Q & A on Farm Income
We have gotten many questions regarding what is considered farm income for FSA purposes. Farm income for tax purposes is fairly straight-forward. For FSA purposes, not-so-much. This post will have a series of Q & A’s that we have gotten and our current answers. Much of this topic is still unsettled since the guidance in the FSA Handbook 6-PL is not totally clear or has not been updated for tax law changes such as the Tax Cuts and Jobs Act. If we get further guidance from FSA, we will post ASAP.
If gross receipts was used to meet the 75% test, we, as CPAs and tax preparers would have a much easier time of it. However, the FSA Handbook 6-PL is very specific that Average Farm adjusted gross income (AGI) is “comparable to the net income from farming and related operations“. Therefore, we are required to both determine what qualifies as farm income in the “gross” and then pin down the “net” farm income to arrive at Farm AGI. This can be difficult, especially without clear guidance.
Q. I have a legal entity that meets the 75% definition, but what about the owners. Do they need to meet it too?
A. Yes. Quoting directly from the Regulations “If a producer requesting the increased payment limitation is a legal entity, all members of that entity must also complete form FSA-510 and provide the required certification according to the direct attributions of 7 CFR 1400.105”. The direct attribution rules essentially require the owners of the entity up to four levels to also meet the more than 75% test.
The good news is that wages paid by the farm entity is allowed to be counted as farm income. The bad news is that each of the owners must meet the test. If one or more owners do not meet the test, then the extra payment limit is reduced by their share. However, there is no reduction to the original payment limit.
Let’s look at two examples:
Example # 1 – MNO Farm Corporation is eligible for $400,000 of ERP related to crop insurance proceeds due to drought on their 2021 wheat crop. 100% of the corporation’s income is from farming. This means they now qualify for at least $125,000 of ERP and could get up to $250,000. The corporation is owned by four shareholders. Two of the shareholders are active in the farm corporation and receive wages and rent farm ground to the corporation. Their farm income is at least 75% of overall AGI. Two of the shareholders have no involvement and receive large wages from outside the farm and do not meet the more than 75% test. If we assume equal ownership, MNO Farm Corporation will qualify for $187,500 of ERP payments. Now lets assume the two on-farm owners only own a total of 10% of the stock. The remainder is owned by their older parents who receive large IRA distributions and social security. In this case, the MNO would only qualify for $137,500 of ERP payments
Example #2 – Let’s assume MNO also qualifies for $1 million of ERP related to damage to their apple crop. In this case, if two owners qualify and two don’t then the total amount of ERP allowed would be $125,000 plus 50% of $775,000 (maximum is $900,000) or $512,500. If only 10% is held by qualifying owners, then the ERP would be $202,500. You can see the material difference with specialty crops versus non-specialty crops.
Q. I am tax preparer, but not a CPA or attorney. Can I sign form FSA-510?
A. No. According to the Regulations, a CPA or attorney are required to “certify” the more than 75% test. As a CPA, we typically write the letter that FSA provides in their handbook on pages 8-73 to 8-74 and not sign the form.
Q. The local FSA office is indicating that I need to sign the form as a CPA. Is that required?
A. No. The FSA and AICPA worked up appropriate letters that CPAs could prepare due to the new AGI rules in the 2008 Farm Bill. Those letters take the place of a CPA signing the form. If a local office states otherwise, please have them review the appropriate pages of FSA Handbook 6-PL pages 8-64 to 8-74.
Q. My tax return shows gains from trading in farm equipment. I am also a seed dealer who provides seed to local farmers. Does this income qualify as farm income?
A. Maybe. The current handbook, etc. allows this income to qualify as long as your other farm income before including this income is at least 66.66% of overall AGI. The assumption is that overall AGI should exclude the gains from equipment sales and the sale of farm inputs, but the handbook is not clear on this.
Starting in 2018, all trade-ins of farm equipment now requires a sale to be reported on Form 4797 which in almost all cases results in a gain. Many farmers starting in 2018 will have negative or very small farm income reported on Schedule F if they have a large gain from trading in farm equipment reported on Form 4797. This will likely prevent the farmer from qualifying for an extra payment unless FSA issues updated guidance. The FSA handbook has not been updated to reflect the changes due to the Tax Cuts and Jobs Act. We understand that FSA may be reviewing this but as of the date of this writing, no additional guidance has been issued.
Q. Our farm C corporation pays us a wage and also pays a good sized dividend to us each year. Will this income qualify as farm income?
A. Starting with the 2020 program year (ERP started with that year), all wages and dividends paid from a materially partcipating farm corporation qualifies as farm income. A materially participating farm corporaton requires more than 50% of gross receipts must be from farming. Here is one area where they do allow us to use gross receipts.
We are sure there will be more questions on this and we will try to keep you posted.
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.
General farm partnership meets the AGI qualifications. The two general partners have very little income other than from the farm partnership but they have wives with large W-2 income. The partners’ share of their AGI on the individual income tax returns is well in excess of the 75% requirement but on the joint tax returns including the wives’ income the farmers’ share is about 65%. Is only the partners’ income looked at or does the wives’ income also have to be included in the AGI calculation?