Don’t Count on Qualified Property to Help in Year of Sale
If your taxable income is fully over the threshold amount ($415,000 for married couples, half that for other taxpayers), then your allowed Section 199A deduction is limited to the greater of:
- 50% of wages paid by the business, or
- 25% of wages paid plus 2.5% of “qualified property”
Qualified property is depreciable assets (land does not qualify) held by the taxpayer as of the end of the year. Any depreciable asset that is less than 10 years old qualifies plus any other asset that has not been fully depreciated.
For Schedule F farmers who do not pay much wages, this may be helpful. Let’s look at an example:
Jim Johnson operates as a sole proprietor and nets $500,000 from farming and this happens to be his taxable income too. He only pays out $50,000 in wages for the year, but has $3 million of qualified property. His limit is the greater of $25,000 ($50,000 times 50%) or $87,500 ($50,000 times 25% plus $3 million times 2.5%). His tentative Section 199A deduction is $100,000, but the final allowed deduction is $87,500.
Now, let’s assume that Jim sells all of his farm equipment, grain bins, etc. and retires from farming. He sells the assets for $1 million. 20% of this number is $200,000 so he thinks that he will only pay tax on $800,000. However, since he is over the threshold amount, we now have to determine his limit. He paid no wages, so there is no help there. His Qualified Property is still $3 million, however, he did not own the property at year-end, therefore his final limit is zero and he is fully taxed on the $1 million of gain.
This likely will not apply to many farm operations, but it is something to be aware of. Also, if you have a large apartment complex that you sell and you normally qualify for the Section 199A deduction due to the 2.5% of qualified property limit, you will be unable to take any Section 199A deduction in the year of sale to offset your net rental income or ordinary gain on the sale, if any.
The Code did provide wording for the IRS to issue Regulations to address this issue. It may end up that farmers and other taxpayers may get some relief on this provision, but for now, this is the law.
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 Walla Walla, 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. Paul and his wife purchase an 180 acre ranch in 2016 and enjoy keeping it full of animals.
Many smaller farmers have W-2 income and/or other self employment income. Assuming a Sec 199a deduction from a co-op creates a “loss” for these farmers who operates as a sole proprietor, is the loss currently deductible “for adjusted gross income” as in previous years?