In the heat of summer, next year’s federal income tax bill may be the last thing on your mind. For some of us, thinking about our taxes brings on a headache we’d rather postpone. For beginning farmers, who may not be familiar with all the tax considerations involved in farming, the topic can be even more daunting.
Here are just a few tips from three leading tax specialists to help minimize your tax liability and increase your after tax income.
• Keep Good Records and Keep Them Separate. There are several software programs that are inexpensive and make it easy to set up and track all your farm expenses. Additionally, the cost of the program is fully deductible in the year of purchase. Also, be diligent in keeping farm and personal records separate.
• Reduce Fluctuations in Your Income. You can’t take advantage of deductions if you don’t have offsetting income in low income years. To level your income, farmers can prepay expenses for up to 1 year, or defer income in high income years. Plan major expenditures for those years. Taxes on deferred income must be paid.
• Don’t Make Purchases Just for the Writeoff. CPAs say one of the most common mistakes young farmers make is buying equipment they don’t need simply to get a tax write off. Avoid unnecessary purchases.
• Maximize Medical Options. Medical expenses can take a bite out of cash flow. Consider using one of the tax advantaged options available. Health Savings Accounts and Health Reimbursement Plans enable farmers to pay for out of pocket expenses, including high deductibles, and get a full tax deduction on the funds in those accounts. In addition, self employed workers can deduct 100% of qualified health insurance costs, including medical, dental, and long term coverage.
• Consider Tax Advantaged Retirement Plans. When it comes to retirement planning, the sooner you start, the more you’ll be able to maximize the value of compounding investments. Simplified Employee Pension (SEP) accounts allow annual contributions of up to 20% of net income, which grow tax deferred.
• Avoid “Hobby Losses.” Nearly 55% of U.S. farmers have some off farm income, according to the latest agricultural census. If you are in that group, CPAs say beware of IRS “hobby loss rules” that will eliminate business deductions if the IRS determines your farm is actually a hobby.
• Don’t Forget About Self Employment Tax. Even if you have little or no taxable farm income, you still owe self employment taxes —something that comes as a surprise to many beginning farmers.
• Pay on Time. If two-thirds of your gross income is derived from farming, the IRS does not require estimated quarterly tax payments as long as your taxes are filed and paid by March 1.
• When in Doubt, Get Help. A CPA will make sure your records comply with generally accepted accounting principles.
James L. Cummins is executive director of Wildlife Mississippi, a nonprofit, conservation organization founded to conserve, restore and enhance fish, wildlife and plant resources.
