Now is the Time for Tax Planning

Mr. Donald J. Breece, Farm Management Specialist, OSU Extension Center at Lima (top of page)

This time of year is a good time to do an income tax estimate.  Cash basis tax payers have the opportunity to adjust income and expenses before December 31st.  For example, if you are experiencing a low income year, consider selling enough farm products to take advantage of the standard deduction (Single is $5350 and Married is $10,700) and personal exemptions ($3400) which represent a “zero tax bracket” opportunity.  Also, if livestock (other than poultry) held for any length of time for draft, breeding, or dairy purposes are sold because of weather-related conditions, the gain realized on the sale does not have to be recognized if the proceeds are used to purchase replacement livestock within 2 years from the end of the tax year in which the sale takes place. The 2-year replacement period is extended to 4 years if the weather condition that caused the excess sales also caused an area to be eligible for assistance by the federal government.

For farmers receiving crop insurance or disaster payments, there is an exception to the general rule that payments must be reported in the year they are received.  It allows a cash-basis farmer to postpone reporting a crop loss payment by 1 year. (It does not allow the taxpayer to accelerate reporting the payment if the payment is received the year after a loss.)  To qualify for the exception, a taxpayer must use the cash method of accounting and must be able to show that, under the taxpayer’s normal business practice, the income from the crop would have been reported in a year following the year of the receipt of the payment.

Farmers with high income have a number of options to save tax dollars.  If they have children (that work on the farm), wages paid to them is a farm expense and is not subject to social security if the child is less than age 18.  The single standard deduction is $5350; therefore, the child will pay no federal income tax up to that amount.  Wages above this amount would be subject to a lower tax bracket than the parent as well. 

If you use the cash method of accounting to report your income and expenses, your deduction for prepaid farm supplies in the year you pay for them may be limited to 50% of your other deductible farm expenses during the year (all Schedule F deductions except prepaid farm supplies).  For livestock producers, you cannot deduct in the year paid the cost of feed your livestock will consume in a later year unless you meet all the following tests:  1) The payment is for the purchase of feed rather than a deposit, 2) The prepayment has a business purpose and is not merely for tax avoidance, and 3) Deducting the prepayment does not result in a material distortion of your income.  Cash rent for next year can not be a prepaid expense; advanced payments must be deducted in the year that they apply.  

The Small Business and Work Opportunity Tax Act of 2007 (SBWOTA), enacted May 25, 2007, increased the annual I.R.C. § 179 expense limitation and phase-out amounts for tax years that begin in 2007, 2008, 2009, or 2010.  The increased maximum annual expensing amount for the I.R.C. § 179 deduction is $125,000 for 2007 (subject to the phase-out threshold of $500,000).

Income averaging, using Schedule J, may also be an option for farmers with extra high income in 2007.  It allows an elected portion of income for this tax year to be equally spread back over the previous three tax years, thus allowing unused, lower tax brackets from previous years to be applied to 2007 income.

Here are useful tables for your income tax planning:

Table 1. Married individuals filing joint returns and surviving spouses.

If taxable income is:

The tax is:

Not over $15,650

10% of the taxable income

Over $15,650 but not over $63,700

$1,565 plus 15% of the excess over $15,650

Over $63,700 but not over $128,500

$8,772.50 plus 25% of the excess over $63,700

Over $128,500 but not over $195,850

$24,972.50 plus 28% of the excess over $128,500

Over $195,850 but not over $349,700

$43,830.50 plus 33% of the excess over $195,850

Over $349,700

$94,601 plus 35% of the excess over $349,700

    
 Table 2. Single individuals (other than surviving spouses and heads of households).

If taxable income is:

The tax is:

Not over $7,825 

10% of the taxable income

Over $7,825 but not over $31,850

$782.50 plus 15% of the excess over $7,825

Over $31,850 but not over $77,100

$4,386.25 plus 25% of the excess over $31,850

Over $77,100 but not over $160,850

$15,698.75 plus 28% of the excess over $77,100

Over $160,850 but not over $349,700

$39,148.75 plus 33% of the excess over $160,850

Over $349,700

$101,469.25 plus 35% of the excess over $349,700


 Table 3. Capital gains rates (noncorporate taxpayers).

Category of Gain

Tax Rate

Gain on collectibles

28%

Unrecaptured Depreciation I.R.C. § 1250 gain

25%

Net long-term capital gain 

15%

Reduced long-term capital gain rate if ordinary tax rate is 10% or 15%

5%