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Qualifying as a "farmer" for estimate tax purposes.

Facts: Jim and jean Moore have operated a farm in their spare time for several years; last year, for the first time, the farm made a profit. Jim has decided to retire from his job and devote more time to the farm. * The Moores' prior year return reflects the following information: wages (Jim and Jean), $80,000; farm gross receipts, $100,000; interest and dividends, $10,000. For the current year, they project their income and deductions to be: wages (Jean), $45,000; farm gross receipts, $150,000; farm expenses, $100,000; interest and dividends, $6,000; itemized deductions and exemptions, $66,100. In addition, they anticipate selling a portion of their farmland for a gain of $65,000. Issue: Can the Moores qualify as farmers for estimated tax purposes?

Analysis

Most taxpayers are required to make four equal installments of their estimated tax on April 15, June 15, September 15 and january 15. However, special rules apply for farmers and fishermen. Taxpayers who receive at least two-thirds of their gross income from farming or fishing do not have to make quarterly installments. Instead, they are required to make one installment by January 15 of the subsequent year. Additionally, the amount of the installment need only be 66 2/3%--instead of the 90% required of other taxpayers.

The general rule regarding the January 15 payment not being due if any taxpayer files his return and pays the tax by January 31 is also modified for farmers and fishermen. They can disregard the January 15 and January 31 dates if they file their return and pay the tax by March 1.

These special rules apply to taxpayers who receive two-thirds of their gross income from farming or fishing in either the current or prior year. Gross income from farming includes income from the active management or operation of a farm for profit, crops produced on the land or rents based on farm production.

Gross income from farming does not include wages received for farming another person's land or gain from the sale of farmland.

The Moores cannot qualify as farmers based on their prior year activity because gross income from farming ($100,000) was not at least two-thirds of total gross income ($190,000) for the prior year. Additionally, the gain from the sale of farmland during the current year will cause them to fail the two-thirds test because the gain is not considered income from farming. Thus, the Moores would have to make quarterly estimated tax payments under the general rule. Assuming that they cannot use the annualization method or the 100% of prior year tax safe harbor, these installments would be as follows:
Wages $45,000
Farm gross receipts $150,000
Farm expense 100,000)
Net income
 from farming 50,000
Interest and dividends 6,000
Gain from sale
 of farmland 65,000
Itemized deductions
 and exemptions (66,100)


Taxable income 99,900


Income tax (rounded) 23,500
Self-employment tax
 (15.3% of $50,000) 7,650


Total tax 31,150
Required percentage x 90%
Total requirement
payments rounded) 28,100


Quarterly installment $7,025


(Note that these calculations do not consider the overall limitation of itemized deductions or the personal exemption phase-out.

The Moores can avoid this adverse effect by (1) postponing the sale until January of the subsequent year or (2) closing the sale in the current year but structuring it as an installment sale. In either situation, the Moores would defer the gain until the subsequent year. The deferral would result in less gross income and, thus, increase the percentage of farming income to above 662/3%. This would allow the Moores to qualify as farmers in the current year (year 1). As such, the Moores would be required to make only one installment on January 15 of the following year. In addition, the installment would equal 662/3% of total tax, instead of 90%. This is reflected by the following table:
Wages $45,000
Farm gross
 receipts $150,000
Farm expense (100,000)
Net income
 from farming 50,000
Interest and dividends 6,000
Itemized deductions
 and exemptions (66,100)


Taxable income 34,900


Income tax (rounded) 5,300
Self-employment tax
 (15.3% of $50,000) 7,650
Total tax 12,950
Required percentage x 66 2/3%
Installment due January 15
 (rounded) 8,650


They would also be able to qualify as farmers in the next year (year 2) because the farm exception applies if the taxpayer meets the gross income test in either the current year or the prior year. Although the Moores' farm income in year 2 would not meet the two-thirds-of-income test, hopefully they would be able to structure year 3 income so that their farm gross income is at least two-thirds of total gross income.

Conclusion

If the Moores recognize the gain from the sale of farmland in the current year, they will not meet the farm exception. Thus, they would have to make quarterly estimated tax payments during the year. However, if they can postpone gain recognition for the sale of farmland, they will qualify as farmers and can use the more beneficial rules for estimated tax payments. Of course, the postponement of gain will also defer tax to the subsequent year. The differences between gain recognition in the current year and the subsequent year is illustrated in the following table:
 Not
 qualifying Qualifying
 as farmers as farmers
Installment
 payments due:
April 15 $7,025 $ --
June 15 7,025 --
September 15 7,025 --
January 15 7,025 8,650
Tax due with
 the return 3,050 4,300
Total tax $31,150 $12,950


In this situation, the Moores receive a substantial deferral of estimated tax payments and defer a substantial amount of tax from the current year to the subsequent year.

Editor's note: This case study has been adapted from "PPC Tax Planning Guide--Individuals," 5th Edition, by Elizabeth DiTommaso, Helen Gardner and Terry W. Lovelace, published by Practitioners Publishing Company, Fort Worth, Tex., 1993.
COPYRIGHT 1996 American Institute of CPA's
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1996, Gale Group. All rights reserved. Gale Group is a Thomson Corporation Company.

Article Details
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Author:Ellentuck, Albert B.
Publication:The Tax Adviser
Date:Mar 1, 1996
Words:997
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