New UW bulletin describes tax implications of drought strategies
With dry weather limiting last year's forage production, many livestock producers may have had to buy feed or sell breeding cattle or calves earlier than planned. Producers facing weather-related conditions can take advantage of a number of options related to their federal income tax reporting.
A new University of Wyoming Cooperative Extension Service publication outlines the tax implications of several popular drought-related management strategies. Cole Ehmke, coauthor of "Tax Implications of Selected Drought Management Strategies," B-1195, said the most common responses to drought include purchasing additional winter feed, partial herd liquidation and participation in government feed assistance programs.
When additional feed is purchased, producers can deduct the added expense in the year winter feed was purchased (or additional land was rented), said Ehmke, a UW CES agricultural entrepreneurship specialist.
If ranchers sold more livestock than they normally would have, the IRS provides a couple options, he said. The first is to treat the sale as an involuntary conversion under Internal Revenue Code (IRC) 1033. Producers can choose to postpone reporting the capital gain from forced sales as long as similar replacement livestock (or other property related to agriculture if the weather makes it infeasible to reinvest in livestock) is purchased in the future. The replacement period is two years typically, but this can be extended to four (or more) when a federal disaster is declared for the region.
The other option is that producers may elect to defer for a year reporting the income from a forced sale of livestock if the sale was caused by drought conditions. IRC 451 allows ranchers in federally designated weather-related disaster areas to defer income from the sale of animals in excess of what is normally sold for one year. It does not require similar livestock to be purchased. Conditions that must be met include 1) agriculture must be the taxpayer's principal business; 2) the cash method of accounting is used; 3) the excess livestock sold would normally be sold in the following year; and 4) the weather-related conditions that caused an area to be declared eligible for federal assistance must have caused the sale of livestock.
"A rancher who might normally have backgrounded his calves through the winter might have been forced to sell them at weaning," Ehmke said. "If drought conditions caused the producer to sell more animals than he would have sold normally, then, under IRC 451, he may include the proceeds from the sale of the additional animals in next year's income instead of this year's income."
Another option ranchers could consider is income averaging, which spreads taxable income over the three preceding years.
The final strategy is participation in a government program, such as supplemental feed program or range insurance. "Income from feed programs can't be deferred or postponed," Ehmke said, "but crop insurance or disaster payments can under IRC 451."
In short, some tax management options can prevent a large increase in taxable income due to sales forced by drought. With each strategy, there are limits and qualifications, Ehmke said. If considering a drought-related tax strategy, discuss your situation with an accounting professional to take advantage of the options, if applicable.
"Remember that record keeping is an important part of good tax management. Some tax strategies require specific information, such as evidence that weather conditions forced the sale of livestock, the amount of gain realized on the sale and the number and kind of livestock normally sold," he said.
At the moment, portions of southwest Wyoming are in drought conditions with little expected improvement, and large portions of the state are abnormally dry.
"Tax Implications of Selected Drought Management Strategies" is available online at http://ces.uwyo.edu/PUBS/B1195.pdf.
More information on the strategies Wyoming cattle producers have used in recent drought situations can be found in "Multiple Impacts - Multiple Strategies: How Wyoming Cattle Producers are Surviving in Prolonged Drought," B-1178, available online at www.uwyo.edu/ces/PUBS/B1178.pdf.
Hard copies of either publication can be obtained by e-mailing the College of Agriculture's Resource Center at email@example.com, calling 307-766-2115, or writing to the University of Wyoming, College of Agriculture, Department 3313, 1000 E. University Ave., Laramie, WY 82071.