Many farmers work with tax accountants to minimize or delay taxes. This can be a good money management strategy because delayed taxes are as good as an interest-free loan.
As with any loan, though, you eventually have to pay. Deferred taxes may come due if you retire and sell your farm and equipment.
For example, “Bob” is a poultry producer who bought four broiler houses in the 1990s. He worked hard, became a top producer, and earned a good income.
He met with his accountant, “Gordon”, in November of 2002 and Gordon told Bob that he’d made so much money that year that he was going to have a large tax bill. He suggested Bob buy equipment. Bob bought a new compact utility tractor for $22,000 and his accountant expensed the entire amount as a section 179 deduction.
Gordon suggested Bob buy equipment and save on his taxes again the next year. The section 179 deduction limits were more generous, so Bob bought a tractor and baler for $70,000.
This continued for several years. But in 2012, Bob injured his back and decided to retire. He found a buyer for his farm and equipment. The offer wasn’t his asking price, but he thought it would be enough to pay off his real estate and equipment loans and buy a home in town.
Bob shared the good news with Gordon, but Gordon told Bob he might have a problem.
Gordon explained that since the entire cost of the equipment was expensed the year he bought it, any money he received for selling it would be considered profit and would be taxed.
Sales Price: $618,000
Sales commission and closing costs: $74,160
Proceeds from sale: $543,840
Debt payoff: $457,300
Remaining Cash: $86,540
Taxes owed: $110,516
Gordon reviewed the numbers and explained he’d have to report a gain of $518,000 on the sale. This would be considered a long-term capital gain, meaning a better tax rate than normal income, but Bob would still owe the IRS and the state $110,516 in taxes. Not only would Bob not have enough to buy a house in town, he wouldn’t be able to pay off his existing loans.
Deferring taxes can be good. It allows you to have an interest-free loan from the government and when you do pay them, you may enjoy a lower tax rate on the capital gains.
I suggest you discuss the future with your financial advisor and plan so that you can enjoy your golden years without any nasty tax surprises.
Curtis Cutler, Senior Business Credit Analyst at Farm Credit Services of Western Arkansas.
