By Todd King, C.P.A.
Summer 2009
Harvest is well underway and this year’s crop yields will likely vary dramatically. While some areas are expecting average crops, others will likely see some of the lowest yields in many years. This variation is not out of the ordinary. What is out of the ordinary is producers with CRC coverage will discover that your actual production will have very little to do with your income. In fact, this is probably the first year that the less you produce, the more money you will make. For those that purchased the CRC crop insurance, in particular the ones that purchased it on the upper end (85%), this may be one of the most profitable years you have ever had in the wheat business regardless of your yield!
How could this possibly be a problem? Many farmers will find that the bulk of this year’s income will come in the form of a crop insurance check as opposed to a check from the elevator. This will dramatically change the dynamics of the income tax planning process. Farmers are accustomed to managing their tax planning by timing the sale and receipt of the crop proceeds. Now, if a majority of the farmer’s income comes in the form of a crop insurance check, this change will create many new considerations in the tax planning process.
The first consideration is when will the crop insurance check be received. Will the check come before the end of the tax year or after? In certain cases, a farmer can elect to defer the tax on crop insurance proceeds received until the tax year following the year that the loss occurred. To use this crop insurance deferral you must be mindful of two key items in your tax planning,
In order to defer crop insurance proceeds, the taxpayer must have a history of carrying crop over and selling the crop in the following tax year. The Internal Revenue Service says that over 50% of the prior year’s crop must have been carried over to be able to defer any of the current year crop insurance proceeds.
The IRS will allow deferral of the crop insurance proceeds related to yield loss only. The portion that is related to a reduced price is, at this time, not deferrable. This will give rise to a lot of questions as to the computation of the portion of crop insurance that may be deferrable. The point to keep in mind is that a major portion, if not all, of the proceeds many not qualify for the deferral.
The second consideration when tax planning is that many farmers have deferred the taxation of the 2008 crop year income into the 2009 tax year. This could have been done in one of many ways including: deferring the sale of the 2008 crop until 2009, deferring the taxation of crop insurance proceeds received in 2008 until 2009, or electing to treat Commodity Credit Corporation loans on the 2008 crop as loans rather than income. If you have used any one of these methods or a combination of them, there may be a significant amount of income waiting to be taxed in the 2009 year already. Couple this deferred taxation with the fact that in some cases, the bulk of the 2009 crop will be coming in the form of a crop insurance check, and you have some serious taxation issues. It becomes even more complicated when you consider the following:
At least a portion, if not all, of crop insurance checks cannot be deferred into the future.
There is some pressure to sell the 2009 crop at harvest time to take some of the risk out of the CRC game.
If the farmer is not careful, he will likely end up with two years of crop income coming in the 2009 tax year. If this is allowed to happen, Uncle Sam will likely scoop off a major portion of what would have been a great year.
The personnel at Leffel, Otis & Warwick are strong advocates of the planning process. In order for tax planning to be done effectively, it must be done timely. CRC crop insurance has added a whole new challenge to the planning process. Because a significant portion of this year’s income may not be controlled by the farmer, it is essential that a rough tax plan be put in place early. I would strongly recommend that the farmer has a good understanding of their tax situation before any significant cash is received for the sale of the 2009 crop. Properly done, the tax planning process will save significant amounts of money at tax time.
