To Sell, or Not to Sell to Coops, That is the Question

Economic Tidbits 12.18.17

Two tax code changes in the tax package passed last December by Congress are receiving much attention in the countryside.  The first change concerns the tax treatment of producers’ sales to coops.  The second concerns the loss of the Section 1031 exchanges for farm machinery and equipment.  Let’s examine these changes in more detail.

Section 199A of the tax code contains two deductions which could affect taxes paid by farmers and ranchers: a “regular” deduction and a “coop” deduction.  Under the regular deduction, producers can deduct 20 percent of any “pass-through” income from a Schedule F, Subchapter S, or partnership from taxable income.  Limits to the deduction apply to incomes above $315,000 for those filing joint returns, and the deduction is limited to 20 percent of the net of taxable income less capital gains and cooperative distributions.  Under the coop deduction, producers who sell to a coop, and are members of the coop, can deduct 20 percent of total payments received from coops from taxable income.  The deduction is limited to 100 percent of the net of taxable income minus capital gains.  Note, the deductions are only applicable if a producer has taxable income and producers can only utilize one of these deductions, and not both.  Finally, the Section 199A deduction does not reduce self-employment income.

The future of the coop deduction is very much in flux.  The IRS has not issued final rules and private grain companies are lobbying Congress hard to remove the provision.  The Congressional authors of the deduction have admitted it was not their intent to give coops a competitive advantage and have pledged to find a solution.  Yet it remains to be seen whether the political leverage can be mustered to enact a change in Congress.

The federal tax bill also eliminated Section 1031 exchanges on personal property including tractors, combines, tillage equipment, etc.  Removal of the 1031 exchange was a trade-off to the increased expensing levels contained in the bill for bonus depreciation and Section 179.  There are a couple implications of this change that producers should be aware.  First, the elimination of 1031 exchanges on equipment can have implications for self-employment taxes.  Since the trade-in value received on equipment will now be treated as ordinary income, and the depreciation expense is still reported on Schedule F, there will be a reduction in self-employment taxes.  Second, because of how Nebraska determines the taxable value of personal property, the removal of Section 1031 exchange will increase the taxable value on new equipment purchases and consequently, the amount of personal property taxes paid.

As always, changes in the federal tax code will affect each taxpayer and farm or ranch operation differently given their unique circumstances.  Before making any dramatic changes to a farm or ranch operation or marketing plans, producers should always discuss such changes with a tax preparer or accountant.

 

Jay RempeJay Rempe is the senior economist for Nebraska Farm Bureau. Rempe’s background in agricultural economics, years of experience in advocating at the state capitol, and a firm grasp of issues allow him to quantify the fiscal impact of a regulatory proposal, and provide an in-depth examination of key issues affecting Nebraska’s farmers and ranchers.

Federal Tax Reform: Property Taxes Would Still Be Deductible . . .

Economic Tidbits 12.18.17

Lawmakers moved forward on federal tax reform after negotiators agreed to language in a conference report.  Both the House and Senate are voted on the conference report this week.  Many farmers and ranchers continue to ask whether property taxes paid on agricultural land, buildings, and equipment in their farm or ranch operations could still be deducted.  Yes—the conference report does not change the ability to deduct property taxes as a business expense by farmers and ranchers on Schedule F, Schedule E, or Schedule C.  The report does establish a $10,000 limit on the deduction for state and local income and property taxes, but the limit only applies to itemized deductions claimed on Schedule A filed by individual filers.  Even though most farmers file income taxes as individuals, business income from a farm or ranch is reported on Schedule F, E, or C, where property taxes can still be deducted as a business expense.

 

Other tax provisions of interest to agriculture include:

  • Doubles the standard deduction for individuals to $24,000 for joint filers; maintains seven tax brackets; adjusts tax rates; eliminates personal exemptions.
  • Increases the Section 179, small business expensing, limit to $1 million and increases the level at which the deduction begins to phase out to $2.5 million. Indexes limits to inflation.
  • Allows businesses to fully and immediately write off business investments through 2022. After 2022, provision is phased out until it is eliminated in 2027.
  • Shortens the depreciation period for farm equipment and machinery to 5 years.
  • Limits the interest deduction for businesses with more than $25 million of gross receipts.
  • Reduces from five to two the number of years net operating losses can be carried back.
  • Doubles the estate tax deduction to $11 million per individual and indexes the exemption for inflation. Provision sunsets Dec. 31, 2025.
  • Continues stepped-up basis.
  • Continues like-kind (1031) exchanges for real property, but eliminates it for equipment and livestock.
  • Allows individuals operating pass-through businesses (sole proprietorships, partnerships, or Subchapter S), to deduct up to 20 percent of the income generated by a pass-through entity from taxation with some limitations. Provision sunsets Dec. 31, 2025.
  • Reduces to zero the ACA tax penalty for individuals without health insurance.

 

Many farmers and ranchers should see reduced taxes under the provisions of the tax reform bill.  Most farmers and ranchers file as individuals, and roughly 78 percent of farm filers currently claim the standard deduction.  The doubling of the standard deduction, then, would reduce the income subject to taxation.  However, the loss of the personal exemption would offset some of this benefit, especially if a filer has multiple children, but the doubling of the child tax credit could help.  Excluding 20 percent of pass-through income, along with the equipment expensing provisions, would also reduce the amount of income subject to tax.  Both could be helpful in helping producers cash flow their operations given the state of today’s agricultural economy.  Finally, the doubling of the exempt amount for estate taxes would reduce the number of farmers and ranchers’ estates subject to the tax, and reduce the planning expenses for others.  One negative in the plan, though, is many of the provisions are temporary due to sunset in 2025, meaning another debate in a few years over many of the same tax issues.

 

Jay RempeJay Rempe is the senior economist for Nebraska Farm Bureau. Rempe’s background in agricultural economics, years of experience in advocating at the state capitol, and a firm grasp of issues allow him to quantify the fiscal impact of a regulatory proposal, and provide an in-depth examination of key issues affecting Nebraska’s farmers and ranchers.

Property Taxes Can Still Be Expensed . . .

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Last week the House Ways and Means Committee released its long-awaited federal tax reform proposal.  The proposal would change how farmers and ranchers are taxed both as individuals and as businesses.  Many farmers and ranchers are wondering if property taxes paid on land, buildings, and equipment could still be expensed as business expense under the proposal.  Yes-the ability to deduct property taxes as a business expense by farmers and ranchers on Schedule F would continue.  The changes made to the state and local taxes deduction only applies to itemized deductions claimed on Schedule A filed by individuals.  The deduction for state income or sales taxes would no longer be allowed, but property taxes of up to $10,000 on the principal residence could be deducted.  The limit would, however, apply to any property taxes deducted on a farm or ranch residence claimed on Schedule A.  The average tax rate paid on residential property in Nebraska was roughly 2.0 percent in 2016.  At that rate, the limit on property tax deductions would affect Nebraskans with homes valued at more than $500,000.

Wheat Field2One of the bigger changes proposed under the plan affects “pass-through” entities like sole proprietorships, partnerships or S-corporations.  Today, income from pass-through entities is reported on individual returns and taxed at individual rates.  Under the proposal, such business entities could claim 30 percent of the pass-through income as a “return to investment” and be taxed at a maximum rate of 25 percent. The remaining 70 percent would be taxed at individual rates like today.  It is unclear whether the 25 percent tax rate is a flat-rate, or if rates would phase-up until reaching that level.  This provision could potentially reduce taxes on farm business income depending on where individuals fall in terms of brackets and rates.  It has been suggested that nearly one-half of the farm and ranch operations in Nebraska could experience tax reductions with this provision.

A couple other provisions in the proposal are worth noting.  First, the plan would allow businesses with less than $25 million in gross receipts to use cash accounting for tax purposes and deduct interest as a business expense.  According to USDA data, only 0.40 percent of farms have gross receipts which exceed $25 million, so a large majority of farm and ranch operations would continue to be able to use cash accounting and deduct interest expenses.  Second, the plan would double the exemption for estate taxes and eventually repeal the tax in 2024.  At the same time, the plan would maintain the stepped-up basis for heirs.

The Ways and Means Committee is expected to mark up the bill yet this week and the full House will consider it shortly thereafter.  The U.S. Senate will have its turn at the wheel as well.  Stay tuned as Congress hopes to have a package passed by the end of the year.

 

Jay RempeJay Rempe is the senior economist for Nebraska Farm Bureau. Rempe’s background in agricultural economics, years of experience in advocating at the state capitol, and firm grasp of issues allow him to quantify the fiscal impact of a regulatory proposal, and provide in-depth examination of key issues affecting Nebraska’s farmers and ranchers.

Forecast State Receipts Adjusted Downward . . .

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The Nebraska Economic Forecasting Board (NEFAB) on Oct. 27 adjusted its state revenue forecasts downward resulting in a budget shortfall of roughly $195 million for the current budget biennium.  NEFAB revenue forecasts are used by state senators to set the state spending.  Senators adopted a biennial budget earlier this year, but because they are required by the constitution to balance the budget, the decrease in forecast revenue means budget adjustments will be necessary during the 2018 legislative session in order to balance.

NEFAB revenue forecasts declined $100 million for the current fiscal year and $123 million for fiscal year 2018-19.  NEFAB projects revenues to grow, but at a slower rate than it forecast in April when it last met.  In April, it projected revenues to grow 5.6 percent in FY2017-18, and 5.4 percent in FY2018-19.  Most of the slowdown in revenues is due to lower individual income tax revenues.  Actual revenue growth averaged 0.3 percent over the last two fiscal years.  Historically, state tax revenues have grown at an average rate of 4.7 percent.  The chart below shows the state’s percentage revenue growth since 1982.  Note, the chart still reflects the NEFAB forecasts made in April.
tax receipts and budget

The state’s revenue growth is generally thought to be a good reflection of economic activity in the state.  The Legislative Fiscal Office said in its August budget report, “Beside inflation, this revenue growth over time reflects the ebb and flow of economic activity and economic cycles.  It reflects new businesses created and existing businesses that close.  It reflects new products and services added to the tax base and existing products and services that are eliminate or expire.  The key is the net impact.  The new or expanded businesses, products or services more than offsets those that decline or disappear.”  In looking at the chart, it’s easy to spot the economic downturns which have occurred in the past, 1986, 2002-03, and 2009-10.  The most recent decline in revenue growth, though, is different in that it has occurred while the state’s overall economy continues to grow.

So how does the latest NEFAB forecasts reflect on the Nebraska economy?  First, it’s probably reflective of the ongoing struggles in agriculture, which accounts for over one-fourth of the state’s gross domestic product.  While there are signs farm income may have hit a bottom, nobody is forecasting robust growth in near future for agriculture.  Second, it’s probably a reflection that the Nebraska’s economy is like the overall U.S. economy.  Economic growth is expected to continue, but at sluggish pace.  Thus, the projections of revenue growth greater than 5 percent like those made by NEFAB in April just isn’t in the cards.

 

Jay RempeJay Rempe is the senior economist for Nebraska Farm Bureau. Rempe’s background in agricultural economics, years of experience in advocating at the state capitol, and firm grasp of issues allow him to quantify the fiscal impact of a regulatory proposal, and provide in-depth examination of key issues affecting Nebraska’s farmers and ranchers.

SALT & Taxes . . .

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The Chairman of the House Ways and Means Committee, the tax writing committee of the House of Representatives, announced a draft of the federal tax reform bill will be released November 1.   Leaders in both the House and Senate have expressed hope a tax package could be passed by Thanksgiving.  One taxing concern on the minds of many farmers and ranchers is the fate of the deduction for state and local taxes (SALT).  The concern is especially acute in Nebraska given the large amount of property taxes paid by agriculture, roughly $1.3 billion in 2016.

Captiol at night

Under the unified framework for tax reform, the Trump Administration and Republican Congressional leaders said they want to simplify the federal tax code by repealing all itemized deductions, except deductions for home mortgage interest and charitable contributions.  Itemized deductions are claimed by individuals on Schedule A filed with Form 1040.  Most farmers and ranchers file taxes as individuals-the 2012 USDA Census of Agriculture showed 85 percent of Nebraska farms filed taxes as either an individual or family.  Additionally, only 28 percent of farmers and ranchers itemize deductions.  It is these operations who itemize deductions the loss of the ability to deduct state and local taxes could affect.  The average annual deduction for state and local taxes reported by farm sole proprietors on Schedule A for 2009-2015 (excluding 2013) was $128.4 million.  Presumably, the deduction is for state income taxes, property taxes on farm residences, and taxes on personal vehicles.  For these operations, the loss of the deduction could increase federal income taxes an estimated $18 million per year if not offset by other changes.

Corn harvest in Illinois - SeptemberFarmers and ranchers also deduct state and local taxes paid as a business expense for their operations, be it as sole proprietors, partnerships, or corporations.  It is here where most of the property taxes paid by agriculture on land and machinery are likely reported and losing the ability to expense state and local taxes would result in a significant increase in federal taxes.  Fortunately, according to the lobbyist for American Farm Bureau, the ability to expense state and local taxes as a business expense will continue.  Congressional leaders have indicated the repeal of the state and local taxes deduction would only apply on individual returns, and not affect the expensing of taxes by businesses.  But stay tuned, the reform discussions are now beginning in earnest, and no one can predict what might happen.

 

Jay RempeJay Rempe is the senior economist for Nebraska Farm Bureau. Rempe’s background in agricultural economics, years of experience in advocating at the state capitol, and firm grasp of issues allow him to quantify the fiscal impact of a regulatory proposal, and provide in-depth examination of key issues affecting Nebraska’s farmers and ranchers.

Northeast Nebraska Counties Lead the State . . .

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As was the case in 2016, counties in northeast Nebraska had the highest average cash rental rates for agricultural ground in 2017.  Dixon County had the top average rental rate for irrigated ground in 2017 at $312/acre, surpassing Cedar County by $1/acre.  Last year Cedar County topped all Nebraska counties with a cash rent of $324/acre on irrigated land.   Knox, Wayne, Cuming and Platte Counties all had irrigated cash rents above $280 per acre in 2017.  Counties in Northeast Nebraska also led the state in cash rents on non-irrigated land in 2017.  Dakota County led the way at $266/acre, $5/acre less than last year, followed by Cuming, Thurston, Cedar and Wayne Counties.  Pierce and Cuming Counties had the highest 2017 rents for pasture ground at $73/acre.

The maps in the slideshow below, provided in a recent CropWatch released by the UNL Institute of Agriculture and Natural Resources, provides average cash rental rates for irrigated cropland, non-irrigated cropland, and pasture ground across the state. The data comes from surveys of Nebraska farmers and ranchers by the USDA-NASS.

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Jay RempeJay Rempe is the senior economist for Nebraska Farm Bureau. Rempe’s background in agricultural economics, years of experience in advocating at the state capitol, and firm grasp of issues allow him to quantify the fiscal impact of a regulatory proposal, and provide in-depth examination of key issues affecting Nebraska’s farmers and ranchers.

Property Tax Credit Averages $2.28 per Acre . . .

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The property tax credit for 2017 under the Property Tax Credit Act will reduce taxes on agricultural land an average $2.28 per acre.  To put the figure into context, property taxes levied on agricultural land for 2016 averaged $26.07 per acre.  The total amount of tax credit provided to agricultural land owners for 2017 will equal almost $105 million, or 8.7 percent of the total taxes paid in 2016.  In other words, without the credit, property taxes paid on agricultural on agricultural land for 2017 would be 8.7 percent higher.
The total credit amount for all real property owners will equal $224 million, an increase of $20 million over the previous year as provided in LB 958 passed in 2016.  LB 958 also provided that additional weight be given to agricultural land in distributing the credit monies.  In absolute dollar terms, Custer County agricultural property owners will receive the most credit at just over $2.95 million, followed by Holt County and Platte County property owners.  In percentage terms, the credit provided to Keya Paha County agricultural property owners will equal 14.6 percent of 2016 taxes paid, 13.6 percent for Loup County owners, and 13.2 percent for Wheeler County owners.   The map below plots the credit as a percentage of 2016 taxes paid on agricultural land in each county.  The more yellow or red the county spot, the greater the percentage.  For exact figures for each county, click here.
 

Prop Tax Credit 9-26-17

Source: Nebraska Department of Revenue

 

 

Jay RempeJay Rempe is the senior economist for Nebraska Farm Bureau. Rempe’s background in agricultural economics, years of experience in advocating at the state capitol, and firm grasp of issues allow him to quantify the fiscal impact of a regulatory proposal, and provide in-depth examination of key issues affecting Nebraska’s farmers and ranchers.