As you are well aware, the House and Senate have passed a tax bill that dramatically changes tax rates across the country. This bill is extremely complex and will likely impact your farm.
The most important thing you can do is reach out to your tax professional and have them walk you through the new law and how it will impact your operations.
In the meantime, here is a basic analysis of the implications of the new tax bill for agriculture.
Summary of Changes
The bill cuts the tax rate for C corporations from 35% to 21% beginning in 2018 and reduces tax rates for the highest individual earners; taxes for those individuals who earn above $600,000 go from 39% to 37%. The bill also includes a 20% deduction on business and pass-through income and flattens and reduces individual rates, though by a much smaller amount.
Here is a more detailed summary of pass-through entities, which represent the overwhelming majority of farms:
- Qualified business income will qualify for up to a 20% tax deduction.
- If your income is under $315,000 (for married couples), there is no limit on this deduction. In this case, you would likely take your net farm income, multiply it by 20% and this is your extra deduction.
- Once an operation goes above this amount, then a limitation on this business pass-through deduction begins. Above the $315,000 threshold, your limitation is:
A) The greater of 50% of wages paid by the farm operation, OR
B) 25% of wages paid plus 2.5% of the original cost of depreciable farm assets that are less than 10 years old.
- Changes are effective taxable years beginning after December 31, 2017 and before January 1, 2026.
Finally, the bill maintains the alternative minimum tax (AMT) on individuals but raises the threshold for when the AMT kicks in, which reduces its applicability.
In addition to these changes to rates and business taxation, the bill makes a number of other important changes that positively impact producers:
- The lifetime estate tax exemption is bumped to $10 million and indexed to inflation ($11.2 million in 2018). This will revert back to current amount ($5 million indexed to inflation) in 2026.
- The step-up in basis for inherited assets is retained. As a practical example, this would mean that a married farm couple that passes away between now and 2026 could likely be worth $30 million (assuming inflation increases) and not owe any federal estate tax. Please note that these federal changes in no way impact state estate tax laws and amounts owed under them.
- Section 179, which allows you to deduct the purchase price of new equipment, is bumped to $1 million beginning in 2018 with a phase-out starting at $2.5 million. Bonus depreciation is increased to 100% for all new and used farm assets other than land, and is effective for assets placed in service after September 27, 2017. Note that you are not allowed to take bonus depreciation or Section 179 on purchases from certain related parties, so care must be used in any family asset transactions going forward.
- The Domestic Production Activities deduction, which many co-ops use, has been eliminated effective for taxable years beginning after January 1, 2018. The 20% deduction outlined above for pass-through entities would apply to co-ops and would essentially take its place. Many farmer co-ops are running through the numbers to compare the old law with the new. For those of you in a co-op, we suggest you engage with your co-op on this topic if you haven’t already.
In addition to these constructive changes for agriculture, the tax bill also repeals or limits a number of provisions important for farmers:
- Section 1031 tax-deferred exchanges are now only allowed for real property, instead of property and equipment as is now the case.
- The bill limits the ability of farmers to carry back losses only two years rather than the current 5 years.
- The bill limits the ability of larger farmers to deduct business interest expenses.
- The bill repeals the Domestic Production Activities Deduction (DPAD/Sec. 199) deduction used by many farmers and cooperatives.
- The bill eliminates the use of like-kind exchanges for personal property.
K·Coe Isom, a well-known national agriculture tax firm, suggests five steps for farms to take to maximize their benefits under the tax bill. While we urge you to talk to your tax professional, we thought this article might be helpful: http://www.kcoe.com/5-steps-farmers-take-response-house-passed-tax-bill/.