Prairie Grains Jan.-Feb. 98 - New Farm Tax Laws

Issue 11
Jan./Feb. 1998
New Farm Tax Laws: Beneficial,
but Watch the Fine Print

By Tracy Sayler

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Prairie Grains is the
official publication of
the Minnesota
Association of
Wheat Growers,
North Dakota Grain
Growers Association,
South Dakota Wheat,
Inc., and the
Minnesota Barley
Growers Association.

Much of the 1997 federal tax relief bill is going to benefit farmers. But watch the fine print: you'll have to wait a few years for the full effects of some provisions to kick in, and others are tempered by mitigating circumstances.
Norman Hayes, a CPA with 35 years of tax experience and a partner in the firm Hayes & Czeh, takes a closer look at some of the key provisions affecting farmers:
Income Averaging

Farmers may elect to have any portion of their current year farm net income taxed at rates applicable to their prior three tax returns. This new version of income averaging will be effective for the years 1998 through 2000. Farm income that qualifies for averaging includes normal farm net income, crop share rents, gain from sale of farm machinery and livestock, but not gain from farm land sales.
You may select any portion of the current year farm income to be assigned to the rate from each of the three prior years. The income elected from the current year must be divided by three, and equally applied to each of the prior three years' tax rates.
The availability of income averaging for the 1998 tax year should be considered in year-end farm tax planning for 1997, Hayes says. If 1995 and 1996 base years have stable income and some availability of lower tax brackets, it may be beneficial to set 1997 taxable income at the same level. This could maximize the income averaging advantage when it comes to filing a 1998 tax return.
Bear in mind using this tax tool that the alternative minimum tax will reduce the amount of savings on higher incomes, says Hayes.
Alternative Minimum Tax

Congress has clarified that farmers who report under the cash method of accounting will not be penalized by the IRS if they use deferred commodity sale arrangements. The new tax law clarifies that the alternative minimum tax is not applicable to any installment sales of farm commodities, retroactive to 1987.
However, there is still a glitch with the AMT as it pertains to income averaging. The Congress may rectify this so stay in touch with your tax advisor.
Capital Gains Relief

Retroactive to May 7, 1997, the top capital gain rate drops from 28% to 20%. The 15% bracket falls to 10%. However, to receive the two lower favorable rates, an asset must now have been held over 18 months (starting July 29, 1997) as opposed to the former 12-month minimum.
Old installment sales, such as collections on land contracts, qualify for these new rates, for payments received after May 6, 1997.
After Dec. 31, 2000, the 10% rate can drop to 8%, and 20% to 18%, subject to a five-year holding period. Thus, consider gifting appreciated assets such as stock to children to be sold in their name after 2000, says Hayes.
Note the capital gains exception for buildings: the gain on the sale of a depreciable building is taxed at a top rate of 25%. This is still beneficial over previous law, but not as beneficial as the 20% rate for land.
There are new principal residence sale rules: previously, you could roll over proceeds into a new residence, and elect a one-time exclusion on up to $125,000 of gain if over 55. On gains as of May 6, 1997, the rollover option is eliminated, but up to $250,000 of the sale is tax-free if single or $500,000 if married. The higher exclusion cannot occur more frequently than once every two years.
Although the lower capital gains rates will help those who want to sell farmland, Hayes still sees flaws. "It's not adjusted for inflation. If a farmer bought land in the 1950s for $300 an acre and sells it in the 1990s at three times what he paid, he gets $900 an acre. That $900 won't buy what it did in the 1950s. It would be better to have capital gains tied to inflation rates, or increase the tax break for longer holdings," he says.
Further, Minnesota's tax rates have not followed the federal rate down. "Minnesota was high to begin with. It needs to reflect the change in the federal law. North Dakota is OK, since they piggyback their state tax to a percent of the federal tax," Hayes says.
Estate Tax Relief

The estate tax exemption increases from $600,000 to eventually $1 million. Unfortunately, this increase occurs very gradually until 2006. The increase begins with deaths occuring in 1998, at $625,000. It is not until 2004 that there is a substantial jump in the exemption, at $850,000.
There is an additional exemption for family-owned businesses or farms: an extra $675,000 in 1998 which shrinks to an additional $300,000 in 2006 and thereafter. However, there are numerous tough eligibility rules to this exemption. The farm must exceed 50% of the adjusted gross estate, the decedent or family members must have materially participated in the family business for five of eight years preceding death, and heirs must maintain involvement in the business for at least 10 years following the death of the taxpayer. It also appears that passive ownership of rented farmland doesn't qualify.
"Again, the increase in the estate tax exemption does not take inflation into account. But for the average farm family, the increase is still important," says Hayes.

Copyright Prairie
Grains Magazine January 1998

Issue 11 Jan./Feb. 1998	New Farm Tax Laws: Beneficial, but Watch the Fine Print By Tracy Sayler

Library Home E-Mail Back Prairie Grains is the official publication of the Minnesota Association of Wheat Growers, North Dakota Grain Growers Association, South Dakota Wheat, Inc., and the Minnesota Barley Growers Association.	Much of the 1997 federal tax relief bill is going to benefit farmers. But watch the fine print: you'll have to wait a few years for the full effects of some provisions to kick in, and others are tempered by mitigating circumstances. Norman Hayes, a CPA with 35 years of tax experience and a partner in the firm Hayes & Czeh, takes a closer look at some of the key provisions affecting farmers: Income Averaging Farmers may elect to have any portion of their current year farm net income taxed at rates applicable to their prior three tax returns. This new version of income averaging will be effective for the years 1998 through 2000. Farm income that qualifies for averaging includes normal farm net income, crop share rents, gain from sale of farm machinery and livestock, but not gain from farm land sales. You may select any portion of the current year farm income to be assigned to the rate from each of the three prior years. The income elected from the current year must be divided by three, and equally applied to each of the prior three years' tax rates. The availability of income averaging for the 1998 tax year should be considered in year-end farm tax planning for 1997, Hayes says. If 1995 and 1996 base years have stable income and some availability of lower tax brackets, it may be beneficial to set 1997 taxable income at the same level. This could maximize the income averaging advantage when it comes to filing a 1998 tax return. Bear in mind using this tax tool that the alternative minimum tax will reduce the amount of savings on higher incomes, says Hayes. Alternative Minimum Tax Congress has clarified that farmers who report under the cash method of accounting will not be penalized by the IRS if they use deferred commodity sale arrangements. The new tax law clarifies that the alternative minimum tax is not applicable to any installment sales of farm commodities, retroactive to 1987. However, there is still a glitch with the AMT as it pertains to income averaging. The Congress may rectify this so stay in touch with your tax advisor. Capital Gains Relief Retroactive to May 7, 1997, the top capital gain rate drops from 28% to 20%. The 15% bracket falls to 10%. However, to receive the two lower favorable rates, an asset must now have been held over 18 months (starting July 29, 1997) as opposed to the former 12-month minimum. Old installment sales, such as collections on land contracts, qualify for these new rates, for payments received after May 6, 1997. After Dec. 31, 2000, the 10% rate can drop to 8%, and 20% to 18%, subject to a five-year holding period. Thus, consider gifting appreciated assets such as stock to children to be sold in their name after 2000, says Hayes. Note the capital gains exception for buildings: the gain on the sale of a depreciable building is taxed at a top rate of 25%. This is still beneficial over previous law, but not as beneficial as the 20% rate for land. There are new principal residence sale rules: previously, you could roll over proceeds into a new residence, and elect a one-time exclusion on up to $125,000 of gain if over 55. On gains as of May 6, 1997, the rollover option is eliminated, but up to $250,000 of the sale is tax-free if single or $500,000 if married. The higher exclusion cannot occur more frequently than once every two years. Although the lower capital gains rates will help those who want to sell farmland, Hayes still sees flaws. "It's not adjusted for inflation. If a farmer bought land in the 1950s for $300 an acre and sells it in the 1990s at three times what he paid, he gets $900 an acre. That $900 won't buy what it did in the 1950s. It would be better to have capital gains tied to inflation rates, or increase the tax break for longer holdings," he says. Further, Minnesota's tax rates have not followed the federal rate down. "Minnesota was high to begin with. It needs to reflect the change in the federal law. North Dakota is OK, since they piggyback their state tax to a percent of the federal tax," Hayes says. Estate Tax Relief The estate tax exemption increases from $600,000 to eventually $1 million. Unfortunately, this increase occurs very gradually until 2006. The increase begins with deaths occuring in 1998, at $625,000. It is not until 2004 that there is a substantial jump in the exemption, at $850,000. There is an additional exemption for family-owned businesses or farms: an extra $675,000 in 1998 which shrinks to an additional $300,000 in 2006 and thereafter. However, there are numerous tough eligibility rules to this exemption. The farm must exceed 50% of the adjusted gross estate, the decedent or family members must have materially participated in the family business for five of eight years preceding death, and heirs must maintain involvement in the business for at least 10 years following the death of the taxpayer. It also appears that passive ownership of rented farmland doesn't qualify. "Again, the increase in the estate tax exemption does not take inflation into account. But for the average farm family, the increase is still important," says Hayes.
Copyright Prairie Grains Magazine January 1998

New Farm Tax Laws: Beneficial, but Watch the Fine Print

Income Averaging

Alternative Minimum Tax

Capital Gains Relief

Estate Tax Relief

New Farm Tax Laws: Beneficial,
but Watch the Fine Print