallaw/2019/07/ag-in-the-courtroom.html
Key Farm Bankruptcy Modification on the Horizon?
Ag Legal Issues in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/08/ag-legal-issues-in-the-courts.html
Are Taxes Dischargeable in Bankruptcy?
https://lawprofessors.typepad.com/agriculturallaw/2019/09/are-taxes-dischargeable-in-bankruptcy.html
The “Almost Top Ten” Ag Law and Ag Tax Developments of 2019
BUSINESS PLANNING
Can a State Tax a Trust with No Contact with the State?
Real Estate Professionals and Aggregation – The Passive Loss Rules
More Recent Developments in Agricultural Law
Self-Rentals and the Passive Loss Rules
What’s the Best Entity Structure for the Farm or Ranch Business?
Where Does Life Insurance Fit in an Estate Plan for a Farmer or Rancher?
Recent Developments in Farm and Ranch Business Planning
ESOPs and Ag Businesses – Part One
https://lawprofessors.typepad.com/agriculturallaw/2019/07/esops-and-ag-businesses-part-one.html
ESOPs and Ag Businesses – Part Two
https://lawprofessors.typepad.com/agriculturallaw/2019/07/esops-and-ag-businesses-part-two.html
Is a Discount for The BIG Tax Available?
Tax Consequences of Forgiving Installment Payment Debt
Ag Law and Tax in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/09/ag-law-and-tax-in-the-courts.html
Shareholder Loans and S Corporation Stock Basis
The Family Limited Partnership – Part One
The Family Limited Partnership – Part Two
Does the Sale of Farmland Trigger Net Investment Income Tax?
Some Thoughts on Ag Estate/Business/Succession Planning
S Corporation Considerations
https://lawprofessors.typepad.com/agriculturallaw/2019/11/s-corporation-considerations.html
CIVIL LIABILITIES
When is an Employer Liable for the Conduct of Workers?
Selected Recent Cases Involving Agricultural Law
Ag Nuisances – Basic Principles
https://lawprofessors.typepad.com/agriculturallaw/2019/02/ag-nuisances-basic-principles.html
Do the Roundup Jury Verdicts Have Meaning For My Farming Operation?
What Does a “Reasonable Farmer” Know?
https://lawprofessors.typepad.com/agriculturallaw/2019/04/what-does-a-reasonable-farmer-know.html
Product Liability Down on the Farm - Modifications
Coming-To-The-Nuisance By Staying Put – Or, When 200 Equals 8,000
More Ag Law and Tax Developments
https://lawprofessors.typepad.com/agriculturallaw/2019/05/more-ag-law-and-tax-developments.html
Public Trust vs. Private Rights – Where’s the Line?
Ag Law in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/11/ag-law-in-the-courts.html
Fence Law Basics
https://lawprofessors.typepad.com/agriculturallaw/2019/11/fence-law-basics.html
CONTRACTS
Negotiating Cell/Wireless Tower Agreements
Developments in Agricultural Law and Taxation
Ag Contracts – What if Goods Don’t Conform to the Contract?
ENVIRONMENTAL LAW
Top 10 Developments in Ag Law and Tax for 2018 – Numbers 10 and 9
Top 10 Developments in Ag Law and Tax for 2018 – Numbers 8 and 7
Top Ten Agricultural Law and Tax Developments of 2018 – Numbers 6, 5, and 4
Top Ten Agricultural Law and Tax Developments of 2018 – Numbers 3, 2, and 1
Big EPA Developments – WOTUS and Advisory Committees
Does Soil Erosion Pose a Constitutional Issue?
Public Trust vs. Private Rights – Where’s the Line?
More Ag Law and Tax Developments
https://lawprofessors.typepad.com/agriculturallaw/2019/05/more-ag-law-and-tax-developments.html
Eminent Domain and Agriculture
https://lawprofessors.typepad.com/agriculturallaw/2019/06/eminent-domain-and-agriculture.html
Court Decisions Illustrates USDA’s Swampbuster “Incompetence”
Regulatory Changes to the Endangered Species Act
Irrigation Return Flows and the Clean Water Act
Ag Law in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/10/ag-law-in-the-courts.html
Regulatory Takings – Pursuing a Remedy
https://lawprofessors.typepad.com/agriculturallaw/2019/10/regulatory-takings-pursuing-a-remedy.html
Does a Pollutant Discharge From Groundwater into a WOTUS Require a Federal Permit?
Groundwater Discharges of Pollutants and the Supreme Court
The “Almost Top Ten” Ag Law and Ag Tax Developments of 2019
ESTATE PLANNING
Tax Filing Season Update and Summer Seminar!
Time to Review Estate Planning Documents?
Can a State Tax a Trust with No Contact with the State?
Estate Planning in Second Marriage Situations
Valuing Non-Cash Charitable Gifts
https://lawprofessors.typepad.com/agriculturallaw/2019/03/valuing-non-cash-charitable-gifts.html
Real Estate Professionals and Aggregation – The Passive Loss Rules
Can the IRS Collect Unpaid Estate Tax From the Beneficiaries?
Sale of the Personal Residence After Death
More Recent Developments in Agricultural Law
Thrills with Wills – When is a Will “Unduly Influenced”?
Heirs Liable for Unpaid Federal Estate Tax 28 Years After Death
What’s the Best Entity Structure for the Farm or Ranch Business?
Where Does Life Insurance Fit in an Estate Plan for a Farmer or Rancher?
Recent Developments in Farm and Ranch Business Planning
Wayfair Does Not Mean That a State Can Always Tax a Trust Beneficiary
ESOPs and Ag Businesses – Part One
https://lawprofessors.typepad.com/agriculturallaw/2019/07/esops-and-ag-businesses-part-one.html
Issues in Estate Planning – Agents, Promises, and Trustees
The Importance of Income Tax Basis “Step-Up” at Death
Ag Law in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/11/ag-law-in-the-courts.html
Co-Tenancy or Joint Tenancy – Does it Really Matter?
Year-End Legislation Contains Tax Extenders, Repealers, and Modifications to Retirement Provisions
INCOME TAX
Top 10 Developments in Ag Law and Tax for 2018 – Numbers 10 and 9
Top Ten Agricultural Law and Tax Developments of 2018 – Numbers 6, 5, and 4
Top Ten Agricultural Law and Tax Developments of 2018 – Numbers 3, 2, and 1
Tax Filing Season Update and Summer Seminar!
QBID Final Regulations on Aggregation and Rents – The Meaning for Farm and Ranch Businesses
The QBID Final Regulations – The “Rest of the Story”
Can a State Tax a Trust with No Contact with the State?
Tax Matters – Where Are We Now?
https://lawprofessors.typepad.com/agriculturallaw/2019/02/tax-matters-where-are-we-now.html
New Developments on Exclusion of Employer-Provided Meals
Valuing Non-Cash Charitable Gifts
https://lawprofessors.typepad.com/agriculturallaw/2019/03/valuing-non-cash-charitable-gifts.html
Passive Losses and Material Participation
Passive Losses and Real Estate Professionals
Developments in Agricultural Law and Taxation
Real Estate Professionals and Aggregation – The Passive Loss Rules
Sale of the Personal Residence After Death
Cost Segregation Study – Do You Need One for Your Farm?
Cost Segregation – Risk and Benefits
https://lawprofessors.typepad.com/agriculturallaw/2019/04/cost-segregation-risks-and-benefits.html
Permanent Conservation Easement Donation Transactions Find Their Way to the IRS “Dirty Dozen” List
Self-Rentals and the Passive Loss Rules
More on Self-Rentals
https://lawprofessors.typepad.com/agriculturallaw/2019/04/more-on-self-rentals.html
Of Black-Holes, Tax Refunds, and Statutory Construction
What Happened in Tax During Tax Season?
Cost Segregation and the Recapture Issue
S.E. Tax and Contract Production Income
https://lawprofessors.typepad.com/agriculturallaw/2019/06/se-tax-and-contract-production-income.html
Recent Developments in Farm and Ranch Business Planning
Ag Cooperatives and the QBID – Initial Guidance
Wayfair Does Not Mean That a State Can Always Tax a Trust Beneficiary
Start Me Up! – Tax Treatment of Start-Up Expenses
More on Real Estate Exchanges
https://lawprofessors.typepad.com/agriculturallaw/2019/07/more-on-real-estate-exchanges.html
2019 Tax Planning for Midwest/Great Plains Farmers and Ranchers
Tax Treatment of Settlements and Court Judgments
ESOPs and Ag Businesses – Part One
https://lawprofessors.typepad.com/agriculturallaw/2019/07/esops-and-ag-businesses-part-one.html
Tax “Math” on Jury Verdicts
https://lawprofessors.typepad.com/agriculturallaw/2019/07/tax-math-on-jury-verdicts.html
Kansas Revenue Department Takes Aggressive Position Against Remote Sellers
Tax-Deferred Exchanges and Conservation Easements
Proper Handling of Breeding Fees
https://lawprofessors.typepad.com/agriculturallaw/2019/08/proper-handling-of-breeding-fees.html
Proper Tax Reporting of Commodity Wages
Tax Consequences of Forgiving Installment Payment Debt
Are Taxes Dischargeable in Bankruptcy?
https://lawprofessors.typepad.com/agriculturallaw/2019/09/are-taxes-dischargeable-in-bankruptcy.html
Ag Law and Tax in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/09/ag-law-and-tax-in-the-courts.html
Refund Claim Relief Due to Financial Disability
Shareholder Loans and S Corporation Stock Basis
The Family Limited Partnership – Part Two
Hobby Losses Post-2017 and Pre-2026 – The Importance of Establishing a Profit Motive
The Importance of Income Tax Basis “Step-Up” at Death
Bad Debt Deduction
https://lawprofessors.typepad.com/agriculturallaw/2019/10/bad-debt-deduction.html
More on Cost Depletion – Bonus Payments
https://lawprofessors.typepad.com/agriculturallaw/2019/10/more-on-cost-depletion-bonus-payments.html
Recapture – A Dirty Word in the Tax Code Lingo
Does the Sale of Farmland Trigger Net Investment Income Tax?
Are Director Fees Subject to Self-Employment Tax?
Are Windbreaks Depreciable?
https://lawprofessors.typepad.com/agriculturallaw/2019/11/are-windbreaks-depreciable.html
Tax Issues Associated with Restructuring Credit Lines
Is a Tenancy-in-Common Interest Eligible for Like-Kind Exchange Treatment?
Year-End Legislation Contains Tax Extenders, Repealers, and Modifications to Retirement Provisions
The “Almost Top Ten” Ag Law and Ag Tax Developments of 2019
INSURANCE
Prevented Planting Payments – Potential Legal Issues?
Ag Law in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/11/ag-law-in-the-courts.html
REAL PROPERTY
Negotiating Cell/Wireless Tower Agreements
Selected Recent Cases Involving Agricultural Law
The Accommodation Doctrine – More Court Action
Defects in Real Estate Deeds – Will Time Cure All?
Is there a Common-Law Right to Hunt (and Fish) Your Own Land?
Legal Issues Associated with Abandoned Railways
Public Trust vs. Private Rights – Where’s the Line?
Ag in the Courtroom
https://lawprofessors.typepad.com/agriculturallaw/2019/07/ag-in-the-courtroom.html
More on Real Estate Exchanges
https://lawprofessors.typepad.com/agriculturallaw/2019/07/more-on-real-estate-exchanges.html
How Does the Rule Against Perpetuities Apply in the Oil and Gas Context?
Ag Law in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/10/ag-law-in-the-courts.html
Cost Depletion of Minerals
https://lawprofessors.typepad.com/agriculturallaw/2019/10/cost-depletion-of-minerals.html
Co-Tenancy or Joint Tenancy – Does it Really Matter?
“Slip Slidin’ Away” – The Right of Lateral and Subjacent Support
Is a Tenancy-in-Common Interest Eligible for Like-Kind Exchange Treatment?
REGULATORY LAW
Top 10 Developments in Ag Law and Tax for 2018 – Numbers 10 and 9
Top Ten Agricultural Law and Tax Developments of 2018 – Numbers 6, 5, and 4
Top Ten Agricultural Law and Tax Developments of 2018 – Numbers 3, 2, and 1
Is There a Common-Law Right to Hunt (and Fish) Your Own Land?
Packers and Stockyards Act – Basic Provisions
Packers and Stockyards Act Provisions for Unpaid Cash Sellers of Livestock
More Recent Developments in Agricultural Law
Ag Antitrust – Is There a Crack in the Wall of the “Mighty-Mighty” (Illinois) Brick House?
Can Foreign Persons/Entities Own U.S. Agricultural Land?
Prevented Planting Payments – Potential Legal Issues?
Eminent Domain and Agriculture
https://lawprofessors.typepad.com/agriculturallaw/2019/06/eminent-domain-and-agriculture.html
Classification of Seasonal Ag Workers – Why It Matters
Administrative Agency Deference – Little Help for Ag From the Supreme Court
Regulation of Food Products
https://lawprofessors.typepad.com/agriculturallaw/2019/07/regulation-of-food-products.html
Ag Legal Issues in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/08/ag-legal-issues-in-the-courts.html
Kansas Revenue Department Takes Aggressive Position Against Remote Sellers
Court Decision Illustrates USDA’s Swampbuster “Incompetence”
Ag Law and Tax in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/09/ag-law-and-tax-in-the-courts.html
Regulatory Takings – Pursuing a Remedy
https://lawprofessors.typepad.com/agriculturallaw/2019/10/regulatory-takings-pursuing-a-remedy.html
The “Almost Top Ten” Ag Law and Ag Tax Developments of 2019
SECURED TRANSACTIONS
Market Facilitation Program Pledged as Collateral – What are the Rights of a Lender?
SEMINARS AND CONFERENCES
Summer 2019 Farm and Ranch Tax and Estate/Business Planning Seminar
2019 National Ag Tax/Estate and Business Planning Conference in Steamboat Springs!
Summer Tax and Estate Planning Seminar!
2020 National Summer Ag Income Tax/Estate and Business Planning Seminar
Fall Seminars
https://lawprofessors.typepad.com/agriculturallaw/2019/08/fall-seminars.html
WATER LAW
The Accommodation Doctrine – More Court Action
Ag Legal Issues in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/08/ag-legal-issues-in-the-courts.html
Ag Law in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2019/10/ag-law-in-the-courts.html
Regulating Existing Water Rights – How Far Can State Government Go?
The Politics of Prior Appropriation – Is a Senior Right Really Senior?
Changing Water Right Usage
https://lawprofessors.typepad.com/agriculturallaw/2019/12/changing-water-right-usage.html
February 28, 2021 in Bankruptcy, Business Planning, Civil Liabilities, Contracts, Cooperatives, Criminal Liabilities, Environmental Law, Estate Planning, Income Tax, Insurance, Real Property, Regulatory Law, Secured Transactions, Water Law | Permalink | Comments (0)
Wednesday, February 10, 2021
Where’s the Line Between Start-Up Expenses, the Conduct of a Trade or Business and Profit Motive?
Overview
January 27’s article dealt with the deductibility of start-up costs. You may read the post here: https://lawprofessors.typepad.com/agriculturallaw/2021/01/deducting-start-up-costs-when-does-the-business-activity-begin.html In that article, I noted that start -up costs can be deducted by election in the year the business begins – at least to an extent. Of course, businesses that are starting out often incur tax losses. The business activity may eventually turn a profit, but how long can a business activity incur losses before the IRS says the business activity is really a hobby and denies loss deductibility. Start-up expenses; whether a trade or business activity is involved; when when a business activity begins; and how long losses can be sustained and not be deemed to be a hobby – these are all intertwined issues for new business activities. In addition, if an activity is deemed to be a hobby, the impact of the Tax Cuts and Jobs Act TCJA) for tax years beginning after 2017 is harsh.
Taking another look at tax issues encountered by many new business activities – it’s the topic of today’s post.
Tax Code Rules
For a business expense to be deductible, it generally must be “ordinary and necessary” or be an investment expense. I.R.C. §§162; 212. Investment-related deductions under I.R.C. §212 have largely been eliminated by the TCJA. That puts the emphasis on deductions to be tied to a trade or business activity so that they can be deducted under I.R.C. §162. The trade or business must be conducted with a profit intent. If not, the activity is deemed to be a hobby and associated losses are “hobby losses.”
What is a “hobby”? A “hobby” under the Code is defined in terms of what it is not. I.R.C. §183. A hobby activity is essentially defined as any activity that a taxpayer conducts other than those for which deductions are allowed for expenses incurred in carrying on a trade or business or producing income. I.R.C. §§162; 212. The determination of whether any particular activity is a hobby activity or not is based on the facts and circumstances of each situation. It’s a highly subjective determination.
But the Code provides a safe harbor. I.R.C. §183(d). Under the safe harbor, an activity that doesn’t involve horse racing, breeding or showing must show a profit for three of the last five years, ending with the tax year in question. It’s two out of the last seven years for horse-related activities. If the safe harbor is satisfied (either for horse activities or other activities, a presumption arises that the activity is not a hobby. The safe harbor applies only for the third (or second) profitable year and all subsequent years within a five-year (or seven-year) safe-harbor period that begins with the first profitable year. Treas. Reg. §1.183-1(c).
What about losses in early years? As noted above, the safe harbor applies only after a taxpayer incurs a third profitable year within the five-year testing period. That means that only loss years arising after that time (and within the five-year period) are protected. Losses incurred in the first several years are not protected under the safe harbor. It makes no difference whether the activity turns a profit in later years.
Postponing the safe harbor. It is possible to postpone the application of the safe harbor until the close of the fourth tax year (or sixth (for horse activities) after the tax year the activity begins. I.R.C. §183(e). This is accomplished by making an election via Form 5213 to allow losses incurred during the five-year period to be reported on Schedule C. Thus, if the activity shows a profit for three or more of the five years, the activity is presumed to not be a hobby for the full five-year period. The downside risk of the election occurs if the taxpayer fails to show a profit for at least three of the five years. If that happens, a major tax deficiency could occur for all of the years involved. Thus, filing Form 5213 should not be made without thoughtful consideration. For example, while the election provides more time to establish that an activity is conducted with a profit intent, it will also put the IRS on notice that an activity may be conducted without a profit intent. It also extends the statute of limitations for a tax deficiency (and refund claims) associated with the activity. See, e.g., Wadlow v. Comr., 112 T.C. 247 (1999).
The burden of proof. Satisfaction of the safe harbor shifts the burden to prove that the activity is a hobby (i.e., lacks a profit motive) to the IRS. That means that the IRS can rebut the for-profit presumption even if the safe harbor is satisfied – although it doesn’t tend to do so without extenuating circumstances. If the presumption does not resolve the issue of whether a farm is being operated for pleasure or recreation and not as a commercial enterprise, a determination must be made as to whether the taxpayer was conducting the activity with the primary purpose and intention of realizing a profit. The expectation of profit need not be reasonable, but there must be an actual and honest profit objective. Whether the requisite intention to make a profit is present is determined by the facts and circumstances of each case with the burden of proof on the farmer or rancher attempting to deduct the losses. See, e.g., Ryberg v. Comm’r, T.C. Sum. Op. 2012-24.
To assist in making this determination, the IRS has developed nine factors (which are contained in the Treasury Regulations) to be examined in determining whether the requisite profit motive exists. Treas. Reg. § 1.183-2(b). Those factors are: 1) the manner in which the taxpayer carries on the activity; 2) the taxpayer’s own expertise or the expertise of the taxpayer’s adviser(s); 3) the time and effort the taxpayer expends on the activity; 4) the expectation that assets used in the activity may appreciate in value; 5) the taxpayer’s success in carrying on similar activities; 6) the taxpayer’s history of income or loss with respect to the activity; 7) the amount of occasional profits, if any, from the activity; 8) the taxpayer’s financial status; and 9) whether there were any elements of personal pleasure or recreation that the taxpayer derived from the activity.
Showing a Profit Intent - Recent Case
While the IRS is presently not aggressively auditing farming activities that it believes are not conducted with the requisite profit intent. Just a few days ago, the Tax Court decided a hobby loss case where the taxpayer failed to clear the bar on showing a profit intent for the farming activity that he was attempting to start.
In Whatley v. Comr., T.C. Memo. 2021-11, the petitioner had retired from the banking industry. Before he retired, in 2003 he purchased a 156-acre tract that had been a timber farm and cattle operation for 350,000. 134 acres of the tract was timber. It was not an active timber or farming operation when he bought it, but was in the Conservation Reserve Program (CRP). In 2004, he bought an additional 26 contiguous acres. That tract had a new (built in 2000) home on it along with a barn and a small caretaker’s house. On the advice of his long-time CPA, the petitioner created an LLC in 2004. He owned 97 percent of the LLC, his wife was a one percent owner, and their children owned the balance. He never transferred the land to the LLC.
For several years, he spent about 700 hours annually maintaining the property without any formal business plan. There was no timber harvesting because of the land being in the CRP. The petitioner would occasionally “thin” the trees to allow sunlight to get through to aid the growth of pine trees which would be harvested after many years of growth. The petitioner testified that he had wanted to introduce cattle “from day one.” He had consulted with two cattle experts for advice, but he couldn’t remember when the consultations had occurred or what he had learned from those experts. In reality, however, the petitioner didn’t actually have cattle on the property until at least 2008 – soon after he learned that he was going to be audited. He also testified that many of what he claimed to be cattle-related activities were really preparatory activities so that cattle could be on the property at some future date. Those preparatory activities included the installation of fencing and barn repairs.
He ran the LLC very informally, keeping no traditional accounting records such as ledgers, balance sheets, income statements, or cashflow statements. He didn’t expense the cost of insurance for the property and didn’t maintain a separate bank account or any separate banking records during the years at issue. For those years, the petitioner filed Form 1065 (partnership return) stating that the LLC’s principal business activity was a “Farm” and the principal product or service was “Cattle.” This was also how the activity was characterized on the petitioner’s Schedule F. The petitioner’s tax returns were professionally prepared by the petitioner’s CPA even though the petitioner had a “cattle farm” with no cattle, and a “tree farm” with no timber. He showed a tax loss from the property for tax years 2004-2008 on Schedule F, with the losses stemming largely from depreciation claimed on two buildings on the property.
The IRS notified the petitioner in early 2008 that it was going to audit the LLC for tax year 2005. Upon receiving the audit notice, the petitioner put together a forest management plan and brought cattle to the property. The IRS later expanded the audit to include tax years 2004 and 2006-2008. The IRS disallowed the losses on the basis that the petitioner’s activity on the land was not engaged in with a profit intent. The IRS also disallowed a large charitable deduction for the petitioner’s deduction of a permanent conservation easement.
The Tax Court agreed with the IRS, finding that all nine factors of the I.R.C. §183 regulations favored the IRS. This was despite the Tax Court’s recognition that the facts suggested that the petitioner was attempting to transform the property into a viable farming business.
TCJA Change
The TCJA suspends miscellaneous itemized deductions for years 2018-2025. Thus, deductions for expenses from an activity that is determined to be a hobby are not allowed in any amount for that timeframe. I.R.C. §67(g). But all of the income from the activity must be recognized in adjusted gross income. That’s painful, and it points out the importance of establishing the requisite profit intent.
Conclusion
Hobby activities involving agricultural activities (especially those involving horses) have been on the IRS radar for quite some time. That’s not expected to change. It’s also an issue that some states are rather aggressive in policing. See, e.g., Howard v. Department of Revenue, No. TC-MD 160377R, 2018 Ore. Tax LEXIS 35 (Ore. Tax Ct. Mar. 16, 2018); Feola v. Oregon Department of Revenue, No. TC-MD 160081N, 2018 Ore. Tax. LEXIS 48 (Ore. Tax. Ct. Mar. 27, 2018). It’s also not an issue that the U.S. Supreme Court is likely to review if the taxpayer receives an unfavorable opinion at the U.S. Circuit Court of Appeals level. See, e.g., Hylton v. Comr., T.C. Memo. 2016-234, aff’d., No. 17-1776, 2018 U.S. App. LEXIS 35001 (4th Cir. 2018), cert. den., No. 18-789, 2019 U.S. LEXIS 966 (U.S. Sup. Ct. Feb. 19, 2019).
Clearly, the petitioner’s CPA did Whatley did him no favors. The tax planning and counsel was egregious. Equally clear, however, was that the petitioner in Whatley was engaged in activities with the intent of ultimately conducting an operating farm. But does that ultimate end-goal of an activity matter? Given the nine-factor approach of the regulations, it appears that the IRS could swoop in with a well-timed audit and wipe out what would otherwise be legitimate business expenses. Should a broader, more long-term view of new business activities be undertaken to evaluate whether a profit intent is present? In other words, is there a better way to evaluate alleged hobby activities than the present nine-factor approach? The U.S. Court of Appeals for the Seventh Circuit certainly thinks so. In Roberts v. Comr., 820 F.3d 247 (7th Cir. 2016), the court called the nine-factor text “goofy” and took issue with start-up expenses being denied as hobby loss expenses. The Whatley case is appealable to the Eleventh Circuit.
For now, the nine-factor test of the regulations is what is used to determined profit intent and whether the hobby loss rules apply. As noted, at least one U.S. Circuit Court of Appeals is dissatisfied with the nine-factors. Will another Circuit follow suit? Only time will tell whether the nine-factor test has outlived its usefulness.
February 10, 2021 in Income Tax | Permalink | Comments (0)
Monday, February 8, 2021
C Corporate Tax Planning; Management Fees and Reasonable Compensation - A Roadmap of What Not to Do
Overview
A recent U.S. Tax Court decision is instructive on how carelessness in tax planning with respect to a C corporation can prove to be costly. Maintaining detailed books and records; properly invoicing for services rendered to the corporation; carefully planning for and specifying how management fees are to be set and compensated; and paying reasonable compensation are all key components to how a C corporation should be operated. But, when those aspects of C corporate operational life are not observed, a bad tax outcome is the result. A recent U.S. Tax Court opinion makes that point clear.
Key aspects of operating a C corporation and the perils of sloppiness – it’s the focus of today’s post.
Corporate Deductions
Treas. Reg. §1.162-7(a) allows a deduction for ordinary and necessary business expenses that are paid or incurred in carrying on a trade or business. See also I.R.C. §162(a)(1). This includes a reasonable allowance for salaries or other compensation for personal services that are actually rendered to the corporation. Treas. Reg. §1.162-7(a). That’s a key point in the C (and S) corporation context – compensation must be “reasonable” to be deductible. Management fees must meet also meet the ordinary and necessary test. They are part of overall compensation and, overall, compensation must be reasonable – an amount that would typically be paid for similar services by similar businesses under similar circumstances. The reasonableness test is applied on an individual-by-individual basis rather than whether, for instance, the total compensation to a group of shareholders is reasonable. In addition, payment must be for actual services. It must not be a distribution to the shareholders that is disguised as deductible compensation.
Deducting management fees. The issue of whether compensation is deductible as payment for services rendered to the corporation is a particular sticky one when the corporation doesn’t have very many shareholders. In that instance, the courts tend to view the situation lending itself to a greater probability that there is a lack of bargaining at arms’ length between the employees (e.g., shareholders) and the corporate board. The tendency, at least in the view of the IRS is that “management fees” are not really paid purely for services rendered to the corporation. But, the analysis is based on a facts and circumstances test containing multiple factors – the corporation’s history of distributions to the holders of the corporate equity; whether the management fee paid to a shareholder is proportional to that shareholder’s percentage interest in the corporation; whether the services performed were via the shareholder’s controlled entity and the fee was paid to the shareholder; whether the management fee was negotiated at the beginning of the tax year and paid throughout the year as services were performed; the level of corporate taxable income after deducting management fees that were paid out; whether there was a structure in place for determining the level of management fees.
Recent Tax Court Case
In Aspro, Inc. v. Comr., T.C. Memo. 2021-8, the petitioner was a C corporation in the asphalt paving business incorporated under Iowa law with its principal place of business in Iowa. The petitioner had three shareholders and did not declare or distribute any dividends to them during the tax years in issue (2012-2014) or in any prior year. This was despite the petitioner having significant profits before setting management fees. Thus, the shareholders didn’t receive any return on their equity investment. The petitioner did not enter into any written management or consulting services agreements with any of its shareholders. Also, there was no management fee rate or billing structure negotiated or agreed to between the shareholders and the petitioner at the beginning of any of the years in issue.
None of the shareholders invoiced or billed the petitioner for any services provided indirectly via other legal entities that the shareholders controlled. Instead, the petitioner’s Board of Directors would approve the management fees to be paid to the shareholders at a board meeting later in the tax year, when the Board had a better idea how the company was going to perform and how much earnings the company should retain. However, the Board minutes did not reflect how the determinations were made. The Board did not attempt to value or quantify any of the services performed on its behalf and simply approved a lump-sum management fee for each shareholder for each year. The amounts were not determined after considering the services performed and their values. There was no correlation between management fees paid and services rendered. In total, the shareholders received management fees exceeding $1 million every year for the years in issue. The management fees were simply paid after-the-fact in an attempt to zero-out the petitioner’s taxable income.
The IRS completely denied the petitioner’s claimed deductions for management fees (and amounts the petitioner claimed for the domestic production activities deduction) for the years in issue. The Tax Court upheld the IRS position denying the deductions.
The Tax Court determined that the petitioner failed to prove that the management fees were ordinary and necessary business expenses and reasonable in accordance with Treas. Reg. §1.162-7. Based on the facts and circumstances, the Tax Court concluded that the absence of the dividend payments where the petitioner had available profits created an inference that at least some of the compensation represented a distribution with respect to corporate stock. While the management fees loosely corresponded to each shareholder’s percentage interest, the Tax Court inferred that the shareholders were receiving disguised distributions based on each shareholder’s equity interest.
As for the services rendered to the corporation via the shareholders’ controlled entities, the Tax Court noted that if the services were to be compensated, the petitioner should have invoiced directly for the services. The services, as a result, did not provide even indirect support for the management fees the petitioner paid to its shareholders.
The Tax Court also noted that the management fees were not established in advance for services to be provided and there was no management agreement that evidenced any type of arms’ length negotiation to support a fee structure that the parties bargained for. The shareholders also could not explain how the management fees were determined, and the corporate President (and one of petitioner’s Board members) displayed a misunderstanding of the nature of deductible management fees and stock distributions.
The Tax Court also pointed out that the effect of the deduction for management fees was to create little taxable income to the petitioner. That, the Tax Court believed, indicated that the fees were disguised distributions. The Tax Court further determined that the petitioner’s President rendered no services to the petitioner other than being the president and, as such was already overcompensated by his base salary and bonus totaling approximately $500,000 annually. Thus, the additional management fee was completely unreasonable as to him.
Reasonable Compensation
As noted above, to be deductible, compensation in the corporate context must be “reasonable.” For starters, that means that the corporation must establish the connection between the services that are performed and the compensation (including management fees) that are paid. In AsPro, Inc., the corporation didn’t meet that burden. In Aspro, Inc., the Tax Court looked at numerous factors to determine reasonableness – the employee’s qualifications; the work performed for the corporation; the size of the corporation and the complexity of business operations; how salaries compare to corporate gross and net income; general economic conditions in the corporation’s industry; how compensation to the shareholders stacked-up against corporate distributions to those same shareholders; whether the compensation packages for the shareholders was comparable positions in similar businesses; overall salary policy; and past compensation history.
The Tax Court also noted that some of the U.S. Circuit Courts of Appeal don’t analyze the issue of reasonable compensation based on multiple factors, but rather the amount of compensation an independent investor would pay. The Circuit Court to which Aspro Inc. would be appealable has not settled on the approach it would use to determine reasonable compensation in the corporate context.
Conclusion
The Aspro, Inc. case is a textbook roadmap case of how to screw up C corporate tax planning. There was no detailed, thought-out plan backing up the management fees, no clarity or documentation of what services were rendered and how frequently they were rendered, and no substantiation of whether the services were necessary to be paid for in the petitioner’s industry. There was no management agreement that listed the services to be provided by each contracting party, and no documentation of the level of pay for those services.
The complete lack of planning and associated documentation in Aspro, Inc. resulted in a tax bill exceeding $1.5 million, plus interest.
Truly a roadmap for disaster.
February 8, 2021 in Business Planning, Income Tax | Permalink | Comments (0)
Monday, February 1, 2021
What Now? – Part One
Overview
The title of today’s article seems to be on the minds of many farmers and ranchers in recent days with the beginning of a new Congress and the inauguration of Joe Biden. I have had many emails, phone calls and conferences with farm families recently that are asking what the impact of tax changes on their businesses and livelihoods might be. Are structural changes in the form of the farming business required? Should existing estate plans be reviewed? What income tax moves should be made? Should capital assets be sold now? These are important questions.
Today’s article is Part One of a two-part series on tax changes that might be forthcoming soon and what the changes could mean. Today, I take a look at possible changes in the income tax world. In Part Two later this week, I will examine what might happen on the estate planning side of the equation.
Federal Income Taxation Possible Changes
While there is no definite proposed tax bill(s) yet, and no detailed articulation of possible tax legislation has clearly been offered, there were things that candidate-Biden’s people placed on his website before the election.
Increase in the maximum ordinary and capital gain tax rates. It now appears possible that the top individual federal income tax rate on ordinary income (as well as net short-term capital gains) could return to a 39.6 percent rate, up from the present 37 percent rate. Comments were also made that rates on individuals with income (taxable?) above $400,000 would also be increased. If true, then a married couple filing jointly that is presently in the 32 percent bracket could see a rate increase. But, again, it’s not clear whether the $400,000 figure is for a married couple filing jointly or for a single person, or whether the threshold refers to gross or taxable income.
Itemized deductions. There are a couple of key possibilities to watch with respect to itemized deductions. Starting in 2018, many itemized deductions were eliminated but, in return, the standard deduction was essentially doubled. For lower-income individuals this represented a major tax break and tax simplification. Now, a new policy may reduce the standard deduction to prior levels with a restoration of itemized deductions (for taxpayers that itemize deductions). The tax benefit of itemized deductions (including charitable deductions and those stemming from a contribution to a pension plan) would appear to be limited to 28 percent for higher-income taxpayers (however that is defined). Thus, a dollar of itemized deduction would only cut the tax bill by $.28. A taxpayer in a tax bracket higher than 28 percent would not see a benefit of an itemized deduction any greater than 28 percent on the dollar.
The so-called “Pease limitation” was repealed for tax years beginning after 2017. It operated as a “stealth” tax on higher-income taxpayers. Before it was repealed, it reduced the value of a taxpayer’s itemized deductions by three percent for every dollar of taxable income above a certain threshold – effectively increasing the taxpayer’s marginal tax rate. The “buzz” is that the Pease limitation would be put back in place.
As a hat-tip to taxpayers (e.g., voters) in the high-tax states such as California, Illinois and New York, a pre-election policy position indicates that the limit on the deduction for state and local taxes would be removed. This would be a significant benefit for higher income taxpayers.
Capital gains. It is likely that a legislative push will be made to increase the capital gain rates on higher-income individuals. The present top rate on long-term capital gains is 20 percent. Thanks to a provision included in Obamacare (adding I.R.C. §1411) that 20 percent rate jumps to 23.8 percent if the gain is passive for married taxpayers filing jointly with modified adjusted gross income exceeding $250,000 ($200,000 for a single filer). It appears likely that a legislative proposal will include a provision taxing net long-term gains and dividends at the ordinary income rate for taxpayers with income (taxable?) over $1 million. If the gain is passive, the effective rate would jump to a combined 43.4 percent. That would amount to a tax increase of 82.4 percent on such gains.
Observation. Coupled with state-level taxation of capital gains, the effective rate could exceed 50 percent.
If capital gain rates increase, that could create a greater incentive to use charitable remainder trusts (CRT). A CRT is funded by the transfer of property from the donor. There is no tax on the transfer of the property to the CRT. The CRT then sells the property tax-free and uses the proceeds to annually pay the beneficiary (typically the donor) a percentage of the market value of the trust. The annual distribution comes first from the trust’s net income and then from principal. The distributions to a non-charitable beneficiary are taxable annually as ordinary income to the extent there is net income to the CRT. The remainder of the distribution is taxable as capital gain to the extent there is accumulated short and long-term capital gain to the CRT calculated using the donor’s carryover tax basis. If the distributions to the beneficiary are larger than the net income and accumulated capital gain of the CRT, the difference is not taxable to the beneficiary. If a “net income with make-up provisions” CRT is used, it might be possible to delay distributions to a time (up to 20 years) when capital gain and ordinary tax rates are lower. But, of course, future rates are unknown.
An intentionally non-grantor trust might also be advisable to avoid an increase in the capital gains tax as well as state income tax (except for New York). These trusts are very complex and usually work well for large estates in tandem with the high-level (currently) of the federal estate tax exemption. They became popular after the tax changes that went into effect for tax years beginning after 2017, but could still have merit to avoid a higher capital gains rate and state income tax.
Self-employment tax. Presently, for 2021, an employee pays a combined rate of 7.65 percent for Social Security and Medicare. The OASDI portion is 6.2 percent on earnings up to $142,800. The Medicare portion (hospitalization insurance) is 1.45 percent on all earnings. The rate for self-employed persons is the full combined 15.3 percent up to the $142,800 base. Also, persons with earned income over $200,000 ($250,000 for MFJ) pay an additional 0.9 percent in Medicare taxes due to another provision in included in Obamacare. Thus, for a self-employed person, the rate is 2.9 percent from $142,800 to $200,000 ($250,000 mfj) and then 3.8 percent above those thresholds.
What looks likely to be proposed is that the 12.4 percent OASDI portion would apply to wages and net self-employment income in excess of $400,000. Whether this is in addition to the existing 3.8 percent tax on incomes at this level or would be the total percentage amount is not clear.
Observation. Clearly, if these self-employment tax changes occur, it will incentivize the creation of or conversion of existing entities to S corporations. Doing so will allow some of the earnings to be received in the form of a salary (subject to self-employment tax) with the balance taken as S corporation dividends (not subject to self-employment tax). The salary must approximate “reasonable compensation” (I have written a blog article on that issue in the past), but utilizing an S corporation is a good technique (as a rule of thumb) when at least $10,000 of self-employment tax savings can be achieved over other entity forms (including a sole proprietorship). One concern, of course, would be if the Congress were to eliminate the self-employment tax savings of an S corporation for businesses that provide personal services.
Credits. One possible proposal is an increase in the child tax credit to $4,000 for a qualifying child ($8,000 for two or more qualifying children). Apparently, the credit would remain refundable and would start phasing out at income levels above $125,000. A new credit (refundable?) could be proposed for certain caregivers.
Eligible first-time homebuyers might receive a refundable tax credit of up to $15,000 upon the purchase of a home. Low-income renters could see a refundable tax credit designed to reduce the cost of rent and associated utilities to no more than 30 percent of monthly income. Such a provision would be a variation of state-level tax credits for tenants of residential properties that exist in about half of the states.
Other credits can be anticipated to benefit less efficient and more costly forms of energy, while simultaneously reducing or eliminating standard business deductions for the oil and gas industry.
Real estate-related activities. What I have seen are discussions about: (1) eliminating the $25,000 deduction for losses related to real estate activities where the taxpayer actively participates in the activity but falls short of material participation (I.R.C. §469(i)): (2) eliminating the like-kind exchange rules for real estate trades; slowing down depreciation for certain types of business property; and eliminating the 20 percent qualified business income deduction of I.R.C. §199A for rental real estate activities. Related to this last point, there are rumblings that the I.R.C. §199A deduction could be eliminated in its entirety. For many small businesses, that would amount to a effective tax rate increase ranging between three and five percent.
Convert to a Roth? Should a taxpayer move funds from a traditional IRA to a Roth? The answer, as is the case with many tax-related questions, is that it “depends.” If tax rates are expected to be higher in the future, it may make tax-sense to make the conversion and pay the tax on the conversion at what is anticipated to be now-lower rates. But other considerations should be made. What about the impact of state-level taxes? What about the impact of the loss of ability to stretch the payout with respect to certain beneficiaries? Will there be an impact on various ways to offset income with a Roth, such as charitable donations? Will Medicare premiums be impacted? What happens if Social Security benefits have already started to be received? These are some of the considerations that need to be made when considering converting a traditional IRA to a Roth.
Corporate tax. It is likely that a legislative tax proposal will increase the corporate tax rate by 33 percent, from its present 21 percent to 28 percent, and restore the alternative minimum tax on corporations above a threshold of annual income.
Retroactive Tax Increase?
If and when tax changes occur, when will they be effective? Retroactive tax changes create complexity, but can be legal. As for complexity, estimated taxes and withholding are based on the law in existence at the time of payment. If the law changes retroactively, those “pre-paid” taxes now must be recomputed. To be legal, a retroactive tax law change can satisfy the constitutional due process requirement if it is rationally related to a legitimate purpose of government. Given the enormous amount of spending that the Congress engaged in during 2020 to deal with the economic chaos, a "legitimate purpose" could be couched in terms of the “need” to raise revenue. See, e.g., Pension Benefit Guaranty Corporation v. R.A. Gray & Co., 467 U.S. 717 (1984); United States v. Carlton, 512 U.S. 26 (1994); In re Fifield, No. 04-10867, 2005 Bankr. LEXIS 1210 (Bankr. D. Vt. Jun. 20, 2005). That’s even though historic data indicate that government revenues don’t necessarily increase in the long-term from tax increases.
Of course, tax changes that occur on either a retroactive or date of enactment basis make planning impossible.
Conclusion
In Part Two, I will turn my attention to what might happen on the estate planning front.
February 1, 2021 in Income Tax | Permalink | Comments (0)
Wednesday, January 27, 2021
Deducting Start-Up Costs – When Does the Business Activity Begin?
Overview
One effect of the virus of 2020 is that it has spurred business start-ups by people attempting to generate income in new ways and with new methods. That raises an important tax question - when beginning a business, what expenses are deductible? That’s an interesting question not unlike the “chicken and the egg” dilemma. Which came first – the business or the expense? To have deductible business expenses, there must be a business. When did the business begin? That’s a key determination in properly deducting business-related expenses.
Deducting costs associated with starting a business – it's the topic of today’s post.
Categorization – In General
The Code allows deductions for various expenses that are related to a taxpayer’s investments that don’t amount to a business if the expenses are ordinary and necessary for the production or collection of income or are for the management, conservation or maintenance of property held for the production of income. I.R.C. §212.
Once the business begins, all of the ordinary and necessary expenses of operating the business (on a basis that is regular, continuous and substantial) that are paid or incurred during the tax year are deductible. I.R.C. §162. But, business start-up costs are handled differently. I.R.C. §195.
Start-Up Costs
I.R.C. §195(a) generally precludes taxpayers from deducting startup expenditures. However, by election, a taxpayer can deduct business start-up expenses on the return for the year that the business begins. I.R.C. §195(b). The election is irrevocable. Treas. Reg. §1.195-1(b). The deduction is the lesser of the amount of start-up expenses for the active trade or business, or $5,000 reduced (but not below zero) by the amount by which the start-up expenses exceed $50,000. I.R.C. §195(b)(1)(A); I.R.C. §195(b)(1)(A)(i). Once the election is made, the balance of start-up expenses is deducted ratably over 180 months beginning with the month in which the active trade or business begins. I.R.C. §195(b)(1)(B); Treas. Reg. §1.195-1(a). This all means that in the tax year in which the taxpayer’s active trade or business begins, the taxpayer can deduct the $5,000 amount (if that’s the lesser of, etc.) and the ratable portion of any excess start-up costs.
The election is normally made on a timely filed return for the tax year in which the active trade or business begins. However, if the return that year was timely filed without the election, the election can be made on an amended return that is filed within six months of the due date for the return (excluding extensions). The amended return should clearly indicate that the election is being made and should state, “Filed pursuant to section 301.9100-2” at the top of the amended return. Without the election, the start-up costs should be capitalized.
What are start-up expenses? Amounts paid or incurred in connection with creating an active trade or business are startup expenditures. I.R.C. §195(c). More specifically, start-up costs are amounts that the taxpayer pays or incurs for: investigating the creation or acquisition of an active trade or business; creating an active trade or business; or activities that the taxpayer engages in for profit and for the production of income before that day on which the active trade or business begins, in anticipation of the activities becoming an active trade or business, and which would be deductible in the year paid or incurred if in connection with an active trade or business. I.R.C. §§195(c)(1)(A)(i-iii); 195(c)(1)(B). Common types of start-up expenses include advertising costs; salaries and wages; and expenses related to travel. See, e.g., IRS Field Service Advice 789 (1993). But, interest expense, state and local taxes, and research and experimental expenses are not start-up expenses. I.R.C. §195(c)(1).
Start-up expenses are limited to expenses that are capital in nature rather than ordinary. That’s an important point because it means that I.R.C. §195 does not bar the deductibility of ordinary and necessary expenses a taxpayer incurs in an ongoing activity for the production of income under I.R.C. §212. In addition, it makes no difference that the activity is later transformed into a trade or business activity under I.R.C. §162. For example, in Toth v. Comr., 128 T.C. 1 (2007), the taxpayer started operating a horse boarding and training facility for profit in 1998. The activity showed modest profit the first few years, but had really taken off by 2004. For 1998 and 2001, the taxpayer claimed expenses from the activity on Schedule C as ordinary and necessary business expenses deductible in accordance with I.R.C. §162, but she later determined that the expenses should be deducted in accordance with I.R.C. §212 as miscellaneous itemized deduction on Schedule A (which are presently suspended through 2025). However, the IRS took the position that the taxpayer anticipated that the horse activity would become an active trade or business and, as such, her expenses had to be capitalized under I.R.C. §195. The Tax Court agreed with the taxpayer. Start-up expenses, the Tax Court said, were capital in nature rather than ordinary. Thus, once her income producing activity began her expense deductions were not barred by I.R.C. §195. It didn’t matter that the activity later became a trade or business activity under I.R.C. §162.
When does the business begin? A taxpayer cannot deduct or amortize startup expenditures if the activities to which the expenditures relate fail to become an “active trade or business.” See I.R.C. §§195(a), (c). There are no regulations that help define when a trade or business begins, so the question is answered based on the facts and circumstances of a particular situation. To be engaged in a trade or business, a taxpayer must: (1) undertake an activity intending to make a profit, (2) be regularly and actively involved in the activity, and (3) actually have commenced business operations. See, e.g., McManus v. Comr., T.C. Memo. 1987-457, aff’d., 865 F.2d 255 (4th Cir. 1988). In addition, the courts have held that a taxpayer is not engaged in a trade or business “until such time as the business has begun to function as a going concern and performed those activities for which it was organized.” Richmond Television Corp. v. United States, 345 F.2d 901, 907 (4th Cir. 1965), vacated and remanded on other grounds, 382 U.S. 68 (1965). Likewise, an activity doesn’t have to generate sales or other revenue for the business to be deemed to have begun. Cabintaxi Corp. v. Commissioner, 63 F.3d 614, 620 (7th Cir. 1995), aff’g., in part, rev’g. in part, and remanding T.C. Memo. 1994-316; Jackson v. Commissioner, 864 F.2d 1521, 1526 (10th Cir. 1989), aff’g., 86 T.C. 492 (1986). However, merely researching or investigating a potential business is not enough. Dean v. Commissioner, 56 T.C. 895, 902-903 (1971).
Two Tax Court Cases
Recently, the U.S. Tax Court has decided two cases involving the deductibility of start-up costs. In Smith v. Comr., T.C. Sum. Op 2019-12, the Tax Court dealt with I.R.C. §195 and the issue of when the taxpayer’s business began. The Tax Court was convinced that the petitioner had started his vegan food exporting business, noting that the petitioner had been peddling his vegan food products in Jamaica, the Dominican Republic, Brazil Argentina and Columbia. However, he was having trouble getting shelf space. Thus, for the tax year at issue, he showed expenses associated with the activity of about $41,000 and gross sales of slightly over $2,000. The IRS largely disallowed the Schedule C expenses due to lack of documentation and tacked on an accuracy-related penalty. After issuing the statutory notice of deficiency, the IRS said the expenses were not deductible because they were start-up expenditures. Because IRS raised the I.R.C. §195 issue at trial, the IRS bore the burden of proof on the issue. The Tax Court determined that the taxpayer was, based on the facts, engaged in a trade or business. He had secured products to sell, actively marketed those products, attended food shows and other meetings around the Caribbean and South America and had established a network to find potential customers. Thus, I.R.C. §195 did not apply to limit the deduction of the expenses – they would be deductible under I.R.C. §162. Or would they?
To be deductible under I.R.C. §162 as an ordinary and necessary business expense on Schedule C (or Schedule F), the taxpayer must substantiate the expenses. Here’s where the IRS largely prevailed in Smith. The Tax Court determined that the taxpayer had not substantiated his expenses. Thus, the expenses were not deductible beyond (with a small exception) what the IRS allowed. The Tax Court also upheld the accuracy-related penalty.
Earlier this week, in Costello v. Comr., T.C. Memo. 2021-9, the Tax Court addressed the deductibility of start-up costs associated with various farming activities. In the case, the petitioners, a married couple, were residents of California but the wife conducted a farming operation in Mexico for which she reported a net loss on Schedule F for every year from 2007 to 2014. She began raising chickens to sell for meat in 2007, but couldn’t recall selling any of the chickens through 2011 and only had one sale of anything during that timeframe – a $264 loss on the resale of livestock. She then switched to raising chickens for egg production, but soon determined that the venture wouldn’t be profitable due to an increased cost of feed. She then sold what eggs had been produced for $1,068 and switched back to selling chickens for meat in 2012. She didn’t sell any chickens in 2012 or 2013 and her plan to begin selling chickens in 2014 was thwarted when the flock was destroyed by wild dogs. Also, during 2007-2011, she attempted to grow various fruits and vegetables, but the activity was discontinued because the soil was not capable of production due to a nearby salt flat. As a result, she had no sales revenue, only expenses that she deducted. She then tried to grow peppers in 2012, but insects destroyed the crop and there was no marketable production. Later that year, she acquired three cows and three calves in hopes to “make the calves big, sell them, impregnate the mothers…repeat.” She had to sell the cows in 2013 for $4,800 because there was insufficient forage on the 6,500-acre tract. The $4,800 was the only farm activity income reported for 2013. In 2012 and 2013, the taxpayers reported deductible business expenses on their Schedules C and Schedule F, later reaching an agreement with the IRS that the Schedule C expenses should have been reported on Schedule F.
The IRS disallowed the deductions, determining that the wife didn’t conduct a trade or business activity for profit and because the business had not yet started during either 2012 or 2013. The Tax Court agreed with the IRS, concluding that the farming activities never moved beyond experimentation and investigation into an operating business. The Tax Court determined that the overall evidence showed that her activities were still largely pre-operational because she was still planting research crops and the money from the sale of eggs was merely incidental after she had decided to abandon her egg production activity and get into livestock production Accordingly, the expenses were nondeductible startup expenses for the years at issue. In addition, although the Tax Court reasoned that some of the wife’s farming activities could have constituted an active trade or business, costs were not segregated by activity. Also, the there was no itemization of costs or basis in the cattle activity to allow for an estimation of any deductible loss.
Conclusion
When a business is in its early phase, it’s important to determine the proper tax treatment of expenses. It’s also important to determine if and when the business begins. The Tax Cuts and Jobs Act makes this determination even more important. As the recent Tax Court cases indicate, proper documentation and substantiation of expenses is critical to preserve deductibility.
January 27, 2021 in Income Tax | Permalink | Comments (0)
Sunday, January 24, 2021
Recent Happenings in Ag Law and Ag Tax
Overview
The world of agricultural law and taxation is certainly pertinent in the daily lives of farmers and ranchers. In recent days and weeks, the courts have addressed more issues that can make a difference for ag producers. In today’s post, I examine a few of those. Those discussed today involve individual and entity taxation as well as environmental and regulatory issues.
More recent developments in ag law and tax - it’s the topic of today’s post.
Flow-Through Entities Can Deduct State and Local Taxes
IRS Notice 2020-75, applicable to specified income tax payments made on or after November 9, 2020
In a Notice, the IRS has said that taxes that are imposed on and paid by a partnership (or an S corporation) on its income are allowed as a deduction by the partnership (or S corporation) in computing its non-separately stated taxable income or loss for the tax year of payment. They are not passed through to the partners or shareholders, where they would be subject to the $10,000 limitation on state and local tax deductions imposed by the Tax Cuts and Jobs Act effective for tax years beginning after 2017.
The IRS did not set a timetable for the issuance of proposed regulations. The IRS issued the Notice in response to some states enacting laws to allow this type of treatment for partnerships and S corporations. Thus, for a flow-through entity to be able to do this for a partnership or S corporation, state law must provide for pass-through entity level taxation. The Notice won't apply unless state law allows this. Merely allowing a pass-through entity to make withholding tax payments on behalf of the owners will not qualify because those withholding tax payments are treated as payments made by the owners and not as payments in satisfaction of the pass -through entity's tax liability. In addition, entities taking advantage of the Notice will reduce allocable taxable income which will, in turn reduce allocable qualified business income for purposes of I.R.C. §199A and, therefore, the qualified business income deduction.
IRA Distributions Included in Income and Subject to Early Withdrawal Penalty
Ball v. Comr., T.C. Memo. 2020-152
During 2012 and 2013 the petitioner participated in a SEP-IRA. Chase Bank (Chase) was the custodian. In 2012, he took two distributions from the account totaling over $200,000. He had the bank deposit the distributions into a Chase business checking account that he had opened in the name of The Ball Investment Account LLC (Ball LLC), of which he was the sole owner and only member. Importantly, Ball LLC was not a retirement account. The petitioner informed Chase that the distributions were early distributions that were not exempt from tax. The petitioner made real estate loans with the distributed funds. The first loan was repaid in April 2013 with a check payable to "the Ball SEP Account." The funds were deposited into the SEP-IRA account. He paid off the second loan in installments in 2012 and 2013. The payments were made with checks made payable to "the Ball SEP Account.” Chase, as custodian, had no knowledge of or control over the use that Ball LLC made of the distributions that were deposited in the Ball LLC business checking account. Chase also didn’t hold or control any documents related to the loans Ball LLC made. Chase issued the petitioner a Form 1099-R for the 2012 tax year reporting that the petitioner had received taxable distributions from the SEP-IRA of $209,600. While the petitioner reported the distributions on his Form 1040, he did not include them in gross income and reported no tax and no tax liability. The IRS issued a CP2000 Notice stating that the petitioner had failed to report the distributions from Chase Bank and that he therefore owed $67,031 in tax and a substantial-understatement penalty of $13,406. The petitioner did not respond to the Notice, and the IRS then sent him a notice of deficiency that determined the deficiency, additional tax, and penalty due. The Tax Court determined that the petitioner had unfettered control over the distributions, rejecting the petitioner’s “conduit agency arrangement” argument. The Tax Court determined that Ball LLC was not acting as an agent or conduit on behalf of Chase when Ball LLC received and made use of the distributions. The Tax Court noted that Chase had no knowledge of how the distributed funds were used after they were deposited in the Ball LLC account at the petitioner’s direction and that nothing in the record showed that petitioner, who controlled Ball LLC, did not have unfettered control over the distributions. The Tax Court determined that the facts of his case were analogous to those in Vandenbosch v. Comr., T.C. Memo. 2016-29 and, as a result, Ball LLC was not a conduit for Chase. As a result, the IRS position that the distributions should be included in the petitioner’s income was upheld. In addition, the petitioner had not yet reached age 59.5 which meant that he was liable for the 10 percent early distribution penalty. The Tax Court also upheld the accuracy-related penalty.
New ESA Definition of “Habitat”
85 Fed. Reg. 81411 (Dec. 16, 2020), effective, Jan. 15, 2021
In response to the U.S. Supreme Court decision in Weyerhaeuser Co. v. United States Fish and Wildlife Service, 139 S. Ct. 361 (2018), the United States Fish and Wildlife Service (USFWS) has modified the definition of “habitat” for listed species under the Endangered Species Act (ESA). The modification is the first change in the definition since the Endangered Species Act’s (ESA) enactment in 1973. Under Weyerhaeuser, the U.S. Supreme Court held that an area being designated as habitat is a prerequisite for a designation as “critical habitat.” The regulation defines “habitat” as “the abiotic and biotic setting that currently or periodically contains the resources and conditions necessary to support one or more life processes of a species.” Thus, to be “habitat” an area must already contain the conditions necessary to support the species it is intended to be habitat for. Thus, only those areas which include the environmental conditions that can provide benefits to the species at issue (one seeking either a listed or endangered species) will be eligible for critical habitat designation.
Federal Government Must Pay Farmers Millions For Army Corps of Engineers' Mismanagement of Missouri River.
Ideker Farms, Inc. v. United States, No. 14-183L, 2020 U.S. Claims LEXIS 2548 (Fed. Cl. Dec. 14, 2020)
In 2014, 400 farmers along the Missouri River from Kansas to North Dakota sued the federal government claiming that the actions of the U.S. Army Corps of Engineers (COE) led to and caused repeated flooding of their farmland along the Missouri River. The farmers alleged that flooding in 2007-2008, 2010-2011, and 2013-2014 constituted a taking requiring that “just compensation” be paid to them under the Fifth Amendment. The litigation was divided into two phases – liability and just compensation. The liability phase was decided in early 2018 when the court determined that some of the 44 landowners selected as bellwether plaintiffs had established the COE’s liability. In that decision, the court held that the COE, in its attempt to balance flood control and its responsibilities under the Endangered Species Act, had released water from reservoirs “during periods of high river flows with the knowledge that flooding was taking place or likely to soon occur.” The court, in that case, noted that the COE had made other changes after 2004 to reengineer the Missouri River and reestablish more natural environments to facilitate species recovery that caused riverbank destabilization which led to flooding. Ultimately, the court, in the earlier litigation, determined that 28 of the 44 landowners had proven the elements of a takings claim – causation, foreseeability and severity. The claims of the other 16 landowners were dismissed for failure to prove causation. The court also determined that flooding in 2011 could not be tied to the COE’s actions and dismissed the claims for that year.
The present case involved a determination of the plaintiffs’ losses and whether the federal government had a viable defense against the plaintiffs’ claims. The court found that the “increased frequency, severity, and duration of flooding post MRRP [Missouri River Recovery Program] changed the character of the representative tracts of land.” The court also stated that, “ [i]t cannot be the case that land that experiences a new and ongoing pattern of increased flooding does not undergo a change in character.” The court determined that three representative plaintiffs, farming operations in northwest Missouri, southwest Iowa and northeast Kansas, were collectively owed more than $7 million for the devaluation of their land due to the establishment of a “permanent flowage easement” that the COE created which constituted a compensable taking under the Fifth Amendment.
The impact of the court’s ruling means that hundreds of landowners affected by flooding in six states are likely entitled to just compensation for the loss of property value due to the new flood patterns that the COE created as part of its MRRP.
Conclusion
As 2021 unwinds, more issues will occur, many of which will likely involve estate and business entity planning along with income tax planning.
January 24, 2021 in Business Planning, Environmental Law, Income Tax, Regulatory Law | Permalink | Comments (0)
Wednesday, January 20, 2021
Ag Law and Taxation 2020 Bibliography
Overview
Today's post is a bibliography of my ag law and tax blog articles of 2020. Many of you have requested that I provide something like this to make it easier to find the articles. If possible, I will do the same for articles from prior years. The library of content is piling up - I have written more than 500 detailed articles for the blog over the last four and one-half years.
Cataloging the 2020 ag law and tax blog articles - it's the topic of today's post.
BANKRUPTCY
Ag Law and Tax in the Courts – Bankruptcy Debt Discharge; Aerial Application of Chemicals; Start-Up Expenses and Lying as Protected Speech
Unique, But Important Tax Issues – “Claim of Right;” Passive Loss Grouping; and Bankruptcy Taxation
Disaster/Emergency Legislation – Summary of Provisions Related to Loan Relief; Small Business and Bankruptcy
Retirement-Related Provisions of the CARES Act
Farm Bankruptcy – “Stripping, “Claw-Black,” and the Tax Collecting Authorities
SBA Says Farmers in Chapter 12 Ineligible for PPP Loans
The “Cramdown” Interest Rate in Chapter 12 Bankruptcy
Bankruptcy and the Preferential Payment Rule
BUSINESS PLANNING
Partnership Tax Ponderings – Flow-Through and Basis
Farm and Ranch Estate and Business Planning in 2020 (Through 2025)
Transitioning the Farm or Ranch – Stock Redemption
Estate and Business Planning for the Farm and Ranch Family – Use of the LLC (Part 1)
Estate and Business Planning for the Farm and Ranch Family – Use of the LLC (Part 2)
The Use of the LLC for the Farm or Ranch Business – Practical Application
CIVIL LIABILITIES
Top Ten Agricultural Law and Tax Developments from 2019 (Numbers 10 and 9)
Ag Law in the Courts – Feedlots; Dicamba Drift; and Inadvertent Disinheritance
Ag Law and Tax in the Courts – Bankruptcy Debt Discharge; Aerial Application of Chemicals; Start-Up Expenses and Lying as Protected Speech
Dicamba, Peaches and a Defective Ferrari; What’s the Connection?
Liability for Injuries Associated with Horses (and Other Farm Animals)
Issues with Noxious (and Other) Weeds and Seeds
Of Nuisance, Overtime and Firearms – Potpourri of Ag Law Developments
CONTRACTS
The Statute of Frauds and Sales of Goods
Disrupted Economic Activity and Force Majeure – Avoiding Contractual Obligations in Time of Pandemic
Is it a Farm Lease or Not? – And Why it Might Matter
COOPERATIVES
Top Ten Agricultural Law and Tax Developments of 2019 (Numbers 2 and 1)
Concentrated Ag Markets – Possible Producer Response?
CRIMINAL LIABILITIES
Is an Abandoned Farmhouse a “Dwelling”?
https://lawprofessors.typepad.com/agriculturallaw/2020/02/is-an-abandoned-farmhouse-a-dwelling.html
ENVIRONMENTAL LAW
Top Ten Agricultural Law and Tax Developments of 2019 (Numbers 8 and 7)
Top Ten Agricultural Law and Tax Developments of 2019 (Numbers 6 and 5)
Top Ten Agricultural Law and Tax Developments of 2019 (Numbers 4 and 3)
Clean Water Act – Compliance Orders and “Normal Farming Activities”
Groundwater Discharges of “Pollutants” and “Functional Equivalency”
NRCS Highly Erodible Land and Wetlands Conservation Final Rule – Clearer Guidance for Farmers or Erosion of Property Rights? – Part One
NRCS Highly Erodible Land and Wetlands Conservation Final Rule – Clearer Guidance for Farmers or Erosion of Property Rights? – Part Two
NRCS Highly Erodible Land and Wetlands Conservation Final Rule – Clearer Guidance for Farmers or Erosion of Property Rights? – Part Three
The Prior Converted Cropland Exception – More Troubles Ahead?
TMDL Requirements – The EPA’s Federalization of Agriculture
https://lawprofessors.typepad.com/agriculturallaw/2020/10/tmdl-requirements-.html
Eminent Domain and “Seriously Misleading” Financing Statements
ESTATE PLANNING
Ag Law in the Courts – Feedlots; Dicamba Drift; and Inadvertent Disinheritance
Recent Developments Involving Estates and Trusts
What is a “Trade or Business” For Purposes of Installment Payment of Federal Estate Tax?
Alternate Valuation – Useful Estate Tax Valuation Provision
Farm and Ranch Estate and Business Planning in 2020 (Through 2025)
Retirement-Related Provisions of the CARES Act
Are Advances to Children Loans or Gifts?
Tax Issues Associated with Options in Wills and Trusts
Valuing Farm Chattels and Marketing Rights of Farmers
Is it a Gift or Not a Gift? That is the Question
Does a Discretionary Trust Remove Fiduciary Duties a Trustee Owes Beneficiaries?
Can I Write my Own Will? Should I?
https://lawprofessors.typepad.com/agriculturallaw/2020/10/can-i-write-my-own-will-should-i.html
Income Taxation of Trusts – New Regulations
https://lawprofessors.typepad.com/agriculturallaw/2020/10/income-taxation-of-trusts.html
Merging a Revocable Trust at Death with an Estate – Tax Consequences
When is Transferred Property Pulled Back into the Estate at Death? Be on Your Bongard!
‘Tis the Season for Giving, But When is a Transfer a Gift?
INCOME TAX
Top Ten Agricultural Law and Tax Developments of 2019 (Numbers 2 and 1)
Does the Penalty Relief for a “Small Partnership” Still Apply?
Substantiation – The Key to Tax Deductions
Ag Law and Tax in the Courts – Bankruptcy Debt Discharge; Aerial Application of Chemicals; Start-Up Expenses and Lying as Protected Speech
Unique, But Important Tax Issues – “Claim of Right;” Passive Loss Grouping; and Bankruptcy Taxation
Conservation Easements and the Perpetuity Requirement
Tax Treatment Upon Death of Livestock
https://lawprofessors.typepad.com/agriculturallaw/2020/02/tax-treatment-upon-death-of-livestock.html
What is a “Trade or Business” For Purposes of I.R.C. §199A?
Tax Treatment of Meals and Entertainment
Farm NOLs Post-2017
https://lawprofessors.typepad.com/agriculturallaw/2020/03/farm-nols-post-2017.html
Disaster/Emergency Legislation – Summary of Provisions Related to Loan Relief; Small Business and Bankruptcy
Retirement-Related Provisions of the CARES Act
Income Tax-Related Provisions of Emergency Relief Legislation
The Paycheck Protection Program – Still in Need of Clarity
Solar “Farms” and The Associated Tax Credit
Obtaining Deferral for Non-Deferred Aspects of an I.R.C. §1031 Exchange
Conservation Easements – The Perpetuity Requirement and Extinguishment
PPP and PATC Developments
https://lawprofessors.typepad.com/agriculturallaw/2020/06/ppp-and-patc-developments.html
How Many Audit “Bites” of the Same Apple Does IRS Get?
More Developments Concerning Conservation Easements
Imputation – When Can an Agent’s Activity Count?
Exotic Game Activities and the Tax Code
Demolishing Farm Buildings and Structures – Any Tax Benefit?
Tax Incentives for Exported Ag Products
Deducting Business Interest
https://lawprofessors.typepad.com/agriculturallaw/2020/09/deducting-business-interest.html
Recent Tax Court Opinions Make Key Point on S Corporations and Meals/Entertainment Deductions
Income Taxation of Trusts – New Regulations
https://lawprofessors.typepad.com/agriculturallaw/2020/10/income-taxation-of-trusts.html
Accrual Accounting – When Can a Deduction Be Claimed?
Farmland Lease Income – Proper Tax Reporting
Merging a Revocable Trust at Death with an Estate – Tax Consequences
The Use of Deferred Payment Contracts – Specifics Matter
Is Real Estate Held in Trust Eligible for I.R.C. §1031 Exchange Treatment?
INSURANCE
Recent Court Developments of Interest
https://lawprofessors.typepad.com/agriculturallaw/2020/07/recent-court-developments-of-interest.html
PUBLICATIONS
Principles of Agricultural Law
https://lawprofessors.typepad.com/agriculturallaw/2020/01/principles-of-agricultural-law.html
REAL PROPERTY
Signing and Delivery
Abandoned Railways and Issues for Adjacent Landowners
Obtaining Deferral for Non-Deferred Aspects of an I.R.C. §1031 Exchange
Are Dinosaur Fossils Minerals?
https://lawprofessors.typepad.com/agriculturallaw/2020/06/are-dinosaur-fossils-minerals.html
Real Estate Concepts Involved in Recent Cases
Is it a Farm Lease or Not? – And Why it Might Matter
REGULATORY LAW
Top Ten Agricultural Law and Tax Developments from 2019 (Numbers 10 and 9)
Top Ten Agricultural Law and Tax Developments from 2019 (Number 8 and 7)
Ag Law and Tax in the Courts – Bankruptcy Debt Discharge; Aerial Application of Chemicals; Start-Up Expenses and Lying as Protected Speech
Hemp Production – Regulation and Economics
DOJ to Investigate Meatpackers – What’s it All About?
Dicamba Registrations Cancelled – Or Are They?
What Does a County Commissioner (Supervisor) Need to Know?
The Supreme Court’s DACA Opinion and the Impact on Agriculture
Right-to-Farm Law Headed to the SCOTUS?
The Public Trust Doctrine – A Camel’s Nose Under Agriculture’s Tent?
Roadkill – It’s What’s for Dinner (Reprise)
https://lawprofessors.typepad.com/agriculturallaw/2020/10/roadkill-its-whats-for-dinner-reprise.html
Beef May be for Dinner, but Where’s It From?
Of Nuisance, Overtime and Firearms – Potpourri of Ag Law Developments
What Farm Records and Information Are Protected from a FOIA Request?
Can One State Dictate Agricultural Practices in Other States?
SECURED TRANSACTIONS
Family Farming Arrangements and Liens; And, What’s a Name Worth?
Conflicting Interests in Stored Grain
https://lawprofessors.typepad.com/agriculturallaw/2020/03/conflicting-interests-in-stored-grain.html
Eminent Domain and “Seriously Misleading” Financing Statement
SEMINARS AND CONFERENCES
Summer 2020 Farm Income Tax/Estate and Business Planning Conference
Registration Open for Summer Ag Income Tax/Estate and Business Planning Seminar
Summer 2020 – National Farm Income Tax/Estate and Business Planning Conference
Year-End CPE/CLE – Six More to Go
https://lawprofessors.typepad.com/agriculturallaw/2020/12/year-end-cpecle-six-more-to-go.html
2021 Summer National Farm and Ranch Income Tax/Estate and Business Planning Conference
WATER LAW
Principles of Agricultural Law
https://lawprofessors.typepad.com/agriculturallaw/2020/01/principles-of-agricultural-law.html
MISCELLANEOUS
More “Happenings” in Ag Law and Tax
https://lawprofessors.typepad.com/agriculturallaw/2020/02/more-happenings-in-ag-law-and-tax.html
Recent Cases of Interest
https://lawprofessors.typepad.com/agriculturallaw/2020/03/recent-cases-of-interest.html
More Selected Caselaw Developments of Relevance to Ag Producers
Court Developments of Interest
https://lawprofessors.typepad.com/agriculturallaw/2020/04/court-developments-of-interest.html
Ag Law and Tax Developments
https://lawprofessors.typepad.com/agriculturallaw/2020/05/ag-law-and-tax-developments.html
Recent Court Developments of Interest
https://lawprofessors.typepad.com/agriculturallaw/2020/07/recent-court-developments-of-interest.html
Court Developments in Agricultural Law and Taxation
Ag Law and Tax in the Courtroom
https://lawprofessors.typepad.com/agriculturallaw/2020/09/ag-law-and-tax-in-the-courtroom.html
Recent Tax Cases of Interest
https://lawprofessors.typepad.com/agriculturallaw/2020/09/recent-tax-cases-of-interest.html
Ag and Tax in the Courts
https://lawprofessors.typepad.com/agriculturallaw/2020/11/ag-and-tax-in-the-courts.html
Of Nuisance, Overtime and Firearms – Potpourri of Ag Law Developments
Bankruptcy Happenings
https://lawprofessors.typepad.com/agriculturallaw/2020/12/bankruptcy-happenings.html
January 20, 2021 in Bankruptcy, Business Planning, Civil Liabilities, Contracts, Cooperatives, Criminal Liabilities, Environmental Law, Estate Planning, Income Tax, Insurance, Real Property, Regulatory Law, Secured Transactions, Water Law | Permalink | Comments (0)
Sunday, January 17, 2021
Agricultural Law Online!
Overview
For the Spring 2021 academic semester, Kansas State University will be offering my Agricultural Law and Economics course online. No matter where you are located, you can enroll in the course and participate in it as if you were present with the students in the on-campus classroom.
Details of this spring semester’s online Ag Law course – that’s the topic of today’s post.
Course Coverage
The course provides a broad overview of many of the issues that a farmer, rancher, rural landowner, ag lender or other agribusiness will encounter on a daily basis. As a result, the course looks at contract issues for the purchase and sale of agricultural goods; the peril of oral contracts; the distinction between a lease and a contract (and why the distinction matters); and the key components of a farm lease, hunting lease, wind energy lease, oil and gas lease, and other types of common agricultural contractual matters. What are the rules surrounding ag goods purchased at auction?
Ag financing situations are also covered – what it takes to provide security to a lender when financing the purchase of personal property to be used in the farming business. In addition, the unique rules surrounding farm bankruptcy is covered, including the unique tax treatment provided to a farmer in Chapter 12 bankruptcy.
Of course, farm income tax is an important part of the course. Tax planning is perhaps the most important aspect of the farming business that every-day decisions have an impact on and are influenced by. As readers of this blog know well, farm tax issues are numerous and special rules apply in many instances. The new tax law impacts many areas of farm income tax.
Real property legal issues are also prevalent and are addressed in the course. The key elements of an installment land contract are covered, as well as legal issues associated with farm leases. Various types of interests in real estate are explained – easements; licenses; profits, fee simples, remainders, etc. Like-kind exchange rules are also covered as are the special tax rules (at the state level) that apply to farm real estate.
A big issue for some farmers and ranchers concerns abandoned railways, and those issues are covered in the course. What if an existing fence is not on the property line?
Farm estate and business planning is also a significant emphasis of the course. What’s the appropriate estate plan for a farm and ranch family? How should the farming business be structured? Should multiple entities be used? Why does it matter? These questions, and more, are addressed.
Agricultural cooperatives are important for the marketing of agricultural commodities. How a cooperative is structured and works and the special rules that apply are also discussed.
Because much agricultural property is out in the open, that means that personal liability rules come into play with respect to people that come onto the property or use farm property in the scope of their employment. What are the rules that apply in those situations? What about liability rules associated with genetically modified products? Ag chemicals also pose potential liability issues, as do improperly maintained fences? What about defective ag seed or purchased livestock that turns out to not live up to representations? These issues, and more, are covered in the scope of discussing civil liabilities.
Sometimes farmers and ranchers find themselves in violation of criminal laws. What are those common situations? What are the rules that apply? We will get into those issue too.
Water law is a very big issue, especially in the western two-thirds of the United States. We will survey the rules surrounding the allocation of surface water and ground water to agricultural operations.
Ag seems to always be in the midst of many environmental laws – the “Clean Water Rule” is just one of those that has been high-profile in recent years. We will talk about the environmental rules governing air, land, and water quality as they apply to farmers, ranchers and rural landowners.
Finally, we will address the federal (and state) administrative state and its rules that apply to farming operations. Not only will federal farm programs be addressed, but we will also look at other major federal regulations that apply to farmers and ranchers.
Further Information and How to Register
Information about the course and how to register is available here: https://www.enrole.com/ksu/jsp/session.jsp?sessionId=442107&courseId=AGLAW&categoryId=ROOT
You can also find information about the text for the course at the following link: https://washburnlaw.edu/practicalexperience/agriculturallaw/waltr/principlesofagriculturallaw/index.html
If you are an undergraduate student at an institution other than Kansas State, you should be able to enroll in this course and have it count as credit towards your degree at your institution. Consult with your academic advisor to see how Ag Law and Economics will transfer and align with your degree completion goals.
If you have questions, you can contact me directly, or submit your questions to the KSU Global Campus staff at the link provided above.
I hope to see you in class beginning on January 26!
January 17, 2021 in Bankruptcy, Business Planning, Civil Liabilities, Contracts, Cooperatives, Criminal Liabilities, Environmental Law, Estate Planning, Income Tax, Insurance, Real Property, Regulatory Law, Secured Transactions, Water Law | Permalink | Comments (0)
