Almost fully back from the rigors of Tax Season, it is now time to start posting on our more usual basis.  We got the following question from one of our readers in response to our post on using deferred payment contracts.

“What about the 1099 that you would receive from the elevator that would show the income in the year the cash was received, not the year the crop was actually sold?”

As Congress and the IRS adds more and more items of income requiring form 1099s, it will not be to far in future where all of page 1 of Schedule F will be a reconciling schedule requiring farmers to list all of their income from each type of form 1099 and then provide an explanation of how their actual income from those items would be different.  We are not there yet, but I predict it may not be too many years in the future.

For today, a farmer in this situation would make sure to list the gross amount of income from the form 1099 in the appropriate box on schedule F and then provide an adjustment on the other income line.  This adjustment can be negative.

For example, assume a farmer sells all of her corn to the local cooperative for $1,000,000 for 2012 with $800,000 in cash received in 2012 and $200,000 received in 2013 on a deferred payment contract.  She elects to report all $1,000,000 in 2012 and lets assume she has no other crop sales in 2013.  The Coop will issue a 2013 form 1099 to her showing $200,000 of sales (assuming they show it as per unit retains).  She will report this $200,000 on the appropriate line and then report a negative $200,000 in the other income box.  Since this section will now show a negative number, we would normally attach a schedule letting the IRS know that this represents an adjustment for electing out of the installment sales on certain 2012 sales or similar wording.

Some practitioners may elect to report the $200,000 on a gross basis and then report the taxable amount as zero.  We find that reporting it this way can lead to more letters from the IRS, but either way would result in the correct amount of income reporting.

Paul Neiffer, CPA

An alert reader let me know that one of my points on how to defer your crop insurance proceeds was not written as well as it could have been. 

In my original post, I had indicated that each crop is a “separate” business unit, then each crop is looked at separately.  This separate business unit definition is really based upon how the farmer accounts for his grain operations.  Almost all farmers account for their grain operation under one business unit which includes the production of corn, soybeans, wheat, cattle, etc.  Under these conditions, the farmer if they elect to do so, is required to defer all crop insurance proceeds for those crops that qualify for the deferral.  

Therefore, if the farmer has one business unit and crop insurance proceeds are received on both corn and beans, the eligibility test for deferring crop insurance proceeds is based on the aggregate. If together more than 50% of the crop sales are normally reported in the year after harvest, then the farmer can elect to defer all of the insurance proceeds to the following year.   

If the farmer, however, has more than one business unit with multiple crops, then each business unit can review its situation and decide if it wants to defer the crop insurance proceeds.  For example, a farmer may run his farm as a sole proprietor and have another farm operation with a brother in a partnership.  Both his crops and the partnership crops are damaged by hail and receive crop insurance proceeds.  The farmer can elect to defer his crop insurance proceeds, while the partnership can elect to not defer or vice versus.As you can see, crop insurance deferral rules can get a little bit complicated and each situation can be a little bit different.  Always review this with your tax advisor and thanks to the alert reader for requesting clarification.

On the last post regarding sales between related parties, my example was not 100% correct, so I have updated the post to more accurately reflect what the rules for related party sales.  Thanks to the reader that pointed this out.

We had a reader ask this question as a follow-up to our previous post on ROTH IRA recharacterizations:

“My wife and I converted our traditional IRA,s to ROTH,s in November of 2010. Since the market has gone down we are considering the recharacterization back to Traditional. You mentioned we would have needed to file for an extension to do this. I do not understand what you mean by this extension. Can’t we recharacterize by October 15th? If so do we lose the ability to split the tax between 2011 and 2012?”

First, on the issue of the extension.  This only applies if you did not file your return by April 15, 2011 for the 2010 tax return.  If you filed timely by this date, then you have until October 17, 2011 to recharacterize your ROTH conversion back to a regular IRA.  However, if you are filing after April 15, 2011, then you must have timely filed an extension in order to still reconvert by October 17. You are not required to  recharacterize all of the conversion amount.  You can elect to do part or all and it must be in the form of a dollar amount.  If you elect to reconvert the whole amount and there are no other ROTH IRA contributions in this account, it is fairly easy to accomplish this with your IRA trustee.  However, if there are other ROTH contributions or you elect to reconvert less than 100% of the contribution, then you must perform a calculation of the earnings (or most likely losses) since the conversion and indicate to the trustee the net amount to be reconverted.

With regards to the last question, this reconversion will eliminate the chance to spread the income over 2011 and 2012, however, if the IRA has decreased dramatically in value, then it still may make sense to do the reconversion.  This can be a very complicated calculation, therefore, we highly recommend that you review this with your tax advisor before making any decision.

If you have previously filed your return, then you will need to file an amended income tax return to let the IRS know how much you are reconverting back to a regular IRA.  If you elected to pay this tax in 2010, then you will be entitled to a refund.  If you elected to spread it out over 2011 and 2012, the amended tax return will simply clarify to the IRS how much is taxable in 2011 and 2012.

Dr. Barry Dunn, Dean of AG/BIO, South Dakota State University in Brookings, SD gave a presentation on the untapped power of information systems in decision making.

Dr. Dunn shared several humorous examples of data overload.  He indicated the most powerful tool that he has seen for agriculture is the use of management dashboards for farmers.  A management dashboard takes all of the accounting, production and other data that a farm generates and places it into a simple a few page overview of the farm operation.

The performance dashboard serves like a magnifying device to spotlight the most important information in a readily readable format.

Content should:

• Be Informative
• Help improve performance
• Possibly serve as a lever to change culture
• Be based on causal links necessary to achieve objectives
• Use metrics derived by scientific process

Dashboard Reporting should:

• Refine and communicate strategy
• Provide a consistent view of an organization
• Deliver actionable information in a timely manner (instant feedback)
• Promotes coordination between departments
• Brings transparency to an organization
• Motivate and empowers employees
• Reduce costs and redundancy

Dashboard reports should streamline the process from data to action.

The annual conference of the Farm Financial Standards Council just got started this morning.  The first speaker of the day was Dan Looker, business editor of Successful Farming and his discussion was on Ag Megatrends.

The first Ag Megatrend dealt with Ethanol.  Even though the blender credit is most likely being phased out or allowed to expire at the end of the year, the biggest reason for the continued demand of corn for Ethanol is the mandate for 15 billion gallons of Ethanol.  Ethanol is now the biggest market for corn, just passing up feed usage.  We are now at the blend wall, i.e. the industry is producing about 13 billion gallons of Ethanol and the total gas gallons were only 137 billion gallons.  With a 10% blend, only about 13.7 billion gallons could be used.  The E15 blend could soak up more Ethanol.  An escape valve is exporting our Ethanol to Brazil and other nations.  Brazil’s economy is growing and more people are able to afford cars that use Ethanol and Brazil is exporting sugar based Ethanol to the US since it meets the criteria for advanced biofuel that corn Ethanol does not currently meet.  By 2015, the mandate is for 15 gallons of Ethanol.

The Ag Committee in Congress has had a rapid changeover.  There are 7 new Democratic and 16 new Republican members and many of these members are no longer from “true” farm districts.  Many of these members need to be educated about agriculture.  The ag committee faces being billion dollars short plus the uncertainty of the Debt Ceiling super committee to cut spending which will affect Ag, but nobody knows by how much and where.  The government current subsidizes about 80% of enterprise crop insurance and this may be an area that gets cut in the next farm bill.  Of the current annual $80 billion farm program payments, only about $6 billion is for commodity programs and about $5 billion for conservation programs.

Another mega trends is current record corn prices.  USDA is showing a range of $5.50 to $6.50 for this year’s crop.  Ending stocks are still projected under the bare minimum cushion of 1 billion bushels.  This year’s exports are at a 9 year low, but still almost 2 billion bushels and no excess supply to ship anyway.

The Chinese imports are still small, however, it is still many multiples of last year.  If the supply is there, China may import up to 400 million bushels of corn this year.

China will import about 58 million metric tons of soybeans this year and about 1/2 will come from the US.

We are facing growing global competitors.  The former Soviet Union is now starting to produce more corn.  They now produce more than Argentina and other noted corn exporters.  Romania has excellent farm land that can produce corn at the same rate of our corn belt and just needs to get their infrastructure in place.

The farming outlook is still optimistic according to Dan.

I am going to hazard a guess that at least 90% of our farmers are in what I call the first level of farm accounting.  This is the old tried and true favorite – Cash basis of accounting.  Most farmers report farm net income on their tax return using this method of accounting.  Income is recorded as cash is received and expenses are recorded as they are paid.  Most of these farmers use this method for their management of the farm business which does not accurately reflect the net income of the business.

The second level of farm accounting builds on cash accounting by at least recording the fair market value of crop inventory (crop harvested, but not yet sold) and possibly the value of the cost of growing crop.  This amount is usually booked at year-end and is used for the financial statements presented to the bank.  If the farmer is not doing these statements, we know that the banker is for sure is doing it and you should get a copy from them.  This method of accounting gives a better picture of your overall farm profitability, but only when you book the fair market value adjustments (which is usually at year-end).

The third and highest level of farm accounting is using accrual accounting on a real-time basis.  This means that as you purchase input costs for the farm, they are booked to a cost of growing crop inventory account and once the harvest is completed, these accumulated costs are then transferred over to a harvested crop inventory account and deducted as the crop is sold.  This gives you the truest picture of what your actual profit is at any point in time. 

The most successful farmers are at least in level two and most are making the changeover to level three.

What level are you at and what steps are you doing to get to the third level.

Just a personal note to let you know that a friend and I are riding our motorcycles to Los Angeles from Yakima for my second’s son college education.  Two down and two to go.

I will be gone from today until next Tuesday and may not do any postings between now and then.

We got the following question from one of our readers:

“IF A TENANT TILES OUT LEASED FARMLAND CAN THE TENANT DEDUCT THE COST OF THE DRAINAGE TILE AND LABOR DURING THAT TAX YEAR ON SCHEDULE F?”

2011 provides a great opportunity for either an operating farmer or landlord to put in new tile and deduct 100% of the cost under the bonus depreciation rules.  Tiling is usually allowed as a deduction for Section 179 expense, however, sometimes there are income limitations and other restrictions to using Section 179.  The nice thing about bonus depreciation for new tile is that there are no income limitations and 100% of the cost is allowed as a deduction.

However, if a landlord’s farm rental is considered a passive activity and they incur too much cost for the year compared to their passive income, they will only be able to deduct the tiling to the extent of their income.  The excess is allowed to be carried forward to 2012 and most likely deducted then.

With about 8 days to March 1, most farmers are frantically scrambling to get all of their tax data accumulated and presented to their tax preparers.  Almost all farmers try to file by March 1 since there is no penalty for filing and paying their income tax for the year by that date even if the payment is substantial.

However, I would like to remind our farmers again that if they have paid in enough income tax, either through withholding or estimates to prevent an penalty for underpayment of estimated tax, they do not have to rush to get filed by March 1.  If their tax for the previous year is very low, for example, $2,000 or less, the actual penalty would also be extremely small (based on this $2,000 amount, the penalty might only be about $20 or so.)

Therefore, if you have paid in enough to cover your requirements or your tax for the previous year was very small, do not worry about March 1, just get if filed by April 15 and your life will be easier.