Status of Wisconsin Agriculture 2010 - Agricultural & Applied ...

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Income Averaging The income-averaging rules allow farmers to use tax brackets from the three prior years to compute taxes on some or all of the current-year farm income. Therefore, income in the high brackets of the current year can be taxed at lower rates. Timing of Income If farmers can control the timing of asset sales, they may want to delay selling some assets until the following tax year. Doing so can affect both income taxes and selfemployment taxes. Bunching up self-employment income in one year can push some of that income above the social security wage base, which is $106,800 for 2009. This is an important threshold to reach, as earned income above the wage base is subject to a 2.9 percent self-employment tax rate instead of the 15.3 percent tax rate that applies to earned income up to $106,800. The income averaging rules can then be used to reduce the income tax rate on the bunched income. Bunching up ordinary income in one year has the added advantage of emptying the 15 percent regular income tax bracket for the following year, so that long-term capital gains in the following year qualify for the lower tax rate for capital gains, which is 0 percent in 2008, 2009 and 2010. For example, a taxpayer who has $200,000 of grain and $100,000 of land to sell could sell all of the grain in one year and the land the next year. The self-employment tax on the grain sale in excess of $106,800 is only 2.9%. In the next year, the first $67,900 of gain from the sale of land is taxed at the zero percent rate on capital gains if the taxpayer files a married filing jointly tax return and has no other income. The remaining gain is taxed at a 15 percent rate. Discharge of Debt Creditors of financially distressed taxpayers sometimes forgive some or all of the taxpayer’s debt because the taxpayer is unable to pay or because the cost of collecting the debt is more than the debt itself. For income tax purposes, if the creditor forgives debt for any reason other than for the purpose of making a gift to the debtor, the discharged debt is potentially cancellation of debt income (CODI) that is subject to taxation. For example, if the bank repossesses a tractor that has a $50,000 fair market value and $45,000 income tax basis and forgives the remaining $25,000 of a $75,000 debt, the debtor has $25,000 of potential CODI and $5,000 ($50,000 fair market value – $45,000 income tax basis) of taxable gain. 48 STATUS OF WISCONSIN AGRICULTURE 2010—FRAMING THE FINANCIAL CRISIS Exceptions to CODI If one of the following exceptions applies, the debtor does not have to include CODI in income: 1. The taxpayer had paid the debt that was discharged, the taxpayer would have been allowed to deduct the amount paid [I.R.C. § 108(e)(2)]. 2. The debt was discharged bankruptcy. [I.R.C. § 108(a)(1)(A)]. 3. The debt discharged was qualified principal residence debt that was discharged before January 1, 2013. 4. The debtor was insolvent at the time the debt was discharged [I.R.C. § 108(a)(1)(B)]. 5. The seller of property under an installment contract discharged the debt and the original purchaser under the contract owed the debt discharged [I.R.C. § 108(e)(5)]. 6. The debt discharged is qualified farm indebtedness [I.R.C. § 108(a)(1)(C)]. 7. The debtor is not a C corporation and the debt discharged is qualified real property business indebtedness. [I.R.C. § 108(a)(1)(D)]. Note that if discharged debt qualifies for more than one of these exceptions, the first applicable exception in the list is applied to the discharged debt. Paying the Price In most cases, the taxpayer must pay a price for not recognizing CODI. The price is a reduction of the taxpayer’s following tax attributes: 1. Net Operating Loss. Any net operating loss for the taxable year of the discharge, and any net operating loss carryover to such taxable year. 2. General Business Credit. Any carryover to or from the taxable year of a discharge of an amount for purposes for determining the amount allowable as a credit under I.R.C. § 38 (relating to general business credit). 3. Minimum Tax Credit. The amount of the minimum tax credit available under I.R.C. § 53(b) as of the beginning of the taxable year immediately following the taxable year of the discharge. 4. Capital Loss Carryovers. Any net capital loss for the taxable year of the discharge, and any capital loss carryover to such taxable year under I.R.C. § 1212 5. Basis Reduction. The basis of the property of the taxpayer. See I.R.C. § 1017 6. Passive Activity Loss and Credit Carryovers. Any passive activity loss or credit carryover of the taxpayer under I.R.C. § 469(b) from the taxable year of the discharge.
7. Foreign Tax Credit Carryovers. Any carryover to or from the taxable year of the discharge for purposes of determining the amount of the credit allowable under I.R.C. § 27. Credits are reduced $1 for every $3 of CODI that is excluded from income. The other tax attributes are reduced $1 for every $1 of CODI that is excluded from income. Order The general rule is that the tax attributes are reduced in the order listed above [I.R.C. § 108(b)(2)]. However, the taxpayer can elect to reduce the basis in depreciable property first [I.R.C. § 108(b)(5)]. Limit on Bases Reduction If the debt discharge is excluded from income under the bankruptcy or insolvency exceptions, there is a limit on the reduction of the aggregate bases in the taxpayer’s assets. The aggregate of the bases in the taxpayer’s assets is reduced only down to the remaining debt after the discharge [I.R.C. § 1017(b)(2)]. Timing The attribute reduction occurs after the taxes have been computed for the year of the discharge. Therefore, the attributes are used on the tax return before they are subject to the reduction under the CODI rules. Summary Farmers in financial distress face income tax consequences from transferring their assets as well as from cancellation of debt. Those taxes can be minimized by planning the timing of when the assets are transferred and when the debt is cancelled as well as by electing income tax options that reduce taxes. The guidelines noted here are very general in nature. It is important for farmers to consult their tax advisor before they make transactions to restructure their debt in order to make the best use of the tax-planning opportunities . STATUS OF WISCONSIN AGRICULTURE 2010—FRAMING THE FINANCIAL CRISIS 49
Page 1 and 2:
S TAT U S O F Wisconsin Agriculture
Page 3 and 4: Preface Status of Wisconsin Agricul
Page 5 and 6: export markets, which left more mil
Page 7 and 8: Wisconsin Farm Income After two con
Page 9 and 10: $Billion 70 60 50 40 30 20 10 Asset
Page 11 and 12: Percent 40 36 32 28 24 20 16 12 8 4
Page 13 and 14: The General Economy and Agricultura
Page 15 and 16: Allocation of Funds from the Fiscal
Page 17 and 18: ments and expand hiring until they
Page 19 and 20: 2009 in light of the global recessi
Page 21 and 22: What farmers pay for fertilizer and
Page 23 and 24: Dairy Bob Cropp (262-9483) Review o
Page 25 and 26: mated at 189.2 billion pounds, down
Page 27 and 28: may do better. As of October 2009,
Page 29 and 30: The main pressures on the supply si
Page 31 and 32: Corn and Soybeans Randy Fortenbery
Page 33 and 34: Beginning stocks (stocks as of Sept
Page 35 and 36: Fruits and Vegetables A.J. Bussan*
Page 37 and 38: Introduction III. Framing the Finan
Page 39 and 40: price could not cover estimated fee
Page 41 and 42: orders (FMMOs), the Upper Midwest o
Page 43 and 44: Major U.S. Export Crops, 2007-08 Cr
Page 45 and 46: Economic Impact of Wisconsin Agricu
Page 47 and 48: impact experienced by producers who
Page 49 and 50: Lenders are very nervous about the
Page 51 and 52: farmers and other industry particip
Page 53: dairy products, and perhaps one of
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Status of Wisconsin Agriculture 2010 - Agricultural & Applied ...

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