Equipment Trade-Ins (Continued)

As discussed in yesterday’s post, trading in farm equipment has become much more complicated.  Under the old law, the tax code required you to defer and roll over the trade gain into the new equipment and reduce the value by this amount.  The cost basis of the asset traded-in (if any) was added to the cash or boot paid for the new piece of farm equipment.  You could not take Section 179 on the old asset’s basis, but you could take 50% bonus depreciation on it.

Here is an example of the old law:

Farmer Jones has a combine worth $200,000 that still has a cost basis of $100,000.  He trades it in on a new combine worth $500,000.  His tax cost basis in the new combine is now $400,000 ($300,000 cash paid plus $100,000 cost basis from old combine).  He can only take Section 179 of up to $300,000 on the new combine but can take 50% bonus depreciation on all $400,000 if no Section 179 was taken.  Any remaining basis is then depreciated over 7 years.

Now the new law changes this.  The farmer is now required to report the trade-in value as the sales price.  This will usually result in a gain on sale for federal income tax purposes since most farm equipment has been fully depreciated over the last few years using Section 179 or bonus depreciation.  However, the cost basis of the new equipment is now the full price.

In our example above, the farmer would recognize a gain of $100,000 ($200,000-$100,000 cost basis) on the traded-in combine.  He then fully depreciates the new combine and writes-off $500,000 in the current year.

However, here is where it can get more complicated.  Since NOL’s can only offset 80% of taxable income starting in 2018, the farmer may want to elect out of 100% bonus depreciation on the combine and only use enough Section 179 to get his taxable income down to the correct number.

Again, using our example.   Assume Farmer Jones wants to report $200,000 of taxable income.  If he fully depreciates the combine, his income is zero.  Therefore, he can elect out of bonus depreciation and use Section 179 to get his income down to $200,000 and have $300,000 or so of basis that he can depreciate over the next 5-7 years.  5 if new and 7 if the combine is used.

One other problem area that really may start to show its head is Section 1245 recapture on the sale.  Many farmers have done equipment exchanges year-after-year and in many cases, the total cost of the new combine never shows up on the depreciation schedule which may cause some of the gain on the trade-in to be treated as Section 1231 gain when in reality it is actually Section 1245 ordinary income recapture.  Since all trades will now have to be reported as a sale, this will likely happen.

As an example, assume a combine was purchased in 2017 for $500,000 but had a trade that reduced the tax “cost” basis to $100,000.  The farmer then took Section 179 of $100,000 and brought the tax basis down to zero.  The combine is then traded in for a new combine in 2018 with a value of $400,000.  If the combine is only shown on the depreciation schedule as “original” cost of $100,000, many tax preparers would show an ordinary gain of $100,000 and Section 1231 capital gain of $300,000.  The correct number is $400,000 of Section 1245 since the combine trade value was less than its original cost of $500,000.  You can only have Section 1231 gains on the excess of actual original cost of equipment or asset purchased.

As you can see, trades will be tougher to deal with starting this year.  We will keep you posted with the changes.

  • Principal
  • CliftonLarsonAllen
  • Yakima, Washington
  • 509-823-2920

Paul Neiffer is a certified public accountant and business advisor specializing in income taxation, accounting services, and succession planning for farmers and agribusiness processors. Paul is a principal with CliftonLarsonAllen in Yakima, Washington, as well as a regular speaker at national conferences and contributor at agweb.com. Raised on a farm in central Washington, he has been immersed in the ag industry his entire life, including the last 30 years professionally. In fact, Paul drives a combine each summer for his cousins and that is what he considers a vacation.

Comments

could you expand and go into a little more depth on the 20% deduction for coop sales in the near future?

This whole deduction is in a great state of flux. It is hard to determine what it may finally look like and the timing on it.

Would there be any advantage to selling the old asset vs trading it?

The only advantage to selling versus trade is if you can get a better price for selling it. In states where farm equipment is subject to sales tax (such as Washington state), the trade value is not subject to sales tax.

I assume that for trades after 9/27/17 and prior to 1/1/18 that 100% bonus depreciation can be taken on the carryover basis of the traded asset.

That is correct.

What happens when farmland is traded with tile in the ground?

The tile will be a taxable, however, if the farmer purchases other ground with tile, they will be able to deduct that 100% too.

Can you discuss the new depreciation rules for the 5 versus 7 year assets? I have read that the 7 year asset life goes away and we only have a 5 year life with 200%DB. But in this post you mentioned that you can have 5 or a 7 year life. Now I am confused

This is a quirky rule. If the farm equipment is new, the life is now 5 years. If it is used, then the life is 7 years. We assume it is this way to provide an incentive to purchase new farm equipment. However, 100% bonus depreciation makes most of this moot in many cases.

I have a question on the sec 199A, 20% deduction on grain sold to a Coop… many farmers have called wanting to know about this new law… they are assuming if they sell their grain to coop that 20% of that sale is a deduction… no expenses involved in the calculation…

That is currently how the tax code is written. A 20% deduction based on gross sales with no offset for any deductions. Only limit is 100% of taxable income minus capital gains.

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