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Tax and accounting considerations for aspiring farmers

An attorney and accountant versed in agricultural legalities is advisable, but here are some tips in the meantime

Embarking on a farming adventure can be exciting and even romantic to the agriculturally-inclined. 

But earning a steady living from the soil is a challenging undertaking and not just because of the capricious influence of the weather. There are also a number of regulatory issues to consider.

The Internal Revenue Service (IRS) has provided Publication 225 as a fairly simple explanation of how farmers can calculate income tax. It's advisable to familiarize yourself with this publication and a host of other agricultural tax tips available from the IRS.

It's also wise to consult professionals who specialize in the ever-changeable tax and regulatory environment pertaining to farming. An agricultural attorney and accountant can save you thousands of dollars in unnecessary expenses and provide invaluable peace of mind as well.

In the meantime, however, the following tips are worth noting as you consider purchasing a farm.

Be a business, not a hobby farm

When calculating income taxes, the IRS views your farming income very differently if it's considered a business as opposed to a hobby you pursue on the side. Filing as a business, there are far more opportunities for deductions and flexibility in depreciation than when filing as a hobby farm.

As noted by the tax advice experts at MyTaxHelpMD.com, "filing your farm as a business has certain requirements, but most of these are not difficult to meet. Some of the factors the IRS takes into consideration is the time and effort you spend on the farm, whether or not you depend on the farm's income for your livelihood, if you have good record keeping and what experience you bring to farming."

Publication 225 also alights on this subject: "In determining whether you are carrying on your farming activity for profit, all the facts are taken into account. No one factor alone is decisive."

It then goes on to list factors related to whether your accounting methods, business decisions, and income generated over time indicate that you're operating as a business with the intention of making profit.

"The laws governing the depreciation of farm equipment, how property taxes are applied to farmland, payroll taxes and deductions for farm-related expenses constantly change based on federal and state guidelines"

Since no one wants to become a farmer to lose money, it makes sense to meet the necessary requirements and file as a business to take advantage of the many tax benefits available to for-profit farms.

Depreciation and deduction options

Farming is an equipment-heavy and labor-intensive business. To effectively work the soil and maximize profit you need the most cutting-edge agricultural machinery you can afford, processing equipment, seeds, fertilizers and other organic matter as well as buildings to house livestock, harvested crops, or equipment.

Virtually all farmers need employees too - for part of the year at least. 

A large portion of your expenses are therefore accounted for by payroll as well as the purchase and maintenance of machinery and building.

The laws governing the depreciation of farm equipment, how property taxes are applied to farmland, the handling of payroll taxes and available deductions for farm-related business expenses are all constantly changing based on federal and state guidelines.  

The Southwest Farm Press offers a helpful rundown of some major tax law changes affecting farmers in 2013, including changes based on the American Tax Payer Relief Act.

One example is the deduction known as "Section 179", which raised the expense election from $450,000 to $500,000, providing an option to depreciate more of the value of new or used machinery or equipment in the year of purchase.  This threshold elevation alone is saving farmers thousands of dollars more than in previous years.

Maintain and monitor records

As noted above, treating your farm as a business rather than a hobby has many benefits, but it has some requirements as well.

Not least financial records must be kept with strict accuracy and monitored regularly to ensure all federal, state and local taxes are appropriately paid on time along with all other expenses.

Again, the help of a professional accountant familiar with agricultural tax law can be invaluable if you are to enjoy some rest after a long day toiling in the fields.

As highlighted in Publication 225, accurate record keeping allows you to:

Monitor the progress of your farming business

Prepare your financial statements

Identify the source of receipts

Keep track of deductible expenses 

Prepare your tax returns

Support items reported on tax returns

Plus, regularly monitoring these records allows you to make adjustments throughout the year and year-over-year to improve the profitability of your farm.   

While farming is, by definition, an unpredictable occupation - and there's no tips for controlling the weather or commodity prices - keeping in mind these important points can help farmers avoid a number of headaches and make sound financial decisions.

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Adam Howarth

About the author

Adam Howarth is operations director of OMS, a management consultancy with a wealth of experience in improving the efficiency and performance of household-name global businesses.

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