The “Martin” Case Provides Guidance on Self-Rentals
Farmers who file as a Schedule F farmer with farmland owned by them personally owe self-employment tax on all farm income generated even if it part is from the “cash rent” value generated. Farmers have over the past several decades placed their farmland into separate entities (such as an LLC) and then rented this ground to their farm operation. In almost all cases, this income have been reported as exempt from self-employment tax.
The IRS (as expected) has fought this reporting of income. They won an important victory in the 1995 Mizell Tax Court case and then followed it up with several other Tax Court victories (McNamara, Bot, Hennen, etc.). However, the 8th Circuit had reversed their win in the McNamara case in 2000 and since that time, it was generally understood that properly structured farm leases should be exempt from self-employment tax.
In the Martin Tax Court case released last week, the Tax Court finally updated their stance on this issue to indicate that a properly structured farm lease between the farm entity and the farmer who owns the farmland should not be subject to self-employment tax. The farm lease should call for:
- Rental rates at or below market values. If the local cash rate for comparable farmland is $250-$300, make sure that your farm lease does not exceed these amounts.
- No material participation by the landlord. The material participation is done in the farming entity, not as the landlord. Therefore, make sure that your written farm lease calls for no material participation by the landlord.
If you follow the guidance of the Martin case, you should have comfort in not reporting the income as being subject to self-employment tax. This does not mean that the IRS agrees, but now you know that the Tax Court does.