For dairy farmers, it is more important than ever before to project and control taxable income. Publicly traded companies like General Electric and Apple have always known the importance of projecting income and making sure the actual results match their forecasts.
In the past, farmers and dairymen were more concerned with controlling their tax liability than their income. That has changed recently with falling grain prices and the adoption (and upholding) of the Affordable Care Act – which is better known as Obamacare.
Falling grain prices
Falling grain prices have put pressure on farm profits and caused agricultural lenders to become much more concerned about farmer income and their ability to service farm debt.
Although lenders are expected to adjust taxable income to arrive at net farm income, letting income fall too low could reduce a farmer’s ability to obtain financing for continued operations.
Net income is the result of decisions of the operator. What crops to grow, when to sell them and when to pay bills are all decisions that affect farm profitability. The farmer needs to be mindful of profitability and ensure net income matches forecasted projections.
Operational expense rules
For many grain farmers, grain sales are finished by planting time as they sell their prior year’s crop that was stored. They must understand where their income is before they sell fall crops. These farmers may also reduce their income by controlling expenses.
Expenses for a cash-basis taxpayer for the current crop that are paid during the current year are deductible for income taxes. It is important farmers keep separate expenses that are paid in the current year for next year’s crops.
Many seed, fertilizer and chemical dealers offer discounts if you prepay expenses for next year’s crops.
The IRS limits the deduction for these payments on the current year’s tax return to 50 percent of all other deductible expenses for the year (unless the business operation has grown or other extraordinary circumstances have occurred).
The payments cannot be deposits and must actually be purchases of a fixed quantity at a set price.
For many livestock and dairy producers, income arrives every month and cannot be postponed. These producers can only control their net income by prepaying expenses such as feed and supplies and by limiting sales of cull animals until after the end of the year.
As long as Congress keeps extending section 179 deductions for expensing equipment purchases, this also provides an option to limit income if needed.
It is important to understand that even if you are in a high tax bracket and expenses are fully deductible, spending a dollar does not save you a dollar but only the tax on that dollar. So for example, if you are in the 25 percent tax bracket and pay self-employment tax and state income tax, you are still only saving $0.45 for every dollar spent.
Farmers and the Affordable Care Act
With the adoption of the Affordable Care Act, taxpayers’ household income determines whether or not they qualify for subsidy tax credits to help pay for health insurance.
If your household income is too high or too low, you will not qualify, but if it falls between acceptable ranges, you can qualify for advanced premium tax credits, which help offset the cost of health insurance bought on the health insurance marketplace.
Modified adjusted gross income is calculated by adding other nontaxable income to the taxpayer’s adjusted gross income, which is the bottom number on the front page of your form 1040 tax return.
Excluded foreign income, nontaxable social security income and tax-exempt income earned during the year are added to adjusted gross income to arrive at modified adjusted gross income.
To arrive at household income, you must add together all of the modified adjusted gross income of all members of the household, which includes the taxpayer, the taxpayer’s spouse and all individuals who qualify as dependents on the tax return.
The range of income qualifying for the premium tax credit is based on the number of members of the household and is larger than most individuals believe. Table 1 is found on Healthcare.gov. It shows that a family of four with a household income of below $95,400 would qualify for a premium tax credit.
The tax credit can pay a significant portion of health insurance premiums. According to the Affordable Care Act 101 Guide, a family of four with a household income of $35,000 would qualify for a premium tax credit of $8,043 per year. A family of four with a household income of $80,000 per year would qualify for a premium tax credit of $1,816 per year.
The tax credit is based on the income for each year and is not affected by previous or subsequent years. Therefore, a farmer whose income is within the range for a calendar year would qualify for the credit. To receive the credit, you must purchase health insurance from a health insurance marketplace.
If you believe your income will fall within qualifying ranges, you can apply for an advanced premium tax credit, which offsets health insurance premiums and reduces the amount you need to pay each month. If you do not take the advanced credit, you will receive it when you file your tax return.
If you receive an advanced premium tax credit, it is very important that your actual income matches the amount of your projected income. If it does not, you could owe it back at the end of the year, which is why it is so important you accurately project your income each year and work to ensure that your actual income matches your projected income.
Projecting your income
In conclusion, many farmers and dairymen may find they can qualify for health insurance subsidies if their net farm income falls as a result of reduced commodity prices. If they do, it is necessary they purchase their health insurance on a health insurance marketplace in order to receive the credit.
If they take an advanced premium tax credit to reduce their health insurance costs, it is important that their actual taxable income matches what they projected to ensure that they do not have to pay it back at the end of the year.
Farmers can control their income by keeping a close eye on finances, making additional sales and paying for additional expenses to arrive at the income projected. PD
Jeff Baker holds a bachelor’s degree from Purdue University and a master’s degree in financial analysis from the same institution. With more than 30 years of experience in private practice, Jeff helps farmers navigate the often confusing world of farm tax accounting.
Readers should not act upon the presented content or information without first seeking appropriate professional advice.
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Jeff Baker
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- Baker Retirement and Wealth Management
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