Farming for a profit is not easy. Maximizing efficiency (yields, inputs, marketing and tax) may be the only way to realize any real financial progress in the foreseeable future in agriculture.
No matter if your goal is to survive or to thrive, the Tax Cuts and Jobs Act (TCJC) has presented an opportunity for farmers. This law passed the House by a vote of 224-201 and the Senate 51-48 and was signed by the President on Dec. 22, 2017.
In 2017, the federal estate tax exemption asset equivalent was $5.49 million and scheduled to be $5.6 million in 2018, with a 40 percent tax rate on assets above the exemption equivalent.
This bill doubled the scheduled exemption equivalent to $11.2 million per person for deaths in 2018 and can be used while living as a gift or at death.
With good planning, a married couple can now exempt $22.4 million before a federal estate tax of 40 percent is imposed.
We must be careful when planning that we don’t forget that this doubled exemption equivalent is scheduled to go away in the year 2025. Effectively going back down to $5.6 million plus inflation in the year 2026.
Unrelated to the new tax bill, the annual gift exclusion for 2018 has inflated to $15,000 per year per person.
One of the original ideas behind this tax change was to simplify the income tax system by reducing the number of brackets as well as reduce tax rates.
This bill maintains seven individual brackets, but changed the rates and thresholds.
C-Corporation income tax rates in previous years ranged from 15 to 35 percent. The 15 percent bracket was for taxable income from $0 to $50,000. From $50,000 to $75,000 of taxable income, the rate was 25 percent, and 34 percent for taxable income between $75,000 and $100,000.
The new law provides for a flat tax rate for C-Corporations of 21 percent and repealed the corporate AMT (Alternative Minimum Tax).
The idea for most farm corporations is to keep taxable income under $50,000 to take advantage of the 15 percent bracket. This law is negative for farm corporations that have taxable income of $50,000 or less (previously 15 percent and now taxed at 21 percent).
This could be a major improvement for corporations with taxable income above $50,000 looking for relief from the constant burden of income deferral and expense acceleration while balancing survival and profit.
If you have a farm corporation, before you celebrate, remember that before you can get assets out of the corporation (after the 21 percent corporation income tax) there is a second tax on the dividend distribution (taxed at personal capital gains rate).
For those who have been trying to get their corporation into a position to convert to an S-Corporation, this law may help significantly to liquidate “hot” assets at a 21 percent tax rate.
This can minimize assets subject to the (Built-In Gains) holding period (five years for federal and 10 years for Iowa) for a converted S-Corporation.
Owners of any pass-through business (sole-proprietor, partnership, LLP, LLC or S-Corporation) are allowed a 199A deduction of 20 percent of net business income.
There is a phase-out from $315,000 to $415,000 of total taxable income for a married couple ($157,500 to $207,500 for a single taxpayer).
As currently written, this bill will be even more beneficial for individuals doing business with a cooperative as there is language that allows farmers, who sell to a cooperative they are a patron of, to take a 20 percent deduction from GROSS receipts.
The immediate deduction for business property increases from $510,000 in 2017 to $1 million in 2018 with a phase-out threshold of $2.5 million. These amounts will be indexed for inflation each year after.
This bill allows 100 percent bonus depreciation for qualifying (new or used) property placed in service between Sept. 27, 2017 and Dec. 31, 2022. In 2023 it reduces to 80 percent, then 60 (2024), 40 (2025) and 20 percent (2026). No bonus depreciation is allowed in 2027.
The standard deduction is the baseline deduction before a tax payer can itemize. Most farmers do not itemize, as most of their possible itemized expenses can be deducted against farm income (except charitable deductions and medical expenses that are above 7.5 percent of Adjusted Gross Income in 2018).
For 2017, the standard deduction for a married couple was $12,700. For 2018, this amount is $24,000. This is a win for farmers who do not itemize as they will get an additional deduction of $11,300 (married couple).
The personal exemption for 2017 was $4,050 per person. These exemptions are eliminated.
The increased standard deduction is better than the personal exemptions for a married couple. If you have dependent children, the tax credit increases to $2,000 per child in 2018 (from $1,000 in 2017).
Taxpayers who itemize could deduct (unlimited) in 2017 any state and local taxes (including income and property tax). For 2018, this will be limited to $10,000.
These changes may not affect the farmer as much because most property taxes are deducted on the farm schedule. This may affect those of us who have recently paid more Iowa income tax because we used section 179 for depreciable purchases on the federal return but weren’t allowed a state deduction.
The net operating loss for farming operations will be reduced from a five-year to two-year carryback. The net operating loss deduction carry forward is limited to 80 percent of taxable income for losses incurred after 2018.
Win for ag
The changes in the tax code have been estimated to reduce federal tax revenues $1.46 trillion over 10 years. This is why most of these provisions cannot be “permanent” and will go away in the year 2025.
In my opinion, this tax law change is a general win for agriculture. Those who understand it will have an advantage over those who do not.
As with any tax issue, be sure to seek out specific advice from specialists who know the particular details of your individual situation.
My hope is that you will be able to find some positive cash flow in the coming years from short-term income tax savings that will help not only in the day-to-day operation of your farm business, but also in the quest of accomplishing the long-term objectives of your family farm.
For 25 years, Steve Bohr has been a partner in the farm continuation firm of Farm Financial Strategies, Inc. For additional information on farm continuation issues or if you have a question please contact Steve via email at Bohr@FarmEstate.com or by phone at 1-800-375-4180.