Federal Tax Deductions - Farm Expenses vs Income

For example. I grow/sell hay or perhaps corn and I earn $5,000 (gross) doing this but my expenses (seed, fertilizer, irrigation, fuel, equipment, property tax, etc) ended up being $9,000. Let's say my other "real" job I earn $35,000.

Am I only allowed to deduct farm expenses against the $5,000 I earned as farm income? Or in addition, can I deduct the remaining $4,000 in farm expenses against my "real" job income?

Obviously, I'm hoping the answer is that with $40,000 in total gross income I can deduct the entire $9,000 in farm expenses such that my adjusted income is now only $31,000 taxable.

Any insight would be greatly appreciated!

Like the fence new vs repair. New is depr, repair is direct deduct. If you fully repair your fence you and the IRS may sit down and talk about whether it's NEW or not, if it comes to that....but you can leave an old strand of wire in it, or some old posts, and it is still the old fence...just been repaired....extensively. Ha.

When the IRS talks about "income" from farming operations 3 of 5, they are talking about having a number on the "income line" on the Schedule F. It's line 11 and rightly labeled GROSS INCOME. That's gross, all the money you take in. Has nothing to do with what you've spent. Keep your receipts.

Most farming operations are operated year after year at a paper loss due to purchases and depreciation and all.

What depreciation is supposed to do is spread out the impact of your big purchases over several years to minimize it. But when it is fully depreciated and you sell it, you have to declare the whole amount received on your GROSS INCOME line.

I think that's why you see a lot of "old, unused, things" sitting around a farm. The owner depreciated them and chose not to sell them because of the tax liability. (my opinion)

It's when you run up a lot of deducts and have a blank on the income line they get curious. If they think you are goofing off, they will send you a form 1532 (or thereabouts) and after you receive that, you are being watched. You need to read the tax code for the exact process of dealing with that notice of (your) intent.

This is compliments of my tax preparer, who is a country person, and understands tax laws (25 years experience) and the INTENT of the law.

Find yourself one. When you do, you'll find out that (most) all the farmers use them. Word gets around.

No offense to the CPA folks, but my previous preparer was a CPA (urbanite, had no idea what went on in a farming operation) and cost me a ton of money over the years. Why? Because he did not take LEGITIMATE farm deductions to which I was entitled.

HTH,

Mark

I have been saving hard to start farming for about 10 years and as such had some cash to get me going.

First thing I did was get a good CPA with a farm background and took him out to dinner.

I will spare you the details but here is what we have done:

1st year purchased a new shed ($40,000) and took the 50% deduction-also prepaid crop inputs. Total income ZERO, total deductions $35,000.

I know it sounds crazy but he walked me through the code-farmers operating on a cash basis have a nice feature of being able to prepay inputs, defer income by selling crops after Jan 1, etc.

Year 2 I purchased most of my equipment. (Older 70's and 80's "junk" but still pretty nice deduction). Crop input costs of $40,000, crop income $50,000, equipment costs $25,000. Tax deduction $15,000. Again a nice tax return.

Year 3 is looking to pan out just about like year 2.

So what I am looking at is basically $65,000 in deductions against regular income over a 3 year period.

Yea, that makes me a little nervous in terms of audit. But I have kept excellent records including a business plan, separate accounts, etc. I obviously plan to make a profit-as my longer term plan shows. It is just all the startup costs are preventing it now. My accountant has said it may trigger an audit-but that it was all completely defendable and legal.

What I CAN show is that I am building equity in the business. According to my accountant that is my ace in the hole. Yes, I have offset 65,000 of regular income-but my paying cash for equipment, shed, shop supplies, etc. the farm has a net worth of about 65,000-that will be taxed someday when I sell equipment, retire, whatever. So it is really a wash as far as "losing" money and the IRS goes. But the additonal money from the large deductions sure has come in handy during startup.

Drop me an email if you have any other questions. I am by no means a tax expert so please consult one-just passing on my firsthand and results.

As mentioned below any future equipment purchases will have to be depreciated.

The downside to this is I basically don't have any equipment depreciation starting next year-the upside is that I will most likely have a real profit to show-which would be nice to have before/if the audit would ever come.

2. You need to try to run a profitable farm operation. You cannot 'plan' to lose $4,000 a year and then claim this as a business. It really helps if you turn a profit 2 or 3 years out of 5, then you are basically 'proving' you are in this for a business. If you cannot meet that standard, you can still claim it as a buisness, but it will be up to you to prove yourself right if they ask you about it.

They will ask.

3. You need to learn the difference between a current (seed, fuel, etc.), short term (3-7 years such as a tractor, implement, etc.), and long term (fence, tile, building, land, etc.) purchase. Each of these are handled a little differently in your taxes, and must be accounted for properly. For example, if you buy $2000 of fuel, seed, repair parts; $5000 tractor, and spend $2000 on building a fence, you likely would have $3200 of expenses for that year - the mid & long term items are spread out over future years and only a portion counts for this year's taxes.

4. Get yourself a real CPA type of tax person who has done this before. Do not try it yourself. The person will save you more in taxes than he/she will cost you. Do not go to the typical tax prep chain store, they will _not_ do the best for you. I take my records to a good CPA, he chargese $200 - 300 a year to do my taxes, he suggests perhaps I should spend more or less on the business the next year, asks if I plan to make more or less the following year, and so forth. I easily save his fees in what he does for me. We haven't mentioned social security taxes yet - they are a real killer for the small self-employed deal. You need help. Pay for it. It will be worth it to you. Having his/her signature on the tax return really, really goes a long way to helping 'prove' you are trying a viable, for-profit business.

--->Paul

You can deduct on Schedule F any reasonable expenses related to generating your hay income.
Any excess over income will directly offset your other job income. That is it in a nutshell.

The only real worry here has to do with hobby losses and profit motive. If the IRS were to look at your returns and you consistently show a loss the IRS has the right to reclassify your hay operation as a hobby and suspend your losses. An activity will not be considered a hobby if it results in profits 3 out of 5 years. If the loss is, in fact, from hobby operations then losses can only be taken up to the amount of income generated from the hay and not taken against other income. To keep things safe, I generally recommend that my clients NOT take losses from (small)part time farming against their main job income. Most people I deal with accept this as they feel a few hundred in tax savings is not worth the risk. I do have others that are taking the other stance on this issue. Unfortunately, they will lose when push comes to shove but people DO like to gamble. Hope this helps. State laws may vary.

I do agree a profit has to be shown from time to time and do agree that if a profit is shown 3 out of 5 years it will not be considered a hobby. But the IRS doesn't add year to year to year.

So, I know someone, who started their operation last year... Barn, tractor, baler, rake, drill...etc... Ahhhh section 179 and bonus depreciation. They showed a substantial loss. Of course expensing of equipment and the bonus depreciation used last year will not offset income later but it will also be easier to show a profit without those. This persons strategy was more tax delay-ance rather than avoidance... Either way more money in their pocket(at least for the time being....)

So if a person took 10K loss last year and then break even this year and then show a a 2K profit the next 3 years that person has done a couple things. First of all they have lost 4K for income tax purposes and delayed paying the tax of the other 6K for 2, 3 and 4 years(@ 2K a year)(ie Free loan from the government).

The key is to take a BIG loss(equipment purchase) and then follow up in subsequent years with smaller income numbers(due to lack of depreciation). The IRS doesn't add 5 years of income to see if a net profit was made(in my opinion).

Your thoughts(not to turn this into a bean counter forum)???

If you are trying to gain assets by claiming a hobby loss as a buiness & offset your other income allt he time, then you are in trouble.

It helps a lot to be just farming, then these games work better as you are always working with the farm income only - the IRS is cool with that, as with any business they will get their share sooner or later from the business. Trouble starts if you have a second, larger non-farm income & you try to play the same games, sheilding non-farm income with farm losses. Doesn't work so good then.

--->Paul

What about a fence? If I build a fence to keep the deer out of the corn field can the cost of the fence be deducted? What about paint for the fence?...or other maintanence stuff?

Thanks in advance!

Capital Expenses are depreciated (except land)at a rate up to the CCA(capital cost allowance) for the class. You track the value of each CCA class year to year including additions.

Current Expenses are depreciated 100% in the year they occur. So small tools, baler twine, fuel, repairs etc all are expensed that year.

Now the fun is this, if your barn has a shingled roof and it leaks, the repair or materials you use for the repair are a current expense. If you put a metal roof on it, you increase the value of the building and start depreciating the roofing too.

So fixing fence is claimable in current year, building new fence has to be depreciated.