Agricultural IssuesChapter 9 pp. 301-347

2015 National IncomeTax Workbook™

Issues pp. 302-347

1. Livestock Transactions

2. Form 1099-MISC

3. Net Investment Income Tax

4. Inherited Property

5. Oil and Gas Payments and Deductions

6. Repairs

7. Revoking a CCC Loan Election

8. Marketing Gain on CCC Loans

Issue 1: Livestock Transactionspp. 302-315

Livestock acquisition Livestock sales Casualty gain or loss

Livestock acquisition p. 302

Reason for acquiring determines treatment Example 9.1: Purchased for resale

Sale price $13,000

Purchase price - 8,000

Gain $ 5,000

Depreciation pp. 302-303

Depreciation begins when first placed in service for intended use

Immature livestock IRS says When draft animals can be worked When dairy animals can be milked When breeding animals can bred

Taxpayers could argue when dairy animals can be bred

Example 9.2: Placed in Servicepp. 303-304

Purchased 15 heifers in 2014 for $22,500 Bred the heifers in May 2015

Cost $22,500

50% AFYD*- 11,250

Depreciable basis $ 11,250

MACRS rate × 15%

Cost recovery $ 1,688

Livestock sales pp. 304-307

Purpose for holding livestock determines where a sale is reported.Held for sale: Schedule F (Form 1040)Dairy, breeding, sport, or draft: Form 4797

< 12 (24) months: Form 4797, Part II > 12 (24) months:

• Depreciated: Form 4797, Part III

• Not depreciated: Form 4797, Part I

Example 9.3: Dairy livestockpp. 304-307

Calves held for sale $12,150

Raised cows $48,600

Purchased cows $ 6,800

Culled heifers $8,500

Schedule F, line 2: 12,150

Form 4797, line 2: 48,600

Form 4797, line 10: 8,500

Form 4797p. 307

Line 20 6,800

Line 21 15,000

Line 22 15,000

Line 23 0

Line 24 6,800

Line 25a 15,000

Line 25b, 30, 31, 13 6,800

Casualty gain or losspp. 307-315

Dairy, breeding, sport, or draft livestock is treated the same as other trade or business property:Loss is decrease in FMV (limited to basis)Gain is insurance or government payments in excess of basis

Example 9.4: Dairy Livestockpp. 307-310

Cost FMV Insur. Basis

2 raised cows 0 2,200 2,000 0

Purchased cow 2,100 1,100 1,000 0

Purchased cow 2,100 1,100 1,000 1,062

Form 4684p. 308

A B C

Line 20 1,062

Line 21 2,000 1,000 1,000

Line 22 2,000 1,000

Line 23 1,100

Line 24 0

Line 25 1,100

Line 26 1,062

Lines 27 & 28 62

I.R.C. § 1231 Netting p. 310

Net casualty gains are netted with other I.R.C. § 1231 gains (unless they are deferred)

Net casualty losses are ordinary deduction

Example 9.5: Casualty gain deferred pp. 310-311

Insurance proceeds received $3,000

Adjusted tax basis - 0

Gain realized $3,000

Gain deferred - 3,000

Gain recognized $ 0

Cost of replacement property $4,500

Gain deferred - 3,000

Basis of replacement property $1,500

Property held for sale p. 312

Generally, no special tax treatment of involuntary conversionReimbursements reported on Schedule FUsually no gain or loss items have zero basis

Weather-related provisionspp. 312-314

Two provisionsInvoluntary conversion (applies only to draft, breeding, or dairy animals)1-year postponement of gain (applies to all livestock)

Involuntary Conversionpp. 312-313

Sale must be due to weather conditions (disaster declaration is not required)

Replaced within 2 years New livestock used for same purpose

(breeding, dairy, or draft) Applies only to sales in excess of normal Must attach a statement to tax return

1-year deferralp. 313

Must be disaster declaration Applies only to sales in excess of normal Must attach statement to tax return

Livestock deaths due to disease pp. 314-315

Not a casualty because not sudden It is an involuntary conversion Section 1231 property gain or loss is

netted with other section 1231 gains and losses

Reported on Schedule F or Form 4797

Issue 2: Form 1099-Miscpp. 315-317

Taxpayers must issue Form 1099-MISC to vendors whom they pay $600 or more for Rent Services

Exception for corporations other than Attorneys fees Veterinarians

Reconciling Forms 1099-MISC to tax return pp. 316-317

Taxpayers should report amounts reported on Forms 1099 they receive where IRS expects to see it or get corrected Form 1099

Example 9.6:

Form 1099-PATR $952

IRS expects to see it on Sch. F

Interest was deducted on Sch. E

Example 9.7: Triple net leasepp. 316-317

Mortgage interest $ 6,500

Mortgage principal 13,500

Property taxes 7,500

Insurance 2,500

Total deemed payments $30,000

Issue 3: Net Investment Incomepp. 317-319

Active farmers are not subject to NIIT on Operating income Gain on sale of assets used in farming

NIIT is 3.8% of lesser of Net investment income Excess MAGI

MAGI Thresholds for NIITp. 317

Investment income p. 317

Gross income from interest; dividends; net capital gains; rental and royalty income; nonqualified annuities; and

Income from businesses that are involved in trading of financial instruments

or commodities passive activities for the taxpayer

Not investment income p. 317

wages; unemployment compensation; operating income from a nonpassive business; social security benefits; alimony; tax exempt interest; self-employment (SE) income; Alaska Permanent Fund dividends; and Distributions from retirement plans

Farms in transitionpp. 318-319

Income from payments received during farm transition may be net investment incomeExample 9.8: renting to LLC

Under self-rental rule, rent and gain on sale are not net investment income

Example 9.9: not materially participatingExample 9.10: sale of assets

Issue 4: Inherited Propertypp. 319-320

Basis of inherited property is adjusted to the value on the date of death or alternate valuation date

Automatic long-term capital gain holding period

Exception: income in respect of a decedent (IRD)

Example 9.11: Growing crops pp. 319-320

Issue 5: Oil and Gas Payments and Deductions pp. 321-328

Transfers of Mineral Rights (sale or lease) Damage Payments Advance Royalty Payments Oil and Gas Depletion Pipeline Right-of-Way Easements

Transfers of Mineral Rightspp. 321-322

Sale of mineral rights Section 1231 gain or loss Landowner must prove cost basis or

inherited basis Lease of mineral rights

Landowner reports payments on Schedule E (Form 1040)

Damage Payments pp. 322-323

Payments for crops go to owner of the crops Reported on Sch. F or Form 4835

Payments for damage to land or timber reduce basis Excess over basis is reported on Form 4797

or Form 8949

Advance Royalty Paymentsp. 323

Ordinary incomeTo extent of actual production, claim greater of percentage or cost depletionFor remaining payment, claim cost depletion

Oil and Gas Depletionpp. 323-327

Owners of an economic interest in oil or gas can claim a depletion deduction to recover their capital investment in amount sold or consumed. The deduction is greater of:Cost depletion, orPercentage depletion

Cost depletion pp. 324-325

Estimate reserves Divide adjusted depletable basis by

remaining oil or gas to get unit cost Multiply unit cost by number of units sold

to get cost depletion deduction

Example 9.15 p. 325

Adjusted basis $22,000

Barrels sold 5,000

Barrels remaining 35,000

Percentage depletionpp. 325-326

Allowed even if basis is zero Generally, 15% of gross income Cumulative percentage depletion for all of

the taxpayer’s properties is limited to his or her taxable income from all sources

Gross income p. 325

Normally, royalty payment Does not include

lease bonus or advance royalty payable without regard to production

delay rental payments and most land damage payments

Taxable income from the property p. 325

Gross income from the property minus all allowable deductions (except any deduction for depletion or domestic production activities) attributable to the mining processes, including mining transportation (gross income for most landowners)

Taxable income form all sources pp. 325-326

Percentage depletion deduction for all properties may not exceed 65% adjusted taxable income from all sources for the year

Adjustments net operating loss carrybacks; capital loss carrybacks; percentage depletion; and distributions to trust beneficiaries.

Example 9.20 p. 326

Gross income $55,000

Royalty check (taxable income limit) $51,700

Adjusted taxable income $120,000

Percentage depletion (15% of $55,000) $8,250

Gross income limit ($120,000 × 65%) $78,000

Remaining basis ($22,000 - $8,250) $13,750

Pipeline Right-of-WayEasements pp. 327-328

Perpetual easement: right to lay, construct, operate, maintain, inspect, remove, alter, abandon in place, replace, relocate, and reconstruct a pipeline

Temporary easement: during construction: rental income on Schedule E (Form 1040)

Crop damage proceeds: ordinary income on Schedule F (Form 1040) or Form 4836

Perpetual Easement Issuespp. 327-328

Payment for easement reduces basis in land affected by the easement

Payment in excess of basis is section 1231 gain

Issue 6: Repairs pp. 328-335

T.D. 9636: Amounts paid may be:Currently deductible orCapitalized

De Minimis Safe Harborp. 328

Economic useful life < 12 months, or Cost < an amount specified by the

taxpayer ($500 or $5,000 limit)

De Minimis Safe Harborp. 329

Must deduct amounts paid that are in the safe harbor

If the cost of property was deducted under the safe harbor, gain on disposition of the property is ordinary income

Example 9.22: Accounting Procedure pp. 329-330

Accounting procedure says < $400 Elected safe harbor $350 power washer must be deducted

Q&A #1: Change in accounting procedure does not require Form 3115

Example 9.22: Accounting Procedure p. 329

Q&A #2: 10 heifers @ $400: must deduct

7 heifers @ $450: must capitalize

Example 9.22: Accounting Procedure p. 330

Q&A #3: Accounting procedure says < $600$550 compressor is not in the safe harbor

Example 9.23: AFS pp. 330-331

Richard has an AFS and qualifies for $5,000 safe harborQ&A #1: Program converts cash basis to accrual basisQ&A #2: Cannot choose to capitalize 20 heifers on his tax return

Example 9.23: AFS pp. 330-331

Richard has an AFS and qualifies for $5,000 safe harborQ #3: Chooses to capitalize 20 heifers when he submits a financial statement to his bankA #3: IRS could use anti-abuse authority to deny $100,000 deduction

Improvements to Propertypp. 331-334

Amount paid is an improvement if it:Results in a bettermentRestores the propertyAdapts the property

Example 9.24: Combinepp. 331-332

Deducted all $150,000 under IRC § 179 in 2012

FMV in 2015 is $70,000 Paid $10,000 to overhaul engine

Q&A #1:

Example 9.24: Combinepp. 331-332

Q&A #1:Combine is the unit of propertyOverhaul is not an improvementTherefore, $10,000 can be deducted

Example 9.24: Combinepp. 331-332

Q&A #2: Safe harbor election does not prevent deduction

Q&A #3: Prior year determination does not bind current year

Q&A #4: Form 3115 is not required

Example 9.24: Combine p. 332

Q&A #5: Corn header is the unit of property. Cost must be capitalized

Q&A #6: New snapping rollers are not an improvement

Example 9.25: Replacement tractor tires p. 332

Depreciated original tires as part of tractor

Unit of property is the tractor Replacement tires do not improve the

tractor Therefore, $12,000 can be deducted

Example 9.26: Restored tractor p. 333

Inoperable tractor New tires are part of restoration cost $2,500 must be capitalized

Example 9.27: Barn roofpp. 333-334

$3,500 to replace cupolas Barn cost $200,000 Average annual gross receipts are

$300,000

Cherry can deduct $3,500 under the small taxpayer safe harbor

Example 9.27: Barn roofp. 333

Q&A #1: Also paid $5,000 to paint the barnCannot use the small business safe harborCupolas are not a significant portion of the roofPaint is not an improvement

Example 9.27: Barn roofp. 333

Q&A #2: Elected partial disposition of building and deducted adjusted basis of cupolas as a lossMust capitalize cost of new cupolasCan deduct cost of removing old cupolas

Example 9.27: Barn roofp. 334

Q&A #3: Replaced entire roofMust capitalize cost of new roofPartial disposition election does not negatively affect treatment of new roof

Prepaid Expensespp. 334-335

Prior rules are still in place:Generally taxpayers must keep an inventory [Treas. Reg. § 1.471-1]Generally, taxpayers must use accrual accounting[Treas. Reg. § 1.446-1(c)(2(i)]

Exceptions for farmers p. 334

Treas. Reg. § 1.471-6(a) Rev. Proc. 2001-10 Rev. Proc. 2002-28

Limitations on Deducting Prepaid Expenses pp. 334-335

IRC § 464 Rev. Rul. 79-229

Repair regulations leave these rules in place.

Example 9.29: Qualified farm related taxpayer p. 335

$180,000 of current deductible expenses $100,000 of prepaid expenses

No IRC § 464 limit

Issue 2: Revoking a CCC Loan Election pp. 335-345

Rev. Proc. 2002-9 gives automatic consent to revoking election to treat

loan as income.

Effect of Election pp. 336-340

Example 9.3075,000 bushels of wheat$150,000 loanMade section 77 electionReport on line 5a of Sch. F

Example 9.31: No section 77 election

Market Price > Loan Ratepp.336-338

Farmer will choose to repay the loan and sell the commodity

Tax consequences depend on treatment of the loan

Example 9.32: Section 77 election and sale p. 337

Schedule F (Form 1040) Line 1a 262,000 Line 1b 150,000 Line 1c 112,000 Line 5a 150,000 Line 21b 1,200

Market Price < Loan Ratepp.338-340

Farmer will choose to redeem the commodity by paying the posted county price

Farmer reports gain or loss from sale in the year the commodity is sold

Example 9.34: Section 77 election, redeemed pp. 338-339

75,000 bushels of wheat $150,000 loan Made section 77 election Redeemed for $135,000 Sold for $142,500 Form CCC-1099-G reports $15,000

Example 9.34: Section 77 election, commodity redeemed pp. 338-339

Schedule F (Form 1040) Line 1a 142,500 Line 1b 135,000 Line 1c 7,500 Line 4a 15,000 Line 5a 150,000

Example 9.35: No election, commodity redeemed p. 339

Schedule F (Form 1040)

Line 2 142,500

Line 4a&b 15,000 15,000

Loan Deficiency Paymentp. 340

Farmers can choose to receive

a payment equal to the difference

between the loan rate and the PCP

Example 9.36: Loan deficiency payment p. 340

Loan rate $2.00/bu.

PCP $1.80/bu.

LDP $15,000

Sale price $142,500

Example 9.36: Loan deficiency payment p. 340

Schedule F (Form 1040)

Line 2 142,500

Line 4a&b 15,000 15,000

Changing the Electionpp. 340-345

Automatic consent File Form 3115 with return File signed Ogden office copy No user fee

Cut-off basis No adjustments for prior years

Issue 8: Marketing Loan Gainp. 346-347

Taxpayers who report

CCC loan as income

reduce basis of commodity

by the amount of the

loan that is not paid.

Example 9.39: Marketing Loan Gain pp. 346-347

CCC loan $100,000Paid off loan - 92,500

Market gain$ 7,500Sold corn $103,000

Basis - 92,500Gain on corn $ 10,500

Questions?