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Exit from farming requires tax planning

Agrivision: An accountant is key to developing a strategy to discontinue the farm.

January 24, 2023

9 Min Read
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DEVELOP A PLAN: Consult with a competent tax adviser, and look at all the angles to minimize your tax liability over a scenario of several years. Steve Prezant/Getty Images

Last fall, I was injured in a farming accident during corn harvest. I had two surgeries on my leg and spent a full week in the hospital. I will likely be seeing doctors for another six months. Thanks to them, I’m in one piece now. I started six months of rehab the end of December. My wife and I farm 500 acres, milk 40 cows and raise 30 heifers in northeastern Wisconsin. My wife is handling the milking and chores with help from our teenage son, but I’m thinking it’s time to dust off my college diploma, update my resume and look for a job off the farm at a co-op or doing agronomy work. I’m 50 years old, and I have been farming for 25 years. My son doesn’t want to farm, so I think this is a good time to rent our farm to a neighbor and sell our cows and machinery.

Should we have a farm auction, or should we sell the machinery at auction and find a buyer for the cows and heifers? Are prices good now? Our cows have a 24,000-pound herd average and a low somatic cell count. We owe $250,000 on our 300-acre farm, which includes our house and buildings. Our cows and machinery are paid for. What kind of taxes will we have to pay? I would appreciate any advice you can offer.

Tom Kestell: I’m sorry to hear about your harvest accident, but glad you are on the mend. Farming remains one of the most dangerous occupations, and safety is something we all have to pay more attention too. Life is full of changes, and if you are going to make a major change, now is a good time to do so.

As I am sure you are aware, the workplace has changed dramatically since you got your degree. Agronomy has made rapid changes, mostly for the good, over the years. The basics of what you learned in college are probably still true today, but a refresher course is likely needed to get you up to speed on new methods, new ideas, and the economic and environmental impact of modern-day practices. Many companies are looking for individuals with real-life experience in the ag world in both sales and application of services. Make safety a priority in your new career.

I think finding a buyer for your herd is your best option. Are your cows trained for freestalls and lockups? This is a must for large herds so transition can be seamless. Have you been able to keep the herd bred on a timely basis since your injury? Auctions of cows can be very unpredictable, so having a locked-in buyer would relieve many worries.

Remember that the bottom line is the most important. There are lots of expenses with a public sale or auction, but in a private sale, you can control or minimize these costs. Any casual tax advice would not be adequate. Consult with a competent tax adviser, and look at all the angles to minimize your tax liability over a scenario of several years. This might be the most important decision of all; remember the bottom line and the long-term implications of the decisions you make.

Sam Miller: First, I am glad to hear you are recovering from your accident and are considering your options individually and as a family. As for plans to sell the equipment and livestock, first contact your tax preparer and discuss the tax implications of selling the assets, including the timing of the sales. You will likely find that some assets will have capital gains treatment while others will be taxed as ordinary income.

Next, contact a respected auction company as well as a respected cattle buyer to inquire as to their thoughts on how to sell the assets. Fortunately, both cattle and equipment values are higher than they were a few years ago, so your timing might be right. Once you have gathered information from the auctioneer and cattle buyer, you may need another visit with your tax preparer to determine the tax impacts. Then you can decide on the appropriate sales plan.

Lastly, your skill set will be welcomed and valuable as you seek employment, particularly in a tight labor market. Good luck with your rehab and future plans.

Katie Wantoch: I’m sorry to hear about your farming accident. It sounds like you’re on the mend and starting to look at what the future holds for your family and your farm business. I can give you some insight as to potential tax liabilities, as calculating and reporting gains and losses on the disposition of assets can be complex. The disposition of assets means the sale, exchange, casualty/theft or involuntary conversion of assets. The Internal Revenue Code provides information on various property types and the related tax treatments. IRC Section 1231 property includes assets such as cattle held for breeding or dairy and machinery used in the business if you have owned them for a required holding period.

For most assets like machinery, the holding period (ownership) must be more than 12 months to qualify. However, cattle for breeding or dairy must be held or owned for more than 24 months or more to qualify as IRC Section 1231 assets. This is important to know when considering what assets to sell and how they’ll be taxed. The income from the sale of your dairy heifers would be treated as ordinary income, reported on your 1040 Schedule F, and would be subject to self-employment tax. When you dispose of qualifying assets, IRC 1231 provides the best of both worlds from an income tax perspective. Upon the sale of your raised cows, this income would be reportable on the 1040 Form 4797, but it is not guaranteed capital gains treatment.

The sale of your farm machinery that you have owned for more than 12 months would require the calculation for adjusted tax basis (purchase price less depreciation taken) to determine if equipment would be sold at a net gain or loss. This net gain or loss would also be reportable on the 1040 Form 4797, and would offset some of the gain from your cow sales if both were sold in the same year. Meet with your accountant or tax preparer to determine which strategy might work best to reduce future tax liabilities. For more information, ruraltax.org is a great resource on farm income taxes.

Planning for future expansion

My wife and I own 400 acres and milk 78 cows in east-central Wisconsin. I’m 52 years old, and our oldest son is a sophomore in college working on a bachelor’s degree in agribusiness. When he graduates in two years, he plans to come home and farm with us. My wife works full time off the farm as an elementary school teacher. We have no debt on our farm, but we owe $100,000 on our machinery. We are hoping to expand our herd to 225 cows and build a freestall barn and milking parlor. To have everything ready in two years, we need to start figuring out how we are going to do this. What are your thoughts?

Tom Kestell: I am happy your son wants to return to continue and expand your farming legacy. What are my thoughts on your future plans? First, spend the next two years planning and exploring all the different possibilities on your expansion and your son’s decision to join your farm as an adult. My first thought is to make your son an integral part of the planning and actual construction of your proposed expansion. If things work out, your son’s commitment to the farm will and should extend well beyond your retirement. Your son’s input into the planning and construction of your expansion should also include having skin in the game; this includes the rewards and shared risk the farm will undergo.

The younger generation many times sees things differently and from a more futuristic view than those of us who have been in the trenches all our lives. Now is a pivotal point for the future of your dairy operation — look at the strengths and the weak points of your operation, and try and anticipate what your needs will be in the future. Labor needs will continue to be more expensive, and it will be increasingly more difficult to hire and retain employees. I would look seriously into automation such as milking robots, automatic scrapers, feed push-up robots, etc.

Spend as much time as possible investigating successful operations like you would like your farm to become. Be inquisitive, open-minded and laser-focused on the result you want to achieve. Only proceed if there is room for a margin of error. Measure twice or more and cut once. That being said, get your son involved in the entire project, with your and your son’s eyes wide open.

Sam Miller: Fortunately, you have some time on your side, as well as a very good financial position to plan for expansion and bring your son into the business. A dairy business consultant can assist in the planning process. Reach out to one to start this process, which will include setting personal, family and business goals; deciding on a business structure (limited liability company or sole ownership); doing a feasibility study for the capital costs; and developing financial forecasts and a timetable. Now is not too soon to start this process. If you are not able to find a dairy business consultant, start with your local Extension ag agent, who may have a referral or could assist with some of this process. Good luck with your plans.

Katie Wantoch: I’m excited for the future possibilities of your farm business. I’m glad you are thinking about next steps in advance. First, you will want to find a business consultant, technical college instructor or Extension educator to work with you. Use their advice to provide you with insight into your current business, such as a review of historical production and financial information. You can’t move forward until you have found the strengths and identified the weaknesses in your current business. The strengths are those that give an advantage or opportunity, and weaknesses are those that stand in the way or limit what the farm can do. A comprehensive analysis helps you shape the future of your farm business. Continue to work with a team of ag professionals, including lender, attorney, accountant, etc., on future planning steps for your farm business expansion.

Agrivision panel: Tom Kestell, dairy farmer, Sheboygan County, Wis; Sam Miller, managing director, group head of agricultural banking, BMO Harris Bank; and Katie Wantoch, statewide University of Wisconsin Extension farm management outreach specialist/professor of practice. If you have questions you would like the panel to answer, send them to: Wisconsin Agriculturist, P.O. Box 236, Brandon, WI 53919; or email fran.ol[email protected].

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