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Chapter
Introduction
You are in the business of farming if you cul-
tivate, operate, or manage a farm for profit,
either as owner or tenant. A farm includes
Get forms and other information faster and easier by: stock, dairy, poultry, fish, fruit, and truck
COMPUTER farms. It also includes plantations, ranches,
• World Wide Web ➤ www.irs.ustreas.gov ranges, and orchards.
• FTP ➤ ftp.irs.ustreas.gov This publication explains how the federal
tax laws apply to farming. Use this publication
• IRIS at FedWorld ➤ (703) 321-8020 as a guide to figure your taxes and complete
FAX your farm tax return. If you need more infor-
• From your FAX machine, dial ➤ (703) 368-9694 mation on a subject, get the specific IRS tax
See How To Get More Information in this publication. publication covering that subject. We refer to
many of these free publications throughout
this publication. See chapter 21 for informa-
tion on ordering these publications.
The explanations and examples in this 1) Three years after the date you filed your SIMPLE retirement plan. Beginning in 1997,
publication reflect the Internal Revenue Ser- original return, or you may be able to set up a savings incentive
vice's interpretation of tax laws enacted by match plan for employees (SIMPLE). You can
2) Two years after the date you paid the
Congress, Treasury regulations, and court set up a SIMPLE plan if you have 100 or
tax.
decisions. However, the information given fewer employees and meet other require-
does not cover every situation and is not in- ments. See chapter 17.
tended to replace the law or change its Weather-related sales of livestock. Sales
meaning. This publication covers subjects on or exchanges of livestock after 1996 because
of flood or other weather-related conditions Higher earned income credit. The maxi-
which a court may have made a decision mum earned income credit has been in-
more favorable to taxpayers than the inter- may qualify for special tax treatment. Previ-
ously, only sales or exchanges due to drought creased to $3,656 for 1997. To claim the
pretation of the Service. Until these differing credit, you must have earned income (in-
interpretations are resolved by higher court conditions qualified. See chapters 4 and 13.
cluding net earnings from self-employment)
decisions, or in some other way, this publi- and modified adjusted gross income of less
cation will continue to present the interpreta- Standard mileage rate. The standard mile-
age rate for the cost of operating your car, than $29,290 and meet certain other require-
tion of the Service. ments. For more information, including what
van, pickup, or panel truck in 1997 is in-
creased to 31.5 cents per mile for all business counts as earned income, see Publication
Comments and recommendations. In 596, Earned Income Credit.
miles. See chapter 5.
compiling this Farmer's Tax Guide, we have
adopted a number of suggestions that read- Medical savings accounts. For tax years
ers sent to us. We welcome your suggestions Self-employed health insurance de-
duction. The part of your self-employed beginning after 1996, a self-employed indi-
for future editions. vidual may be able to take a deduction for
health insurance premiums that you can de-
Please send your comments and re- duct as an adjustment to income increased contributions made to medical savings ac-
commendations to us at the following to 40% for 1997. See chapter 5. counts (MSAs) to help cover medical ex-
address: penses for the self-employed individual and
Net operating loss (NOL) deduction. For his or her employees. See Publication 969,
Internal Revenue Service an NOL occurring in a tax year beginning after Medical Savings Accounts (MSAs).
Technical Publications Branch T:FP:P August 5, 1997, the carryback period is re-
1111 Constitution Avenue N.W. duced to 2 years and the carryforward period
Washington, DC 20224 is increased to 20 years. However, the
We respond to many letters by telephone.
carryback period remains 3 years for the part
of an NOL that:
Important Changes
It would be helpful to include your area code
and daytime phone number with your return 1) Is from a casualty or theft, or
for 1998
address. The following items highlight a number of
2) In the case of a farm business or other administrative and tax law changes for 1998.
Farm tax classes. Many state Cooperative qualified small business, is attributable More information on these and other changes
Extension Services conduct farm tax work- to a Presidentially declared disaster. can be found in Publication 553, Highlights
shops in conjunction with the IRS. Please See chapter 5. of 1997 Tax Changes.
contact your county extension office for more
information. Limits on depreciation of business cars. Averaging of farm income. For tax years
The total section 179 deduction and depreci- beginning after 1997, individual farmers can
ation you can take on a car you use in your elect to use income averaging to compute tax
business and first place in service in 1997 is on farm income. See Publication 553.
Important Changes increased to $3,160. Special rules apply to
certain clean-fuel vehicles placed in service Payments to attorneys. Generally, any
for 1997 after August 5, 1997. See chapter 8. payments you make after 1997 to an attorney
The following items highlight a number of for legal services must be reported to the IRS
administrative and tax law changes for 1997. Increased section 179 deduction. For on an information return. See Publication 553.
They are discussed in more detail throughout 1997, the total cost you can elect to deduct
the publication. Changes are also discussed under section 179 of the Internal Revenue Self-employed health insurance de-
in Publication 553, Highlights of 1997 Tax Code is increased to $18,000. See chapter duction. The part of your self-employed
Changes. 8. health insurance premiums that you can de-
duct as an adjustment to income is increased
Private delivery services. You can use Lower tax rate on certain capital gains. to 45% for 1998. See chapter 5.
certain private delivery services designated For individuals, the maximum capital gain tax
by the IRS to meet the “timely mailing as rate is generally reduced for sales of certain Increased section 179 deduction. For
timely filing and paying” rule for tax returns property after May 6, 1997. See chapter 10. 1998, the total cost you can elect to deduct
and payments. See your income tax package under section 179 of the Internal Revenue
for the list of designated services. Sale of main home. You may be able to Code is increased to $18,500. See chapter
exclude up to $250,000 of gain ($500,000 if 8.
Private delivery services cannot de- married filing a joint return) if you sell your
! liver items to P.O. boxes. You must
CAUTION use the U.S. Postal Service to mail
main home after May 6, 1997. See chapter
10. Child credit. Beginning in 1998, you may
any item to an IRS P.O. box address. be able to claim a credit on your tax return for
each qualifying child under the age of 17. The
Gain on involuntary conversions. You
credit is $400 per child in 1998 and $500 per
Deferred payment (installment) sales and cannot postpone reporting gain on an invol-
child in 1999. See Publication 553.
alternative minimum tax. Cash basis farm- untary conversion occurring after June 8,
ers can now use the installment method to 1997, if you acquire replacement property or
report income from sales of property used or stock from a related party and your total re- General business credit. The periods to
produced in the business of farming for both alized gain from involuntary conversions dur- which you carry any excess current year
regular income tax and alternative minimum ing the tax year is more than $100,000. See general business credit have been changed.
tax purposes. Previously, they could not use chapter 13. For a credit occurring in tax years beginning
the installment method for alternative mini- after 1997, the carryback period is reduced
mum tax purposes. See Form 6251. Tax rates and maximum net earnings for to one year and the carryforward period is
Generally, this change applies to sales self-employment tax. For 1997, the maxi- increased to 20 years. See chapter 9.
after 1987. You should file Form 1040X to mum net self-employment earnings subject to
amend any prior year income tax return af- the social security part (12.4%) of the self- Welfare-to-work credit. You may be able to
fected by this retroactive change. However, employment tax is $65,400. There is no claim the new welfare-to-work credit for cer-
you must generally file Form 1040X by the maximum limit on earnings subject to the tain individuals who begin working for you
later of the following: Medicare part (2.9%). See chapter 15. after 1997. See Publication 553.
Page 2
Tax rates and maximum net earnings for Change of address. If you change your taxpayers who have been unable to resolve
self-employment tax. For 1998, the maxi- home or business address, you should use their problems with the IRS. If you have a tax
mum net self-employment earnings subject to Form 8822, Change of Address, to notify IRS. problem you cannot clear up through normal
the social security part of the self-employment Be sure to include your suite, room, or other channels, you can call the IRS at
tax will be published in Publications 533 and unit number. Send the form to the Internal 1–800–829–1040 for PRP assistance. If you
553. There is no maximum limit on earnings Revenue Service Center for your old address. prefer, you can write to the office that last
subject to the Medicare part. See chapter 15. contacted you (or your local district director)
Written tax questions. You can send written and ask for PRP assistance. If you have ac-
Wage limits for social security and Medi- tax questions to your local district director. cess to TTY/TDD equipment, you can call
care taxes. The maximum wages subject to You should get an answer in about 30 days. 1–800–829–4059 to obtain this assistance.
the social security tax for 1998 will be pub- Call 1–800–829–1040 if you need the ad- Although the PRP office cannot change
lished in Circular A. There is no wage base dress. the tax law or a technical tax decision, it can
limit for wages subject to the Medicare tax. clear up problems that resulted from previous
See chapter 16. TeleTax. This telephone service of the IRS contacts and ensure your case is given a
provides recorded tax information on approx- complete and impartial review. For more in-
Electronic deposit of taxes. If you were not imately 150 topics. You can also get copies formation, see Publication 1546, How to Use
previously required to make electronic de- of these topics by using a fax machine or a the Problem Resolution Program of the IRS.
posits and your total deposits of social secu- personal computer and modem. You can also
rity, Medicare, and withheld income taxes use TeleTax to check on the status of your Comments on IRS enforcement actions.
were more than $50,000 in 1996, you must refund. For details on how to use this service, The Small Business and Agricultural Regula-
begin making electronic deposits for all de- see What Is TeleTax? in your tax form in- tory Enforcement Ombudsman and 10 Re-
pository tax liabilities that occur after 1997. structions. gional Fairness Boards were established to
However, no penalty will be imposed for any receive comments from small business about
failure to make a required electronic deposit Alternative ways of filing. IRS offers sev- federal agency enforcement actions. The
before July 1, 1998, if you are first required eral alternatives to make filing your tax return Ombudsman will annually evaluate the
to use that method on or after July 1, 1997. easier. They are more convenient and accu- enforcement activities and rate each agency's
See Publication 51 (Circular A). rate and will help us process your return responsiveness to small business. If you wish
You can choose to make electronic de- faster. to comment on the enforcement actions of the
posits if you are not required to do so. For TeleFile. Taxpayers who were eligible to IRS, call 1–888–734–3247.
information about the Electronic Federal Tax file Form 1040EZ last year will receive a
Payment System (EFTPS), see Revenue special TeleFile tax package that allows them
Procedure 97–33, 1997–I.R.B. 30. to file their 1997 tax returns by phone. Publication on employer identification
TeleFile is easy, fast, free, and available 24 numbers (EIN). Publication 1635, Under-
Excise tax on kerosene. Effective July 1, hours a day. standing Your EIN, provides general infor-
1998, the excise tax rules that apply to diesel On-line filing. You can file your tax return mation on employer identification numbers.
fuel will generally apply to kerosene. This in- electronically using a computer, a modem, Topics include how to apply for an EIN and
cludes the rule that only registered ultimate and IRS-accepted software. This software is how to complete Form SS–4.
vendors can claim a credit or refund for excise available at retail stores and from on-line filing
taxes paid on diesel fuel or kerosene used companies. Using the software, you can file Form W–4 for 1998. You should make new
on a farm for farming purposes. your return electronically, for a fee, through Forms W–4 available to your employees and
the software company or an on-line filing encourage them to check their income tax
company. withholding for 1998. Those employees who
1040PC format. You can print your return owed a large amount of tax or received a
Important Reminders in 1040PC format with most tax software
packages. The 1040PC is shorter than the
large refund for 1997 may need to file a new
Form W–4. See chapter 16.
The following reminders and other items may regular tax return. There is less paper for your
help you file your tax return. records and it is processed faster when you
Earned income credit. You, as an em-
mail it to the IRS.
Business codes for farmers. You must en- ployer, must notify employees who worked for
Electronic filing (e-file). Many tax pro-
ter on line B of Schedule F (Form 1040) a you and from whom you did not withhold in-
fessionals can file your return electronically
code that identifies your principal business. It come tax about the earned income credit.
for a fee. You can prepare your own return
is important to use the correct code, since this See chapter 16.
and have a professional transmit it electron-
information will identify market segments of ically or you can have a professional prepare
the public for IRS Taxpayer Education pro- your return and transmit it. Look for the “Au- Form 1099–MISC. If you make total pay-
grams. The U.S. Census Bureau also uses thorized IRS e-file Provider” sign. ments of $600 or more during the year to
this information for its economic census. See The free IRS Volunteer Income Tax As- another person, other than an employee or a
the list of Principal Agricultural Activity Codes sistance (VITA) and Tax Counseling for the corporation, in the course of your farm busi-
on page 2 of Schedule F. Elderly (TCE) programs may also be able to ness, you must file information returns to re-
help you file your return electronically. See port these payments. See chapter 2.
Voluntary withholding. You can request in- your income tax package for information on
come tax withholding from the following pay- these programs. Children employed by parents. Wages you
ments on Form W4–V, Voluntary Withholding You may be able to file your state tax re- pay to your children age 18 and older for
Request. turn electronically with your federal return if services in your trade or business are subject
you use one of the methods listed above. to social security and Medicare taxes. See
1) Commodity Credit Corporation (CCC) More information. TeleTax topic 252
loans. chapter 16.
provides more information on your choices.
2) Certain crop disaster payments received Check your income tax package for informa-
tion about TeleTax. Farmers and crew leaders must withhold
under the Agricultural Act of 1949 or title
income tax. Farmers and crew leaders must
II of the Disaster Assistance Act of 1988.
Overdue tax bill. If you receive a bill for withhold federal income tax from farm work-
3) Unemployment compensation. overdue taxes, do not ignore the tax bill. If you ers who are subject to social security and
owe the tax shown on the bill, you should Medicare taxes. See chapter 16.
4) Certain other government payments.
make arrangements to pay it. If you believe
See chapter 4 for information on CCC it is incorrect, contact the IRS immediately to Social security tests for hand-harvest la-
loans and disaster relief payments. suspend action until the mistake is corrected. borers. If you pay hand-harvest laborers less
See Publication 594, Understanding the Col- than $150 in annual cash wages, the wages
Direct deposit of refund. If you are due a lection Process, for more information. are not subject to social security and Medi-
refund on your 1997 tax return, you can have care taxes, even if you pay $2,500 or more
it deposited directly into your account at a Unresolved tax problems. The Problem to all your farm workers. The hand-harvest
bank or other financial institution. See your Resolution Program (PRP), which is ad- laborer must meet certain tests. See chapter
income tax package for details. ministered by the Taxpayer Advocate, is for 16.
Page 3
Federal unemployment (FUTA) tax. File turn and determine the correct amount of tax.
Form 940 (or 940–EZ) for 1997. This due This chapter explains why you must keep re-
Important Dates date applies only if you had deposited the cords, what kinds of records you must keep,
You should take the action indicated on or tax for the year in full and on time. and how long you must keep them for federal
before the dates listed. Saturdays, Sundays, tax purposes.
and legal holidays have been taken into ac- March 2
count, but statewide holidays have not. A All farm businesses. File information re- Topics
statewide legal holiday delays a due date only turns (Form 1099) for certain payments This chapter discusses:
if the IRS office where you are required to file you made during 1997. There are different
is located in that state. forms for different types of payments. Use • Why you should keep records
Due dates for deposits of withheld income a separate Form 1096 to summarize and
taxes, social security taxes, and Medicare transmit the forms for different types of
• What records to keep
taxes are not listed here. For these dates see, payments. • How long to keep records
Publication 509, Tax Calendars for 1998.
All employers. File Form W–3, Transmittal
of Wage and Tax Statements, along with
Fiscal year taxpayers. Generally, the due Copy A of all the Forms W–2 you issued Useful Items
dates listed apply, whether you use a calen- for 1997. See Form W–2 in chapter 2. You may want to see:
dar or a fiscal year. However, if you have a
fiscal year, refer to Publication 509 for certain Farmers. File your 1997 income tax return
exceptions that may apply to you. (Form 1040) and pay any tax due. How- Publication
ever, you have until April 15 to file if you
m 51 Circular A, Agricultural Employer's
paid your 1997 estimated tax by January
15, 1998. Tax Guide
m 463 Travel, Entertainment, Gift, and
1998—Calendar Year March 16 Car Expenses
During January Corporations. File a 1997 calendar year in- See chapter 21 for information about get-
come tax return, (Form 1120 or 1120–A) ting these publications.
Employers. Give your agricultural employ- and pay any tax due. See Publication 542,
ees their copies of Form W–2 for 1997 as Corporations.
soon as possible. The due date is Febru-
ary 2, 1998. Copy A of Form W–2 must April 15 Why Keep Records?
be filed by March 2, 1998.
Individual farmers. File an income tax re-
Everyone in business, including farmers,
turn (Form 1040) for 1997 and pay any tax
January 15 due if you did not file by March 2.
must keep records. Good records will help
you do the following.
Farmers. Pay your estimated tax for 1997 Partnerships. File a 1997 calendar year re-
using Form 1040–ES. You have until April turn (Form 1065). See Publication 541,
15 to file your 1997 income tax return Monitor the progress of your farming
Partnerships. business. You need good records to monitor
(Form 1040). If you do not pay your esti-
mated tax by this date, you must file your the progress of your farming business. Re-
1997 return and pay any tax due by March
April 30 cords can show whether your business is
2, 1998. Federal unemployment (FUTA) tax. If you improving, which items are selling, or what
are liable for FUTA tax, deposit the tax changes you need to make. Good records
can increase the likelihood of business suc-
January 31 owed through March, if more than $100.
cess.
Farm employers. File Form 943 to report July 31
social security and Medicare taxes and Prepare your financial statements. You
withheld income tax for 1997. Deposit any Federal unemployment (FUTA) tax. If you need good records to prepare accurate fi-
undeposited tax. (If the total is less than are liable for FUTA tax, deposit the tax nancial statements. These include income
$500 and not a shortfall, you can pay it owed through June. No deposit is neces- (profit and loss) statements and balance
with the return.) If you have deposited the sary if the liability for the quarter, plus un- sheets. These statements can help you in
tax you owe for the year in full and on deposited FUTA tax for the 1st quarter, dealing with your bank or creditors.
time, you have until February 10 to file the does not exceed $100.
return. (Do not report wages for nonagri- Identify source of receipts. You will receive
cultural services on Form 943.) November 2 money or property from many sources. Your
All farm businesses. Give annual informa- Federal unemployment (FUTA) tax. If you records can identify the source of your re-
tion statements to recipients of certain are liable for FUTA tax, deposit the tax ceipts. You need this information to separate
payments you made during 1997. You can owed through September. No deposit is farm from nonfarm receipts and taxable from
use the appropriate version of Form 1099 necessary if the liability for the quarter, nontaxable income.
or other information return. For more in- plus undeposited FUTA tax for previous
formation, see Information Returns in quarters, does not exceed $100. Keep track of deductible expenses. You
chapter 2. may forget expenses when you prepare your
tax return unless you record them when they
Federal unemployment (FUTA) tax. File occur.
Form 940 (or 940–EZ) for 1997. If your
undeposited tax is $100 or less, you can
Prepare your tax returns. You need good
either pay it with your return or deposit it.
If it is more than $100, you must deposit 1. records to prepare your tax return. These re-
cords must support the income, expenses,
it. However, if you have deposited the tax
and credits you report. Generally, these are
you owe for the year in full and on time,
you have until February 10 to file the re- Importance of the same records you use to monitor your
farming business and prepare your financial
turn. For more information on FUTA tax,
see chapter 16. Good Records statements.
• Filing requirements
• Identification number
Qualifying widow(er) with Which number to use. If you file an excise,
• Estimated tax dependent child alcohol, tobacco, firearms, or employment tax
Under 65 ............................................... 9,550 return, you should have an employer identifi-
• Main tax forms used by farmers 65 or older ............................................ 10,350
cation number. Use that number on your farm
• Partnership return business Schedule F (Form 1040). Other-
• Corporation return Dependent's return. If you can claim some- wise, use your social security number. On
one as a dependent on your tax return (for your individual income tax return (Form
• S corporation return
example, your son or daughter), that person 1040), computation of self-employment tax
must generally also file his or her own tax (Schedule SE), and estimated tax payment
return if he or she: voucher (Form 1040–ES), you should use
Useful Items your social security number, regardless of the
You may want to see: 1) Had only earned income, such as salary number used on your business returns.
or wages, and the total is more than If you are married, show social security
Publication $4,150, or numbers for both you and your spouse on
your Form 1040, whether you file jointly or
m 505 Tax Withholding and Estimated 2) Had only unearned income, such as in- separately. If you are filing a joint return, list
Tax terest and dividends, and the total is the social security numbers in the same order
more than $650, or that you show your first names. Also show
m 541 Partnerships
3) Had both earned and unearned income, both social security numbers on your Form
m 542 Corporations and the total is more than $650. 1040–ES if you make joint estimated tax
payments.
Form (and Instructions) Self-employed. If you are self-employed, you
must file an income tax return if you had net Application for identification number.
This chapter discusses various forms earnings of $400 or more from self-
you may have to file with the IRS. We have To apply for a social security number
employment, even though you may not be
not listed them separately here. (SSN), use Form SS–5. You can get
otherwise required to file a return. See chap-
the form from any social security of-
See chapter 21 for information about get- ter 15.
fice or by calling 1–800–772–1213. If you are
ting the publications and forms discussed. under 18 years of age, you must furnish evi-
Earned income credit. You must also file a dence of age, identity, and U.S. citizenship
return to receive a refund of the earned in- with your Form SS–5. If you are 18 or older,
come credit (EIC). Also, you must file if you you must appear in person with this evidence
Filing Requirements received any advance EIC payments from
your employer.
at a social security office. It usually takes
about 2 weeks to get an SSN.
When your income reaches a certain level,
based on your filing status and age, you must
More information. See the Form 1040 in- To apply for an employer identification
file a tax return.
structions for more information on who must number, use Form SS–4. You can get
Who Must File file a return for 1997. this form from any social security of-
Filing Income
fice or by calling IRS at 1–800–829–3676.
Status Is: At Least:
Single
Under 65 ...............................................
65 or older ............................................
$6,800
7,800
Identification Number
You must show your taxpayer identification
Married, filing jointly
Both under 65 ....................................... 12,200 number (your social security or employer Estimated Tax and
One spouse 65 or older .......................
Both 65 or older ...................................
13,000
13,800
identification number) on all returns, state-
ments, or documents you are required to file. Return Due Dates
Not living with spouse at end of year For example, it must be shown on your fed- When you must pay estimated tax and file
(or on date spouse died) ...................... 2,650 eral income tax return, your estimated tax your return depends on whether you receive
Married, filing separately
All (any age) ......................................... 2,650 payment voucher, and all information returns, at least two-thirds of your total gross income
Head of household such as Forms 1096 and 1099. A penalty of from farming in the current or prior year.
Under 65 ............................................... 8,700 $50 may be assessed for each failure to show Gross income is not the same as total in-
65 or older ............................................ 9,700 the number. come shown on line 22 of Form 1040.
Page 6 Chapter 2 Filing Requirements and Return Forms
Wages you receive as a farm em- 2) File your Form 1040 by March 1, 1999,
Gross Income
Your gross income is all income you receive ! ployee are not farm income. This in-
CAUTION cludes wages you receive from a farm
and pay all the tax due.
in the form of money, property, and services corporation even if you are a stockholder in
that is not exempt from tax. On a joint return, the corporation. If all or most of your income Required annual payment. If at least two-
you must add your spouse's gross income to is from wages as a farm employee, your em- thirds of your gross income for 1996 or 1997
your gross income. To decide whether two- ployer is usually required to withhold income was from farming, the required annual pay-
thirds of your gross income for 1997 was from tax from your wages. You may also have to ment due January 15, 1998, is the smaller
farming, use as your gross income the total make estimated tax payments if you do not of:
of the following income (not loss) amounts have enough tax withheld. For more informa-
from your tax return. tion, see Publication 505. 1) 662/3% (.6667) of your total tax for 1997,
or
1) Wages, salaries, tips, etc.
2) 100% of the total tax shown on your
2) Taxable interest. Percentage From Farming 1996 return. (The return must cover all
3) Dividends. Total your gross income from all sources as 12 months.)
shown earlier. Then total your gross income
4) Taxable refunds of state and local taxes. from farming. Divide your farm gross income If at least two-thirds of your gross in-
5) Alimony received. by your total gross income to determine the TIP come for 1997 or 1998 is from farm-
percentage of gross income from farming. ing, the required annual payment due
6) Gross business income from Schedule January 15, 1999, is the smaller of:
C (Form 1040), line 7. Example 1. James Smith had the follow-
ing total gross income and farm gross income 1) 662/3% (.6667) of your total tax for 1998,
7) Gross receipts from Schedule C–EZ in 1997: or
(Form 1040), line 1.
Gross Income 2) 100% of the total tax shown on your
8) Capital gains from Schedule D (Form 1997 return. (The return must cover all
1040). Losses cannot be netted against Total Farm
12 months.)
gains. Taxable interest ......................... $43,000
Dividends ................................... 500
9) Gains on sales of business property from Rental income (Sch E) .............. 1,500
Form 4797. Fiscal year farmers. If you qualify to use
Farm income (Sch F) ................ 75,000 $75,000
Schedule D ................................ 5,000 5,000 these special rules but your tax year does not
10) Taxable IRA distributions, pensions, an- start on January 1, you may file your return
nuities, and social security benefits. Total .......................................... $125,000 $80,000 and pay the tax by the first day of the 3rd
11) Gross rental income from Schedule E Schedule D showed gains from the sale month after the close of your tax year. Or you
(Form 1040), line 3. of dairy cows carried over from Form 4797 may pay your required estimated tax within
($5,000) in addition to losses from the sale 15 days after the end of your tax year. Then
12) Gross royalty income from Schedule E of corporate stock ($2,000). Mr. Smith's gross file your return and pay any balance due by
(Form 1040), line 4. farm income is 64% of his total gross income the 15th day of the 4th month after the end
13) Your taxable net income from an estate ($80,000 ÷ $125,000 = .64). Therefore, he of your tax year.
or trust, Schedule E (Form 1040), line does not qualify to use special estimated tax
36. and return due dates for 1997. However, he
can still qualify for 1997 if at least two-thirds Due Dates for
14) Income from a REMIC reported on of his 1996 gross income was from farming. Nonqualified Farmers
Schedule E (Form 1040), line 38.
Example 2. Assume the same facts as If less than two-thirds of your gross income
15) Gross farm rental income from Form in Example 1 except that Mr. Smith also re- for 1996 and 1997 was from farming, you
4835, line 7. ceived gross farm rental income (Form 4835) cannot use these special estimated tax pay-
16) Farm income from Schedule F (Form of $15,000. This made his total gross income ment and return due dates for your 1997 tax
1040), line 11. $140,000 and his farm gross income $95,000. year. In this case, you generally must make
He qualifies to use special estimated tax and quarterly estimated tax payments on April 15,
17) Your distributive share of gross income return due dates since at least two-thirds of June 16, and September 15, 1997, and on
from a partnership or limited liability his gross income is from farming [$95,000 ÷ January 15, 1998. You must file your return
company treated as a partnership. $140,000 = .679 (67.9%)]. by April 15, 1998.
18) Your pro rata share of gross income from If less than two-thirds of your gross
an S corporation. TIP income for 1997 and 1998 is from
Due Dates for farming, you cannot use these special
19) Unemployment compensation.
Qualified Farmers estimated tax payment and return due dates
20) Other income reported on Form 1040, If at least two-thirds of your gross income for for your 1998 tax year. In this case, you
line 21, not reported with any of the 1996 or 1997 was from farming, you have generally must make quarterly estimated tax
items listed above. only one payment due date for 1997 esti- payments on April 15, June 15, and Septem-
mated tax—January 15, 1998. ber 15, 1998, and on January 15, 1999. You
There are brief descriptions of forms and must file your return by April 15, 1999.
schedules used by farmers later. For your 1997 tax, you may either:
For more information on estimated taxes,
1) Pay all your estimated tax (figured on see Publication 505.
Gross Income Form 1040–ES) by January 15, 1998,
and file your Form 1040 by April 15,
From Farming 1998, or Estimated Tax Penalty
Gross income from farming includes:
2) File your Form 1040 by March 2, 1998, for 1997
1) Gross farm income from Schedule F and pay all the tax due. You are not re- If you did not pay all your required estimated
(Form 1040), line 11. quired to make an estimated tax pay- tax for 1997 by January 15, 1998, and do not
ment. If you pay all the tax due, you will file your 1997 return and pay the tax by March
2) Gross farm rental income from Form not be penalized for failure to pay esti- 2, 1998, use Form 2210–F, Underpayment
4835, line 7. mated tax. of Estimated Tax by Farmers and Fishermen,
to determine if you owe a penalty. If you owe
3) Gross farm income from Schedule E
If at least two-thirds of your gross in- a penalty but do not file Form 2210–F with
(Form 1040), Parts II and III. See the
TIP come for 1997 or 1998 is from farm- your return and pay the penalty, you will get
instructions for line 41.
ing, for your 1998 tax, you may either: a notice from the IRS. You should pay the
4) Gains from the sale of livestock used for penalty as instructed by the notice.
draft, breeding, sport, or dairy purposes 1) Pay all your estimated tax by January If you file your return by April 15 and pay
reported on Schedule D (Form 1040) or 15, 1999, and file your Form 1040 by the bill within 10 days after the notice date,
Form 4797. April 15, 1999, or the IRS will not charge you interest.
Chapter 2 Filing Requirements and Return Forms Page 7
Occasionally, you may get a penalty no- Schedule C–EZ, Net Profit From Busi- Form 8824. Report the exchange of business
tice even though you filed your return on time, ness. Use this schedule in place of Schedule or investment property for like-kind property
attached Form 2210–F, and met the gross C if nonfarm business expenses are $2,500 on Form 8824, Like-Kind Exchanges. It is filed
income test. If you receive a penalty notice for or less and other requirements are met. with Schedule D (Form 1040) or Form 4797.
underpaying estimated tax that you think is in Schedule D, Capital Gains and Losses. See chapter 10.
error, write to the address on the notice and Report gains and losses from sales of capital
explain why you think the notice is in error. assets on this schedule.
Include a computation, similar to the one in Schedule E, Supplemental Income and Other Forms
Example 1, showing that you meet the gross Loss. Report income or losses from rents, You may file the forms below in certain situ-
income test. Do not ignore a penalty notice, royalties, partnerships, estates, trusts, and S ations.
even if you think it is in error. corporations on this schedule.
Schedule F, Profit or Loss From Farming. Form W–2. If you are in the trade or business
Use this schedule whether you file on the of farming, prepare Form W–2, Wage and
Other Filing Information cash or an accrual method of accounting. List Tax Statement, for each employee you paid
all farm income and deductions and deter- for services, including any payment that was
for 1997 mine the net farm profit or loss on this not in cash. You must show, in the space
schedule. marked Wages, tips, other compensation, the
Payment date on holiday or weekend. If Schedule SE, Self-Employment Tax. total paid to the employee. Give copies B and
the last day for filing your return or making a Figure self-employment tax on this schedule. C of Form W–2 to the employee by the last
payment falls on a Saturday, Sunday, or legal See chapter 15. day of January. Send Copy A of each Form
holiday, your return or payment will be on time W–2 to the Social Security Administration with
if it is filed or made on the next business day. Form 1040–ES. Figure and pay estimated tax a completed Form W–3, Transmittal of In-
on Form 1040–ES, Estimated Tax for Indi- come and Tax Statements, by the last day of
viduals. See Estimated Tax and Return Due February. See chapter 16.
Automatic extension of time to file Form Dates, earlier.
1040. If you do not choose to file your 1997
return by March 2, 1998, the due date for your Form 940. File Form 940, Employer's Annual
Form 2210–F. Figure any underpayment of Federal Unemployment (FUTA) Tax Return,
return will be April 15, 1998. However, you estimated tax and the penalty on Form
can get an automatic 4-month extension of by January 31 of the following year if you
2210–F, Underpayment of Estimated Tax by were subject to FUTA tax. If all the tax due
time to file your return. Your Form 1040 would Farmers and Fishermen.
then be due by August 17, 1998. To get this was deposited by January 31, you can file
extension, file Form 4868, Application for Form 940 as late as February 10. See chapter
Form 3468. Figure the investment credit on 16.
Automatic Extension of Time To File U.S. In- Form 3468, Investment Credit. See chapter
dividual Income Tax Return, by April 15, Form 940–EZ. Form 940–EZ is a simpli-
9. fied version of Form 940.
1998. Form 4868 does not extend the time to
pay the tax. For more information, see the
Form 3800. Figure the general business Form 943. File Form 943, Employer's Annual
instructions for Form 4868.
credit on Form 3800, General Business Tax Return for Agricultural Employees, by
This extension does not extend the Credit. See chapter 9. January 31 of the following year if you were
! March 2, 1998, filing date for farmers
CAUTION who did not make an estimated tax Form 4136. Figure the credit for federal tax
required to withhold and pay withheld income,
social security, and Medicare taxes on farm
payment and want to avoid an estimated tax on gasoline and special fuels on Form 4136, labor wages you paid during the calendar
penalty. Therefore, if you did not make an Credit for Federal Tax Paid on Fuels. See year. If you deposited all the tax due by Jan-
estimated tax payment by January 15, 1998, chapter 18. uary 31, you can file Form 943 as late as
and you file your tax return after March 2, February 10.
1998, you will be subject to a penalty for Form 4255. Figure the tax from the recapture
underpaying your estimated tax, even if you of investment credit on Form 4255, Recapture Form 1065. A farm partnership files Form
file Form 4868. of Investment Credit. See chapter 9. 1065, U.S. Partnership Return of Income. See
Partnership, later.
Form 4562. Explain the deductions for de-
preciation and amortization on Form 4562,
Form 1120. A corporation files Form 1120,
Depreciation and Amortization. See chapter U.S. Corporation Income Tax Return. See
8.
Corporation, later.
Form 1120–A. Many small corporations
Return Forms Form 4684. Report gains and losses from can use Form 1120–A, U.S. Corporation
casualty and theft of business and personal- Short-Form Income Tax Return, instead of
When filing your income tax return, arrange use property on Form 4684, Casualties and
your forms and schedules in the correct order Form 1120.
Thefts. See chapter 13.
using the sequence number located in the
upper right corner of each form. Attach all Form 1120S. An S corporation files Form
Form 4797. Report gains and losses from the
other statements or attachments last, ar- 1120S, U.S. Income Tax Return for an S
sale or exchange of business property and
ranged in the same order as the forms or Corporation. See S Corporation, later.
from certain involuntary conversions on Form
schedules they support. 4797, Sales of Business Property. See chap-
Farmers can use the following forms and ter 11. Form 2290. File Form 2290, Heavy Vehicle
schedules. Some of them are illustrated in Use Tax Return, if a truck or truck tractor
chapter 20. Form 4835. Report on Form 4835, Farm registered in your name is:
Rental Income and Expenses, farm rental in- 1) A highway motor vehicle.
Form 1040. This form is the income tax re- come received as a share of crops or live-
turn. List taxable income from all sources on stock produced by a tenant if you, the land- 2) Required to be registered for highway
Form 1040, including profit or loss from lord, did not materially participate in the use.
farming operations as figured on Schedule F operation or management of the farm. See
chapter 4. 3) Actually used at least once on a public
(Form 1040). Figure the tax on this form, also.
highway.
Schedule A, Itemized Deductions. List
nonbusiness itemized deductions on this Form 4868. Apply for an extension of time to 4) Has a taxable gross weight of at least
schedule. file your tax return on Form 4868, Application 55,000 pounds.
Schedule B, Interest and Dividend In- for Automatic Extension of Time To File U.S.
come. Report interest and dividend income Individual Income Tax Return. It does not, See the instructions for Form 2290.
of more than $400 on this schedule. however, extend the time to pay any tax due.
Schedule C, Profit or Loss From Busi- Form 8109. Deposit employment taxes not
ness. List income and deductions and de- Form 6251. Figure the alternative minimum deposited electronically with Form 8109,
termine the net profit or loss from a nonfarm tax on Form 6251, Alternative Minimum Federal Tax Deposit Coupon. In general, in-
business on this schedule. Tax–Individuals. See chapter 14. come tax withheld plus the employer and
Page 8 Chapter 2 Filing Requirements and Return Forms
employee's share of social security and form. Because these forms are read by ma- Ending partnership. When you create a
Medicare taxes that total $500 or more must chine, there are very specific instructions for partnership, you generally do not recognize
be deposited. The IRS will send you a coupon their preparation and submission. You may gain or loss on contributions of money or
book for making deposits when you apply for be subject to a penalty for each incorrectly property you make to the partnership. How-
an employer identification number (EIN). filed document. ever, you generally recognize gain or loss
when you end the partnership.
Certain farmers must deposit taxes Penalties. If you file information returns late, You may be able to avoid recognizing gain
! electronically. See chapter 16. without all information required to be on the or loss when ending the partnership if you buy
CAUTION
return, or with incorrect information, you may out your partners or change to a corporation
be subject to a penalty. See the Instructions status.
Form 8822. Notify IRS of a change in your for Forms 1099, 1098, 5498, and W–2G for
home or business address with Form 8822, information on Form 1099 penalties. Form 1065. Partnerships file a return on
Change of Address. Include the suite, room, Form 1065, U.S. Partnership Return of In-
or other unit number if it is required in the come. This is an information return showing
address and send the form to the Internal the income and deductions of the partnership,
Revenue Service Center for your old address. the name and address of each partner, and
Partnership each partner's distributive share of income,
Ordering forms. See chapter 21 for infor- A partnership is the relationship between two gain, loss, deductions, credits, etc. No tax is
mation about getting any of the forms listed or more persons who join together to carry due on Form 1065.
in this section. on a trade or business, including farming. Form 1065 is not required until the first tax
Each person contributes money, property, la- year the partnership has income or de-
bor, or skill, and expects to share in the profits ductions. In addition, it is not required for any
tax year a partnership has no income and
Information Returns and losses.
expenses.
For federal income tax purposes, the term
Information returns provide information the “partnership” includes a syndicate, group, Schedule F (Form 1040). Use Schedule
IRS requires, other than taxes due. There are pool, joint venture, or similar organization F (Form 1040) to report the farm partnership
many information returns, including Form carrying on a trade or business and not clas- profit or loss. This schedule should be filed
W–2, discussed earlier. This discussion, sified as a trust, estate, or corporation. with Form 1065. The profit or loss shown on
however, is limited to Form 1099–INT, Form Schedule F, adjusted for amounts to be re-
1099–MISC, and Form 1096. ported on Schedule K–1 and Schedule K of
Family partnership. Members of the same
Form 1065, is entered on line 5 of Form 1065.
family can, and often do, form valid partner-
Form 1099–INT. Report interest payments, Other schedules. Each partner's distrib-
ships. For instance, a husband and wife or
including interest paid on installment sale utive share of partnership items, such as or-
parents and children can conduct a farming
contracts, of $600 or more on Form dinary income or loss, capital gain or loss, net
enterprise through a partnership. To be re-
1099–INT, Interest Income. earnings from self-employment, etc., is en-
cognized as a partnership for federal tax
tered on Schedule K–1 of Form 1065. Fill in
purposes, a partner relationship must be es-
all other schedules on Form 1065 that apply
Form 1099–MISC. If you make total pay- tablished and certain requirements must be
to you.
ments of $600 or more during the calendar met. For information on these requirements,
Filing penalty. A penalty is assessed
year to another person, other than a corpo- see Family Partnership in Publication 541.
against the partnership if the partnership is
ration, in the course of your farm business, Merely doing chores, helping with the harvest,
required to file a partnership return and:
you must file information returns to report or keeping house and cooking for the family
these payments. Payments of $600 or more and hired help does not establish a partner- 1) Fails to file the return on time, including
made for items such as custom harvesting, ship. extensions, or
crop sprayers, services of a veterinarian, If a husband and wife are partners in a
farm operation or other business, they should 2) Files a return that fails to show all the
rents, commissions, fees, prizes, awards,
report their partnership income on Form 1065. information required.
services of an independent contractor, other
payments and compensation, and services (See Form 1065, later.)
The penalty is $50 multiplied by the num-
provided by nonemployees are reported on ber of partners per month (or part of a month),
Form 1099–MISC, Miscellaneous Income. Self-employment tax. Unless you are a for a maximum of 5 months.
Payments of $10 or more for royalties are limited partner, your distributive share of in- However, a partnership does not have to
also reported on Form 1099–MISC. come from a partnership is self-employment pay the penalty if it can show reasonable
Do not report payments for merchandise, income. If you and your spouse are partners, cause for failure to file a return. A family farm
freight, and similar charges on Form each should report his or her share of part- partnership with 10 or fewer partners is gen-
1099–MISC. However, if you pay a contractor nership income or loss on a separate Sched- erally considered to meet this requirement if
who is not a dealer in supplies for both sup- ule SE (Form 1040), Self-Employment Tax. it can show that:
plies and services, include the payment for This will give each of you credit for social
supplies used to perform the services as long security earnings on which retirement benefits 1) All partners have reported their entire
as providing the supplies was incidental to are based. The self-employment tax of a share of all partnership items on timely
providing the service. member of a partnership engaged in farming filed income tax returns.
Also use Form 1099–MISC to report to the is discussed in chapter 15.
2) Each partner's proportionate share of
payee and to the IRS payments you made
each partnership item is the same.
that were subject to backup withholding and Co-ownership and sharing expenses.
the amounts you withheld. Mere co-ownership of property that is main- 3) The partnership has no foreign or cor-
Report payments for compensation to tained and leased does not constitute a part- porate partners.
employees on Form W–2, not on Form nership. For example, if an individual owner
1099–MISC. See chapter 16. or tenants-in-common of farm property lease More information. For more information on
that property for cash rental or a share of the partnerships, see Publication 541.
Preparation of returns. You must prepare crops, a partnership is not necessarily created
separate copies of Form 1099–INT and Form by the leasing. However, tenants-in-common
1099–MISC for each person. File one copy may be partners if they actively carry on a
of the form with the IRS. Give each person to farm or other business operation and share Limited Liability
whom you paid $600 or more a statement (or its profits and losses. A joint undertaking
copy of the form) by January 31 of the fol- merely to share expenses is not a partner- Company (LLC)
lowing year. Instructions for completing these ship. An LLC is an entity formed under state law
forms are in the Instructions for Forms 1099, by filing articles of organization as an LLC.
1098, 5498, and W–2G. Partner's distributive share. Each partner's None of the members of an LLC are per-
Form 1096. When sending copies to the distributive share of partnership income, gain, sonally liable for its debts.
IRS, use a separate transmittal, Form 1096, loss, etc., must be included on that partner's An LLC can be classified as either a part-
Annual Summary and Transmittal of U.S. In- tax return, even if the items were not distrib- nership or a corporation for federal income
formation Returns, for each different type of uted. tax purposes. See Corporation, later, for the
Chapter 2 Filing Requirements and Return Forms Page 9
rules you must use to determine whether an applies even if it ceased doing business and or method, see Publication 538.
LLC is treated as a corporation. If an LLC is disposed of all its assets except for a small
not treated as a corporation, and has 2 or sum of cash retained to pay state taxes to Topics
more members, it is treated as a partnership. keep its corporate charter. This chapter discusses:
Depending on its classification, an LLC
would file either Form 1065 or Form 1120. If More information. For more information on • Calendar tax year
an LLC is treated as a partnership, see Pub- corporations, see Publication 542.
lication 541 for information on partnerships. • Fiscal tax year
If it is treated as a corporation, see Publica- • Cash method of accounting
tion 542 for information on corporations.
• Accrual method of accounting
S Corporation
A qualifying corporation can choose to have Useful Items
Corporation its income taxed to the shareholders rather
than to the corporation itself, except as noted
You may want to see:
The rules you must use to determine whether below under Taxes. Its shareholders will then
your business is taxed as a corporation include in income their share of the corpo- Publication
changed for businesses formed after 1996. ration's nonseparately stated income or loss
However, if your business was formed before m 538 Accounting Periods and Methods
and separately stated items of income, de-
1997 and taxed as a corporation under the duction, loss, and credit. A corporation mak-
old rules, it will generally continue to be taxed ing this choice is known as an S corporation.
as a corporation. To make this election, a corporation, in Form (and Instructions)
addition to other requirements, must not have
Businesses formed after 1996. The follow- m 3115 Application for Change in Ac-
more than 75 shareholders. Each of its
ing businesses formed after 1996 are taxed counting Method
shareholders must also consent to the
as corporations. election. See chapter 21 for information about get-
ting this publication and form.
1) A business formed under a federal or
Taxes. Although it is generally not liable for
state law that refers to the business as
federal income tax itself, an S corporation
a corporation, body corporate, or body
may have to pay the following taxes.
politic.
Accounting Periods
2) A business formed under a state law that 1) A tax on: A “tax year” is an annual accounting period
refers to the business as a joint-stock for keeping records and reporting income and
a) Excess passive investment income,
company or joint-stock association. expenses. The tax years you can use are:
3) An insurance company. b) Certain capital gains, or
1) A calendar year.
4) Certain banks. c) Built-in gains.
2) A fiscal year.
5) A business owned by a state or local 2) The tax from recomputing a prior year's
investment credit. You adopt a tax year when you file your first
government.
income tax return. You must adopt your first
6) A business specifically required to be 3) LIFO recapture tax. tax year by the due date (not including ex-
taxed as a corporation by the Internal tensions) for filing a return for that year.
Revenue Code. (For example, certain An S corporation may have to make
publicly traded partnerships.) quarterly estimated tax payments for these Calendar year. If you adopt the calendar
taxes. year as your tax year, you must maintain your
7) Certain foreign businesses. financial records and report your income and
8) Any other business formed after 1996, if Form 1120S. An S corporation files its return expenses from January 1 through December
an election to be taxed as a corporation on Form 1120S. 31 of each year.
is filed for the business on Form 8832 If you file your first return using the cal-
within 75 days of the date it is formed. More information. For more information on endar year and you later begin business as
S corporations, see the instructions for Form a farmer, become a partner in a partnership,
For more information, see the instructions for 1120S. or become a shareholder in an S corporation,
Form 8832, Entity Classification Election. you must continue to use the calendar year
unless you get IRS approval to change it. You
must report your income from all sources, in-
Corporate tax. Corporate profits are
cluding dividends and your farm, salary, and
normally taxed to the corporation. When the
partnership income, using the same tax year.
profits are distributed as dividends, the divi-
Generally, anyone can adopt the calendar
dends are taxed to the shareholders.
In figuring its taxable income, a farm cor-
poration generally takes the same deductions
3. year. However, if any of the following apply,
you are required to adopt the calendar year.
that a noncorporate farmer would claim on 1) You do not keep adequate records.
Schedule F (Form 1040). Corporations are
also entitled to special deductions.
Accounting 2) You have no annual accounting period.
deduction included in the NOL is not subject and start taking deductions again if you return Useful Items
to the 25% limit in the year to which it is car- to the business of farming in a later year. You may want to see:
ried.
Gain on disposition of farm land. If you Publication
held the land 5 years or less before you sold
or disposed of it, gain on the sale or other m 535 Business Expenses
Choosing To Deduct disposition of the land is treated as ordinary
income up to the amount you previously de- m 537 Installment Sales
You can choose to deduct soil and water ducted for soil and water conservation ex- m 544 Sales and Other Dispositions of
conservation expenses on your tax return for penses. If you held the land less than 10 but
the first year you pay or incur the expenses. Assets
more than 5 years, the gain is treated as or-
If you choose to deduct them, you must de- dinary income up to a specified percentage m 551 Basis of Assets
duct the total allowable amount in the year of the previous deductions. See Farm land
they are paid or incurred. If you do not deduct (under section 1252) in chapter 11. Form (and Instructions)
the expenses, you must capitalize them.
m Sch E (Form 1040) Supplemental In-
Change of method. If you want to change come and Loss
your method of treating soil and water con-
servation expenses, or you want to treat the m Sch F (Form 1040) Profit or Loss From
Farming
expenses for a particular project or a single
farm in a different manner, you must get the 7. m 706–AUnited States Additional Estate
approval of your IRS District Director. To get Tax Return
this approval, submit a written request by the
due date of your return for the first tax year Basis of Assets See chapter 21 for information about get-
ting publications and forms.
you want the new method to apply. You or
your authorized representative must sign the
request.
The request must include the following
information: Introduction Cost Basis
Basis is the amount of your investment in The basis of property you buy is usually its
1) Your name and address. property for tax purposes. Use the adjusted cost. However, in some cases, such as in-
2) The first tax year the method or change basis of property to figure the amount of gain herited property or property received as a gift,
of method is to apply. or loss on the sale, exchange, or other dis- your basis will be figured differently. (See
position of property. Also use it to figure the Basis Other Than Cost, later.) The cost is the
3) Whether the method or change of deduction for depreciation, amortization, de-
method applies to all your soil and water amount you pay in cash, notes, other prop-
pletion, and casualty losses. You must keep erty, or services. Your cost also includes
conservation expenses or only to those accurate records of all items that affect the
for a particular project or farm. If the amounts you pay for sales tax, freight, instal-
original basis of property so you can make lation, and testing. In addition, the basis of
method or change of method does not these computations.
apply to all your expenses, identify the real estate and business assets will include
Your original basis in property is adjusted other items. Basis generally does not include
project or farm to which the expenses (increased or decreased) by certain events.
apply. interest payments.
If you make improvements to the property,
4) The total expenses you paid or incurred increase your basis. If you take deductions for
depreciation or casualty losses, reduce your Low- or no-interest loans. If you buy prop-
in the first tax year the method or change erty on any time-payment plan that charges
of method is to apply. basis.
It is important to keep an accurate record little or no interest, the basis of your property
5) A statement that you will account sepa- of your basis. Generally, the higher your basis is your stated purchase price minus the
rately in your books for the expenses to for an asset, the less gain you will have to amount considered to be unstated interest.
which this method or change of method report on its sale. The higher your basis in a You generally have unstated interest if your
relates. depreciable asset, the higher your depreci- interest rate is less than the applicable federal
ation deductions. rate. See the discussion of unstated interest
in Publication 537.
Topics
This chapter discusses: Real Property
Sale of a Farm Real property, also called real estate, is land
If you sell your farm and discontinue farming, • Cost basis and generally anything built on, growing on,
you cannot adjust the basis of the land at the • Uniform capitalization rules or attached to land.
time of the sale for any unused carryover of If you buy real property, certain fees and
soil and water conservation expenses. You
• Adjusted basis
other expenses you pay are part of your cost
can, however, pick up the unused balance • Other basis basis in the property.
Page 32 Chapter 7 Basis of Assets
Real estate taxes. If you buy real property Points on home mortgage. Special rules inventory of the property at its fair market
and agree to pay certain taxes the seller owed may apply to the amounts you and the seller value (FMV) on the date of purchase is as
on it, treat the taxes you pay as part of your pay as points when you get a mortgage to buy follows:
basis. You cannot deduct them as taxes. your main home. If these amounts meet cer-
If you reimburse the seller for taxes the tain requirements, you can deduct them in full FMV
seller paid for you, you usually can deduct as points for the year in which they are paid. Growing wheat crop ................................. $1,400
Timber ...................................................... 5,600
them as an expense in the year of purchase. If you deduct seller-paid points, reduce your Minerals (such as gravel, coal,
Do not include them in the property cost. basis by that amount. For more information, sand, etc.) ................................................ 8,000
see Points in Publication 936, Home Mort- Land ......................................................... 170,000
Settlement costs. You can include in the gage Interest Deduction. House ....................................................... 30,000
basis of property you buy the settlement fees Depreciable assets used in farming:
Assumption of a mortgage. If you buy Barns .................................................... 25,000
and closing costs that are for buying it. You
Fences ................................................. 10,000
cannot include the fees and costs that are for property and assume (or buy subject to) an Silo ....................................................... 5,000
getting a loan on the property. (A fee is for existing mortgage on the property, your basis Farm machinery ................................... 20,000
buying property if you would have had to pay includes the amount you pay for the property Total purchase price ................................ $275,000
it even if you bought the property for cash.) plus the amount to be paid on the mortgage.
The FMV of each asset is the basis assigned
Some of the settlement fees or closing
Example. If you buy a farm for $100,000 to that asset.
costs that you can include in the basis of your
property are: cash and assume a mortgage of $400,000
on it, your basis is $500,000. You harvested and sold the wheat in July.
You deduct its cost of $1,400 on Schedule
• Abstract fees (sometimes called abstract F, line 2, to figure the net farm profit.
of title fees), Constructing assets. If you build property,
or have assets built for you, your expenses Also, you sold the timber in July. Accord-
• Charges for installing utility services, for this construction are part of your basis. ingly, you use its cost of $5,600 to figure the
Some of these expenses include: gain realized or the loss sustained.
• Legal fees (including title search and You will recover the cost of the minerals
preparing the sales contract and deed), bought when you sell or otherwise dispose
• Purchased land,
• Recording fees, of the mineral interest in a taxable exchange.
• Materials and supplies, If you produce minerals, you will recover the
• Surveys, cost through depletion allowances. (See
• Architect's fees,
• Transfer taxes, chapter 8.)
• Building permits, Each depreciable asset's share of the cost
• Title insurance,
• Payments to contractors, basis is its basis for figuring depreciation and
• Owner's title insurance, and
• Payments for rental equipment, and gain or loss on its sale.
• Any amounts the seller owes that you • Inspection fees.
agree to pay, such as back taxes or in- Embryo transplants. If you get an embryo
terest, recording or mortgage fees, In addition, if you use your employees or farm transplant by buying a recipient cow pregnant
charges for improvements or repairs, and materials and equipment to build an asset, with the embryo, allocate to the basis of the
sales commissions. your basis would also include: cow the part of the purchase price equal to
the FMV of the cow. Allocate the rest of the
You must reasonably allocate these fees or 1) Employee wages paid for the con- purchase price to the basis of the calf. Neither
costs between land and improvements, such struction work, the cost allocated to the cow nor the basis
as buildings, to figure the basis for depreci- allocated to the calf is currently deductible as
ation of the improvements. Allocate the fees 2) Depreciation on equipment you own a business expense.
according to the fair market values of the land while it is used in the construction,
and improvements at the time of purchase. 3) Operating and maintenance costs for Quotas and allotments. Certain areas of the
Settlement costs do not include amounts equipment used in the construction, and country have quotas or allotments for com-
placed in escrow for the future payment of modities such as milk and tobacco. The cost
items such as taxes and insurance. 4) The cost of business supplies and ma-
of the quota or allotment is its basis. If you
Some settlement fees and closing costs terials used in the construction.
acquire a right to a quota with the purchase
you cannot include in the basis of the prop- of land or a herd of dairy cows, allocate part
erty are: Do not deduct these expenses, which you
must capitalize (i.e., include in the asset's of the purchase price to that right.
1) Fire insurance premiums. basis), on Schedule F. Also, reduce your ba-
sis by any jobs credit, Indian employment
2) Rent for occupancy of the property be- credit, or empowerment zone employment
fore closing. credit allowable on the wages you pay in (1).
Do not include the value of your own labor,
Adjusted Basis
3) Charges for utilities or other services re- Before figuring any gain or loss on a sale,
or any other labor you did not pay for, in the
lating to occupancy of the property be- exchange, or other disposition of property or
basis of any property you construct.
fore closing. figuring allowable depreciation, depletion, or
4) Fees for refinancing a mortgage. amortization, you must usually make certain
Allocating the Basis adjustments to the basis of the property. The
5) Charges connected with getting a loan, If you buy multiple assets for a lump sum, result of these adjustments to the basis is the
such as: allocate the amount you pay among the as- adjusted basis.
a) Points (discount points, loan origi- sets you receive. Make this allocation to fig-
nation fees), ure your basis for depreciation and gain or
loss on a later disposition of any of these as- Increases to Basis
b) Mortgage insurance premiums, sets. Increase the basis of any property by all items
c) Loan assumption fees, properly added to a capital account. This in-
Group of assets acquired. If you buy mul- cludes the cost of any improvements having
d) Cost of a credit report, and tiple assets for a lump sum, you and the seller a useful life of more than one year and
may agree to a specific allocation of the pur- amounts spent after a casualty to restore the
e) Fees for an appraisal required by a chase price among the assets in the sales
lender. damaged property.
contract. If this allocation is based on the Some additional items added to the basis
value of each asset and you and the seller are:
Points. If you pay points to get a loan (in- have adverse legal interests, the allocation
cluding a mortgage, second mortgage, line- generally will be accepted. • The cost of extending utility service lines
of-credit, or a home equity loan) you generally
to property,
must capitalize and amortize them ratably Example. You bought farm property in
over the term of the loan. Do not add the cost March for the lump-sum price of $275,000. • Legal fees, such as the cost of defending
to the basis of the related property. You use the cash method of accounting. An and perfecting title, and
Chapter 7 Basis of Assets Page 33
• Legal fees for obtaining a decrease in a Deduction for clean-fuel vehicle and • Canceled in a title 11 case or when you
government charge levied against prop- clean-fuel vehicle refueling property. If are insolvent,
erty to pay for local improvements. you take either the deduction for clean-fuel
vehicles or clean-fuel vehicle refueling prop- • Qualified farm debt, or
If you make additions or improvements to erty, or both, decrease the basis of the prop- • Qualified real property business indebt-
business property, keep separate accounts erty by the amount of the deduction. For more edness (provided you are not a C corpo-
for them. Also, depreciate the basis of each information about these deductions, see ration).
according to the depreciation rules in effect chapter 15 in Publication 535.
when you placed the addition or improvement If you exclude canceled debt from income,
in service. See chapter 8. Casualties and thefts. If you have a casu- you may have to reduce the basis of your
alty or theft loss, decrease the basis of your property.
Government charges for local improve- property by the amount of any insurance or For more information about canceled debt
ments. Add government charges for items other amount you get. Also, decrease it by in a bankruptcy case, see Publication 908.
such as paving roads and building ditches any deductible loss not covered by insurance. For more information about insolvency and
that increase the value of the property as- However, increase your basis for amounts canceled debt that is qualified farm debt, see
sessed to the basis of the property. Do not you spend after a casualty to restore the chapter 4.
deduct them as taxes. However, you can de- damaged property. See chapter 13.
duct as taxes charges for maintenance and
repair and for meeting interest charges on the
improvements. Easements. The amount you get for granting
an easement is usually considered to be from
the sale of an interest in your real property.
Basis Other Than Cost
Deducting vs. capitalizing costs. Do not There are many times when you cannot use
It reduces the basis of the affected part of the
add costs you can deduct as current ex- cost as basis. In these cases, the fair market
property. If the amount received is more than
penses to your basis. For example, amounts value of the property or the adjusted basis of
the basis of the part of the property affected
paid for incidental repairs or maintenance that certain property may be used. Adjusted basis
by the easement, reduce your basis to zero
may be deductible if incurred as business is discussed earlier. Fair market value is dis-
and treat the excess as a recognized gain.
expenses, may not be added to basis. How- cussed next.
See Easements and rights-of-way in chapter
ever, you can choose either to deduct or to
4.
capitalize certain other costs. If you capitalize
these costs, include them in your basis. If you Fair market value (FMV). Fair market value
deduct them, do not include them in your ba- Depreciation. Decrease the basis of your (FMV) is the price at which property would
sis. See chapter 11 in Publication 535. property by the depreciation you deducted, change hands between a buyer and a seller,
or could have deducted, on your tax returns neither having to buy or sell, and both having
under the method of depreciation you chose. reasonable knowledge of all necessary facts.
Decreases to Basis If you took less depreciation than you could Sales of similar property on or about the same
Some items that reduce the basis of your have under the method you chose, decrease date may help to figure the FMV of the prop-
property are: the basis by the amount you could have taken erty.
under that method. If you did not take a de-
• The section 179 deduction (an elected preciation deduction, figure the amount of Property changed to business use. When
deduction in lieu of depreciation de- depreciation you could have taken. If you you hold property for personal use and
ductions), deducted more depreciation than you should change it to business use or use it to produce
have, decrease your basis as follows. De- rent, you must figure the basis for depreci-
• The deduction for clean-fuel vehicles and crease it by the amount you should have de-
clean-fuel refueling property, ation. An example of this would be renting out
ducted plus the part of the excess depreci- your former main home.
• Investment credit (part or all of credit) ation you deducted that actually reduced your Basis for depreciation. The basis for
taken, tax liability for any year. depreciation equals the lesser of:
In decreasing your basis for depreciation,
• Casualty and theft losses and insurance
take into account the amount deducted on
reimbursements,
your tax returns as depreciation and any de- • The FMV of the property on the date of
• Easements granted, preciation you must capitalize under the uni- the change, or
form capitalization rules. • Your adjusted basis on the date of the
• Deductions previously allowed or allow-
able for amortization, depreciation, and change.
depletion, Exclusion from income of subsidies for
energy conservation measures. If you got Property received for services. If you get
• Exclusion from income of subsidies for a subsidy from a utility company for the pur-
energy conservation measures, property for services, include the property's
chase or installation of any energy conserva- FMV in income. The amount you include in
• Credit for qualified electric vehicles, tion measure, you can exclude it from income. income becomes your basis. If the services
Reduce the basis of the property on which were performed for a price agreed on be-
• Gain on the sale of your old home on
you got the subsidy by the excluded amount. forehand, it will be accepted as the FMV of
which tax was postponed,
For more information about this subsidy, see the property if there is no evidence to the
• Certain canceled debt excluded from in- Publication 525, Taxable and Nontaxable In- contrary.
come, come.
• Rebates received from the manufacturer
or seller, Credit for qualified electric vehicle. If you Taxable Exchanges
claim the credit for qualified electric vehicles, A taxable exchange is one in which the gain
• Patronage dividends received as a result
you must reduce the basis of the vehicle on is taxable, or the loss is deductible. A taxable
of a purchase of property (See Patronage
which you claimed the credit. For more infor- gain or deductible loss also is known as a
Dividends (Distributions) in chapter 4.),
mation about this credit, see chapter 15 in recognized gain or loss. If you get property
• Residential energy credit, and Publication 535. in exchange for other property in a taxable
• Gas-guzzler tax. exchange, the basis of the property you get
Canceled debt excluded from income. If is usually its FMV at the time of the exchange.
Some of these decreases to basis are dis- a debt is canceled or forgiven, other than as A taxable exchange occurs when you get
cussed next. a gift, bequest, or some other type of pay- cash or get property that is not similar or re-
ment, you generally must include the can- lated in use to the property exchanged.
Section 179 deduction. If you choose to celed amount in gross income for tax pur-
take the section 179 deduction for all or part poses. A debt includes indebtedness for Example. You trade a tract of farm land
of the cost of property, decrease the basis of which you are liable or which attaches to with an adjusted basis of $3,000 for a tractor
the property by the deduction. For more in- property you hold. that has a fair market value of $6,000. You
formation, see Section 179 Deduction in You can exclude your canceled debt from must report a taxable gain of $3,000 for the
chapter 8. income if the debt is: land. The tractor has a basis of $6,000.
Page 34 Chapter 7 Basis of Assets
relating to losses under Nondeductible Loss Allocate the total basis of $15,500 between
Nontaxable Exchanges in chapter 2 of Publication 544. the tractor and the truck. The basis of the
A nontaxable exchange is an exchange in truck is its FMV, $3,000, and the basis of the
which you are not taxed on any gain and you Exchange of business. Exchanging the tractor is the rest, $12,500.
cannot deduct any loss. If you got property in assets of one business for the assets of an-
a nontaxable exchange, its basis is usually other business is a multiple asset exchange.
the same as the basis of the property you For information on figuring basis in a multiple Trade-In vs. Sale and Purchase
exchanged. A nontaxable gain or loss also is asset exchange, see Multiple Property Ex- If a sale and purchase are a single trans-
known as an unrecognized gain or loss. changes in chapter 1 of Publication 544. action, you cannot increase the basis of
property by selling your old property outright
Partially Nontaxable Exchange to a dealer and then buying new property from
Like-Kind Exchanges the same dealer. If the sale of your old prop-
The exchange of property for the same kind A partially nontaxable exchange is an ex- erty to the dealer and the purchase of the new
of property is the most common type of non- change in which you get unlike property or property from that dealer are dependent on
taxable exchange. money and like property. The basis of the each other, you are considered to have
For an exchange to qualify as a like-kind property you get is the same as the basis of traded your old property. Treat the transaction
exchange, you must hold for business or in- the old property with the following adjust- as an exchange no matter how you carry it
vestment purposes both the property you ex- ments: out. You cannot avoid the trade-in rule by
change and the property you get. There must using a subsidiary in the transaction.
be an exchange of like-kind property 1) Decrease the basis by:
(depreciable tangible personal property may a) Any money you get, and Example. Assume that you used a tractor
be like-kind property). For other requirements, on your farm for 3 years. Its adjusted basis is
see Nontaxable Like-Kind Exchanges, in b) Any loss recognized on the ex-
$2,000 and its FMV is $4,000. You are inter-
chapter 10. change.
ested in a new tractor with a listed retail price
The basis of the property you get is the 2) Increase the basis by: of $16,000 that regularly sells for $15,500. If
same as the basis of the property you gave you trade your old tractor for the new one and
up. a) Any additional costs incurred, and pay $11,500, your basis for depreciation for
b) Any gain recognized on the ex- the new tractor is $13,500 ($11,500 plus the
Example. You traded a machine (ad- $2,000 basis of your old tractor). However,
justed basis $8,000) for another like-kind change.
you want a higher basis for depreciating the
machine (FMV $9,000). You used both ma- If the other party to the transaction assumes, new tractor, so you agree to pay the dealer
chines in your farming business. The basis or takes property subject to, your liabilities $15,500 for the new tractor if he will pay you
of the machine you got is $8,000, the same (including a nonrecourse obligation) treat the $4,000 for your old tractor. Because the two
as the machine traded. debt assumption as money you got in the transactions are dependent on each other,
exchange. you are treated as if you exchanged your old
Exchange expenses. Exchange expenses tractor for the new one. Your basis for the
generally are the closing costs that you pay. Example 1. You traded farm land (basis new tractor is $13,500, the same as if you
They include such items as brokerage com- $10,000) for another tract of farm land (FMV traded the old tractor and did not pay
missions, attorney fees, deed preparation $11,000). You also got $3,000. Your gain is $15,500.
fees, etc. Add them to the basis of the like- $4,000 ($11,000 + $3,000 − $10,000). Include
kind property you get. your gain in income only to the extent of the
cash you got. Your basis in the land you got Involuntary Conversions
Property plus cash. If you trade property in is: If you get property as a result of an involun-
a nontaxable exchange and also pay money, Basis of land traded ............................... $10,000 tary conversion, such as a casualty, theft, or
the basis of the property you get is the basis Minus: Cash received ............................ − 3,000 condemnation, you may figure the basis of
of the property you exchanged plus the $7,000 the replacement property you get using the
money you paid. Plus: Gain recognized ........................... + 3,000 basis of the property you exchanged.
Basis of land received $10,000
Example. You trade in a truck (adjusted
basis $3,000) for another truck (FMV $7,500) Example 2. You traded a truck (adjusted Similar or related property. If you get
and pay $4,000. Your basis in the new truck basis $22,750) for another truck (FMV property similar or related in service or use to
is $7,000 (the $3,000 basis of the old truck $22,000). You also got $10,000. Your gain is the property exchanged, the new property's
plus the $4,000 paid). $7,250 ($20,000 + $10,000 − $22,750). Your basis is the same as the old property's basis
basis in the truck you got is: on the date of the exchange. However, make
Special rules for related parties. If a like- the following adjustments.
kind exchange takes place directly or indi- Adjusted basis of truck traded ............... $22,750
Minus: Cash received ............................ −10,000 1) Decrease the basis by:
rectly between related parties and either party $12,750
disposes of the property within 2 years after Plus: Gain recognized ........................... + 7,250 a) Any loss recognized on the ex-
the exchange, the exchange does not qualify Basis of truck received $20,000 change, and
for like-kind treatment. Each party must re-
port any gain or loss not recognized on the b) Any money received that was not
original exchange. Each party reports it on the Allocation of basis. Allocate the basis
among the properties, other than money, you spent on similar property.
tax return filed for the year in which the later
disposition occurred. If this rule applies, the got in the exchange. In making this allocation, 2) Increase the basis by:
basis of the property received in the original the basis of the unlike property is its FMV on
exchange will be its fair market value. the date of the exchange. The rest is the ba- a) Any gain recognized on the ex-
This rule generally does not apply to dis- sis of the like property. change, and
positions due to: Example. You had an adjusted basis of b) Any cost of getting replacement
$15,000 in a tractor you traded for another property.
• The death of either related party, tractor that had an FMV of $12,500. You also
• Involuntary conversions, or got $1,000 in cash and a truck that had an
Not similar or related property. If you get
FMV of $3,000. You have a gain of $1,500
• Exchanges whose main purpose is not money or other property not similar or related
($16,500 − $15,000) recognized on the ex-
the avoidance of federal income tax. in service or use to the old property and you
change. Your basis in the properties you re-
buy new property similar or related in service
ceived is:
Related parties. Generally, related par- or use to the old property, the basis of the
ties are ancestors, lineal descendants, broth- Adjusted basis of old tractor .................. $15,000 new property is the cost of the new property
ers and sisters (whole or half), and a spouse. Minus: Cash received ............................ − 1,000 decreased by the gain not recognized on the
For other related parties (two or more $14,000 exchange.
corporations, an individual and a corporation, Plus: Gain recognized ........................... + 1,500 For more information about involuntary
Total basis of properties received $15,500
a grantor and fiduciary, etc.), see the rules exchanges, see chapter 13.
Chapter 7 Basis of Assets Page 35
quired adjustment to basis while you held the individual's death or on the alternate valuation
Property Received property. (See Adjusted Basis, earlier.) date. Figure all FMVs without regard to the
as a Gift If you use the donor's adjusted basis for special-use valuation.
To figure the basis of property you get as a figuring a gain and get a loss and use the You may have to increase your basis in
gift, you must know its adjusted basis (defined FMV for figuring a loss and get a gain, you special-use valuation property if it becomes
earlier) to the donor just before it was given have neither gain nor loss on the sale or other subject to the additional estate tax. This tax
to you. You also must know its fair market disposition. is assessed if, within 10 years after the death
value (FMV) at the time it was given to you of the decedent, you transfer the property to
and any gift tax paid on it. Business property. If you hold the gift as a person who is not a member of your family
business property, your basis for figuring any or the property stops being used as a farm.
depreciation, depletion, or amortization de- This tax may apply if you dispose of the
FMV equal to or more than donor's ad- property in a like-kind exchange or involuntary
justed basis. If the FMV of the property was ductions is the same as the donor's adjusted
basis plus or minus any required adjustments conversion.
equal to or more than the donor's adjusted To increase your basis in the property, you
basis, your basis is the donor's adjusted basis to basis while you hold the property.
must make an irrevocable choice and pay the
when you got the gift. Increase your basis by interest on the additional estate tax figured
all or part of the gift tax paid, depending on
the date of the gift.
Property Transferred from the date 9 months after the decedent's
death until the date of payment of the addi-
Also, for figuring gain or loss from a sale From a Spouse tional estate tax. If you meet these require-
or other disposition of the property, or for fig- The basis of property transferred to you or ments, increase your basis in the property to
uring depreciation, depletion, or amortization transferred in trust for your benefit by your its fair market value on the date of the
deductions on business property, you must spouse is the same as your spouse's adjusted decedent's death or the alternate valuation
increase or decrease your basis (the donor's basis. The same rule applies to a transfer by date. The increase in your basis is considered
adjusted basis) by any required adjustments your former spouse if the transfer is incident to have occurred immediately before the
to basis while you held the property. See to divorce. However, adjust your basis for any event that results in the additional estate tax.
Adjusted Basis, earlier. gain recognized by your spouse on property You make the choice by filing with Form
Gift received before 1977. If you got a transferred in trust. This rule applies only to 706–A a statement that:
gift before 1977, increase your basis in the a property transfer in trust in which the liabil-
gift by the gift tax paid on it. (Your basis in the ities assumed plus the liabilities to which the • Contains your name, address, and tax-
gift is the donor's adjusted basis.) However, property is subject are more than the adjusted payer identification number,
do not increase your basis above the FMV basis of the property transferred.
of the gift when it was given to you. Your spouse must give you records • Identifies the choice as a choice under
needed to determine the adjusted basis and section 1016(c) of the Internal Revenue
Example 1. You were given a house in holding period of the property as of the date Code,
1976 with an FMV of $21,000. The donor's of the transfer. • Specifies the property for which you are
adjusted basis was $20,000. The donor paid For more information, see Publication 551 making the choice, and
a gift tax of $500. Your basis is $20,500, the and Publication 504.
donor's adjusted basis plus the gift tax paid. • Provides any additional information re-
quired by the Form 706–A instructions.
Example 2. If, in Example 1, the gift tax Inherited Property
paid had been $1,500, your basis would be Community property. In community prop-
$21,000. This is the donor's adjusted basis Your basis in property you inherit is usually
erty states (Arizona, California, Idaho, Louisi-
plus the gift tax paid, limited to the FMV of the its fair market value (FMV) at the date of the
ana, Nevada, New Mexico, Texas, Washing-
house at the time you got the gift. decedent's death. If a federal estate tax return
ton, and Wisconsin), husband and wife are
has to be filed, your basis in property you in-
each usually considered to own half the
Gift received after 1976. If you got a gift herit can be its FMV at the alternate valuation
community property. When either spouse
after 1976, increase your basis in the gift by date if the estate qualifies and chooses to use
dies, the total value of the community prop-
the part of the gift tax paid that is due to the alternate valuation. If a federal estate tax re-
erty generally becomes the basis of the entire
net increase in value of the gift. (Your basis turn does not have to be filed, your basis in
property, even the part belonging to the sur-
in the gift is the donor's adjusted basis.) Fig- the property is its appraised value at the date
viving spouse. For this to apply, at least half
ure the increase by multiplying the gift tax of death for state inheritance or transmission
of the community property interest must be
paid on the gift by a fraction. The numerator taxes.
includible in the decedent's gross estate,
of the fraction is the net increase in value of Your basis in inherited property also may
whether or not the estate must file a return.
the gift and the denominator is the FMV of the be figured under the special farm or closely
For example, if the basis of community
gift. The net increase in value of the gift is the held business real property valuation method,
property were $80,000, at least half the FMV
FMV of the gift minus the donor's adjusted if chosen for estate tax purposes. This
of the community interest is includible in the
basis. method is discussed next.
decedent's estate, and the FMV of the com-
munity interest is $100,000, the basis of the
Example. Last year you got a gift of Special farm real property valuation. Un- surviving spouse's half of the property is
property from your mother that had an FMV der certain conditions, when a person dies the $50,000. The basis of the other half to the
of $50,000. Her adjusted basis was $20,000. executor or personal representative of that decedent's heirs also is $50,000.
She paid a gift tax of $9,000. Your basis is person's estate may choose to value the For more information about community
$25,400, figured as follows: qualified real property on other than its FMV. property, see Publication 555.
If so, the executor or personal representative
Fair market value ....................................... $50,000 values the qualified real property based on its
Minus: Adjusted basis ................................ −20,000 use as a farm. If the executor or personal
Net increase in value ................................. $30,000
representative chooses this method of valu-
Gift tax paid ............................................... $9,000 ation for estate tax purposes, this value is the Uniform
Multiplied by ($30,000 ÷ $50,000) ............. × .60 basis of the property for the heirs. The quali-
Gift tax due to net increase in value .........
Adjusted basis of property to your mother .
$5,400
+20,000
fied heirs should be able to get the necessary Capitalization Rules
Your basis in the property $25,400 value from the executor or personal repre- The uniform capitalization rules do not apply
sentative of the estate. to any animal or plant that has a preproduc-
If you are a qualified heir who got tive period of 2 years or less that you produce
FMV less than donor's adjusted basis. If special-use valuation property, your basis in in your farming business. Your costs incurred
the FMV of the property were less than the the property is the estate's or trust's basis in after 1988 for raising animals are exempt
donor's adjusted basis, your basis for gain on that property immediately before the distribu- from the uniform capitalization rules. These
its sale or other disposition is the donor's ad- tion. If there is a gain recognized by the estate exceptions do not apply to a corporation,
justed basis plus or minus any required ad- or trust because of post-death appreciation, partnership, or tax shelter required to use the
justment to basis while you held the property. increase the basis by this amount. Post-death accrual method of accounting (see chapter
(See Adjusted Basis, earlier.) Your basis for appreciation is the difference between the 3).
loss on its sale or other disposition is its FMV property's FMV on the date of distribution and Provided you do not meet one of the ex-
when you got the gift plus or minus any re- the property's FMV either on the date of the ceptions in the previous paragraph, you are
Page 36 Chapter 7 Basis of Assets
subject to the uniform capitalization rules if reforestation expenses, pollution control fa-
you: cilities, and costs of going into business.
Important Change It is important to keep good records
• Produce real property or tangible per-
sonal property for use in a trade or busi- for 1998 for property you depreciate. You do
RECORDS not need to file these records with
ness or an activity engaged in for profit,
Increase to the section 179 deduction. For your return. Instead, you should keep them
• Produce real property or tangible per- 1998, the total cost you can elect to deduct as part of the records of the depreciated
sonal property for sale to customers, or under section 179 of the Internal Revenue property. You claim depreciation, including
Code is increased to $18,500. For more in- the section 179 deduction, on Form 4562.
• Acquire property for resale.
Keep your own records to verify the accuracy
formation, see Maximum dollar limit, later.
of the information on Form 4562.
You produce property if you construct, build,
install, manufacture, develop, improve, cre-
ate, raise, or grow the property. Filled-in Form 4562. A filled-in Form 4562
is shown in chapter 20 to help you understand
Examples of real property you might
produce (build) for use in your farming busi-
Important Reminders how to complete it.
ness are barns, chicken houses, and storage
sheds. Examples of tangible personal prop- General asset accounts. You can elect to Topics
erty you might produce for use in your farming place assets subject to MACRS in one or This chapter discusses:
business or for sale to customers include more general asset accounts. After you have
crops raised for sale or as animal feed. Other established a general asset account, figure • General information on depreciation
examples are animals raised for sale (beef depreciation on the entire account by using
the applicable depreciation method, recovery • The section 179 deduction
cattle, hogs, etc.) or animals used in your
farming business for breeding or production period, and convention for the assets in the • The Modified Accelerated Cost Recovery
purposes (dairy cows). account. System (MACRS)
Under the uniform capitalization rules, you For more information, see General Asset
Accounts, later. • Listed property rules
must capitalize direct costs and an allocable
part of most indirect costs you incur due to • Basic information on depletion and
your production or resale activities. The term Property not qualifying for the section 179 amortization
capitalize means to include certain expenses deduction. Effective for property placed in
in the basis of property you produce or in your service after 1990, the following are among
inventory costs rather than deduct them as the types of property that do not qualify for the Useful Items
current expenses. You can recover these section 179 deduction: You may want to see:
costs through depreciation, amortization, or
costs of goods sold when you use, sell, or 1) Property used predominately outside the
U.S., Publication
otherwise dispose of the property.
Costs that are allocable to property being 2) Property used predominately to furnish m 463 Travel, Entertainment, Gift, and
produced include variable costs, such as: lodging or in connection with furnishing Car Expenses
feed and labor, and fixed costs, such as: de- lodging,
preciation on machinery and buildings. m 534 Depreciating Property Placed in
For more information about these rules, 3) Property used by foreign persons or en- Service Before 1987
see the regulations under section 263A of the tities, and m 535 Business Expenses
Internal Revenue Code.
4) Air conditioning or heating units. m 544 Sales and Other Dispositions of
Assets
For more information, see Nonqualifying
Property, later. m 551 Basis of Assets
m 946 How To Depreciate Property
Example. J-Bar Farms traded two tiller 2) Real property, including buildings and
Livestock. Livestock is qualifying property. their structural components,
machines having a total adjusted basis of For this purpose, livestock includes horses,
$680 for a new tiller machine costing $1,320. cattle, hogs, sheep, goats, and mink and 3) Property you acquired from certain
J-Bar also traded a used van with an adjusted other furbearing animals. groups or persons,
basis of $4,500 for a new van costing $9,000.
J-Bar Farms places the new items in service 4) Air conditioning or heating units,
Single purpose agricultural (livestock) or
this year. J-Bar was given an $800 trade-in horticultural structures. For purposes of 5) Certain property used outside the U.S.,
for the old tiller machines and paid $520 cash determining whether a structure is a single
for the new tiller machine. J-Bar was given a 6) Property used predominately to furnish
purpose agricultural structure, poultry is con- lodging or in connection with the fur-
$4,800 trade-in and paid $4,200 cash for the sidered to be livestock.
new van. nishing of lodging, and
Agricultural structure. A single purpose
J-Bar Farms' basis in the new property agricultural (livestock) structure is any build- 7) Property used by foreign persons or en-
includes both the adjusted basis of the prop- ing or enclosure specifically designed, con- tities.
erty traded and the cash paid. However, only structed, and used to:
the portion of the basis of the new property For more information on nonqualifying
paid by cash qualifies for the section 179 de- 1) House, raise, and feed a particular type property, see Nonqualifying Property in Pub-
duction. J-Bar has business costs that qualify of livestock and its produce, and lication 946.
for a section 179 deduction of $4,720 ($520 For the kind of property you lease on
+ $4,200), the part of the cost of the new 2) House the equipment, including any re- which you can claim the section 179 de-
property not determined by the property placements, needed to house, raise, or duction, see Qualifying Property in Publica-
traded. feed the livestock. tion 946.
Because the full range of livestock pro-
Qualifying Property duction is included, special purpose struc- Production of income. Property you hold for
tures are qualifying property if used to breed the production of income includes investment
Property qualifying for the section 179 de-
chickens or hogs, produce milk from dairy property, rental property (if renting property is
duction is depreciable property and includes:
cattle, or produce feeder cattle or pigs, broiler not your trade or business), and property that
1) Tangible personal property, chickens, or eggs. The facility must include, produces royalties. If you use property in the
as an integral part of the structure or enclo- active conduct of a trade or business, you do
2) Other tangible property (except most not hold it only for the production of income.
sure, equipment necessary to house, raise,
buildings and their structural compo-
and feed the livestock.
nents), used as: Acquired from certain groups or persons.
Horticultural structure. A single purpose
a) An integral part of manufacturing, horticultural structure is: Property does not qualify for the section 179
production, or extraction, or of fur- deduction if:
nishing transportation, communi- 1) A greenhouse specifically designed,
constructed, and used for the commer- 1) The property is acquired by one member
cations, electricity, gas, water, or
cial production of plants, or of a controlled group from a member of
sewage disposal services, or
the same group, or
b) A research facility used in con- 2) A structure specifically designed, con-
structed, and used for the commercial 2) The property's basis is either:
nection with any of the activities in
(a) for the bulk storage of the production of mushrooms. a) Determined in whole or in part by
fungible commodities, or its adjusted basis in the hands of
Use of structure. A structure must be the person from whom it was ac-
c) A facility used in connection with used only for the purpose which qualified it. quired, or
any of the activities in (a) for the For example, a hog barn will not be eligible
bulk storage of fungible commod- property if you use it to house poultry. Simi- b) Determined under stepped-up basis
ities (including commodities in a larly, using part of your greenhouse to sell rules for property acquired from a
liquid or gaseous state). plants will make the greenhouse ineligible. decedent, or
Page 40 Chapter 8 Depreciation, Depletion, and Amortization
3) The property is acquired from a related is reduced if you go over the investment limit In addition, figure taxable income without
person. (discussed later) in any tax year. regard to:
For the preceding rules, a “related person” The total cost of section 179 property 1) The section 179 deduction,
generally means a member of your immediate TIP that you can deduct increases as
family (including your spouse, an ancestor, shown below: 2) The self-employment tax deduction, and
and a lineal descendant).
For more information on related parties, Tax Year Maximum Amount Deductible 3) Any net operating loss carryback or
1998 $18,500
see Publication 946. carryforward.
1999 19,000
2000 20,000
2001 – 2002 24,000 Any cost that is not deductible in one
How To Make the Election After 2002 25,000 TIP tax year under section 179 because
You make the election by taking your de- Joint returns. A husband and wife who of this limit can be carried to the next
duction on Form 4562. You attach and file file a joint return are treated as one taxpayer tax year.
Form 4562 with: in determining any reduction to the maximum The amount you carry over will be taken
dollar limit, regardless of which spouse ac- into account in determining your section 179
1) Your original tax return filed for the tax deduction in the next year; however, it is
year the property was placed in service quired the property or placed it in service.
Married taxpayers filing separate re- subject to the limits in that year. You may
(whether or not you filed it timely), or select the properties for which costs will be
turns. A husband and wife filing separate
2) An amended return filed by the due date returns for a tax year are treated as one tax- carried forward and you may allocate the
(including extensions) for your return for payer for the maximum dollar limit and for the portion of the costs to these properties.
the tax year the property was placed in $200,000 investment limit. Unless they elect
service. otherwise, 50% of the maximum dollar limit Example. Last year, Joyce Jones placed
(after applying the investment limit) will be in service a machine that cost $8,000. The
You cannot make an election for the section allocated to each spouse. If the percentages taxable income from her business last year
179 deduction on an amended return filed elected by each spouse do not total 100%, (determined without a section 179 deduction
after the due date (including extensions). 50% will be allocated to each spouse. for the cost of the machine and without the
Joint return after filing separate re- self-employment tax deduction) was $6,000.
turns. If you filed a separate return and after Her section 179 deduction is limited to
How To Figure the due date choose to file a joint return, the $6,000. The $2,000 cost that is not allowed
the Deduction maximum dollar limit on the joint return is the as a current section 179 deduction (because
The total business cost you can elect to de- lesser of: of the taxable income limit) is carried to this
duct under section 179 for 1997 cannot be year.
more than $18,000. This $18,000 maximum 1) The maximum dollar limit (after the in- This year, Joyce placed another machine
dollar limit applies to each taxpayer, not to vestment limit), or in service that cost $9,000. Her taxable in-
each business. You do not have to claim the come from business (determined without a
2) The total cost of section 179 property section 179 deduction for the cost of the ma-
full $18,000. You can decide how much of the you both elected to expense on your
business cost of your qualifying property you chine and without the self-employment tax
separate returns. deduction) is $10,000. Joyce can deduct the
want to deduct under section 179. You may
be able to depreciate any cost you do not full cost of the machine ($9,000) but only
deduct under section 179. To figure depreci- Investment limit. For each dollar of busi- $1,000 of the carryover from last year be-
ation, see MACRS, later. ness cost over $200,000 for section 179 cause of the limits. However, she can carry
If you acquire and place in service more property placed in service in 1997, reduce the the balance of $1,000 as a carryover to next
than one item of qualifying property during the maximum dollar limit by one dollar (but not year.
year, you can divide the deduction between below zero). If your business cost of section
the items in any way, as long as the total 179 property placed in service during a tax
year is $218,000 or more, you cannot take a More information. See Carryover of disal-
deduction is not more than the limits. If you lowed deduction in Publication 946 for infor-
have only one item of qualifying property and section 179 deduction, and you are not al-
lowed to carry over the cost that is more than mation on figuring the carryover, or use the
it does not cost more than $18,000, your de- Section 179 Worksheet in chapter 2 of Publi-
duction is limited to the lesser of: $218,000.
cation 946 to figure your carryover.
1) Your taxable income from your trade or Example. In 1997, James Smith placed
business (the taxable income limit is in service machinery costing $207,000. Be- Two different taxable income limits. The
discussed later), or cause this cost is $7,000 more than section 179 deduction is subject to a taxable
$200,000, he must reduce the maximum dol- income limit. You also may have to figure
2) The cost of the item. lar limit of $18,000 by $7,000. If his taxable another deduction that has a limit based on
income is at least $11,000, James can claim taxable income. You may have to figure the
You must figure your section 179 de- an $11,000 section 179 deduction for 1997.
duction before figuring your depreciation de- limit for this other deduction taking into ac-
duction. count the section 179 deduction. If so, com-
You must subtract the amount you elect Taxable income limit. The total cost that plete the steps discussed next.
to deduct under section 179 from the you can deduct each year is limited to the Step 1. Figure taxable income without
business/investment cost of the qualifying taxable income from the active conduct of any either a section 179 deduction or the other
property. This result is called your unadjusted trade or business during the tax year. Gen- deduction.
basis and is the amount you use to figure any erally, you are considered to actively conduct Step 2. Figure a hypothetical section 179
depreciation deduction. a trade or business if you meaningfully par- deduction using the taxable income figured in
ticipate in the management or operations of Step 1.
the trade or business. Step 3. Subtract the hypothetical section
Deduction Limits Figure taxable income for this purpose by 179 deduction figured in Step 2 from the tax-
Your section 179 deduction cannot be more totaling the net income (or loss) from all able income figured in Step 1.
than the business cost of the qualifying prop- trades and businesses you actively con- Step 4. Figure a hypothetical amount for
erty. In addition, in figuring your section 179 ducted during the tax year. Items of income the other deduction using the amount figured
deduction, you must apply the following limits: derived from a trade or business actively in Step 3 as taxable income.
conducted by you include section 1231 gains Step 5. Subtract the hypothetical other
1) Maximum dollar limit, (or losses) as discussed in chapter 11 and deduction figured in Step 4 from the taxable
2) Investment limit, and interest from working capital of your trade or income figured in Step 1.
business. Also include in total taxable income Step 6. Now figure your actual section
3) Taxable income limit. any wages, salaries, tips, or other pay earned 179 deduction using the taxable income fig-
as an employee. When figuring taxable in- ured in Step 5.
Maximum dollar limit. The total cost that come, do not take into account any unreim- Step 7. Subtract your actual section 179
you can elect to deduct for 1997 cannot be bursed employee business expenses you deduction figured in Step 6 from the taxable
more than $18,000. This maximum dollar limit may have as an employee. income figured in Step 1.
Chapter 8 Depreciation, Depletion, and Amortization Page 41
Step 8. Figure your actual other de- for the mower completely recovered its cost.
duction using the taxable income figured in The cost of your tractor is adjusted by
Step 7. $11,800. Its unadjusted basis for depreciation MACRS
is $4,200. You figure this by subtracting the MACRS consists of two systems that deter-
Example. XYZ is a farm corporation. amount of your section 179 deduction,
During the tax year, the corporation pur- mine how you depreciate your property. The
$11,800, from the cost of the tractor, $16,000. main system is called the General Depreci-
chased and placed in service qualifying sec-
tion 179 property that cost $10,000. It elects ation System (GDS). The second system is
to expense as much as possible under sec- called the Alternative Depreciation System
tion 179. The XYZ corporation also gave a (ADS). Unless you are specifically required
by law to use ADS or you elect it, you gen-
charitable contribution of $1,000 during the
tax year. A corporation's deduction for chari-
Section 179 Recapture erally use GDS to figure your depreciation
table contributions cannot be more than 10% Section 179 recapture occurs when you add deduction. Property for which you are re-
of its taxable income, figured after subtracting back to income the section 179 deduction you quired by law to use ADS and how to elect
any section 179 deduction. The taxable in- took in an earlier year. ADS are discussed in What Can Be Depreci-
come limit for the section 179 deduction is ated Under MACRS, next. The main differ-
figured after subtracting any allowable chari- ence between the two systems is that ADS
table contributions. XYZ's taxable income
When To Recapture generally provides for a longer recovery pe-
figured without taking into account either any the Deduction riod and uses only the straight line method
section 179 deduction or any deduction for If you claim a section 179 deduction for the of depreciation to figure a deduction.
the charitable contributions is $12,000. XYZ cost of property and, in a year after you place
figures its section 179 deduction and its de- the property in service, you do not use it more
duction for charitable contributions as follows: than 50% for business, you may have to re- What Can Be
Step 1. Taxable income figured without either
capture part of the deduction. This can occur Depreciated
in any tax year during the recovery period for
deduction is $12,000. the property. Recovery periods for property Under MACRS
Step 2. Using $12,000 as taxable income, a are discussed later. MACRS applies to most tangible depreciable
hypothetical section 179 deduction of If you elect the section 179 deduction, property placed in service after 1986. Prop-
$10,000 would be allowable. treat the amount deducted as depreciation for erty that you cannot use MACRS for is dis-
purposes of the recapture rules. You may cussed later in What Cannot Be Depreciated
Step 3. $12,000 (from Step 1) minus $10,000 have to treat any gain you realize from a sale, Under MACRS.
(from Step 2) equals $2,000. exchange, or other disposition of property as
Step 4. Using $2,000 (from Step 3) as taxable ordinary income up to the section 179 and
Use of real property changed. You must
income, a hypothetical charitable contribu- depreciation deductions you claimed. Ordi-
use MACRS to depreciate all real property
tion (limited to 10% of taxable income) of nary income is income that is all taxable.
you acquired before 1987 that you changed
$200 is figured. from personal use to business or income-
Where to report recapture. Report any re- producing use after 1986.
Step 5. $12,000 (from Step 1) minus $200 capture of the section 179 deduction on Form
(from Step 5) equals $11,800. 4797 and Schedule F.
Step 6. Using $11,800 (from Step 5) as tax- When To Use GDS
able income, the actual section 179 de-
duction is figured. Because the taxable in- How To Figure the Most tangible depreciable property falls within
the general rule of MACRS, also called the
come is at least $10,000, XYZ can take a Recapture General Depreciation System (GDS). As dis-
$10,000 section 179 deduction. To figure the amount to recapture (include in cussed earlier in MACRS, the major differ-
Step 7. $12,000 (from Step 1) minus $10,000 income), subtract the depreciation that would ences between GDS and ADS are the re-
(from Step 6) equals $2,000. have been allowable on the section 179 covery period and method of depreciation you
amount for prior tax years and the tax year use to figure the deduction. Because GDS
Step 8. Using $2,000 (from Step 7) as taxable of recapture from the section 179 deduction permits use of the declining balance method
income, the actual charitable contribution claimed. The section 179 amount is the part over a shorter recovery period, the deduction
(limited to 10% of taxable income) of $200 of the cost deducted under section 179. is greater in the earlier years.
is figured. However, the law requires you to use ADS
Example. Paul Lamb, a calendar year for certain property as discussed under When
Passenger automobiles. For passenger taxpayer, bought and placed in service on To Use ADS, later.
automobiles placed in service in 1997, your August 1, 1995, an item of 3-year property Although your property may qualify for
total section 179 deduction and depreciation costing $10,000. The property is not listed GDS, you can elect on a property-by-property
cannot be more than $3,160 for 1997. For property. He used the property only for busi- or class of assets basis to use ADS. If you
more information, see Maximum deduction for ness in 1995 and 1996. He elected a section make this election, however, you can never
1997 under Special Rules for Passenger Au- 179 deduction of $5,000. During 1997, he revoke it. How to make this election is dis-
tomobiles, later. used the property 40% for business and 60% cussed in Election, under ADS method, later.
for personal use. He figures his recapture
How to figure the deduction. You must amount as follows:
figure your section 179 deduction before fig-
Section 179 deduction claimed (1995) ... $5,000.00
When To Use ADS
uring your depreciation deduction. You must Allowable depreciation You must use ADS for:
subtract the amount you elect to deduct under (instead of section 179):
section 179 from the business and investment
1995 — 1) Any property used predominantly in a
cost of the qualifying property. This result is
$5,000 × 25.00%* ................. $1,250.00 farming business and placed in service
called your unadjusted basis and is the 1996 — during any tax year in which you make
amount you use to figure any depreciation $5,000 × 37.50%* ................. 1,875.00 an election not to apply the uniform
deduction. 1997 —
capitalization rules to certain farming
$5,000 × 25.00%*
You cannot take depreciation on the × 40% (business) .................. 500.00 3,625.00 costs,
!
CAUTION
cost of property you deduct under
section 179.
1997 —
Recapture amount .................................. $1,375.00
2) Any tax-exempt use property,
*Rates from the 150% table, later. 3) Any tax-exempt bond-financed property,
Example. This year, you bought a tractor Paul reports the $1,375 on Form 4797 and 4) Any imported property covered by an
for $16,000 and a mower for $6,200 for use Schedule F. executive order of the President of the
in your farming business. You placed both United States, and
items in service this year. You elect to deduct Dispositions. If you dispose of property, the
the entire $6,200 for the mower and $11,800 amount you deducted under section 179 is 5) Any tangible property used predomi-
for the tractor, a total of $18,000. This is the subject to recapture as ordinary income. For nantly outside the United States during
most you can deduct. Your $6,200 deduction more information, see chapter 11. the year.
Page 42 Chapter 8 Depreciation, Depletion, and Amortization
a) The property user did not change, you paid for the property plus any sales tax,
What Cannot Be and freight charges, and installation and testing
Depreciated b) The property was not MACRS
fees. Other basis refers to basis that is de-
termined by the way you received the prop-
Under MACRS property in the hands of the person erty. For example, you may have received the
You cannot use MACRS for certain property. from whom it was acquired because property through a taxable or nontaxable ex-
You can choose to exclude certain other of 2) or 3). change, for services you performed, as a gift,
property from being depreciated under or as an inheritance. If you received property
MACRS. Special rule. The excluded property rules in this or some other way, see chapter 7 to
Property that you cannot depreciate using discussed above do not apply to any property determine your basis.
MACRS includes: if the allowable deduction for the property for
the first tax year it was placed in service using Basis of property changed from personal
1) Intangible property, ACRS was greater than the deduction under use. If you held property for personal use
2) Any motion picture film or video tape, MACRS applying the half-year convention. and later change it to business use or use in
For more information on other special rules, the production of income, your basis is the
3) Any sound recording, and see Publication 946. lesser of:
4) Certain real and personal property
placed in service before 1987 Real property. You cannot use MACRS for 1) The fair market value (FMV) of the
certain real property. This includes property property on the date you change it from
You can choose to exclude from MACRS acquired after 1986 (after July 31, 1986, if personal use, or
property that is properly depreciated under a MACRS was elected), if:
method of depreciation that is not based on 2) Your original cost or other basis adjusted
a term of years. 1) You or someone related to you owned as follows:
the property in 1986, a) Increased by the cost of any per-
Election To Exclude Certain 2) You leased the property back to the manent improvements or additions
and other additions to basis, and
Property From MACRS person (or someone related to this per-
If you properly depreciate any of your prop- son) who owned the property in 1986, b) Decreased by any tax deductions
erty under a method not based on a term of or you claimed for casualty losses and
years, such as the unit-of-production method 3) You acquired the property in a trans- other charges to basis claimed on
(discussed later), you can elect to exclude action in which some of your gain or loss earlier years' income tax returns.
that property from MACRS. You must make was not recognized. MACRS applies
this election by the return due date (including only to that part of your basis in the ac- Adjusted basis. After you determine your
extensions) for the tax year you place your quired property that represents cash basis, you may have to make certain adjust-
property in service. You make it by reporting paid or unlike property given up. It does ments (increases and decreases) for items
your depreciation for the property on line 18 not apply to the substituted portion of the occurring between the time you acquired the
of Part III of Form 4562 and attaching a sep- basis. property and the time you placed it in service.
arate sheet as described in the Instructions These items include: costs for having utility
for Form 4562. This rule does not apply to nonresi- lines installed, costs for legal fees for per-
reaches maturity. This means depreciation 8) Nonresidential real property. To determine whether you must use the mid-
begins when it reaches the age when it can quarter convention, the depreciable basis of
be worked, milked, or bred. When this occurs, property is your basis multiplied by the per-
Recovery periods. See Table 8–1 for re- centage of business/investment use and then
your basis for depreciation is your initial cost covery periods under both GDS and ADS for
for the immature livestock. reduced by:
some commonly used assets. For a more
complete listing of the class lives and recov- 1) The amortization taken on the property,
Property Classes and ery periods for most assets, see the Table of
Class Lives and Recovery Periods in Appen- 2) Any section 179 deduction claimed on
Recovery Periods dix B of Publication 946. the property, and
Each item of property depreciated under House trailers for farm laborers. De- 3) Any deduction claimed for clean-fuel ve-
MACRS is assigned to a property class. The preciate a house trailer you supply as housing hicles or for clean-fuel vehicle refueling
property class establishes the number of for those who work on your farm using the property.
years over which you recover the basis of recovery period listed below. Whether the
your property. This period of time is called a house trailer is mobile or not determines Under the mid-quarter convention, you
recovery period. which recovery period you can use. treat all property placed in service or disposed
of during a tax year as placed in service in the
Property classes. Under MACRS, tangible 1) If the house trailer is mobile and has middle of the quarter.
property that you place in service after 1986, wheels and a history of movement, de- To figure your MACRS deduction using
or after July 31, 1986, if elected, falls into one preciate its costs over a 10–year recov- the mid-quarter convention, you must first
of the following classes: ery period under ADS, or over a 7–year figure your depreciation for the full tax year.
recovery period under GDS. Then multiply that amount by the following
1) 3-year property, percentages for the quarter of the tax year the
2) If the house trailer is not mobile, its
property is placed in service.
2) 5-year property, wheels removed, and permanent utilities
and pipes are attached to the it, depre- Quarter of Tax Year Percentage
3) 7-year property,
ciate its costs over a 25–year recovery First 87.5%
4) 10-year property, period under ADS or over a 20–year re- Second 62.5%
covery period under GDS. Third 37.5%
5) 15-year property, Fourth 12.5%
6) 20-year property, Water wells. Depreciable water wells For more information, including percent-
used to provide water for raising poultry and age tables based on the mid-quarter conven-
7) Residential rental property, and livestock are land improvements and have a tion, see Publication 946.
Page 44 Chapter 8 Depreciation, Depletion, and Amortization
Mid-month convention. This convention is Fruit or nut trees and vines. Depreciate 3, 5, 7, 10-Year 200% DB-GDS
used for: trees and vines bearing fruit or nuts under (Nonfarm) 150% DB-ADS*
GDS using the straight line method over a SL-GDS*
1) Nonresidential real property, and SL-ADS*
10-year recovery period.
15, 20-Year 150% DB-GDS
2) Residential rental property. (Nonfarm) SL-GDS*
ADS required for some farmers. If you
SL-ADS*
Under this convention, you treat all property elect not to apply the uniform capitalization
rules to any plant produced in your farming Nonresidential Real Property SL-GDS
placed in service or disposed of during a Residential Rental Property
month as placed in service or disposed of at business, you must use ADS. You must use
Trees, Vines, or Bushes
the midpoint of the month. This means that ADS for all property you place in service in Bearing Fruit or Nuts
regardless of when during a month you place any tax year the election is in effect. See
chapter 7 for a discussion of the application Tax-Exempt-Use Property SL-ADS
property in service or dispose of it, you treat Tax-Exempt Bond-Financed
it as being placed in service or disposed of in of the uniform capitalization rules to farm Property
the middle of that month. property. Imported Property
Foreign-Use Property
Declining balance method. To figure your (Used Outside U.S.)
Depreciation Methods MACRS deduction using the declining bal- *Elective Method
You depreciate property placed in service af- ance method, you can use the percentage
ter 1988 in a farming business using one of tables or, if you want to figure your own per-
the following methods : centage, see How To Figure the Deduction Figuring MACRS Deductions
Without Using the Tables in chapter 3 of You can determine your MACRS depreciation
1) The 150% declining balance method Publication 946. deduction in one of two ways. You can use
over the GDS recovery period, which the percentage tables or you can actually
switches to the straight line method Straight line election. Instead of using the figure the deduction using the applicable de-
when that method provides a greater declining balance method, you can elect to preciation method and convention over the
deduction. use the straight line method over the GDS recovery period.
recovery period.
2) The straight line method over the GDS Figuring MACRS deductions without
recovery period.
!
The election to use the straight line
method for one item in a property ! using the tables will generally result
CAUTION in a slightly different amount than us-
3) The 150% declining balance method CAUTION class applies to all property in that
over fixed ADS recovery periods, which ing the tables.
class placed in service in the tax year of the
switches to the straight line method election. Once you make the election, you
when that method provides a greater Rules covering the use of the tables. The
cannot change it. following four rules cover the use of the per-
deduction.
centage tables:
4) The straight line method over fixed ADS ADS method. Although your property may
recovery periods. come under GDS, you can elect to use ADS. 1) You must apply the rates in the per-
ADS uses the straight line method of depre- centage tables to your property's unad-
If you use the MACRS percentage ciation over fixed ADS recovery periods. The justed basis.
! tables, you do not need to determine
CAUTION in which year your deduction is
ADS recovery periods for many assets used
in the business of farming are listed in Table 2) You cannot use the percentage tables
8–1. Additional ADS recovery periods for for a short tax year.
greater using the straight line method. The
tables have the switch to the straight line other classes of property may be found in the 3) When using the percentage tables to
method built into their rates. Table of Class Lives and Recovery Periods figure your depreciation, you must con-
For the specific method to use for a prop- in Appendix B of Publication 946. tinue to use them for the entire recovery
erty class, see the Depreciation Methods Election. Make the election by complet- period unless there are adjustments to
Chart, later. ing line 16, Part II of Form 4562. File Form the basis of your property for reasons
For farm property placed in service before 4562 with your tax return by the due date other than:
1989 in the 3-, 5-, 7-, or 10-year class, you (including extensions) for the year you placed
the property in service. a) Depreciation allowed or allowable,
use the double (200%) declining balance or
method over 3, 5, 7, or 10 years. For 15- or The election of the ADS method for
20-year property, you must use the 150% b) An addition or improvement to that
declining balance method over 15 or 20 ! one item of property in a property
CAUTION class applies to all property in that
property that is depreciated as a
years. class placed in service during the tax year of separate item of property.
the election. However, the election applies on 4) You cannot continue to use the tables if
Farming business. A farming business is a property-by-property basis for residential there is an adjustment to the basis of
any trade or business involving cultivating rental and nonresidential real property. Once your property other than for a reason
land or raising or harvesting any agricultural you make the election, you cannot change it. listed in (3) above.
or horticultural commodity. A farming busi-
ness includes: Figuring unadjusted basis. You must
Depreciation Methods Chart apply the table rates to your property's unad-
1) Operating a nursery or sod farm, The following depreciation methods chart will justed basis each year of the recovery period.
help you determine the proper method to use Unadjusted basis is the same amount you
2) Raising or harvesting crops, for a specific property class. The declining would use to figure gain on a sale but you
3) Raising or harvesting trees bearing fruit, balance method is shown as DB and the figure it without taking into account any de-
nuts, or other crops, straight line method as SL. preciation taken in earlier years. However,
Depreciation Methods Chart you do reduce your original basis by:
4) Raising ornamental trees, and
Method– 1) Amortization taken on the property,
5) Raising, shearing, feeding, caring for, Recovery
training, and managing animals. Property Class Period 2) Any section 179 deduction claimed on
3, 5, 7, 10-Year 150% DB-GDS the property,
An evergreen tree is not considered an (Farm) 150% DB-ADS*
ornamental tree if it is more than 6 years old 3) Any deduction claimed for clean-fuel ve-
SL-GDS*
when it is severed from its roots. SL-ADS* hicle or clean-fuel vehicle refueling
Farming does not include processing property, and
15, 20-Year 150% DB-GDS
commodities or products if the processing is (Farm) SL-GDS* 4) Any qualified electric vehicle credit.
not normally part of growing, raising, or har- SL-ADS*
vesting these products. It does include proc- For business property you purchase dur-
essing activities which are normally part of ing the tax year, the unadjusted basis is its
growing, raising, or harvesting agricultural cost minus any amortization, any section 179
products. deduction, any deduction claimed for clean-
Chapter 8 Depreciation, Depletion, and Amortization Page 45
fuel vehicles or for clean-fuel vehicle refueling Table 8-2. 150% Declining Balance Method
property, and any electric vehicle credit
claimed for the property. Year 3-Year 5-Year 7-Year 20-Year
If you trade property, your unadjusted ba-
1 25.0% 15.00% 10.71% 3.750%
sis in the property received is the cash paid
2 37.5 25.50 19.13 7.219
plus the adjusted basis of the property traded
3 25.0 17.85 15.03 6.677
minus any amortization, any section 179 de-
4 12.5 16.66 12.25 6.177
duction, any deduction claimed for clean-fuel 5 16.66 12.25 5.713
vehicles or for clean-fuel vehicle refueling 6 8.33 12.25 5.285
property, and any electric vehicle credit 7 12.25 4.888
claimed for the property. 8 6.13 4.522
The clean-fuel vehicle and clean-fuel ve-
hicle refueling property deductions and the
credit for electric vehicles are discussed in Figuring MACRS deductions without the only be grouped into a general asset
chapter 15 of Publication 535. tables. If you are required or would prefer to account with property that is placed in
Short tax year. You cannot use the ta- figure your own depreciation without using the service in the same quarter of the tax
bles if you have a short tax year. If this oc- tables, see How To Figure the Deduction year.
curs, see MACRS Deduction in Short Tax Without Using the Tables in chapter 3 of
Publication 946. 3) Mid-month convention. Property sub-
Year in chapter 3 of Publication 946. ject to the mid-month convention can
Adjustment due to casualty loss. If you only be grouped into a general asset
reduce the basis of your property because of Dispositions account with property that is placed in
a casualty, you cannot continue to use the If you dispose of depreciable property at a service in the same month of the tax
tables. For the year of adjustment and the rest gain, you may have to report, as ordinary in- year.
of the recovery period, figure the depreciation come, all or part of the gain. See chapter 11.
using the property's adjusted basis at the end 4) Passenger automobiles. Passenger
of the year of adjustment. automobiles subject to the limits on
150% table applying the half-year con- General Asset Accounts passenger automobile depreciation must
vention. The following table has the per- To make it easier for you to figure MACRS be grouped into a separate general as-
centages for 3-, 5-, 7-, and 20-year property. depreciation, you can group separate prop- set account.
The percentages are based on the 150% de- erties into one or more general asset ac-
clining balance method with a change to the counts. You can then depreciate all of the Dispositions and Conversions
straight line method. This table applies for properties in each account as a single item Property in a general asset account is con-
only the half-year convention and only covers of property. Each account can include only sidered disposed of when you:
the first 8 years for 20-year property. See property with similar characteristics, such as
Appendix A in Publication 946 for complete asset class and recovery period. Some prop- 1) Permanently withdraw it from use in your
MACRS tables, including tables for the mid- erty cannot be included in a general asset trade or business or from the production
quarter and mid-month convention. account. There are additional rules for pas- of income,
senger automobiles, disposing of property,
Example 1. This year, you buy and place converting property to personal use, and 2) Transfer it to a supplies, scrap, or similar
in service an item of 7-year property for property that generates foreign source in- account, or
$10,000. You do not elect a section 179 de- come. 3) Sell, exchange, retire, physically aban-
duction for this property. The unadjusted ba- After you have set up a general asset ac- don, or destroy it.
sis of the property is $10,000. You use the count, you generally figure the amount of de-
percentage tables to figure your deduction. preciation for each general asset account by The retirement of a structural component of
Since this is 7-year property, you multiply using the depreciation method, recovery pe- real property is not a disposal.
$10,000 by 10.71% to get your depreciation riod, and convention that applies to the prop- The unadjusted depreciable basis and the
this year of $1,071. For next year, you figure erty in the account. For each general asset depreciation reserve of the general asset ac-
your depreciation deduction by multiplying account, record the depreciation allowance in count are not affected by your disposition of
$10,000 by 19.13% to get $1,913. a separate depreciation reserve account. property from the general asset account.
You must remove from the general asset
Example 2. You have a barn constructed Property you cannot include. You cannot account any property you change to personal
on your farm at a cost of $20,000. This year, include property in a general asset account if use.
you place the barn in service. The barn is you use it in both a trade or business (or for Unadjusted depreciable basis. The un-
20-year property and you use the table per- the production of income) and in a personal adjusted depreciable basis of an item of
centages to figure your deduction. You use activity in the tax year in which you first place property in a general asset account is the
the calendar year as your tax year. You figure it in service. same amount you would use to figure gain
the depreciation for it by multiplying $20,000 on the sale of the property, but it is figured
(unadjusted basis) by 3.75% to get $750. For How To Group Property in without taking into account any depreciation
next year, your depreciation will be $20,000 General Asset Accounts taken in earlier years.
multiplied by 7.219%, or $1,443.80. The unadjusted depreciable basis of a
Each general asset account must include only general asset account is the total of the un-
property that you placed in service in the adjusted depreciable bases of all of the
Straight line table applying the half- same tax year and that has the same:
year convention. The following table has the property in the account.
percentages for 3-, 5-, 7-, and 20-year prop- 1) Asset class, For more information on general asset
erty. The percentages are based on the accounts, see chapter 3 in Publication 946.
2) Recovery period,
straight line method and apply for only the
half-year convention. The table only covers 3) Depreciation method, and
the first 8 years for 20-year property. See
4) Convention.
Appendix A in Publication 946 for complete Listed Property
MACRS tables, including tables for the mid- The following rules also apply when you If listed property is not used predominantly
quarter and mid-month convention. establish a general asset account. (more than 50%) in a qualified business use,
as discussed in Predominant Use Test later,
Year 3-Year 5-Year 7-Year 20-Year 1) No asset class. Property without an
the section 179 deduction is not allowable
1 16.67% 10% 7.14% 2.5% asset class, but with the same depreci-
2 33.33% 20% 14.29% 5% and the property must be depreciated using
ation method, recovery period, and con-
3 33.33% 20% 14.29% 5% ADS (straight line method) over the ADS re-
vention, that you place in service in the
4 16.67% 20% 14.28% 5% covery period. For more information on listed
same tax year, can be grouped into the
5 20% 14.29% 5% property that is leased, see chapter 4 in
6 10% 14.28% 5% same general asset account.
Publication 946.
7 14.29% 5% 2) Mid-quarter convention. Property sub- A rule that pertains only to passenger au-
8 7.14% 5% ject to the mid-quarter convention can tomobiles limits the amount of your section
Page 46 Chapter 8 Depreciation, Depletion, and Amortization
179 and depreciation deductions. See Special service. The maximum deductions for 1997
Rules for Passenger Automobiles, later. are:
What Records Must Be Kept
Maximum Depreciation Deduction
Listed Property Defined You cannot take any depreciation or
4th section 179 deduction for the use of
Listed property is any of the following. RECORDS listed property (including passenger
Year
Year Placed 1st 2nd 3rd and automobiles) unless you can prove business
1) Any passenger automobile (defined In Service Year Year Year Later and investment use with adequate records
later).
1997 $3,160 $5,000 $3,050 $1,775 or sufficient evidence to support your own
2) Any other vehicle used for transporta- 1996 4,900 2,950 1,775 statements.
tion. 1995 2,950 1,775
1994 1,675 Adequate records. To meet the adequate
3) Any property of a type generally used for 1993 1,675 records requirement, you must maintain an
entertainment, recreation, or Pre–1993 1,575
account book, diary, log, statement of ex-
amusement. For automobiles placed in service during pense, trip sheet, or similar record or other
4) Any computer and related peripheral 1997, the depreciation deduction, including documentary evidence that, together with the
equipment unless it is used only at a the section 179 deduction, cannot be more receipt, is sufficient to establish each element
regular business establishment and than $3,160 for 1997 (the first tax year of the of an expenditure or use. You do not have to
owned or leased by the person operating recovery period). For 1998 and 1999 (second record information in an account book, diary,
the establishment. and third tax years), the depreciation de- or similar record if the information is already
duction will be limited to $5,000 and $3,050, shown on the receipt. However, your records
5) Any cellular telephone (or similar tele- respectively. The maximum will be $1,775 in should back up your receipts in an orderly
communication equipment) placed in each succeeding tax year. manner.
service or leased in a tax year beginning You must reduce these limits further if
after 1989. your business/investment use is less than How long to keep records. For listed prop-
100%. erty, you must keep records for as long as
Other property used for transportation. Exceptions for clean-fuel vehicles. any excess depreciation can be recaptured
This includes trucks, buses, boats, airplanes, There are two exceptions to the depreciation (included in income).
motorcycles, and other vehicles used for limits. These exceptions are effective after Recapture can occur in any tax year of the
transporting persons or goods. August 5, 1997, for automobiles that run on ADS recovery period.
Vehicles that are not listed property. clean-fuel. For more information on records, see
The following vehicles, because of their de- chapter 4 in Publication 946.
sign, are unlikely to be used very often for 1) The first exception is for an automobile
personal purposes. They are not listed prop- that was produced to run primarily on
erty: electricity and that you place in service
1) Determine your cost or adjusted basis b) A debt that was in existence when
of the timber on hand at the beginning Amortization the interest was acquired.
of the year. You may be able to amortize and deduct each For a complete list of nonsection 197 intan-
year a part of certain capital expenses. gibles, see chapter 12 of Publication 535.
2) Add to the amount determined in 1) the
Amortization allows you to recover these ex- Computer software. Section 197 intan-
cost of any units acquired during the
penses similar to straight line depreciation. gibles do not include computer software that
year and any additions to capital.
See chapter 12 in Publication 535 for more is:
3) Figure the number of units to take into information.
account by adding the number of units 1) Readily available for purchase by the
acquired during the year to the number general public,
of units on hand in the account at the Section 197 Intangibles
2) Subject to a nonexclusive license,
beginning of the year and then adding You must amortize over 15 years the capital-
(or subtracting) any correction to the es- ized costs of “section 197 intangibles” you 3) Not substantially changed, and
timate of the number of units remaining acquired after August 10, 1993. These costs
in the account. 4) Not acquired in the acquisition of a sub-
are defined later. You must amortize these
stantial part of a business.
costs if you hold the section 197 intangible in
4) Divide the result of 2) by the result of 3).
connection with your trade or business or in If you are allowed to depreciate any com-
This is your depletion unit.
an activity engaged in for the production of puter software that is not a section 197 in-
income. Your deduction each year is the part tangible, use the straight line method with a
Generally, you can deduct depletion only in
of the adjusted basis (for purposes of deter- useful life of 36 months.
the tax year that the products (such as logs,
mining gain) of the intangible amortized For more information on depreciation of
cordwood, and lumber) from the timber are
ratably over a 15-year, period beginning with computer software, see Publication 946.
sold. The number of units sold will depend
the month acquired. You are not allowed any
on your accounting method, discussed in
other depreciation or amortization deduction Costs associated with non-section 197 in-
chapter 3. You should include the depletion
for any section 197 intangibles. tangibles. Amounts you take into account in
that you cannot deduct for that year in the
closing inventory on those products. determining the cost of non-section 197
Form T. Attach Form T to your income tax Section 197 Intangibles Defined property are not considered section 197 in-
return if you are claiming a deduction for tim- tangibles. These amounts are added to the
The following assets are section 197 intangi-
ber depletion. basis of the real property. For example, none
bles:
of the costs of acquiring real property held for
Example. Sam Brown bought a farm that 1) Goodwill, the production of rental income are consid-
included standing timber. This year Sam de- ered goodwill, going concern value, or any
termined that the standing timber could 2) Going concern value, other section 197 intangible.
Page 48 Chapter 8 Depreciation, Depletion, and Amortization
Dispositions 1) Site preparation, (including extensions) for the tax year in
which you incurred the expenses.
A section 197 intangible is treated as 2) Seeds or seedlings,
depreciable property used in your trade or
business. If you dispose of property held for 3) Labor, Recapture. If you dispose of qualified timber
more than one year, any gain on the disposi- property within 10 years after the tax year you
4) Tools, and
tion, up to the amount of allowable amorti- elect to amortize reforestation expenses for
zation, is ordinary income (section 1245 gain). 5) Depreciation on equipment used in it, report any gain as ordinary income up to
Any remaining gain, or loss, is a section 1231 planting and seeding. the amount of the amortization taken.
gain or loss. If you held the property one year
or less, any gain or loss on its disposition is Costs you can deduct currently are not quali-
an ordinary gain or loss. For more informa- fying expenses. Include in these costs de- Pollution Control Facilities
tion, see chapter 2 in Publication 544, Sales preciation on equipment such as tractors, You can elect to amortize over 60 months the
and Other Dispositions of Assets. trucks, tree planters, and similar machines cost of a certified pollution control facility used
If you acquire more than one section 197 used in planting and seeding. Qualifying ex- with a plant (or other property) that was in
intangible in a transaction (or series of related penses include only those costs that you must operation before 1976.
transactions) and later dispose of one of them capitalize and include in the adjusted basis
or one of them becomes worthless, you can- of the property. Costs you can deduct cur-
rently are not qualifying expenses. Certified pollution control facility. A certi-
not recognize any loss on the intangible. In- fied pollution control facility is a new identifi-
stead, increase the adjusted basis of each If the government reimburses you for ex-
penses under a cost-sharing program, you able treatment facility used to reduce or con-
remaining amortizable section 197 intangible trol water or atmospheric pollution or
by part of the loss not recognized. can amortize these expenses only if you in-
clude the reimbursement in your income. contamination. The facility must do so by re-
For more information on dispositions of moving, changing, disposing, storing, or pre-
amortizable section 197 property, see chapter venting the creation or emission of pollutants,
12 in Publication 535. Qualified timber property. Qualified timber
contaminants, wastes, or heat. The facility
property can be a woodlot or other site that
must be certified by the state and federal
you own or lease. To qualify, the property
Anti-Churning Rules must:
certifying authorities. Examples of such a fa-
You cannot amortize certain section 197 in- cility include septic tanks and manure-control
tangibles over 15 years. 1) Be located in the United States, facilities.
Special rules prevent you from converting For information regarding certification
section 197 intangibles from property that 2) Be held for the growing and cutting of procedures, see section 1.169–2(c) of the in-
does not qualify for amortization to property timber you will: come tax regulations.
that would qualify for amortization. You can- If it appears you will recover all or part of
a) Use in the commercial production the cost of a facility from the profit based on
not use 15-year amortization for goodwill, of timber products,
going concern value, or any intangible for its operation (such as through sales of re-
which you cannot claim a depreciation or b) Sell for use in the commercial pro- covered wastes), the federal certifying au-
amortization deduction that would not have duction of timber products, and thority will not certify that part of the
been allowable before August 10, 1993, to amortizable basis. You must then reduce the
3) Consist of at least one acre planted with amortizable basis of the facility. For more in-
amortizable property. tree seedlings in the manner normally
For more information, see chapter 12 in formation, see section 169 of the Internal
used in forestation or reforestation. Revenue Code and the related regulations.
Publication 535.
Qualified timber property does not include Example. This year, you purchase a new
Anti-Abuse Rule property on which you have planted shelter $7,500 manure control facility for use on your
belts and ornamental trees, such as Christ- dairy farm. The farm has been in operation
You cannot amortize any section 197 intan-
mas trees. since you bought it in 1976 and all of the dairy
gible acquired in a transaction in which one
of the principal purposes was to: plant was in operation before that date. You
Maximum annual amortization. The maxi- have no intention of recovering the cost of the
1) Avoid the requirement that the intangible mum annual deduction you are allowed for facility through sale of the waste and a federal
be acquired after August 10, 1993, or expenses incurred in any tax year is certifying authority has so certified.
$1,428.57 ($10,000 ÷ 7). The maximum de- Your manure control facility qualifies for
2) Avoid any of the anti-churning rules. duction in the first and last years of the amortization. You can choose to amortize its
84–month period is (1/2) one half of $1,428.57 cost over 60 months. Otherwise, you can
For more information on amortizable sec- or $714.29. capitalize the cost and depreciate the facility.
tion 197 intangibles, see chapter 12 in Publi- Estates. The reforestation deduction is
cation 535. available to estates in the same manner as
to individuals. The deduction is divided be-
tween the income beneficiary and the
Reforestation Expenses fiduciary based on the income of the estate
You can elect to amortize part of your quali- allocable to each. A beneficiary will include Going Into Business
fied timber property reforestation expenses. any amount so allocated as part of his or her When you go into business, treat all costs you
Qualifying expenses that you have during the limit. incur to get your business started as capital
tax year are set up as an amortizable basis Trusts. Trusts are not allowed the expenses. Capital expenses are a part of your
for the tax year and amortized over an reforestation deduction. basis in the business. Generally, you recover
84-month period. costs for particular assets through depreci-
Investment credit. Reforestation expenses ation deductions. However, you generally
Annual limit. Each year you can elect to eligible to be amortized qualify for the invest- cannot recover other costs until you sell the
amortize up to $10,000 ($5,000 if you are ment credit, whether or not they are amor- business or otherwise go out of business.
married filing separate returns) of qualified tized. See chapter 9.
expenses you incur during the tax year. You
cannot carry over or carry back qualifying How to elect amortization. To make this Business Start-Up Costs
expenses in excess of the annual limit. If you election, attach Form 4562 to your income tax Start-up costs are costs for setting up an ac-
incur more than $10,000 in expenses for return and enter the deduction in Part VI of tive trade or business or investigating the
more than one piece of timber property, you that form. Also, attach a statement to Form possibility of creating or acquiring an active
can allocate the annual limit among the 4562 that describes the expenses and pro- trade or business. Start-up costs include any
properties in any proportion. vides the dates you incurred them. Show the amounts paid or incurred in connection with
type of timber being grown and the purpose an activity engaged in for profit and the pro-
Qualifying expenses. Qualifying expenses for which it is grown. Attach a separate duction of income in anticipation of the activity
include only those costs you must capitalize statement for each property for which you becoming an active trade or business.
and include in the adjusted basis of the amortize reforestation expenses. You can For more information, see Going Into
property. They include costs for: make the election only on a timely filed return Business in chapter 12 of Publication 535.
Chapter 8 Depreciation, Depletion, and Amortization Page 49
credit forms listed above.
to 60% of its face value ($3,000 ÷ $5,000), The installment sale of a farm for one overall
60% of each payment of principal you receive price under a single contract is not the sale Depreciation recapture. The buildings are
on this note is a return of capital. The re- of a single asset. It generally includes the sale section 1250 property. There is no depreci-
maining 40% is ordinary income. The interest of real and personal property that can be re- ation recapture income for them because they
you receive is reported in full as ordinary in- ported on the installment method. It may also were depreciated using the straight line
come. include the sale of farm inventory, which method. See chapter 11 for more information
cannot be reported on the installment sale on depreciation recapture.
Bond. A bond or other evidence of debt method. See Inventory, earlier. The selling The truck used for hauling is section 1245
you receive from the buyer that is payable on price must be allocated to determine the property. The entire depreciation of $3,001 is
demand is treated as a payment in the year amount received for each class of asset. recapture income because it is less than the
you receive it. If you receive a government The tax treatment of the gain or loss on gain on the truck. The remaining gain of $250
or corporate bond that has interest coupons the sale of each class of assets is determined can be reported on the installment method.
attached or that can be readily traded in an by its classification as capital asset or prop- The equipment and tractor are section
established securities market, you are con- erty used in the business, and by the length 1245 property. The entire gain on each
sidered to have received payment equal to of time held. Separate computations must be ($6,961 and $12,661, respectively) is depre-
the bond's fair market value. Accrual basis made to figure the gain or loss for each class ciation recapture income.
taxpayers should see Regulations section of asset sold. See Sale of a Farm in chapter The cattle used for breeding and held for
15A.453–1(e)(2). 10. less than 2 years are section 1245 property.
Buyer's note. The buyer's note (unless If you report the sale of property on the The gain of $2,727 is depreciation recapture
payable on demand) is not considered pay- installment method, any depreciation recap- income to the extent of the depreciation
ment on the sale. Its full face value is included ture under section 1245 or 1250 of the Inter- claimed ($1,977). The remaining gain of $750
when figuring the selling price and the con- nal Revenue Code is taxable as ordinary in- can be reported on the installment method.
tract price. Payments you receive on the note come in the year of sale. This applies even if The cattle used for breeding and held for
are used to figure your gain in the year you no payments are received in that year. more than 2 years are also section 1245
receive them. property. Since the gain on the cattle of
$18,167 is less than the depreciation claimed
Example ($19,167), the total gain is depreciation re-
Guarantee. If a third party or government capture income.
agency guarantees the buyer's payments to On January 3, 1997, you sold your farm, in- The total depreciation recapture income
you on an installment obligation, the guaran- cluding the equipment and livestock (cattle reported in Part II of Form 4797 is $42,767.
tee itself is not considered payment. used for breeding). You received $50,000 (This is the sum of: $3,001 + $18,167 +
down and the buyer's note for $200,000. In $6,961 + $12,661 + $1,977.) Depreciation
addition, the buyer assumed an outstanding recapture income is reported as ordinary in-
Deposit. A deposit you receive before the
$50,000 mortgage on the farm land. The total come in the year of sale.
year of sale is treated as a payment in the
selling price was $300,000. The note pay- The part of the gains reported as depre-
year of sale if, under the contract, it becomes
ments of $25,000 each, plus adequate inter- ciation recapture income on the truck and the
part of the down payment.
est, are due July 1 and January 1. Your sell- cattle held less than 2 years ($3,001 and
ing expenses were $15,000. $1,977) is added to their adjusted basis when
Unstated interest. An installment sale con- making the installment sale computations.
tract generally provides that each deferred Adjusted basis and depreciation. The ad-
payment on the sale will include interest or justed basis and depreciation claimed on
that there will be an interest payment in ad- Assets not reported on installment
each asset sold are as follows: method. In the year of sale, the gain on the
dition to the principal payment. Interest pro-
vided in the contract is called stated interest. cattle held 2 years or more, the equipment,
Depreciation Adjusted
Asset Claimed Basis and the tractor is reported in full. Their selling
If an installment sale contract with some price ($60,000) is subtracted from the total
Home ............................. -0- $30,000 selling price ($300,000). The selling price for
or all payments due more than one year after Land .............................. -0- 61,250
the date of sale does not provide for interest, Buildings ........................ $31,500 28,500 the assets included in the installment sale is
part of each payment due more than 6 Truck ............................. 3,001 1,499 $240,000.
months after the date of sale may be treated Equipment ..................... 15,811 9,189
as interest. The amount treated as interest is Tractor ........................... 15,811 9,189 Installment sale basis and gross profit.
Cattle* ........................... 1,977 2,023
referred to as unstated interest. The following table shows each asset re-
Cattle** .......................... 19,167 833
When the stated interest rate in the con- ported on the installment method, its selling
tract is lower than the applicable federal rate, * Held less than 2 years price, “installment sale basis,” and gross pro-
** Held 2 years or more
unstated interest is the difference between fit.
Page 66 Chapter 12 Installment Sales
Install- D (Form 1040). Attach a separate page to
ment Form 6252 that shows the computations in
Selling Sale Gross
Price Basis Profit
the example.
Gain on home. Enter the $5,250 gain on 13.
Home ...................... $50,000 $32,500 $17,500 the sale of your home on Schedule D as a
Farm land ................ 125,000 67,500 57,500
Buildings .................
Truck .......................
55,000
5,000
31,250
4,750
23,750
250
long-term capital gain unless you can exclude
the gain. See Sale of your home in chapter Casualties,
10. Different rules apply if you sold your home
Cattle* ..................... 5,000 4,250 750
$240,000 $140,250 $99,750 after May 6, 1997.
Section 1231 gains. The gains on the
Thefts, and
* Held less than 2 years
land, buildings, and truck are section 1231
gain and may be reported as capital or ordi-
Condemnations
nary gain when combined with certain other
Section 1231 gains. Since the ordinary in- gains and losses.
come part of the gain on the truck is reported Depreciation recapture and gain on
in the year of sale, the remaining gain ($250) cattle. In the year of sale, you must report
and the gain on the land and buildings are the total depreciation recapture income on
reported as section 1231 gains. The cattle Form 4797. The $225 gain on the cattle held
held for less than 2 years do not qualify for
section 1231 treatment. The $750 gain on
less than 2 years is ordinary income reported Important Changes
in Part II of Form 4797. See Table 11–1 in
their sale is reported as ordinary income as chapter 11.
payments are received. See Section 1231 Weather-related sales of livestock. Sales
Gains and Losses in chapter 11. or exchanges of livestock after 1996 because
Installment income for years after 1997. of flood or other weather-related conditions
You figure installment income for the years may qualify for special tax treatment. Previ-
Contract price and gross profit percent- after 1997 by applying the same gross profit ously, only sales or exchanges due to drought
age. The contract price is $190,000 for the percentages to the payments you receive conditions qualified. See Weather-related
part of the sale reported on the installment each year. If you receive $50,000 during the sales of livestock later under Other Involun-
method. This is the selling price ($300,000) year, $38,000 is considered received on the tary Conversions.
minus the mortgage assumed ($50,000) mi- installment sale (76% × $50,000). You realize
nus the selling price of the assets with gains income as follows:
fully reported in the year of sale ($60,000). Postponing gain on involuntary conver-
Gross profit percentage for the sale is Income sions. You cannot postpone reporting gain
52.5% ($99,750 gross profit ÷ $190,000 con- on an involuntary conversion occurring after
tract price). The gross profit percentage for Home—9.2105% × $38,000 ...................... $3,500
Farm land—30.2632% × $38,000 ............. 11,500 June 8, 1997, if you acquire replacement
each asset is figured as follows: Buildings—12.5% × $38,000 ..................... 4,750 property or stock from a related party and
Truck—0.1316% × $38,000 ....................... 50 your total realized gain from involuntary con-
Percent Cattle*—0.3947% × $38,000 ..................... 150 versions during the year is more than
Total installment income ............................ $19,950 $100,000. For more information, see Publi-
Home ($17,500 ÷ $190,000) .................... 9.2105
Farm land ($57,500 ÷ $190,000) ............. 30.2632 * Held less than 2 years cation 553, Highlights of 1997 Tax Changes.
Buildings ($23,750 ÷ $190,000) ............... 12.5000
Truck ($250 ÷ $190,000) .......................... 0.1316
For each year you receive payments on
Cattle* ($750 ÷ $190,000) ........................ 0.3947 the sale, you will report the gain on the sale
Total .......................................................... 52.5000 of your home as long-term capital gain unless
you can postpone or exclude it. You will report
* Held less than 2 years
the gain on cattle held less than 2 years as Introduction
ordinary income. You will combine your sec-
tion 1231 gains with certain other gains and A casualty occurs when property is dam-
Figuring the gain to report on the install- losses in each of the later years to determine aged, destroyed, or lost due to a sudden,
ment method. Only 76% of each payment whether to report them as ordinary or capital unexpected, or unusual event. A theft occurs
is reported on the installment method gains. The interest received with each pay- when property is stolen. A condemnation
[$190,000 contract price ÷ $250,000 to be ment will be included in full as ordinary in- occurs when private property is legally taken
received on the sale ($300,000 selling price come. for public use without the owner's consent. A
− $50,000 mortgage assumed)]. The total Summary. The installment income casualty, theft, or condemnation may result in
amount received on the installment sale in (rounded to the nearest dollar) from the sale a deductible loss or taxable gain on your
1997 is $75,000 ($50,000 down payment + of the farm is reported as follows: federal income tax return.
$25,000 payment on July 1). The installment An involuntary conversion occurs when
sale part of the total 1997 payments is you receive money or other property, as re-
Selling price ............................................. $240,000
$57,000 ($75,000 × .76). Figure the gain to Minus: Installment basis .......................... 140,250 imbursement for a casualty, theft, condem-
report for each asset by multiplying its gross Gross profit .............................................. $99,750 nation, disposition of property under threat of
profit percentage times $57,000. condemnation, or certain other events dis-
Gain reported in 1997 (year of sale) ....... $29,925
Gain reported in 1998: cussed in this chapter.
Income $38,000 × 52.50% ............................... 19,950 If an involuntary conversion results in a
Gain reported in 1999: gain, you can postpone recognition of the
Home—9.2105% × $57,000 ...................... $5,250
$38,000 × 52.50% ............................... 19,950 gain on your income tax return if you receive
Farm land—30.2632% × $57,000 ............. 17,250
Gain reported in 2000: or buy qualified replacement property within
Buildings—12.5% × $57,000 ..................... 7,125
$38,000 × 52.50% ............................... 19,950 the specified replacement period. For more
Truck—0.1316% × $57,000 ....................... 75
Gain reported in 2001:
Cattle*—0.3947% × $57,000 ..................... 225 information, see Postponing Gain, later.
$19,000 × 52.50% ............................... 9,975
Total installment income for 1997 ............. $29,925
Total gain reported .................................. $99,750
* Held less than 2 years
Topics
This chapter discusses:
Reporting the sale. Report the installment
sale on Form 6252. Then report the amounts • Casualties and thefts
from Form 6252 on Form 4797 and Schedule
• How to figure gain or loss
• Other involuntary conversions
• Postponing gain
• Reporting gains and losses
Chapter 13 Casualties, Thefts, and Condemnations Page 67
Useful Items possession. You do not have a deductible Raised draft, breeding, dairy, or sporting
You may want to see: theft loss. animals. Generally, losses of raised draft,
breeding, dairy, or sporting animals do not
result in deductible casualty or theft losses
Publication
Farming Losses because you have no basis in the animals.
m 536 Net Operating Losses However, you may be able to claim a de-
Certain casualty or theft losses that occur in duction if either of the following situations
m 544 Sales and Other Dispositions of the business of farming are deductible losses. applies to you.
Assets The following is a discussion of some losses
you can deduct and some you cannot deduct. 1) You use inventories to determine your
m 547 Casualties, Disasters, and Thefts
(Business and Nonbusiness) income and you included the animals in
Livestock or produce purchased for sale. your inventory.
m 584 Nonbusiness Disaster, Casualty, Losses of livestock or produce bought for sale 2) You did not elect out of the uniform
and Theft Loss Workbook are deductible if you report your income on capitalization rules and therefore have a
the cash method. If you report on an accrual tax basis in the animals that were subject
Form (and Instructions) method, take casualty and theft losses on to a casualty or theft.
property bought for sale by omitting the item
m Sch A (Form 1040) Itemized from the closing inventory for the year of the
Deductions When you include livestock in inventory,
loss. You cannot take a separate deduction. its last inventory value is its basis. This is true
m Sch D (Form 1040) Capital Gains and of both raised and purchased inventoried an-
Losses Livestock, plants, produce, and crops imals. When an inventoried animal held for
m Sch F (Form 1040) Profit or Loss From raised for sale. Losses of livestock, plants, draft, breeding, dairy, or sport is lost by cas-
produce, and crops raised for sale are gen- ualty or theft during the year, decrease ending
Farming
erally not deductible if you report on the cash inventory by the value at which you included
m 4684 Casualties and Thefts method. You have already deducted the cost the animal in inventory. Use this inventory
of raising these items as farm expenses. value, the basis of the animal, to determine
m 4797 Sales of Business Property
For plants with a preproductive period of your gain or loss. See Schedule D (Form
See chapter 21 for information about get- more than 2 years, you may have a deduct- 1040) or Form 4797.
ting these publications and forms. ible loss if you have a tax basis in the plants.
You usually have a tax basis if you capitalized
the expenses associated with these plants How To Figure a Loss
under the uniform capitalization rules. The How you figure the deductible casualty loss
Casualties and Thefts uniform capitalization rules are discussed in depends on whether the loss was to business
If your property is destroyed, damaged, or chapter 7. or personal use property and whether the
stolen, you may have a deductible loss. If the If you report on an accrual method, a property was partly or completely destroyed.
insurance or other reimbursement is more casualty or theft loss is deductible only if you
than the adjusted basis of the destroyed, included the items in your inventory at the Farm property. Farm property is the prop-
damaged, or stolen property, you may have beginning of your tax year. You get the de- erty you use in your farming business. If the
a taxable gain. duction by omitting the item from your inven- property was partially damaged, use the
tory at the close of your tax year. You cannot steps given next under Personal use property
Casualty. A casualty is the damage, de- take a separate deduction. to figure your casualty loss, but do not apply
struction, or loss of property resulting from an the deduction limits. If your farm property was
identifiable event that is sudden, unexpected, Loss of tree seedlings. If, because of an completely destroyed or stolen, your casualty
or unusual. abnormal drought, the failure of planted tree or theft loss is the adjusted basis of your
Events that may cause casualty damage, seedlings is greater than normally anticipated, property (discussed in chapter 7) minus any
destruction, or loss include the following. you may have a deductible casualty loss. The salvage value and insurance or other re-
loss equals the previously capitalized imbursement you receive or expect to re-
1) Fire, flood, storm, lightning, freezing, reforestation costs you had to duplicate on ceive. Do not consider any decrease in fair
earthquake, shipwreck, airplane crash, replanting. You deduct the loss on the return market value.
hurricane, and similar occurrences. for the year the seedlings died.
2) Car or truck accidents not resulting from Personal use property. Personal use prop-
your willful act or willful negligence. erty is property used by you or your family
Income loss. A loss of future income is not members for personal use. You figure the
Progressive deterioration. Loss of deductible. amount of your casualty or theft loss on this
property due to progressive deterioration is property by using the following steps.
not deductible as a casualty loss. This is be- Example. An ice storm damaged your
cause the damage results from a steadily standing timber by reducing its rate of growth 1) Determine your adjusted basis in the
operating cause or a normal process, rather and its quality. The storm did not cause any property before the casualty or theft.
than from a sudden event. Examples of physical damage, but you determined that the
timber will sell for less than you anticipated 2) Determine the decrease in fair market
damage due to progressive deterioration in-
because of the reduced growth rate and value of the property as a result of the
clude damage from rust, corrosion, or
quality. The loss of future income is not casualty or theft.
termites. However, drought or disease may
cause another type of involuntary conversion. deductible.
3) Your loss, before applying deduction
See Other Involuntary Conversions, later. limits, is the smaller of (1) or (2) minus
Loss of timber. If you sell timber downed any insurance or other reimbursement
Theft. A theft is the taking and removing of by a casualty, treat the proceeds from the you receive or expect to receive.
money or property with the intent to deprive sale as a reimbursement. If you use the pro-
the owner of it. The taking of your property ceeds to buy qualified replacement property, You must apply the deduction limits, dis-
must be illegal under the law of the state you can postpone reporting the gain. See cussed later, to determine your deductible
where it occurred and it must have been done Postponing Gain , later. loss.
with criminal intent.
Theft includes the taking of money or Publication 584 is available to help
property by blackmail, burglary, embezzle- Property used in farming. Casualty and TIP you make a list of your damaged
ment, extortion, kidnapping for ransom, lar- theft losses of property used in the farm goods and figure your loss. It includes
ceny, robbery, and threats. business usually result in deductible losses. schedules to help you figure the loss on your
Misrepresentation, however, is not a theft. If a fire or storm destroyed your barn, or you home and its contents, and on your motor
lose by casualty or theft an animal you bought vehicles.
Example. You bought a farm. The seller for draft, breeding, dairy, or sport, you may
assured you that a well produced adequate have a deductible loss. See How To Figure
water, but the well went dry after you took a Loss, discussed later.
Page 68 Chapter 13 Casualties, Thefts, and Condemnations
Adjusted basis. Adjusted basis is your fore the storm was $30,000, and $26,000 Lump-sum reimbursement. If you have
basis (usually cost) increased or decreased immediately after the storm. The trees were a casualty or theft loss of several assets at
by various events, such as improvements and not covered by insurance. the same time without an allocation of re-
casualty losses. For more information about imbursement to specific assets, divide the
adjusted basis, see chapter 7. 1) Adjusted basis ....................................... $6,000 lump-sum reimbursement among the assets
Decrease in fair market value (FMV). 2) FMV before the storm ........................... $30,000 according to the fair market value of each
The decrease in FMV is the difference be- 3) FMV after the storm .............................. 26,000 asset at the time of the loss. Figure the gain
tween the property's value immediately before 4) Decrease in FMV (2 minus 3) ............... $4,000 or loss separately for each asset that has a
5) Loss before insurance
the casualty or theft and its value immediately (lesser of 1 or 4) ................................ $4,000
separate basis.
afterwards. FMV is defined in chapter 12. 6) Minus: Insurance ................................... -0-
Cost of cleaning up or making repairs. 7) Amount of loss ...................................... $4,000 Adjustments to basis. If your property is
The cost of repairing damaged property is not partly or totally destroyed by casualty and you
part of a casualty or theft loss. Neither is the are compensated for the loss by insurance
cost of cleaning up after a casualty. But you Items not included with deductible losses. or other reimbursement, decrease the basis
can use the cost of cleaning up or of making The following are not deductible as casualty of the property by the insurance or other re-
repairs after a casualty as a measure of the or theft losses. imbursement received. The insurance or re-
decrease in FMV if you meet all the following imbursement represents a return of part or
1) Expenses related to a casualty or theft
conditions. all of the capital you invested in the property.
of property, such as temporary housing,
If a casualty to property results in a
1) The repairs are necessary to bring the car rental, lights and fuel, or moving ex-
deductible loss, in addition to decreasing its
property back to its condition before the penses. (However, if the expense is re-
basis by the insurance, also decrease the
casualty. lated to your business, it may be a
basis by the deductible loss. Increase the
deductible business expense.)
2) The amount spent for repairs is not ex- basis by any amounts spent to rebuild or re-
cessive. 2) Cost of repairing, replacing, or cleaning store the property.
up after a casualty. But see Cost of
3) The repairs take care of the damage cleaning up or making repairs, earlier.
only. Deduction Limits on Losses
3) Expenses because of injury to yourself
4) The value of the property after the re- or other persons. of Personal Use Property
pairs is not, due to the repairs, more than Casualty and theft losses of property held for
the value of the property before the 4) Loss from mislaid cash or property. personal use may be deductible on your fed-
casualty. 5) Damage by rust or erosion. eral income tax return, if you itemize de-
ductions on Schedule A (Form 1040).
More than one item of property. If more Insurance and other reimbursements. If There are two limits on the amount you
than one item of property is stolen or is you receive insurance or another type of re- can deduct for your casualty or theft loss of
damaged or destroyed by a casualty, you imbursement, you must subtract the re- personal use property. You figure these limits
must figure your loss separately for each item imbursement when you figure your loss. You on Form 4684.
of property. For example, if damage occurs do not have a casualty or theft loss to the
to a farm building and to an orchard, both of extent you are reimbursed. $100 rule. You must reduce each casualty
which are part of the same realty, determine or theft loss by $100. This $100 rule applies
the decrease in FMV by taking them into ac- Do not subtract insurance payments after you have subtracted any reimburse-
count separately. ! for living expenses. You may have to
CAUTION include these in your income. See
ment.
There is an exception for real property Publication 547 for details. 10% rule. You must further reduce the total
! held for personal use. See Personal
use real property later.
If there is a reasonable prospect you will of all your losses by 10% of your adjusted
CAUTION
be reimbursed for part or all of your loss, you gross income. This is the amount on line 32
must subtract the expected reimbursement of Form 1040.
Example. A fire on your farm damaged when you figure your loss. You must reduce
a tractor and the barn in which it was stored. your loss even if you do not receive payment Example. In June, you discovered that
The tractor had an adjusted basis of $3,300. until a later tax year. your house was burglarized. This was your
Its FMV was $2,800 just before the fire and Reimbursement in a later year. If you only casualty or theft loss during the year.
$1,000 immediately afterward. The barn had figured your casualty or theft loss using your Your theft loss after insurance reimbursement
an adjusted basis of $8,000. Its FMV was expected reimbursement, you may have to was $2,000. Your adjusted gross income was
$25,000 just before the fire and $15,000 im- adjust the tax return for the tax year in which $29,500. To figure your deduction, first apply
mediately afterward. You received insurance you get your actual reimbursement. the $100 rule and then the 10% rule. Your
of $600 on the tractor and $6,000 on the barn. If you later receive less reimbursement loss after applying the $100 rule is $1,900
Figure your deductible casualty loss sepa- than you expected, you include that difference ($2,000 − $100). After you apply the 10% rule,
rately for the two items of property. as a loss with your other losses (if any) on you do not have a casualty or theft loss de-
your return for the year in which you can duction because your loss ($1,900) is less
Tractor Barn than 10% of your adjusted gross income
1) Adjusted basis .......................... $3,300 $8,000
reasonably expect no more reimbursement.
If you receive more reimbursement than ($2,950).
2) FMV before fire ........................ $2,800 $25,000
3) FMV after fire ........................... 1,000 15,000 you expected after you have claimed a de-
4) Decrease in FMV (2 minus 3) .. $1,800 $10,000 duction for the loss, you may have to include If you have a casualty or theft gain in
5) Loss (lesser of 1 or 4) .............. $1,800 $8,000 the extra reimbursement in your income for ! addition to a loss, you will have to
CAUTION make a special computation to figure
6) Minus: Insurance ...................... 600 6,000 the year you receive it. However, if any part
7) Deductible casualty loss $1,200 $2,000 of your original deduction did not reduce your your 10% limit. See 10% Rule in Publication
tax for the earlier year, do not include that part 547.
Personal use real property. In figuring of the reimbursement in your income. You do
the loss to personal use real property and not refigure your tax for the year you claimed
improvements, consider all the improve- the deduction.
When Loss Is Deductible
ments, such as buildings and ornamental Casualty losses are generally deductible only
trees, as part of one property, and figure only If the total of all the reimbursements in the year in which they occur. Theft losses
a single loss for the one property. ! you receive is more than your ad-
CAUTION justed basis in the destroyed or stolen
are generally deductible only in the year they
are discovered. However, see Disaster area
Example. You bought a farm in 1958 for property, you will have a gain on the casualty losses, later.
$20,000. The adjusted basis of the residential or theft. Get Publication 547 for more infor-
part is $6,000. In 1997, a windstorm blew mation on how to treat a gain from the re- Leased property. If you lease property from
down shade trees and three ornamental trees imbursement of a casualty or theft. someone else, you can deduct a loss on the
planted at a cost of $600 on the residential If you receive exactly the reimbursement property in the year your liability for the loss
part. $600 is included in the adjusted basis you expected to receive, you do not have any is fixed, not the year it is paid. You are not
of the residential part. The fair market value amount to include in your income or any loss entitled to a deduction until your liability under
(FMV) of the residential part immediately be- to deduct. the lease is ascertainable with reasonable
Chapter 13 Casualties, Thefts, and Condemnations Page 69
accuracy. Your liability can be ascertained expenses to collect the insurance is more involuntary conversions. Figure the gain or
with reasonable accuracy when a claim for than your adjusted basis in the barn, you have loss using the rules discussed under Deter-
recovery is settled, adjudicated, or aban- a gain. mining Gain or Loss in chapter 10. If you re-
doned. place the livestock, you may be able to post-
1) Adjusted basis ....................................... $2,500
2) Insurance received ................................ 4,000
pone reporting the gain. See Postponing
Net operating loss (NOL). If your de- 3) Gain (2 minus 1) ................................... $1,500 Gain, later.
ductions, including casualty or theft loss de- 4) Minus: Expenses to collect insurance ... 200
ductions, are more than your income for the 5) Gain on casualty ................................ $1,300 Example. Under usual business practice
year, you may have an NOL. An NOL can be you sell five of your dairy animals during the
carried back or carried forward and deducted year. This year you sold 20 dairy animals
from income in other years. See chapter 5. because of drought. The sale of 15 animals
is treated as an involuntary conversion.
Disaster area losses. If you have a
deductible loss from a disaster in an area
Other Involuntary If the sale or exchange of livestock
TIP does not qualify as an involuntary
declared by the President of the United States
to be eligible for federal disaster assistance,
Conversions conversion, you may be able to report
In addition to casualties and thefts, there are the gain in the following year's income. This
you can choose to deduct that loss on your
other events that cause involuntary conver- rule also applies to poultry. See Sales
return or amended return for the immediately
sions of property. Some of these are de- Caused by Weather-Related Conditions in
preceding tax year. If you do this, consider
scribed in the following paragraphs. chapter 4.
this loss as occurring in the preceding year.
Reporting weather-related sales of
Make the election to deduct the loss in the
livestock. When you sell or exchange live-
preceding year by the later of: Condemnation stock held for draft, breeding, or dairy pur-
1) The due date (without extensions) of Condemnation is the process by which private poses because of weather-related conditions
your tax return for the year the disaster property is legally taken for public use without and you choose to postpone the gain, as
occurred, or the owner's consent. The property may be discussed next under Postponing Gain, show
taken by the federal government, a state the following information on a statement at-
2) The due date (with extensions) of the government, a political subdivision, or a pri- tached to your return for the tax year in which
preceding year's return. vate organization that has the power to legally you first realize any of the gain.
take property. The owner receives a con-
For more information about disaster area 1) Evidence of the weather-related condi-
demnation award (money or property) in ex-
losses, see Publication 547. tions that forced the sale or exchange
change for the property taken. A condemna-
tion is like a forced sale, the owner being the of the livestock.
Proof of Loss seller and the condemning authority being the 2) The gain realized on the sale or ex-
buyer. change.
To take a deduction for a casualty or theft
For information on how to figure the gain
loss, you must be able to show that there was 3) The number and kind of livestock sold
or loss on condemned property, see chapter
a casualty or theft, and support the amount or exchanged.
1 in Publication 544. Also see Postponing
deducted.
Gain, later to find out if you can postpone re- 4) The number of livestock of each kind you
porting the gain. would have sold or exchanged under
Casualty. For a casualty, you should be able
to show: your usual business practice.
Threat of condemnation. Treat the sale of
1) The type of casualty (car accident, fire, your property under threat of condemnation Show the following information on the re-
storm, etc.) and when it occurred, as a condemnation. turn for the year in which you replace the
livestock.
2) That the loss was a direct result of the Personal residence. You can choose to
casualty, and treat the condemnation of your personal resi- 1) The date you bought replacement live-
3) That you were the owner of the property dence as an involuntary conversion (a forced stock.
or, if you leased the property from sale) or a voluntary sale. See chapter 10.
2) The cost of the replacement livestock.
someone else, that you were
contractually liable to the owner for the Irrigation project. Property located within 3) The number and kind of the replacement
damages. an irrigation project sold or otherwise dis- livestock.
posed of to conform to the acreage limits of
Theft. For a theft, you should be able to federal reclamation laws is a condemnation.
show:
1) When you discovered that your property Livestock Losses Postponing Gain
was missing,
Diseased livestock. If livestock die from You can choose to postpone reporting the
2) That your property was stolen, and disease, or are destroyed, sold, or exchanged gain if you acquire replacement property that
3) That you were the owner of the property. because of disease, even though the disease is similar or related in service or use to your
is not of epidemic proportions, treat these involuntarily converted property within a spe-
occurrences as involuntary conversions. If the cific replacement period.
How To Figure a Gain livestock was raised or purchased for resale, To postpone all the gain, the cost of your
You have a gain from a casualty or theft if follow the rules for livestock discussed earlier replacement property must be at least as
your reimbursement is more than the adjusted under Farming Losses. Otherwise, figure the much as the reimbursement you receive. If
basis of the damaged, destroyed, or stolen gain or loss from these conversions using the the cost of the replacement property is less
property. Use the adjusted basis to figure rules discussed under Determining Gain or than the reimbursement, include the gain in
your gain even if the decrease in FMV of your Loss in chapter 10. If you replace the live- your income up to the amount of the unspent
property is smaller. Reduce your gain by your stock, you may be able to postpone reporting reimbursement.
expenses to collect the reimbursement. the gain. See Postponing Gain, later.
However, you can postpone reporting the Replacement Property
gain if you acquire qualified replacement Weather-related sales of livestock. When
property, as explained later under Postponing you sell or exchange livestock (other than You must buy replacement property for the
Gain. poultry) held for draft, breeding, or dairy pur- specific purpose of replacing your property.
poses solely because of drought, flood, or Your replacement property must be similar
Example. A tornado severely damaged other weather-related conditions, treat the or related in service or use to the property it
your barn. The adjusted basis of the barn was sale or exchange as an involuntary conver- replaces. You do not have to use the actual
$2,500. Your insurance company reimbursed sion. Only livestock sold in excess of the reimbursement, award, or sales proceeds
you $4,000 for the damaged barn. However, number you normally would sell under usual from your old property to acquire the re-
you had legal expenses of $200 to collect that business practice, in the absence of placement property. If you spend the money
insurance. Since your insurance minus your weather-related conditions, are considered you receive for other purposes and borrow
Page 70 Chapter 13 Casualties, Thefts, and Condemnations
money to buy replacement property, you can Condemnation. The replacement period for property. If you acquire part of your replace-
still choose to postpone the gain if you meet a condemnation begins on the earlier of: ment property in one year and part in another
the other requirements. Property or stock you year, make a statement for each year. Include
acquire by gift or inheritance does not qualify 1) The date on which you disposed of the in the statement detailed information on the
as replacement property. condemned property, or replacement property bought in that year.
Minimum Tax !
CAUTION
crease social security benefits may
subject you to penalties.
Topics
You may be able to take a credit against your This chapter discusses:
regular tax if any of the following apply. Social security number. You must have a
social security number to pay SE tax. If you
1) You paid alternative minimum tax (AMT)
• Who must pay self-employment tax
do not have a number, apply for one on Form
in 1996. • Self-employment income SS–5, Application for a Social Security Card.
Chapter 15 Self-Employment Tax Page 73
You can get this form at any Social Security not a share of the crop or livestock or their Types of SE income. Some specific items
office or by calling 1–800–772–1213. proceeds, you may be self-employed or an included in SE income are:
If you have a social security number from employee of the landowner. This will depend
the time you were an employee, do not apply on whether you are under the direction and 1) Taxable patronage dividends (distribu-
again. If you have a number but lost your control of the landlord. tions) from cooperatives,
card, file Form SS–5, showing where and
2) Government agricultural program pay-
about when you first applied for it. You will Example. A share farmer produces a ments, including commodity program
get a card showing your original number, not crop on land owned by another person, on a payments, and conservation reserve
a new one. 50–50 crop-share basis. By the terms of their program (CRP) payments,
If your name has changed since you re- agreement, the share farmer furnishes the
ceived your social security card, complete labor and half the cost of seed and fertilizer. 3) Taxable commodity credit loans,
Form SS–5 to report a name change. The landowner furnishes the machinery and
equipment used to produce and harvest the 4) Storage fees paid by the Commodity
crop, and half the cost of seed and fertilizer. Credit Corporation under a reseal
Estimated tax. You may have to pay esti- agreement to farmers for storing their
mated tax. This depends on how much in- A house to live in is provided for the share
farmer. The landowner and the share farmer own grain,
come and SE taxes you expect for the year
and how much of your income will be subject decide how much of the tract should be 5) Refunds and rebates, if they represent
to withholding tax. The SE tax is treated, and planted in cotton and how much in other a reduction in a deductible expense item,
collected, as part of the income tax. crops. In addition, the landowner is in the hog including the fuel tax credits,
You may have to pay a penalty if you do business and the share farmer agrees to take
care of the landowner's hogs in return for ten 6) Prizes or awards on farm produce or
not pay the correct estimated tax by its due
hogs. The landowner furnishes the feed and livestock,
date.
You must include the estimated SE tax in other necessities and supervises the care of 7) Crop damage payments,
your estimated tax payments. However, if at the hogs.
least two-thirds of your income is from farm- The share farmer is a self-employed 8) Value of merchandise received for farm
ing and you file your Form 1040 and pay all farmer for purposes of the agreement to products,
of the tax that is due by the first day of the produce the cotton and other crops, and the
9) Standing crop sales, if not sold with land
third month after the end of your tax year, you share farmer's part of the income from the
that was held more than 1 year,
do not have to pay any estimated tax. See crops is SE income. But, for the services
chapter 2 for more information about esti- performed in caring for the landowner's hogs, 10) Crop shares received as rent. (These are
mated tax. the share farmer is an employee, and the SE income in the year they are con-
value of the ten hogs received is not SE in- verted to money or the equivalent of
come. The hog income is taxable for income money, if you meet one of the four ma-
Self-employment tax deduction. You can
tax purposes. terial participation tests explained later
deduct half of your SE tax in figuring your
adjusted gross income. This is an income tax under Landlord Participation in Farming
adjustment only. It does not affect either your 4–H Club or FFA project. If your child par- at the time the crop shares are
net earnings from self-employment or your ticipates in a 4–H Club or FFA (Future Farm- produced.),
SE tax. ers of America) project, any profit the child 11) Any amounts for depreciation, including
To deduct the tax, enter on Form 1040, receives from sales or prizes related to the any section 179 deduction, recaptured
line 26, the amount shown on the “Deduction project may be subject to income tax. Report because the business use of the prop-
for one-half of self-employment tax” line of the income on line 21 of Form 1040. How- erty was reduced to 50% or less (this
Schedule SE. ever, the profit may not be subject to SE tax does not include amounts recaptured on
if the project is primarily for educational pur- the disposition of property),
poses and not for profit, and is completed by
the child under the rules and economic re- 12) Lost income payments received from in-
strictions of the sponsoring 4–H or FFA or- surance or other sources for reducing
Who Must Pay ganization. Such a project is generally not or stopping farming activities. Even if you
are not farming when you receive the
Self-Employment Tax considered a trade or business.
payment, it is SE income if it relates to
You must pay SE tax if you were self- your farm business (even though it is
employed and your net earnings from self- Husband and wife partners. You and your temporarily inactive). A connection exists
employment were $400 or more. spouse may operate a farm as a partnership. if it is clear that the payment would not
You are self-employed if you carry on your (Partnerships are discussed earlier in chapter have been made but for your conduct
own trade or business (such as running a 2.) If you and your spouse operate a farm as of your farm business, and
farm) as a sole proprietor, an independent partners, report the farm income and ex-
penses on Form 1065, U.S. Partnership Re- 13) Your distributive share of income or loss
contractor, a member of a partnership, or are from your partnership's trade or busi-
otherwise in business for yourself. A trade or turn of Income, and attach separate Sched-
ules K–1 to show each partner's share of the ness.
business is generally an activity carried on for
a livelihood, or in good faith to make a profit. net income. Both of you must report the net
income on Form 1040 and attach separate Income that is not SE income. Certain
The SE tax rules apply even if you are
Schedules SE (Form 1040) to report each kinds of income are not SE income, even
now:
partner's SE tax. though they are included in figuring your in-
1) Fully insured under social security, However, if your spouse is your employee, come tax.
not your partner, you must pay social security
2) Receiving benefits, or and Medicare taxes for him or her. For more 1) Rent from real estate and from personal
information, see chapter 16. property leased with real estate is not
3) Over age 70 and your earnings do not SE income. It does not matter if the rent
reduce social security benefits. is received in crop shares, cash, or other
property. This rule applies if the landlord
Share farmers. If, under an income-sharing does not materially participate in the
arrangement, you produce a crop or raise Self-Employment production or management of production
of farm products on the land. If the
livestock on land belonging to another and
your share of the crop or livestock, or the Income landlord materially participates, see
proceeds from their sale, depends on the Landlord Participation in Farming, later.
This part explains:
amount produced, you are a self-employed 2) Interest is not SE income unless you re-
farmer. Your income from the income-sharing ceive it in your trade or business, such
arrangement is your SE income. • The types of SE income,
as interest on accounts receivable.
If you produce a crop or livestock on land • The types of income that are not SE in-
belonging to another and are to receive a come, and 3) Dividends on securities are not SE in-
specified rate of pay, a fixed sum of money, come unless you are a dealer in securi-
or a fixed quantity of the crop or livestock, and • Landlord participation in farming. ties.
Page 74 Chapter 15 Self-Employment Tax
4) A gain or loss from the disposition of Materially participating. You are materially Deductions and exemptions. Your SE in-
property that is neither stock in trade nor participating if you have an arrangement with come should not be reduced by certain de-
held primarily for sale to customers is not your tenant for your participation and you ductions you used to figure income tax. Spe-
SE income. It does not matter whether meet one of the following four tests. cifically, do not use:
the disposition is a sale, exchange, or
an involuntary conversion. For example, 1) You do any three of the following. 1) Deductions for personal exemptions for
gains or losses from the disposition of a) Pay or stand good for at least half yourself, your spouse, or dependents,
the following types of property are not the direct costs of producing the
included. 2) The standard deduction or itemized de-
crop. ductions,
a) Investment property. b) Furnish at least half the tools, 3) The net operating loss deduction,
b) Depreciable property or other fixed equipment, and livestock used in
assets used in your trade or busi- producing the crop. 4) Nonbusiness deductions including con-
ness. tributions on your behalf to a pension,
c) Consult with your tenant. profit-sharing plan, annuity plan, Keogh
c) Livestock held for draft, dairy, d) Inspect the production activities or SEP plan, and
breeding, or sporting purposes, and periodically.
5) The self-employed health insurance de-
not held primarily for sale, regard-
2) You regularly and frequently make, or duction.
less of how long the livestock was
take an important part in making, man-
held, or whether raised or pur-
agement decisions substantially contrib-
chased.
uting to or affecting the success of the Step 2—Figure Your Net
d) Standing crops sold with land held enterprise.
more than one year.
Earnings From
3) You work 100 hours or more spread over
a period of 5 weeks or more in activities
Self-Employment
e) Timber, coal, or iron ore held for
connected with crop production. The net SE income subject to SE tax is called
more than one year, if an economic
net earnings from self-employment.
interest was retained, such as a 4) You do things which, considered in their
right to receive coal royalties. total effect, show that you are materially
A gain or loss from the cutting Minimum earnings subject to SE tax. You
and significantly involved in the pro-
of timber is not included if the cut- must have $400 or more of net earnings from
duction of the farm commodities.
ting is treated as a sale or ex- self-employment to be subject to the tax. For
change. These tests may be used as general guides this purpose, net earnings are figured on line
for determining whether you are materially 4 of Schedule SE, Section A or line 4c of
5) Wages received for services performed participating. Schedule SE, Section B. If your net earnings
as an employee and covered by social are less than $400, you do not have to file
security or railroad retirement are not SE Schedule SE (Form 1040) or pay the tax,
income. unless you performed services for a church
as an employee and received income of
6) A limited partner figures net SE income
by excluding the distributive share of
Figuring $108.28 or more.
partnership income or loss. But guaran- Self-Employment Tax How to figure net earnings. There are three
teed payments received for services There are three steps to figure the SE tax you
performed are included as SE income. ways to figure net earnings from self-
owe. employment.
7) A retired partner does not include retire-
1) Figure your net self-employment income.
ment payments received from the part- 1) The regular method.
nership under a written plan that pro- 2) Figure your net earnings from self-
vides for lifelong periodic payments as employment. 2) The farm optional method.
long as the retired partner's capital in- 3) The nonfarm optional method.
terest has been fully paid and the partner 3) Multiply your net earnings by the tax
performs no services for the partnership. rate.
You must use the regular method unless
you are eligible to use one or both of the op-
Landlord Participation Step 1—Figure Your Net tional methods. See Figure 15–1.
Why use the optional methods? You
in Farming Self-Employment Income can generally use the optional methods (dis-
Net SE income usually includes all farm and cussed later) when you have a loss or a small
As a general rule, income and deductions nonfarm business income less all business amount of net income from self-employment
from rentals and from personal property deductions allowed for income tax purposes. and:
leased with the real estate are not taken into You must claim all allowable deductions when
account to determine net self-employment figuring net SE income. Your net SE income 1) You want to receive credit for social se-
income. However, income and deductions is used to figure your net earnings from self- curity benefit coverage,
from farm rentals and from personal property employment. See Step 2—Figure Your Net
leased with the real estate, including govern- Earnings From Self-Employment, later. You 2) You incurred child or dependent care
ment commodity program payments received must figure your net income from self- expenses for which you could claim a
by a landowner who rents land, are taken into employment by using the same accounting credit (this method will increase your
account if the rental arrangement provides method you use for income tax purposes. earned income, which could increase
that the landlord will, and he or she does, Your net SE income is shown on the lines your credit), or
participate materially in the production or of the following schedules.
management of production of the farm pro- 3) You are entitled to the earned income
ducts on the land. Schedule F (Form 1040) ......................... Line 36 credit (this method will increase your
In addition, rent paid in the form of crop Schedule K-1 (Form 1065) ..................... Line 15a earned income, which could increase
shares is included in self-employment income Schedule C (Form 1040) ........................ Line 31 your credit).
Schedule C-EZ (Form 1040) ................... Line 3
for the year you sell, exchange, give away,
or use the crop shares if you meet one of the
four material participation tests at the time the More than one business. If you have more Regular Method
crop shares are produced. Feeding such crop than one trade or business, you must com- Multiply your net SE income by 92.35%
shares to livestock is considered using them. bine the net profit or loss from each business (.9235) to get your net earnings under the
Your gross income for figuring your net to determine your net SE income. A loss from regular method. See Short Schedule SE, line
earnings from self-employment under the one business will reduce your profit from an- 4, or Long Schedule SE, line 4a.
Farm Optional Method includes the fair mar- other business. File one Schedule SE show- You must use the regular method unless
ket value of the crop shares when they are ing the net SE income, but file a separate you are eligible to use one or both of the op-
used as feed. profit or loss schedule for each business. tional methods.
Chapter 15 Self-Employment Tax Page 75
Figure 15-1. Can I Use the Optional Methods?
Yes
Ä No
Ä
Are your net nonfarm profits
No Report two-thirds of your
less than 72.189% of your ©
gross nonfarm income? gross farm income as your
net earnings from farm
Yes self-employment.*
Ä
Were your actual net earnings Ä
from self-employment $400 or No No Are your actual net farm
©
more in at least 2 of the 3 tax profits less than $1,733?
years before 1997?
Yes
Yes Ä
Ä Report $1,600 as your net
Have you previously used this earnings from farm self-
method less than 5 years? No employment.*
©
(Note: There is a 5-year
lifetime limit.)
Ä
Yes © You cannot use the optional method.
Ä
Is your gross income from
No
all nonfarm businesses © Report $1,600 as your net earnings
$2,400 or less? from self-employment.*
Yes
Ä
Report two-thirds of gross
income from nonfarm self-
employment as net earnings
from self-employment.*
*If you use both optional methods, see Using Both Optional Methods for limits on the amount to report.
less than $1,733, you may report $1,600 as Cash method of accounting. If you file
Farm Optional Method your net earnings from farm self-employment. your return on the cash method and are not
If you are in the farming business, either as But if your gross income from farming is more a member of a farming partnership, your
an individual or as a partner, you may be able than $2,400 and your net farm profits are gross income from farming will ordinarily be
to use the farm optional method to figure your $1,733 or more, you cannot use the optional the amount shown on line 11 of Schedule F.
net earnings from farm self-employment. This method. Accrual method of accounting. If you
method allows you to continue paying SE tax Since two-thirds of $2,400 is $1,600, this file your return using an accrual method and
for your social security coverage when your counts for two quarters of coverage ($1,600 are not a member of a farming partnership,
net profit for the year is small or you have a divided by $670) under social security. You your gross income from farming will ordinarily
loss. cannot use the full amount of your gross in- be the amount shown on line 51 of Schedule
come to determine quarters of coverage when F.
Optional earnings less than actual you are figuring the SE tax on only two-thirds Gross income from a farm partnership.
earnings. If your net earnings under the farm of that amount. Your gross income under the farm optional
optional method are less than your actual net method includes your distributive share of a
earnings, you can still use the farm optional partnership's gross income from farming.
method. For example, your actual net Gross income from farming. Farming in- To determine your distributive share of
earnings from self-employment are $425 and come includes what you receive from culti- gross income from a farm partnership:
your net earnings figured under the farm op- vating the soil or raising or harvesting any
tional method are $390. You owe no SE tax agricultural commodities. It also includes in-
1) Figure the partnership's gross income
if you use the optional method, because your come from the operation of a livestock, dairy,
from farming.
net earnings are below $400. poultry, bee, fish, fruit, or truck farm, or plan-
tation, ranch, nursery, orchard, or oyster bed.
2) Subtract any guaranteed payments to
Gross income of $2,400 or less. If your This includes income you receive in the form
partners for services or the use of capital
gross income from farming is $2,400 or less, of crop shares if you materially participate in
if the payments are determined without
you may report two-thirds of this gross in- production or management of production.
regard to partnership income.
come as your net earnings from farm self- Your gross income will not include any
employment. item listed as being excluded under the reg- 3) Determine your share of what is left. The
ular method. If you receive government com- gross income that remains after steps (1)
Gross income of more than $2,400. If your modity program payments on land you rent and (2) is divided among the partners in
gross income from farming is more than out, do not include these payments unless the same way they share the ordinary
$2,400, and your net farm profits, as shown you meet one of the four material participation income or loss of the partnership, unless
on line 36 of Schedule F (Form 1040), and tests, explained earlier. Also, do not include the partnership agreement provides oth-
line 15a of Schedule K–1 (Form 1065), are any income from a nonfarm business. erwise.
Page 76 Chapter 15 Self-Employment Tax
The result determined in (3) above is your employment. You may report less than actual Net earnings more than $65,400 and no
distributive share of the partnership's gross total net earnings but not less than actual net wages. If you had no wages, had net
income from farming. If you have no other earnings from nonfarm self-employment earnings from self-employment of more than
gross income from farming, including guar- alone when using both methods. If you use $65,400, and do not have to use Long
anteed payments discussed next, use this both optional methods, you may report no Schedule SE, use Short Schedule SE. On line
distributive share of gross income to deter- more than $1,600 as your combined net 5, multiply the line 4 net earnings by the 2.9%
mine whether you can use the farm optional earnings from self-employment. (.029) Medicare tax and add the result to
method to figure your net earnings from self- $8,109.60 (12.4% of $65,400). The total is
employment. your SE tax.
Guaranteed payments. Any guaranteed Step 3—Multiply Your Net
Example. During 1997, you have $75,000
payments you receive from a farm partnership Earnings by the Tax Rate in net SE income and receive no wages sub-
that are determined without regard to part-
Multiply the net earnings you figured in Step ject to social security and Medicare taxes.
nership income are gross income from your
2 by the tax rate to get your SE tax. The SE Multiply the $75,000 by 0.9235 on Short
farming (not the partnership's). Use the total
tax rate is 15.3% (12.4% social security tax Schedule SE to get your net earnings of
of these payments, your distributive share of
plus 2.9% Medicare tax). It is the same for $69,263. Since only $65,400 of your earnings
gross income from a farm partnership, and
net earnings figured under each method. are subject to the social security part of the
any other gross income you receive from
Special rules (explained next) apply to this SE tax, your tax for this part is $8,109.60
farming, to determine whether you can use
computation if: (12.4% of $65,400).
the farm optional method to figure your net
earnings from self-employment. Since all your net earnings are subject to
• Your combined wages, tips, and net the Medicare part of the SE tax, multiply
Example. Bill and John are partners and earnings are more than $65,400, or $69,263 by 2.9% (.029) on Short Schedule
share in ordinary income or loss on a 50–50 • You use a fiscal tax year. SE for the Medicare part. The result is
basis, with no guaranteed payments. If the $2,008.63. Add this to $8,109.60 for a total
partnership has $3,000 gross income from Maximum earnings subject to SE tax. No SE tax of $10,118.23.
farming, each would have $1,500 gross in- more than $65,400 of your combined wages,
come for purposes of the optional method. tips, and net earnings in 1997 is subject to Net earnings and wages more than
If Bill had been guaranteed $1,000 without any combination of the 12.4% social security $65,400. If your net earnings from self-
regard to partnership income, his gross in- part of SE tax, social security tax, or railroad employment plus any wages and tips are
come from farming would be $2,000 ($1,000 retirement (tier 1) tax. more than $65,400, you must use Long
plus 50% of $2,000). John's gross income However, all your combined wages, tips, Schedule SE. Subtract your total wages and
would be $1,000. and net earnings in 1997 are subject to any tips from $65,400 to find the maximum
combination of the 2.9% Medicare part of SE earnings subject to the 12.4% social security
Two or more farms. If you run your own
tax, social security tax, or railroad retirement part of the tax. If more than zero, multiply the
farm and are also a partner in a farm part-
(tier 1) tax. amount by 12.4% (.124). The result is the
nership, or in any way have gross income
If your wages and tips are subject to either social security tax amount. Then multiply your
from farming from more than one farm, you
social security or railroad retirement (tier 1) net earnings from self-employment by 2.9%
must add your farm income from all farming
tax, or both, and total at least $65,400, you (.029). The result is the Medicare tax amount.
sources to get your total net earnings from
do not have to pay the 12.4% social security The total of the social security tax amount and
farm self-employment. If you use the farm
part of the SE tax on any of your net earnings. the Medicare tax amount is your SE tax.
optional method, you must add all gross in-
However, you must pay the 2.9% Medicare
come from farming to make the $2,400 test. Example. During 1997, you have $70,000
part of the SE tax on all your net earnings.
Example. Your gross income from your in net SE income, and receive $10,000 in
own farm is $600, and your distributive share Fiscal tax year. If you use a tax year other wages subject to social security and Medicare
of the gross income from a farm partnership than the calendar year, you must use the tax taxes. Figure your net earnings on Long
is $900. Since your gross income from farm- rate and maximum earnings limit in effect at Schedule SE, line 4a, to be $64,645. Next,
ing is less than $2,400, ($1,500), your net the beginning of your tax year. Even if the tax subtract your wages of $10,000 from $65,400,
earnings from self-employment under the rate or maximum earnings limit changes dur- the maximum income subject to the social
farm optional method are $1,000 (2/3 of ing your tax year, you should continue to use security part of the SE tax. The result is
$1,500). the same rate and limit throughout your tax $55,400. Since only $55,400 of your earnings
year. are subject to the social security part of the
SE tax, your tax for this part is 12.4% (.124)
Nonfarm × $55,400, or $6,869.60.
Regular Method Since all your net earnings are subject to
Optional Method The following paragraphs explain how to fig- the Medicare part of the SE tax, multiply all
There is an optional method available for de- ure the SE tax using net earnings under the the net earnings from self-employment,
termining net earnings from nonfarm self- regular method. $64,645, by 2.9% (.029) on Long Schedule
employment much like the farm optional SE for the Medicare part. The result is
method. Net earnings and wages not more than $1,874.71. Add this to the $6,869.60 figured
If you are also engaged in a nonfarm $65,400. If your net earnings from self- above for total SE tax of $8,744.31.
business, you may be able to use this method employment plus any wages and tips are not
to compute your net earnings from self- more than $65,400, and you do not have to
employment from your nonfarm business. use Long Schedule SE, use Short Schedule Farm Optional Method
You may use this method even if you do not SE. On line 5, multiply your net earnings by If your net earnings under the farm optional
use the farm optional method for determining the 15.3% (.153). The result is your SE tax. method are $400 or more, use Long Schedule
your net earnings from your farm self- SE to figure your SE tax.
employment and even if you have a net loss Example 1. During 1997, you have
from your nonfarm business. For more infor- $30,000 in net SE income, and receive no
mation about the nonfarm optional method, wages subject to social security and Medicare Nonfarm Optional Method
get Publication 533. taxes. Multiply the $30,000 by 0.9235 on If your net earnings under the nonfarm op-
Short Schedule SE to get your net earnings tional method are $400 or more, use Long
from self-employment of $27,705. Your SE Schedule SE to figure your SE tax.
Using Both Optional tax is 15.3% (0.153) of $27,705, or $4,238.87.
Methods Example 2. During 1997, you have Effect on Taxes
You may not combine farming income with $20,000 in net SE income and receive If you use either or both optional methods,
nonfarm income from self-employment to fig- $15,000 in wages subject to social security you must figure and pay the SE tax due under
ure your net earnings under either of the op- and Medicare taxes. Multiply the $20,000 by these methods, even if you would have had
tional methods. If you use both optional 0.9235 on Short Schedule SE to get your net a smaller tax or no tax using the regular
methods, you must add together the net earnings from self-employment of $18,470. method.
earnings figured under each method to arrive Your SE tax is 15.3% (0.153) of $18,470, or The optional methods may be used only
at your total net earnings from self- $2,825.91. to figure your SE tax. To figure your income
Chapter 15 Self-Employment Tax Page 77
tax, include your actual SE income in gross employment tax.
income, regardless of which method you use
to figure SE tax. Community income. If any of the income Topics
from a farm or business other than a part- This chapter discusses:
nership is community income under state law,
it is subject to SE tax as the income of the • Farm employment
spouse carrying on the trade or business. The
Reporting identity of the person carrying on the trade • Social security and Medicare taxes
or business is determined by the facts in each • Income tax withholding
Self-Employment Tax case.
• Federal unemployment tax (FUTA)
Use Schedule SE (Form 1040) to report and
figure SE tax. Then enter the tax on line 47 • Reporting and paying employment taxes
of Form 1040, and attach Schedule SE to • Family members
Form 1040.
You must file Schedule SE if: • Crew leaders
• Earned income credit (EIC)
1) You were self-employed, and your net
earnings from self-employment (exclud-
16.
ing church employee income) were $400 Useful Items
or more, or Employment You may want to see:
2) You performed services for a church as
an employee and received income of Taxes Publication
$108.28 or more. m 15 Circular E, Employer's Tax Guide
Even if you do not have to file m 15–A Supplemental Employer's Tax
TIP Schedule SE, it may be to your benefit Guide
to file it and use either optional
method in Part II of Section B.
Important Changes m 51 Circular A, Agricultural Employer's
Tax Guide
for 1998
Form (and Instructions)
Most taxpayers can use Short Schedule
SE (Section A) to figure their self-employment Social security and Medicare taxes. For m W–2 Wage and Tax Statement
tax. However, the following taxpayers must 1998, the employer and the employee will
use Long Schedule SE (Section B). continue to pay: m W–4 Employee's Withholding Allow-
ance Certificate
1) Individuals whose total wages and tips 1) 6.2% each for social security tax (old- m W–5 Earned Income Credit Advance
subject to social security (or railroad re- age, survivors, and disability insurance),
Payment Certificate
tirement (tier 1)) tax plus net earnings and
from self-employment are more than m W–9 Request for Taxpayer Identifica-
2) 1.45% each for Medicare tax (hospital tion Number and Certification
$65,400. insurance).
m 940 (or 940–EZ) Employer's Annual
2) Ministers, members of religious orders,
Wage limits. The maximum amount of Federal Unemployment (FUTA)
and Christian Science practitioners not
1998 wages subject to the social security tax Tax Return
taxed on earnings from these sources
(with IRS consent) who owe SE tax on will be published in Publication 51 (Circular m 943 Employer's Annual Tax Return for
other earnings. A). There is no wage base limit for the amount Agricultural Employees
subject to Medicare tax. All covered wages
3) Employees who earned wages reported are subject to the tax. m 8109 Federal Tax Deposit Coupon
on Form W–2 of $108.28 or more work- See chapter 21 for information about get-
ing for churches or church organizations Electronic deposit of taxes. If your total ting these publications and forms.
that elected exemption from social se- deposits of social security, Medicare, and
curity and Medicare taxes. withheld income taxes were more than
4) Individuals with tip income subject to $50,000 during 1996, you must make elec-
social security and Medicare taxes that tronic deposits for all depository tax liabilities Farm Employment
was not reported to their employers. that occur after 1997. However, no penalty In general, you are an employer of farm
will be imposed for any failure to make a re- workers if your employees do any of the fol-
5) Individuals who use one of the optional quired electronic deposit before July 1, 1998, lowing:
methods to figure SE tax. if you are first required to use that method on
or after July 1, 1997. See Circular A. 1) Raise or harvest agricultural or horticul-
If you have to pay SE tax, you must You can choose to make electronic de- tural products on a farm.
! file a Form 1040 (with Schedule SE
CAUTION attached) even if you do not otherwise
posits if you are not required to do so. For
information about the Electronic Federal Tax 2) Care for your farm and equipment, when
Payment System (EFTPS), see Revenue most of the care is done on a farm.
have to file a federal income tax return.
Procedure 97–33, 1997–I.R.B. 30. 3) Handle, process, or package any agri-
Joint returns. If you file a joint return and cultural or horticultural commodity if you
you both have SE income, each of you must produced more than half of the com-
complete a separate Schedule SE (Form modity.
1040); attach both schedules to the joint re-
turn. If you and your spouse operate a busi-
Introduction 4) Do work related to cotton ginning,
You are generally required to withhold federal turpentine, or gum resin products.
ness as a partnership, see Husband and wife
partners, earlier, under Who Must Pay Self- income tax from the wages of your employ- 5) Do housework in your private home if it
Employment Tax. ees. You may also be subject to social secu- is on a farm that is operated for profit.
rity and Medicare taxes under the Federal
You cannot file a joint Schedule SE Insurance Contributions Act (FICA) and fed- Workers are your employees if they per-
! (Form 1040) even if you file a joint
CAUTION income tax return. Your spouse is not
eral unemployment tax under the Federal
Unemployment Tax Act (FUTA). This chapter
form services subject to your control. You are
not required to withhold taxes on independent
considered self-employed just because you includes information about these taxes. contractors who are not your employees. For
are. If your spouse has SE income, it is in- Farmers must also pay self-employment more information, see Publication 15–A.
dependently subject to the SE tax and must tax on their earnings from farming. See Special rules apply to crew leaders. See
be reported on a separate Schedule SE. chapter 15 for information on the self- Crew Leaders, later.
Page 78 Chapter 16 Employment Taxes
Employer identification number. If you 2) Annual cash wages of less than $1,000 chapter 21 for information about getting forms
have employees, you must have an employer paid to your household employee. and publications from the IRS.
identification number (EIN). You can apply for
an EIN either by mail or by telephone. You See Circular A for more information on
Paying employee's share. If you would
can get an EIN immediately by calling the these exceptions. See Family Members, later,
rather pay the employee's share of social
Tele-TIN number for the service center for for special rules on social security and Medi-
security and Medicare taxes without deduct-
your state (except for the Ogden Service care withholding that apply to your spouse
ing it from his or her wages, you may do so.
Center), or you can send a completed SS–4, and children.
If you do not deduct the taxes, you must still
Application for Employer Identification Num- pay them. The employee's share of social
ber, directly to the service center to receive Cash wages. Cash wages paid to farm security or Medicare tax that you pay is ad-
your EIN by mail. See the instructions for workers are subject to social security tax, ditional income to the employee. You must
Form SS–4 for more information. Medicare tax, and income tax withholding. include it on the employee's Form W–2 in box
Cash wages include checks, money orders, 1, but do not count it as cash wages for social
You can call the Social Security Ad- and any kind of money or cash.
ministration (SSA) to get Form SS–5 security and Medicare (boxes 3 and 5 on
Only cash wages subject to social security Form W–2) or for federal unemployment tax
and the Immigration and and Medicare taxes are credited to your em-
Naturalization Service (INS) to get Form I–9. purposes.
ployees for social security benefit purposes.
See the following discussions for the tele- Payments not subject to these taxes, such
phone numbers. as commodity wages, do not contribute to Religious exemption. An exemption from
your employees' social security coverage. For social security and Medicare taxes is avail-
Employee's social security number (SSN). information about social security benefits, able to members of a recognized religious
An employee who does not have an SSN contact the Social Security Administration. sect opposed to insurance. This exemption is
should submit Form SS–5, Application for a available only if both the employee and the
Social Security Card, to the nearest social employer are members of such a sect.
security office. Form SS–5 can be obtained Noncash wages. Noncash wages include
food, lodging, clothing, transportation passes, More information. For more information,
from any social security office or by calling see Publication 517, Social Security and
1–800–772–1213. and other goods. Noncash wages, including
commodity wages, are not subject to social Other Information for Members of the Clergy
The employee must furnish evidence of and Religious Workers.
age, identity, and U.S. citizenship with the security and Medicare taxes and income tax
Form SS–5. An employee who is 18 or older withholding. However, they are subject to
must appear in person with this evidence at these items if the substance of the transaction
a social security office. is a cash payment.
The value of noncash wages is reported
on Form W–2 in box 1, Wages, tips, other
Income Tax
INS Form I–9. You must verify that each new
employee is legally eligible to work in the compensation, together with cash wages. Do
not show noncash wages in box 3, Social
Withholding
United States. This includes completing the Farmers and crew leaders must withhold in-
Immigration and Naturalization Service (INS) security wages, or in box 5, Medicare wages
and tips. come tax from farm workers who are subject
Form I–9, Employment Eligibility Verification. to social security and Medicare taxes. The
You can get the form from INS offices. Con- amount to withhold is figured on gross wages
tact the INS at 1–800–755–0777 for more in- Withholding. If farm wages are subject to
social security and Medicare taxes, you are without taking out social security and Medi-
formation. care taxes, union dues, insurance, etc. You
required to withhold them from the cash
wages paid to the employee. If you employ a can use one of several methods to determine
family of workers, you must deduct social the amount to withhold. The methods are
described in Circular A.
Social Security and security and Medicare taxes and prepare a
Form W–2 for each family worker who has Generally, you must withhold income tax
from wages you pay an employee if the
Medicare Taxes wages subject to tax, not just for the head of
the family. wages, cash and noncash, are more than the
As a farmer-employer, you may have to pay dollar value of the withholding allowances
social security and Medicare taxes if you have claimed for that pay period. Do not withhold
Paying withheld taxes. Withheld taxes, to-
one or more agricultural employees, including income tax from the wages of an employee
gether with your employer taxes, must be
your parents, your children 18 years of age who, by filing Form W–4, certifies that he or
paid to the IRS. You must file Form 943 with
or older, or your spouse, and you meet either she had no income tax liability last year and
the IRS at the address shown in the form in-
of the following tests: anticipates no liability for the current year.
structions by January 31 of the year following
In general, an employee can claim with-
1) You paid the employee $150 or more in the year covered by the return. If you are lia-
holding allowances on Form W–4 equal to the
cash wages during the year, or ble for $500 or more of social security and
number of exemptions the employee will be
Medicare taxes and withheld income taxes
2) You paid wages of $2,500 or more dur- entitled to claim on his or her tax return. An
during the year, you must deposit them before
ing the year to all your employees. employee may also be able to claim a special
you file Form 943. See Deposits, later, under
withholding allowance and allowances for
Reporting and Paying Employment Taxes.
Exceptions. The following wages are not estimated deductions and credits.
subject to social security and Medicare taxes, Tax rates and social security wage limits. Circular A contains tables showing the
even if you pay $2,500 or more to all your For 1998, the employer and the employee correct amount of income tax you
farm workers. These wages, however, do will continue to pay: should withhold. It also contains ad-
count toward the $2,500-or-more test for de- ditional information about income tax with-
termining social security and Medicare cov- 1) 6.2% each for social security tax (old- holding. You can get Circular A and Form
erage of other farm workers. age, survivors, and disability insurance), W–4 from IRS offices or by calling
and 1–800–TAX– FORM (1–800–829–3676).
1) Annual cash wages of less than $150
paid to a seasonal farm worker. A sea- 2) 1.45% each for Medicare tax (hospital Report the income tax withheld on Form
sonal farm worker is one who: insurance). 943 at the same time the social security and
Medicare taxes are reported. However, you
a) Works as a hand-harvest laborer, Wage limits. For 1998, the maximum may have to deposit withheld taxes before
b) Is paid piece rates in an operation amount of wages subject to the social security you file Form 943.
usually paid on this basis in the tax will be published in Circular A. There is
area, no wage base limit for the Medicare tax. All Form W–4 for 1998. Farmers who have em-
covered wages are subject to the tax. ployees should make 1998 Forms W–4
c) Commutes daily from his home to
available to their employees and encourage
the farm, and
Circular A. Circular A contains additional them to check their income tax withholding for
d) Worked in agriculture less than 13 information about social security and Medi- 1998. Those employees who owed a large
weeks in the preceding calendar care tax withholding. You can get Circular A amount of tax or received a large refund for
year. from an IRS Forms Distribution Center. See 1997 may want to file a new Form W–4.
Chapter 16 Employment Taxes Page 79
Nonemployee compensation. Generally, More information. For more information on More information. For more information
you are not required to withhold tax on pay- FUTA tax, see Circular A. For information on on deposits, including deposit rules and pen-
ments for services to individuals who are not depositing FUTA tax, see FUTA Tax later. alties for late deposits, see Circular A.
your employees. However, you may be re-
quired to report these payments on Form Form W–2. By January 31, you must furnish
1099–MISC, Miscellaneous Income, and to each employee a Form W–2 showing total
withhold under the backup withholding rules,
discussed next. See chapter 2 for information
Reporting and Paying wages for the previous year and total income
tax and social security and Medicare taxes
on Form 1099–MISC.
Backup withholding. In certain cases,
Employment Taxes withheld. However, if an employee stops
working for you and requests the form earlier,
the law requires you to withhold income tax There are special rules for reporting and you must give it to the employee within 30
at a rate of 31% (backup withholding) on paying employment taxes. days of the later of the following dates.
payments of commissions, nonemployee
compensation, and other payments you make Check or money order. When you pay so- 1) The date the employee requests the
for services in your farm business or other cial security and Medicare taxes, withheld in- form, or
business activities. The backup withholding come tax, and FUTA tax — whether through 2) The date you make your final payment
rules do not apply to wages, pensions, or deposits or with your return — you should of wages to the employee.
annuities. write the following information on your check
See the Instructions for Forms 1099, or money order: See Form W–2 in chapter 2.
1098, 5498, and W–2G for more information.
1) Your employer identification number.
2) The type of tax you are paying.
FUTA Tax
The federal unemployment tax is imposed on
Federal 3) The period covered by the payment. you as the employer. It must not be collected
or deducted from the wages of your employ-
Unemployment Penalties. If you pay your taxes late, you ees.
may have to pay a penalty as well as interest
Tax (FUTA) on any overdue amounts. However, if the first Form 940. FUTA tax is reported on Form
If you as a farmer-employer pay cash wages, time you are required to deposit employment 940, Employer's Annual Federal Unemploy-
you must pay federal unemployment (FUTA) taxes is after July 30, 1996, and you are late, ment (FUTA) Tax Return. This form covers
tax if you meet either of the following tests. the IRS may waive the penalty. To qualify, one calendar year and is generally due Jan-
you must have filed your employment tax re- uary 31 after the year ends. However, you
1) You paid cash wages of $20,000 or more turn on time. may have to make deposits of FUTA tax be-
to farm workers in any calendar quarter There are also civil and criminal penalties fore filing the return. If you deposit the tax on
during the current or preceding calendar for intentionally not paying taxes, filing a false time and in full, you have an extra 10 days to
year. tax return, or filing no return at all. file — until February 10.
Trust fund recovery penalty. If you are
2) You employed 10 or more farm workers responsible for withholding, accounting for, Form 940–EZ. You can use Form 940–EZ,
for some part of at least 1 day during any depositing, or paying withholding taxes and a simplified version of Form 940, if:
20 different calendar weeks during the willfully fail to do so, you can be held liable for
current or preceding calendar year. a penalty equal to the tax not paid, plus in- 1) You paid unemployment tax to only one
terest. A responsible person can be an officer state.
These rules do not apply to your spouse, of a corporation, a partner, a sole proprietor,
parents, or children under age 21. See Family 2) You paid the state tax by the due date
or an employee of any form of business. A
Members, later. of Form 940 or 940–EZ.
trustee or agent with authority over the funds
of the business can also be held responsible 3) All your wages taxable for FUTA tax
Alien farm workers. Wages paid to an alien for the penalty. were also taxable for state unemploy-
who is admitted to the United States, per- “Willfully” in this case means voluntarily, ment tax.
forms contract farm labor for you, and then consciously, and intentionally. Paying other
returns to his or her own country when the 4) You did not pay wages subject to the
expenses of the business instead of the taxes
contract is completed, are exempt from the unemployment compensation laws of a
due is considered to be acting willfully.
federal unemployment (FUTA) tax. credit reduction state.
Commodity wages. Payments in kind for Social Security, Medicare, Deposits. If at the end of any calendar
farm labor are not considered wages. Do not quarter you owe, but have not yet deposited,
count them to figure whether you are subject
and Withheld Income Taxes more than $100 in FUTA tax for the year, you
to federal unemployment tax or to figure how You must withhold income, social security, must make a deposit by the end of the next
much tax you owe. and Medicare taxes required to be withheld month.
from the salaries and wages of your employ- If the undeposited tax is $100 or less at
Tax rate and credit. The gross FUTA tax ees. You are liable for the payment of these the end of a quarter, you do not have to de-
rate is 6.2%. However, you are given a credit taxes to the federal government whether or posit it. You must add it to the tax for the next
of up to 5.4% for the state unemployment tax not you collect them from your employees. If, quarter. If the total undeposited tax is more
you pay. The net tax rate, therefore, can be for example, you withhold less than the cor- than $100 in the next quarter, a deposit will
as low as 0.8% (6.2% − 5.4%) if your state is rect tax from an employee's wages, you are be required. If the undeposited tax for the 4th
not subject to a credit reduction. If your state still liable for the full amount. You must also quarter (plus any undeposited tax for an ear-
tax rate (experience rate) is less than 5.4%, pay your share of social security and Medi- lier quarter) is less than $100, you can either
you are still allowed the full 5.4% credit. care taxes. make a deposit or pay it with your return by
You cannot take the credit for any state the January 31 due date.
tax you do not pay. If you are exempt from Form 943. Report withheld income tax and More information. See Circular A for
state unemployment tax for any reason, the social security and Medicare taxes on Form more information on depositing FUTA tax.
full 6.2% rate applies. 943. The 1997 form is due by February 2,
Credit reduction. The 5.4% credit may 1998.
be reduced for employers in some states. A
credit reduction is required if a state's unem- Deposits. You will generally have to make Family Members
ployment fund borrows from the federal gov- tax deposits if you are liable for $500 or more
ernment and keeps an outstanding balance of social security and Medicare taxes and Child of employer. The services of a child
for two or more years. withheld income tax during the year. You under the age of 18 who works for his or her
If your state is subject to a credit reduction must deposit both your part and your em- parent in a trade or business are not subject
for 1997, the state's name and the amount ployees' part of social security and Medicare to social security and Medicare taxes. If these
of the credit reduction will be shown on Form taxes and withheld income tax before you file services are for work other than in a trade or
940. Form 943. business, such as domestic work in the par-
Page 80 Chapter 16 Employment Taxes
ent's private home, they are not subject to 1) The crew leader is registered under the tice 1015, Have You Told Your Employees
social security and Medicare taxes until the Migrant and Seasonal Agricultural About the Earned Income Credit (EIC)?
child reaches 21. Worker Protection Act, or
The services of a child under the age of
2) Substantially all crew members operate
21 who works for his or her parent (whether
or maintain mechanized equipment pro-
or not in a trade or business) are not subject
vided by the crew leader as part of the
to FUTA tax.
service to the farmer.
These rules apply even if the child is paid
wages for nonfarm work. Wages for these The farmer is considered the employer of the
17.
services are not subject to social security and workers in all other situations. In addition, the
Medicare or federal unemployment taxes.
However, the wages for nonfarm work may
farmer is considered the employer of workers
furnished by a registered crew leader if the
Retirement
still be subject to income tax withholding. workers are the employees of the farmer un-
der the common-law test. For example, some Plans
One spouse employed by another. The farmers employ individuals to recruit farm
services of an individual who works for his or workers exclusively for them. Although these
her spouse in a trade or business are subject individuals may be required to register under
to social security and Medicare taxes, but not the Migrant and Seasonal Agricultural Worker
FUTA tax. However, the services of one
spouse employed by another in other than a
Protection Act, the workers are employed di- Important Changes
rectly by the farmer. The farmer is considered
trade or business, such as domestic service to be the employer in these cases. For infor- for 1997
in a private home, are not subject to social mation concerning who is a common-law
security and Medicare taxes or FUTA tax. employee, see Who Are Employees? in Pub- SIMPLE retirement plan. Beginning in 1997,
lication 15 (Circular E). you may be able to set up a savings incentive
Covered services of child or spouse. match plan for employees (SIMPLE). You can
Wages for the services of a child or spouse set up a SIMPLE plan if you have 100 or
are subject to income tax withholding and fewer employees and meet other require-
social security, Medicare, and FUTA taxes, if
he or she works for:
Earned Income ments. See Simple Retirement Plans after the
Simplified Employee Pension (SEP) dis-
Credit (EIC) cussion.
1) A corporation, even if it is controlled by
The EIC is a special credit for certain em-
the child's parent or the individual's Repeal of salary reduction arrangement
ployees that reduces the tax they owe. Even
spouse. under a SEP (SARSEP). Beginning in Jan-
if they do not owe any tax, the credit may give
them a refund. Eligible employees can uary 1997, an employer is no longer allowed
2) A partnership, even if the child's parent
choose to receive advance payment of the to establish a SARSEP. However, partic-
is a partner, unless each partner is a
EIC from you. To ensure that certain em- ipants (including new participants hired after
parent of the child.
ployees are aware of the EIC, you must notify 1996) in a SARSEP that was established be-
3) A partnership, even if the individual's them about the credit. fore 1997 can continue to elect to have their
spouse is a partner. employer contribute part of their pay to the
Advance payments (Form W–5). You must plan. See Salary Reduction Arrangement un-
4) An estate, even if it is the estate of a der Simplified Employee Pension (SEP).
deceased parent. pay part of the EIC to eligible employees who
have filed a Form W–5 with you. This allows
those employees to receive part of the benefit Required minimum distribution rule modi-
In these situations, the child or spouse is fied. Beginning in 1997, the definition of the
considered to work for the corporation, part- of their credit each payday, rather than having
a single amount credited to them later on their required beginning date that is used to figure
nership, or estate, not the parent or other the required minimum distribution from quali-
spouse. tax return. Employers of farm workers do not
have to make advance payments to farm fied retirement plans takes into account
workers paid on a daily basis. whether a plan participant has retired. This
The payment is added to the employee's does not apply to a 5% owner, who must still
pay each payday. It is figured from tables in begin to receive distributions on April 1 of the
Crew Leaders Circular A. You reduce your liability for in- year following the calendar year in which he
or she reaches age 701/2. Also, the new law
Farmers can employ or use the services of come tax withholding, social security tax, and
Medicare tax by the total advance earned in- does not apply to IRAs. For more information,
crew leaders to provide them with farm labor. see Required Distributions in the Keogh Plans
come credit payments made. For more infor-
mation, see Circular A. discussion in Publication 560.
Social security and Medicare taxes. For
social security and Medicare tax purposes,
Notification. You must notify each employee
the crew leader is considered the employer
who worked for you at any time during the
of the workers if the crew leader:
year and from whom you did not withhold any Introduction
1) Furnishes workers to do farm labor. income tax about the EIC. However, you do Retirement plans are savings plans that offer
not have to notify employees who claim ex- you tax advantages to set aside money for
2) Pays (either on his or her own behalf or emption from withholding on Form W–4. your own and your employees' retirement.
on behalf of the farmer) the workers for You meet the notification requirement by In general, a sole proprietor or a partner
their farm labor. giving each employee any one of the follow- also is considered an employee for purposes
ing. of participating in a retirement plan.
3) Has not entered into a written agreement
with the farmer under which he or she is 1) Form W–2, which contains the notifica- Funding the plan. A retirement plan you
designated as an employee of the tion on the back of Copy C. establish as an employer can be funded en-
farmer.
2) A substitute Form W–2 with the exact tirely by your contributions, or by a mix of your
EIC wording shown on the back of copy contributions and employee contributions.
Federal income tax. If the crew leader is C of Form W–2. Employee contributions do not have to satisfy
considered the employer for social security the minimum funding requirements for your
and Medicare tax purposes, the crew leader 3) Notice 797, Possible Federal Tax Re- plan. For example, a retirement plan can re-
is considered the employer for federal income fund Due to the Earned Income Credit quire after-tax employee contributions that by
tax purposes. (EIC). themselves do not meet the minimum funding
4) Your own written statement with the ex- requirements. Employee contributions can be
Federal unemployment tax. For federal act wording of Notice 797. voluntary or mandatory.
unemployment tax purposes, the crew leader Elective deferrals. Your plan can allow
is considered the employer of the workers if, For more information about notification your employees to make elective deferrals,
in addition to the earlier requirements: requirements and claiming the EIC, see No- although they are considered employer con-
Chapter 17 Retirement Plans Page 81
tributions. This allows employees to elect to Pension–Individual Retirement
have you contribute part of their current Accounts Contribution Agreement
Kinds of Qualified Plans
compensation (pay) to a retirement plan. Only There are two basic kinds of qualified retire-
the remaining portion of their pay is currently m 5305A–SEP Salary Reduction and Other ment plans: defined contribution plans and
taxable. The income tax on the contributed Elective Simplified Employee defined benefit plans.
pay (and earnings on it) is deferred. Pension–Individual Retirement
Accounts Contribution Agreement Defined Contribution Plans
Employer contributions. Your contributions These are plans that provide for a separate
to an employer-sponsored retirement plan m 5305–SIMPLE Savings Incentive Match account for each person covered by the plan.
generally are deductible as discussed later Plan for Employees of Small Em- Benefits are based only on amounts contrib-
under Deduction Limits. ployers (SIMPLE) (for Use With a uted to or allocated to each account.
Employer contributions that must be Designated Financial Institution) There are three types of defined contri-
capitalized. You cannot currently deduct bution plans: profit-sharing plans, stock bonus
your employer contributions to a retirement m 5500–EZ Annual Return of One- plans, and money purchase pension plans.
plan (or any other expenses) if the uniform Participant (Owners and Their
capitalization rules apply to you. If you are Spouses) Retirement Plan Profit-sharing plan. This is a plan that lets
subject to these rules, you must capitalize See chapter 21 for information about get- your employees or their beneficiaries share
(include in the basis of certain property or in ting these forms and publications. in the profits of your business. The plan must
inventory costs) your contributions as dis- have a definite formula for allocating the
cussed in chapter 7 of this publication. contributions made to the plan among the
participating employees and for distributing
Kinds of plans. Retirement plans are either: the funds in the plan.
• Qualified plans. This includes retirement Qualified Plans Stock bonus plan. This type of plan is sim-
ilar to a profit-sharing plan, but it can only be
plans for small businesses, including the
self-employed (such as HR–10 (Keogh) A qualified retirement plan is a written plan set up by a corporation. Benefits are payable
plans, SIMPLE plans, and simplified em- that you can establish for the exclusive ben- in stock of the employer.
ployee pensions (SEPs)), or efit of your employees and their beneficiaries.
Contributions to the plan may be made by Money purchase pension plan. Under this
• Nonqualified plans. you, or by both you and your employees. If plan, your contributions are a stated amount,
your plan meets the qualification require- or are based on a stated formula that is not
Also, in general, individuals who are em- ments, you generally can deduct your contri- subject to your discretion. For example, your
ployed can set up and contribute to individual butions to the plan when you make them, formula could be 10% of each participating
retirement arrangements (IRAs). except for any amount capitalized. For more employee's compensation. Your contribu-
See Table 17–1 for information about the information, get Publication 560. tions to the plan are not based on your profits.
rules for contributions to IRAs, simplified em- Your employees generally are not taxed
ployee pension (SEP-IRA) plans, SIMPLE on your contributions or increases in the
plans, and Keogh plans. plan's assets until they are distributed to
Defined Benefit Plans
them. However, certain loans made from These are any plans that are not defined
qualified employer plans are treated as taxa- contribution plans. In general, a qualified de-
Topics fined benefit plan must provide for set bene-
This chapter discusses: ble distributions. For more information, get
Publication 575. fits. Your contributions to the plan are based
on actuarial assumptions. Generally, you will
• Qualified plans need continuing professional help to have a
• Kinds of qualified plans Qualification requirements. To be a quali- defined benefit plan.
• Plans for the self-employed fied plan, the plan must meet many require-
ments. Among these are rules concerning: Plan Approval
• Keogh plans
The Internal Revenue Service (IRS) will issue
• Simplified employee pensions (SEPs) • Who must be covered by the plan, a determination or opinion letter regarding a
• Salary reduction arrangements plan's qualification. The determination or
• How contributions to the plan are to be opinion of the IRS will be based on how the
• SIMPLE retirement plans invested, plan is written, not on how it operates.
• Nonqualified plans • How contributions to the plan and bene- You are not required to request a deter-
fits under the plan are to be determined, mination or opinion letter to get all the tax
• Individual retirement arrangements benefits of a plan. But, if your plan does not
(IRAs) and
have a determination letter, you may want to
• How much of an employee's interest in request one to ensure that your plan meets
the plan must be guaranteed (vested). the requirements for tax benefits.
Useful Items Because requesting a determination,
You may want to see: opinion, or ruling letter can be complex, you
For more information, get Publication 560. may need professional help. Also, the IRS
charges a fee for issuing these letters. Attach
Publication Form 8717, User Fee for Employee Plan De-
More than one job. If you are self-employed termination Letter Request, to your determi-
m 533 Self-Employment Tax and also work for someone else, you can nation letter application.
participate in retirement plans for both jobs.
m 560 Retirement Plans for Small Busi-
Generally, your participation in a retirement Master and prototype plans. It may be
ness (SEP, Keogh, and SIMPLE
plan for one job does not affect your partic- easier for you to adopt an IRS-approved ex-
Plans)
ipation in a plan for the other job. However, isting master or prototype retirement plan
m 590 Individual Retirement Arrange- if you have an IRA, you might not be permit- than to set up your own original plan. Master
ments (IRAs) (Including ted to deduct some or all of your IRA contri- and prototype plans can be provided by the
SEP-IRAs and SIMPLE IRAs) butions. following sponsoring organizations:
Your deduction for IRA contributions might
m 15 Employer's Tax Guide be limited if you also participate in a SEP-IRA.
(Circular E)
• Trade or professional organizations,
See Publication 560. In addition, your IRA
deduction might be limited because you (or • Banks (including some savings and loan
Form (and Instructions) your spouse) are covered by an employer's associations and federally insured credit
retirement plan and your income is above a unions),
m W–2 Wage and Tax Statement certain amount. See Publication 590. • Insurance companies, or
m 5305–SEP Simplified Employee • Mutual funds.
Page 82 Chapter 17 Retirement Plans
Table 17-1. Key Retirement Plan Rules
Type
of Last Date for When To Begin
1
Plan Contribution Maximum Contribution Distributions
IRA Due date of contributor’s Smaller of $2,000 or taxable compensation April 1 of year after year IRA
income tax return (NOT owner reaches age 701⁄2
including extensions)
SEP- Due date of employer’s return Smaller of $30,000 or 15%2 of participant’s taxable April 1 of year after year
3
IRA (including extensions) compensation participant reaches age 701⁄2
SIMPLE Elective employer Employee: Salary reduction contribution, up to $6,000. April 1 of year after year
contributions: 30 days participant reaches age 701⁄2
following the end of the
month with respect to which
the contributions are to be
made.
IRA Matching contributions or Employer contribution: either dollar-for-dollar matching
nonelective contributions: contributions, up to 3% of employee’s compensation, or
3
Due date of employer’s return fixed nonelective contributions of 2% of compensation
(including extensions)
Keogh Due date of employer’s return Defined Contribution Plans Generally, April 1 of year that
(including extensions) follows the later of the year
Employee Self-Employed Individual participant reaches age 701⁄2
or the year in which he or she
Money Purchase–Smaller of Money Purchase–Smaller of retires
$30,000 or 25% of $30,000 or 25% of self-
employee’s taxable employed participant’s
3 4
compensation taxable compensation
Profit-Sharing–Smaller of Profit-Sharing–Smaller of
$30,000 or 25% of $30,000 or 25% of self-
employee’s taxable employed participant’s
3 4
compensation taxable compensation
1
Distributions of at least the required minimum amount must be made each year if the entire balance is not distributed.
2
Net earnings from self-employment must take the contribution into account.
3
Generally limited to $160,000.
4
Compensation is before adjustment for this contribution.
Adoption of a master or prototype plan does Defined contribution plans. The deduction
not mean that your plan is automatically
Keogh Plans limit for a defined contribution plan depends
qualified. It must still meet all of the quali- Only a sole proprietor or a partnership (not a on whether it is a profit-sharing plan or a
fication requirements stated in the tax law. partner) can set up a Keogh plan. For plan money purchase pension plan.
purposes, a self-employed person is both an Profit-sharing plan. Your deduction for
employer and an employee. It is not neces- contributions to a profit-sharing plan cannot
sary to have employees besides yourself to be more than 15% of the compensation from
set up a Keogh plan. The plan must be for the the business paid (or accrued) during the year
exclusive benefit of employees or their bene- to the common-law employees participating
Retirement Plans for ficiaries. You generally can deduct contribu- in the plan. You must reduce this 15% limit in
tions to the plan. Contributions are not taxed figuring the deduction for contributions you
Small Businesses to your employees until plan benefits are dis- make for your own account. See Deduction
tributed to them. of contributions for yourself, later.
If you are the owner of a small business (in-
Money purchase pension plan. Your
cluding a self-employed person), you can set
See the glossary near the end of deduction for contributions to a money pur-
up certain qualified retirement plans. See
Qualified Plans, earlier. These plans gener-
TIP Publication 560 for the definition of chase pension plan is generally limited to
employer, employee, and common- 25% of the compensation from the business
ally are called Keogh or HR–10 plans. You
law employee. paid during the year to a participating
also can set up a less complicated tax-
common-law employee. You must reduce this
advantaged retirement plan. See Simplified
25% limit in figuring the deduction for contri-
Employee Pension (SEP), later.
butions you make for yourself, as discussed
Beginning in 1997, a small employer can
later.
also set up a SIMPLE retirement plan. See Deduction Limits
SIMPLE Retirement Plans, after the Simpli-
fied Employee Pension (SEP) discussion. The limit on your deduction for your contribu- Defined benefit plans. The deduction for
tions to a Keogh plan depends on the kind contributions to a defined benefit plan is
of plan you have. based on actuarial assumptions and compu-
Chapter 17 Retirement Plans Page 83
tations. Consequently, an actuary must figure rate to figure your maximum deduction for Deduction Worksheet for Self-Employed
your deduction limit. contributions for yourself. Step 1:
Annual compensation limit. You gen- Enter the contribution rate shown in line
In figuring the deduction for contribu- erally cannot take into account more than 3 above ................................................ 0.0950
! tions, you cannot take into account
CAUTION any contributions or benefits that ex-
$160,000 of your compensation in figuring
your contribution to a defined contribution
Step 2:
Enter your net earnings (net profit)
plan. from: line 31, Schedule C (Form 1040);
ceed the limits discussed under Limits on line 3, Schedule C–EZ (Form 1040);
Contributions and Benefits in Publication 560. line 36, Schedule F (Form 1040); or
The deduction limit for contributions to a For employees in a collective bar- line 15a, Schedule K–1 (Form 1065) .. $200,000
defined benefit plan may be greater than the TIP gaining unit covered by a plan for Step 3:
defined contribution plan limits just described, which the $160,000 limit does not Enter your deduction for self-
but actuarial calculations are needed to de- apply for the plan year beginning in 1997, the employment tax from line 26, Form
termine the amount. For more information compensation limit is $250,000. 1040 ..................................................... $6,733
Step 4:
about these plans, see Kinds of Plans in Subtract step 3 from step 2 and enter
Publication 560. Figuring your deduction. Use the following the result .............................................. $193,267
worksheet to find the reduced contribution Step 5:
Multiply step 4 by step 1 and enter the
rate for yourself. Make no reduction to the
Deduction of contributions for yourself. result .................................................... $18,360
contribution rate for any common-law em- Step 6:
To take a deduction for contributions you ployees.
make for yourself to a plan, you must have Multiply $160,000 by your plan contri-
bution rate. Enter the result but not
net earnings from the trade or business for more than $30,000 .............................. $16,800
Rate Worksheet for Self-Employed
which the plan was established. Step 7:
Limit on deduction. If the Keogh plan is 1) Plan contribution rate as a decimal (for Enter the smaller of step 5 or step 6.
a profit-sharing plan, your deduction for example, 101/2% would be 0.105) ....... This is your maximum deductible
2) Rate in line 1 plus 1 (for example, contribution. Enter your deduction on
yourself is limited to the smaller of $30,000 0.105 plus 1 would be 1.105) .............
or 13.0435% (15% reduced as discussed line 28, Form 1040 .............................. $16,800
3) Self-employed rate as a decimal (di-
below) of your net earnings from the trade or vide line 1 by line 2) ...........................
business that has the plan. If the plan is a
Now that you have your self-employed When to make contributions. To take a
money purchase plan, the deduction is limited
rate, you can figure your maximum deduction deduction for contributions for a particular
to the smaller of $30,000 or 20% (25% re-
for contributions for yourself by completing year, you must make the contributions not
duced as discussed below) of your net
the following steps: later than the due date, plus extensions, of
earnings.
your tax return for that year.
Net earnings. Your net earnings must
be from self-employment in a trade or busi- Deduction Worksheet for Self-Employed
ness in which your personal services are a Step 1: More information. See Publication 560 for
material income-producing factor. If you are Enter the contribution rate shown in line more information on retirement plans for small
a partner who only contributed capital, and 3 above ................................................ business owners, including the self-
Step 2: employed. It also discusses the reporting
who did not perform personal services, you Enter your net earnings (net profit)
cannot participate in the partnership's plan. from: line 31, Schedule C (Form 1040);
forms that must be filed for these plans.
Your net earnings do not take into account line 3, Schedule C–EZ (Form 1040);
tax-exempt income (or deductions related to line 36, Schedule F (Form 1040); or
that income) other than foreign earned in- line 15a, Schedule K–1 (Form 1065) .. $ Simplified Employee
come and foreign housing cost amounts. Step 3:
Your net earnings are your business gross Enter your deduction for self- Pension (SEP)
employment tax from line 26, Form A simplified employee pension (SEP) is a
income minus allowable deductions from that 1040 ..................................................... $
business. Allowable deductions include con- written plan that allows you to make deduct-
Step 4:
tributions to the plan for your common-law Subtract step 3 from step 2 and enter ible contributions toward your own and your
employees along with your other business the result .............................................. $ employees' retirement without getting in-
expenses. Step 5: volved in more complex retirement plans. A
If you are a partner other than a limited Multiply step 4 by step 1 and enter the corporation also can have a SEP and make
partner, your net earnings include your dis- result .................................................... $ deductible contributions toward its employ-
Step 6: ees' retirement. But some advantages avail-
tributive share of the partnership income or Multiply $160,000 by your plan contri-
loss (other than separately computed items able to Keogh and other qualified plans, such
bution rate. Enter the result but not
such as capital gains and losses) and any more than $30,000 .............................. $ as the special tax treatment that may apply
guaranteed payments you receive from the Step 7: to lump-sum distributions, do not apply to
partnership. If you are a limited partner, your Enter the smaller of step 5 or step 6. SEPs.
net earnings include only guaranteed pay- This is your maximum deductible Under a SEP, you make the contributions
ments you receive for services rendered to contribution. Enter your deduction on to an individual retirement arrangement
line 28, Form 1040 .............................. $ (called a SEP-IRA in this chapter), which is
or for the partnership. For more information,
see Partners under Who Must Pay Self- owned by you or your common-law employee.
Employment Tax in Publication 533. Example. You are a self-employed SEP-IRAs are set up for, at a minimum,
Net earnings do not include income farmer and have employees. The terms of each qualifying employee. A SEP-IRA may
passed through to shareholders of S corpo- your plan provide that you contribute 101/2% have to be set up for a leased employee, but
rations. (.105) of your compensation (defined earlier) need not be set up for an excludable em-
Adjustments. You must reduce your net and 101/2% of your common-law employees' ployee. For more information, get Publication
earnings by the income tax deduction for compensation. Your net earnings from line 560.
one-half of your self-employment tax. Also, 36, Schedule F (Form 1040) are $200,000. In Form 5305–SEP. You may be able to use
net earnings must be reduced by the de- figuring this amount, you deducted your Form 5305–SEP in setting up your SEP.
duction for contributions you make for your- common-law employees' pay of $100,000 and Publication 560 has a reproduction of the
self. This reduction is made indirectly, as ex- contributions for them of $10,500 (101/2% x form.
plained next. $100,000). You figure your self-employed rate
Net earnings reduced by adjusting and maximum deduction for employer contri- Contribution limits. Contributions you make
contribution rate. You must reduce net butions on behalf of yourself as follows: for a year to a common-law employee's
earnings by your deduction for contributions SEP-IRA cannot exceed the smaller of 15%
for yourself. The deduction and the net Rate Worksheet for Self-Employed of the employee's compensation or $30,000.
earnings depend on each other. You can 1) Plan contribution rate as a decimal (for Compensation, for this purpose, generally
make the adjustment to your net earnings in- example, 101/2% would be 0.105) ....... 0.105 does not include employer contributions to the
directly by reducing the contribution rate 2) Rate in line 1 plus 1 (for example, SEP.
called for in the plan and using the reduced 0.105 plus 1 would be 1.105) ............. 1.105 Annual compensation limit. You gen-
3) Self-employed rate as a decimal (di- erally cannot consider the part of compen-
vide line 1 by line 2) ........................... 0.0950 sation of an employee that is over $160,000
Page 84 Chapter 17 Retirement Plans
when you figure your contributions limit for Salary Reduction Arrangement the deferral amount, the employer multiplies
that employee. Jim's salary of $30,000 by 9.0909%, the re-
A SEP can include a salary reduction (elec-
duced rate equivalent of 10% to get the
For employees in a collective bar- tive deferral) arrangement. Under the ar-
deferral amount of $2,727.27. (This method
TIP gaining unit for which the $160,000 rangement, employees can elect to have you
is the same one that you, as a self-employed
limit does not apply, the compen- contribute part of their pay to their SEP-IRAs.
person, use to figure the contributions you
sation limit is $250,000. The income tax on the part contributed is
make on your own behalf.) See Rate Work-
More than one plan. If you also contrib- deferred. This choice is called an elective
sheet for Self Employed, earlier in the chap-
ute to a defined contribution retirement plan, deferral, which remains tax free until distrib-
ter.
annual additions to an account are limited to uted (withdrawn).
On Jim's Form W-2, the employer shows
the lesser of (1) $30,000 or (2) 25% of the total wages of $27,272.73 ($30,000 minus
Beginning in January 1997, an em-
participant's compensation. When you figure
these limits, your contributions to all of the ! ployer is no longer allowed to estab-
CAUTION lish a SARSEP. However, participants
$2,727.27), social security wages of $30,000,
and Medicare wages of $30,000. Jim reports
plans must be added. Since a SEP is con- $27,272.73 as wages on his individual income
in a SARSEP that was established before
sidered a defined contribution plan for pur- tax return.
1997 (including employees hired after 1996)
poses of these limits, your contributions to a If the employer elects to treat deferrals as
can continue to elect to have their employer
SEP must be added to your contributions to compensation under the salary reduction ar-
contribute part of their pay to the plan.
defined contribution plans. rangement, Jim's deferral amount would be
This election is available only if:
Reporting on Form W–2. Do not include $3,000 ($30,000 x 10%) because, in this
SEP contributions on Form W–2 unless there case, the employer uses the rate called for
• At least 50% of your employees eligible
are contributions over the limit that applies under the arrangement (not the reduced rate)
to participate choose the salary reduction
or there are contributions under a salary re- to figure the deferral and the ADP test. On
arrangement,
duction arrangement. Jim's Form W-2, the employer shows total
Contributions for yourself. The annual • You had 25 or fewer employees who wages of $27,000 ($30,000 minus $3,000),
limits on your contributions to a common-law were eligible to participate in the SEP (or social security wages of $30,000, and Medi-
employee's SEP-IRA also apply to contribu- would have been eligible to participate if care wages of $30,000. Jim reports $27,000
tions you make to your own SEP-IRA. How- you had maintained a SEP) at any time as wages on his return.
ever, special rules apply when you figure your during the preceding year, and In either case, the maximum deductible
maximum deductible contribution. See De- • The deferral each year by each eligible contribution would be $3,913.05 ($30,000 x
duction of contributions for yourself, later. highly compensated employee (as de- 13.0435%).
fined in Publication 560) as a percentage For more information on employer with-
Deduction limits. The most you can deduct of pay (deferral percentage) is no more holding requirements, see Publication 15.
for employer contributions for common-law than 125% of the average deferral per- For more information on SEPs, see Pub-
employees is 15% of the compensation paid centage (ADP) of all nonhighly compen- lication 560.
to them during the year from the business that sated employees eligible to participate
has the plan. (the ADP test). You generally cannot
Deduction of contributions for yourself. consider compensation of an employee
When figuring the deduction for employer in excess of $160,000 in figuring an em-
contributions made to your own SEP-IRA, ployee's deferral percentage. SIMPLE Retirement
compensation is your net earnings from self-
employment, which does not include: Limits on elective deferrals. In general, the Plans
total income an employee can defer under a A SIMPLE plan is a written salary reduction
1) The deduction allowed to you for one- salary reduction arrangement included in a arrangement that allows a small business (an
half of the self-employment tax, and SEP and certain other elective deferral ar- employer with 100 or fewer employees) to
2) The deduction for contributions on behalf rangements for 1997 is limited to the lesser make elective contributions to a simple re-
of yourself to the plan. of 15% of the participant's compensation (as tirement account on behalf of each eligible
defined in Publication 560) or $9,500. This employee. An eligible employer is not al-
The deduction amount for (2), above, and limit applies only to the amounts that repre- lowed to maintain another retirement plan.
your compensation (net earnings) are each sent a reduction from the employee's pay, not
dependent on the other. For this reason, the to any contributions from employer funds.
deduction amount for (2) is figured indirectly
Setting Up a SIMPLE Plan
by reducing the contribution rate called for in Employment taxes. Elective deferrals, not If an employer has 100 or fewer employees
your plan. This is done by using the Rate exceeding the ADP test, are not subject to (who received at least $5,000 of compen-
Worksheet for Self-Employed, shown earlier income tax in the year of deferral, but are in- sation from the employer for the preceding
in the chapter. cluded in wages for social security, Medicare, year), the employer may be able to set up a
and unemployment (FUTA) tax purposes. SIMPLE retirement plan on behalf of eligible
employees. The plan can be either:
SEP and profit-sharing plans. If you also
contributed to a qualified profit-sharing plan, Reporting SEP Contributions • An IRA for each eligible employee, or
you must reduce the 15% deduction limit for
that plan by the allowable deduction for con-
on Form W–2 • Part of a qualified cash or deferred ar-
tributions to the SEP-IRAs of those partic- Your SEP contributions are excluded from rangement (a 401(k) plan).
ipating in both the SEP plan and the profit- your employees' income. Unless there are
contributions above the limit that applies, or The SIMPLE plan must be the only retirement
sharing plan.
unless there are contributions under a salary plan of the employer to which contributions
reduction arrangement, do not include these are made, or benefits are accrued, for service
SEP and other qualified plans. If you also in any year beginning with the year the SIM-
contributions in your employees' wages on
contributed to any other type of qualified plan, PLE plan becomes effective.
Form W–2, for income, social security, or
treat the SEP as a separate profit-sharing Under the qualified salary reduction ar-
Medicare tax purposes. Your SEP contribu-
plan for purposes of applying the overall 25% rangement the employer's contributions on
tions under a salary reduction arrangement
deduction limit described in section 404(h)(3) behalf of the employee (elective deferrals) are
are included in your employees' Form W–2
of the Internal Revenue Code. stated as a percentage of the employee's
wages for social security and Medicare tax
purposes only. compensation and are limited to $6,000. The
Employee contributions. Participants can dollar limit is indexed for inflation in $500 in-
also make contributions of up to $2,000 to Example. Jim's salary reduction ar- crements.
their SEP-IRAs independent of employer's rangement calls for a deferral contribution Under the qualified salary reduction ar-
SEP contributions. The portion of the IRA rate of 10% of his salary to be contributed by rangement the employer is also required to
contributions that is deductible may be re- his employer as an elective deferral to Jim's make either a matching contribution to the
duced or eliminated because the participant SEP-IRA. Jim's salary for the year is $30,000 simple retirement account on behalf of each
is covered by an employer retirement plan (before reduction for the deferral). The em- employee who elects to make elective defer-
(the SEP plan). See Publication 590 for de- ployer did not elect to treat deferrals as com- rals, or a nonelective contribution to the sim-
tails. pensation under the arrangement. To figure ple retirement account on behalf of each eli-
Chapter 17 Retirement Plans Page 85
gible employee. These two methods for Employee elective deferral limit. The Where to find out more. This chapter does
determining the employer contribution formula amount that the employee elects to have the not contain all the rules and exceptions that
are explained under Dollar-for-dollar em- employer contribute to a simple retirement apply to a SIMPLE-IRA or a SIMPLE 401(k)
ployer matching contributions and 2% none- account on his or her behalf (elective defer- plan. If you need more information, see Pub-
lective contributions. rals) must not exceed $6,000 for any year and lication 560 for additional information, includ-
Contributions to a SIMPLE Plan are must be expressed as a percentage of the ing excludable employees and reporting and
deductible by the employer and are excluded employee's compensation. disclosure requirements. You may also get
from the gross income of the employee. the following forms and their instructions:
Dollar-for-dollar employer matching con- • 5304–SIMPLE, Savings Incentive Match
Definitions tributions. The employer is required to Plan for Employees of Small Employers
match all eligible employees' elective contri- (SIMPLE) (Not Subject to the Designated
butions, on a dollar-for-dollar basis, up to 3% Financial Institution Rules), and
SIMPLE retirement account. The simple
of the employee's compensation.
retirement account of an eligible employee is • 5305–SIMPLE, Savings Incentive Match
an individual retirement plan that can be ei- If the employer elects a matching Plan for Employees of Small Employers
ther an individual retirement account or an
individual retirement annuity, as described in ! contribution that is less than 3%, the
CAUTION percentage must not be less than
(SIMPLE) (for Use With a Designated
Financial Institution).
Publication 590. Employees' rights to the 1%. The employer must notify the employees
contributions cannot be forfeited. of the lower match within a reasonable time
A SIMPLE plan can also be set up as a before the employee's 60-day election period
401(k). See Publication 560 for information for the calendar year. A percentage less than
on how to adopt a SIMPLE plan as part of a
401(k) plan.
3% cannot be elected for more than two years Nonqualified Plans
during a five-year period. You can deduct contributions made to a
nonexempt trust or premiums paid under a
Qualified salary reduction arrangement. nonqualified annuity plan. Your employees
An employee eligible to participate in the 2% nonelective contributions. In lieu of the
dollar-for-dollar matching contributions, the generally must include the contributions or
SIMPLE plan may elect (during the 60-day premiums in their gross income.
period before the beginning of any year) to employer may elect to make nonelective
contributions of 2–percent of compensation Deduct your contributions to the plan in
have the employer make contributions (called the tax year in which any of your employees
elective deferrals) to the simple retirement on behalf of each eligible employee. Only
$160,000 of the employee's compensation must include an amount of the contributions
account on his or her behalf. An employee in their gross income. You can deduct contri-
who so elects may also stop making elective can be taken into account to figure the con-
tribution limit. butions only if you maintain separate ac-
deferrals at any time during the year. The counts for each participating employee.
employer is required to match the employee's If the employer elects this 2% contri-
contributions or to make nonelective contri-
butions. No other types of contributions are ! bution formula, he or she must notify
CAUTION the employees timely (within the em-
Transferable interest. When an employee's
interest in your contributions or premiums for
allowed under the qualified salary reduction ployee's 60-day election period described that employee is transferable, the employee
arrangement. earlier). must include those amounts in gross income
for the tax year in which you make them. This
Eligible employer. Any employer who has rule also applies if the employee's interest is
100 or fewer eligible employees in any year Time limits for contributing funds. The not subject to a substantial risk of forfeiture
can establish a SIMPLE plan provided the employer is required to contribute the em- (that is, there is not much of a risk that the
employer does not maintain another ployee's deferral to the SIMPLE account employee will lose his or her interest) when
employer-sponsored retirement plan. within 30 days after the end of the month for you make contributions or pay premiums for
which the payments to the employee were that employee.
deferred. The employer's matching contribu-
Eligible employee. Any employee who re- tions to the SIMPLE plan, however, are re-
ceives at least $5,000 in compensation during Nontransferable interest. If, when you
quired to be made by the tax return filing make the contributions, the employee's inter-
any 2 years preceding the plan year can elect deadline, including extensions, for the taxable
to have his or her employer make contribu- est in the trust or in the value of the annuity
year that begins with or within the calendar contract is not transferable and is subject to
tions to a simple retirement account under a year for which the contributions are made.
qualified salary reduction arrangement. The a substantial risk of forfeiture, the employee
employee must be expected to earn at least does not include that interest in gross income
$5,000 during the calendar year. until the tax year in which the interest be-
Distributions (Withdrawals) comes transferable or is no longer subject to
Distributions from a SIMPLE retirement ac- a substantial risk of forfeiture.
Compensation. Compensation for employ- count are subject to IRA rules and are
ees is the total amount of wages required to includible in income when withdrawn. Tax-
be reported on Form W-2, plus elective free rollovers can be made from one SIMPLE
deferrals. For the self-employed individual,
compensation is the net earnings from self-
account into another SIMPLE account or into
an IRA. Early withdrawals generally are
Individual Retirement
employment (without regard to any contribu-
tion made to the SIMPLE plan for the self-
subject to a 10% (or 25%) penalty.
See Publication 590 for information about
Arrangements (IRAs)
employed individual). You can set up and make contributions to an
IRA rules, including those on the tax treat-
individual retirement arrangement (IRA) if you
ment of distributions, rollovers, required dis-
Any SIMPLE elective deferrals relat- received taxable compensation during the
tributions, and income tax withholding.
TIP ing to an employee's wages under a Exceptions. A rollover to an IRA can be year and were not age 701/2 by the end of the
salary reduction arrangement are in- made tax free only after a 2-year participation
year.
cluded in the Form W-2 wages for social se- in the SIMPLE plan. A 25% penalty for early
curity and Medicare tax purposes only. withdrawal applies if funds are withdrawn New IRA rules. The Taxpayer Relief Act of
within 2 years of beginning participation. 1997 amended the IRA rules and created new
types of IRAs that will take effect in 1998. The
Contribution Limits following discussion does not reflect these tax
Contributions are made up of employee Employee notification. The employer who law changes that include the creation of a
elective deferrals and employer contributions. sets up a SIMPLE plan must notify each eli- new tax-free, nondeductible “Roth IRA.” For
The employer is required to satisfy one of two gible employee of his or her opportunity to more information, see Publication 590.
contribution formulas: the matching contribu- make contributions under the plan. The em-
tion formula or a two-percent nonelective ployer must also notify all eligible employees Compensation. Compensation (for IRA
contribution. No other contributions can be of the contribution alternative that was cho- purposes) includes taxable wages, salaries,
made to the SIMPLE plan. These contribu- sen. This information must be provided before commissions, bonuses, tips, professional
tions, which are deductible by the employer, the beginning of the employee's 60-day fees, and other amounts received for provid-
must be made timely. election period. ing personal services. Compensation also in-
Page 86 Chapter 17 Retirement Plans
cludes taxable alimony and separate mainte- cludes the rule that only registered ultimate
nance payments. vendors can claim a credit or refund for excise
The IRS treats as compensation any taxes paid on diesel fuel or kerosene used Fuels Used on a Farm
amount properly shown in box 1 (Wages, tips, on a farm for farming purposes.
other compensation) of Form W–2, provided for Farming Purposes
that amount is reduced by any amount shown You may be eligible to claim a credit or refund
in box 11 (Nonqualified plans). of excise taxes included in the price of fuel
Self-employed. If you are self-employed
(a sole proprietor or partner), compensation Important Reminders used on a farm for farming purposes. This
applies if you are the owner, tenant, or oper-
is your net earnings from your trade or busi- ator of a farm. You may claim only a credit for
ness (provided your personal services are a Dyed diesel fuel. Dyed diesel fuel that is the tax on gasoline, special motor fuels, and
material income-producing factor), reduced used for a nontaxable purpose (such as farm compressed natural gas used on a farm for
by the deduction for contributions on your use) is not taxed. However, the excise tax and farming purposes. You may claim either a
behalf to retirement plans and the deduction a penalty will be imposed on users of dyed credit or refund for the tax on aviation fuel
allowed for one-half of your self-employment diesel fuel who know or have reason to know used on a farm for farming purposes. You
tax. that they used the fuel for a taxable purpose. cannot claim a credit or refund for the tax on
Compensation does not include any of the You cannot use dyed diesel fuel in a regis- undyed diesel fuel used on a farm for farming
following: tered highway vehicle. For information about purposes or for any use of dyed diesel fuel.
registered highway vehicles, see How To Buy The term special motor fuels includes
• Income received from property (i.e., Diesel Fuel Tax Free, later. such products as benzol, benzene, naphtha,
rental, interest, and dividend income). liquid petroleum gas, casing head and natural
• Pension or annuity income, and deferred Undyed diesel fuel. A registered vendor that gasoline. It also includes any other liquid
compensation. sells undyed diesel fuel for use on a farm for other than gasoline, diesel fuel, kerosene, gas
farming purposes is allowed to claim a refund oil, and fuel oil. Treat as special motor fuels
• Foreign earned income and housing cost or credit of the excise tax on that fuel. Farm- products called kerosene, gas oil, or fuel oil
amounts that you exclude from income. ers cannot claim a refund or credit for the that do not fall within certain specifications.
• Any other amounts that you exclude from excise tax paid on that fuel. See How To Buy For more information, see Publication 510.
income. Diesel Fuel Tax Free, later.
Farm. A farm includes livestock, dairy, fish,
Contributions. The most you can contribute poultry, fruit, fur-bearing animals, and truck
for any year to your IRA is the smaller of: farms, orchards, plantations, ranches, nurs-
• $2,000, or
Introduction eries, ranges, and feed yards for fattening
cattle. It also includes structures such as
You may be eligible to claim a credit on your greenhouses used primarily for raising agri-
• Your compensation that you must include income tax return for federal excise tax paid cultural or horticultural commodities. A fish
in income for the year. on certain fuels. You may also be eligible to farm is an area where fish are grown or raised
claim a quarterly refund of the fuel taxes — not merely caught or harvested. You must
Deductible contributions. Generally, you during the year, instead of waiting to claim a operate the farm for profit. It must be located
can take a deduction for the contributions that credit on your income tax return. in any of the 50 states or the District of
you are allowed to make to your IRA. How- For information about credits and refunds Columbia.
ever, if either you or your spouse is covered for fuels used for nontaxable purposes not
by an employer retirement plan at any time discussed in this chapter, see Publication
Farming purposes. You use fuel on a farm
during the year, your allowable IRA deduction 378.
for farming purposes if you use it:
may be less than your contribution. It may be
reduced or eliminated, depending on your fil- 1) To cultivate the soil or to raise or harvest
ing status and the amount of your income. Topics
This chapter discusses: any agricultural or horticultural commod-
ity.
Nondeductible contributions. Although
your deduction for IRA contributions may be • Fuels used for farming purposes 2) To raise, shear, feed, care for, train, or
reduced or eliminated, you can still make • How to buy diesel fuel tax free manage livestock, bees, poultry, fur-
contributions of up to $2,000 or 100% of your bearing animals, or wildlife.
compensation, whichever is less. Often the • Fuels used in off-highway business use
3) To operate, manage, conserve, improve,
difference between your total permitted con- • How to claim an excise tax credit or re- or maintain your farm, tools, or equip-
tributions and your total deductible contribu- fund ment.
tions, if any, is your nondeductible contribu-
tion. • Including the credit or refund in income 4) To handle, dry, pack, grade, or store any
For details on these rules and other IRA raw agricultural or horticultural commod-
rules (including the new tax law changes), get ity.
Publication 590. Useful Items For this use to qualify, you must have
You may want to see: produced more than half the commodity
that was so treated during the tax year.
Commodity means a single raw product.
Publication
For example, apples and peaches are
two separate commodities. The more-
m 378 Fuel Tax Credits and Refunds than-one-half test applies separately to
18. m 510 Excise Taxes For 1998 each commodity.
5) To plant, cultivate, care for, or cut trees,
Excise Taxes Form (and Instructions) or to prepare (other than sawing into
lumber, chipping, or other milling) trees
m 4136 Credit for Federal Tax Paid on for market, but only if the planting, etc.,
Fuels is incidental to your farming operations.
m 8849 Claim for Refund of Excise Taxes
Your tree operations are incidental only
if they are minor in nature when com-
Important Change Publication 349, Federal Highway Use pared to the total farming operations.
Tax on Heavy Vehicles, is no longer pub-
for 1998 lished. Information previously contained in If another person, such as a neighbor or
that publication is in the instructions for Form custom operator, performs a service for any
Excise tax on kerosene. Effective July 1, 2290, Heavy Vehicle Use Tax Return. of the purposes included in (1) or (2) for you
1998, the excise tax rules that apply to diesel See chapter 21 for information about get- on your farm, you can claim the credit or re-
fuel will generally apply to kerosene. This in- ting these publications and forms. fund for the fuel (other than diesel fuel) so
Chapter 18 Excise Taxes Page 87
used. If the other person performs any other
services for you on your farm for purposes
Table 18-1. Sample Waiver
not included in (1) or (2), no one can claim the
credit or refund for fuel used on your farm for WAIVER OF RIGHT TO CREDIT OR REFUND
those other services.
I hereby waive my right as owner, tenant, or operator of a farm located at:
Example Farm owner Nancy Blue hired
custom operator Harry Steele to prepare the
soil on her farm for planting. Under the con- Address
tract, she paid for 200 gallons of gasoline to
be used by Harry in cultivating the soil on her to receive credit or refund for fuel used by:
farm. In addition, she hired Contractor Brown
to pack and store her apple crop. Brown
bought 25 gallons of gasoline to use in pack- Name of Applicator
ing the apples and was not reimbursed by
Nancy. She can claim the credit for the 200
gallons of gasoline used by Harry on her farm on the farm in connection with cultivating the soil, or the raising or harvesting of any
because it qualifies as fuel used on the farm agricultural or horticultural commodity. This waiver applies to fuel used during the
for farming purposes. No one can claim a period:
credit for the 25 gallons because they were
not used for a farming purpose listed in (1) Both Dates Inclusive
or (2) earlier.
Buyer of fuel. If doubt exists whether the I understand that by signing this waiver, I give up my right to claim any credit or
owner, tenant, or the operator of the farm refund for fuel used by the aerial applicator or other applicator of fertilizer or other
bought the fuel, determine who actually bore substances during the period indicated, and I acknowledge that I have not previously
the cost of the fuel. Also, if you sell fuel to a claimed any credit for that fuel.
neighbor who uses it on a farm for farming
purposes, your neighbor may be able to claim
the credit on the fuel. Your neighbor (not you) Signature
bore the cost of the fuel.
1) Sign an irrevocable statement that you • Off the farm, such as on the highway or You must give the vendor a signed certif-
knowingly give up your right to the credit in noncommercial aviation, even if the icate, which should be substantially the same
or refund. fuel is used in transporting livestock, as the sample certificate shown in Table
feed, crops, or equipment. 18–2. You may include the certificate as part
2) Identify clearly the period that the waiver of any business records you normally use to
covers. The effective period of your • For personal use, such as mowing the document a sale and purchase.
waiver cannot extend beyond the last lawn. You cannot claim a credit or refund for the
day of your tax year in which the fuel was excise tax on diesel fuel used on a farm for
used. • In processing, packaging, freezing, or
farming purposes.
canning operations.
3) Sign the waiver before the applicator
files his or her claim. Once you sign the • In processing crude gum into gum spirits Registered highway vehicle. A highway
waiver, you cannot revoke it. You may of turpentine or gum resin or in process- vehicle is any self-propelled vehicle designed
authorize an agent, such as a cooper- ing maple sap into maple syrup or maple to carry a load over public highways, whether
ative, to sign the waiver for you. sugar. or not also designed to perform other func-
Page 88 Chapter 18 Excise Taxes
Table 18-2. Sample Exemption Certificate than over the public highway for
certain operations (construction,
EXEMPTION CERTIFICATE manufacturing, mining, processing,
(To support vendor’s claim for credit or payment under section 6427 of the Internal Revenue Code) farming, drilling, timbering, or simi-
lar operations), and
b) The vehicle's use in carrying this
Name, Address, and Employer Identification Number of Seller load over public highways is sub-
stantially limited or impaired be-
The undersigned buyer (“Buyer”) hereby certifies the following under penalties of cause of its design. To determine if
perjury: the use is substantially limited or
impaired, you can take into account
A. Buyer will use the diesel fuel to which this certificate relates either — (check one): whether the vehicle may travel at
1. On a farm for farming purposes (as defined in §48.6420-4 of the regular highway speeds, requires a
Manufacturers and Retailers Excise Tax Regulations)(and Buyer is the special permit for highway use, or
owner, tenant, or operator of the farm on which the fuel will be used). is overweight, overheight, or over-
width for regular highway use.
2. On a farm (as defined in §48.6420-4(c)) for any of the purposes described in
¶ (d) of that section (relating to cultivating, raising, or harvesting)(and Buyer Registered. A vehicle is considered reg-
is not the owner, tenant, or operator of the farm on which the fuel will be istered if it is registered or required to be
used). registered for highway use under the law of
any state, the District of Columbia, or any
B. This certificate applies to the following (complete as applicable): foreign country in which it is operated or sit-
1. If this is a single purchase certificate, check here and enter: uated. Any highway vehicle operated under
a dealer's tag, license, or permit is considered
a. Invoice or delivery ticket number registered. A highway vehicle is not consid-
b. Number of gallons ered registered solely because a specific
permit allows the vehicle to be operated at
2. If this is a certificate covering all purchases under a specified account or order particular times and under specified condi-
number, check here and enter: tions.
a. Effective date
b. Expiration date
(period not to exceed 1 year after effective date) Fuels Used in
c. Buyer account or order number
Off-Highway
■ Buyer will provide a new certificate to the seller if any information in this certificate
changes. Business Use
■ If Buyer uses the diesel fuel to which this certificate relates for a purpose other You may be eligible to claim a credit or refund
than stated in the certificate Buyer will be liable for any tax. for fuels used in an off-highway business use.
■ Buyer understands that the fraudulent use of this certificate may subject Buyer Off-highway business use. Off-highway
and all parties making such fraudulent use of this certificate to a fine or business use is any use of fuel in a trade or
imprisonment, or both, together with the costs of prosecution. business or in any income-producing activity.
The use must not be in a highway vehicle
registered for use on public highways. Off-
Signature and Date Signed highway business use generally does not in-
clude any use in a motorboat.
Printed or Typed Name and Title of Person Signing Note. If undyed diesel fuel is used on a
farm for farming purposes (discussed earlier),
the fuel cannot be considered as being used
Name, Address, and Employer Identification Number of Buyer in an off-highway business use. Farmers
cannot claim a credit or refund for the tax on
tions. Examples of vehicles designed to carry a) Has permanently mounted to it diesel fuel used on a farm for farming pur-
a load over public highways are passenger machinery or equipment used to poses. See How To Buy Diesel Fuel Tax
automobiles, motorcycles, buses, and perform certain operations (con- Free, earlier.
highway-type trucks and truck tractors. A ve- struction, manufacturing, drilling,
hicle is a highway vehicle even though the mining, timbering, processing, Examples. Off-highway business use in a
vehicle's design allows it to perform a high- farming, or similar operations) if the trade or business or income-producing activ-
way transportation function for only: operation of the machinery or ity includes fuels used:
equipment is unrelated to transpor-
• A particular type of load, such as pas- tation on or off the public highways, 1) In stationary machines such as genera-
sengers, furnishings, and personal ef- tors, compressors, power saws, and
fects (as in a house, office, or utility b) Has been specially designed to similar equipment,
trailer), serve only as a mobile carriage and
mount for the machinery or equip- 2) For cleaning purposes,
• A special kind of cargo, goods, supplies, ment, whether or not the machinery
or materials, or or equipment is in operation, and 3) In forklift trucks and bulldozers, and
• Some off-highway task unrelated to c) Because of its special design, could
4) In vehicles operating off the highway in
highway transportation, except as dis- construction, mining, or timbering activ-
not, without substantial structural
cussed next. ities if the vehicles are neither registered
modification, be used as part of a
nor required to be registered.
vehicle designed to carry any other
Vehicles not considered highway vehi-
load. Generally, it does not include nonbusi-
cles. Generally, the following kinds of vehi-
cles are not considered highway vehicles: 2) Vehicles designed for off-highway trans- ness, off-highway use of fuel, such as use by
portation. A self-propelled vehicle is not minibikes, snowmobiles, power lawn mowers,
1) Specially designed mobile machinery for a highway vehicle if— chain saws, and other yard equipment.
nontransportation functions. A self- For more information about the credit or
propelled vehicle is not a highway vehi- a) The vehicle is designed primarily to refund for fuels used in an off-highway busi-
cle if it consists of a chassis that— carry a specific kind of load other ness use, get Publication 378.
Chapter 18 Excise Taxes Page 89
Partnerships. A partnership cannot claim late, you are not allowed a refund. Instead,
the credit on Form 1065, U.S. Partnership you add the disallowed refund to any claim for
How To Claim a Return of Income. The partnership must at- credit and claim it on your income tax return,
tach a statement to Form 1065, showing the as explained earlier. Do not claim a credit
Credit or Refund number of gallons of each fuel allocated to against your income tax for any excise tax for
You may be able to claim a credit or refund each partner and the rate that applies. Each which you filed a timely claim for refund.
of the excise taxes included in the price of partner claims the credit on his or her income See the instructions for Form 8849 for in-
fuels you use for nontaxable purposes. You tax return for the partner's share of the fuel formation about where to file the form. A
can claim only a credit for gasoline, special used by the partnership. partnership files a claim for refund in the
motor fuel, and compressed natural gas used Corporations. To claim the credit, cor- name of the partnership, and one of the
for farming purposes. You can claim either a porations either use line 32g of Form 1120, partners must sign it. A corporation files the
credit or a refund for aviation fuel used for U.S. Corporation Income Tax Return, or line claim in the name of the corporation, and one
farming purposes. 28g of Form 1120–A, U.S. Corporation of its officers must sign it.
No credit or refund is allowed to anyone Short-Form Income Tax Return.
for any fuel, such as dyed diesel fuel, bought S corporations. To claim the credit, S
tax free. corporations use line 23c of Form 1120S,
U.S. Income Tax Return for an S Corporation.
Farmers' cooperative associations. If
Including the Credit
Undyed diesel fuel. You cannot claim a
credit or refund for undyed diesel fuel used the cooperative must file Form 990–C, Farm-
ers' Cooperative Association Income Tax
or Refund in Income
on a farm for farming purposes. Only the Include any credit or refund of excise taxes
registered vendor that sells the fuel to you can Return, it uses line 32g to claim the credit.
Trusts. Trusts required to file Form 1041, on fuels you receive in your gross income if
make this claim. However, you can claim a you claimed the taxes as an expense de-
credit or refund for undyed diesel fuel used U.S. Income Tax Return for Estates and
Trusts, use line 25g to claim the credit. duction that reduced your income tax liability.
for other nontaxable purposes, such as off- Which year you include a credit or refund
highway business use. If undyed diesel fuel in gross income depends on whether you use
is used on a farm for farming purposes, you When to claim a credit. You can claim a fuel the cash or an accrual method of accounting.
cannot consider it as being used for any other tax credit on your income tax return for the
nontaxable purpose. year you used the fuels or you may amend
Cash method. If you use the cash method
your income tax return for that year. Ordinar-
and file a claim for refund, include the refund
Taxpayer identification number. To file a ily, you must file an amended return by the
in your gross income for the tax year in which
claim for credit or refund, you MUST have a later of 3 years after the date you filed your
you receive the refund. If you claim a credit
taxpayer identification number. See Identifi- original return or within 2 years after you paid
on your income tax return, include the credit
cation Number in chapter 2. the tax. A return filed early is considered to
in gross income for the tax year in which you
have been filed on the due date.
file Form 4136. If you file an amended return
Keep at your principal place of busi- and claim a credit, include the credit in gross
ness all records needed to enable the income for the tax year in which you receive
RECORDS IRS to verify the amount you claimed. Claiming a Refund it.
You do not have to use any special form, but You may be eligible to claim a refund quar-
the records should establish: terly during your tax year rather than waiting Example. Ed Brown, a cash basis farmer,
to file your income tax return to claim a credit filed his 1997 Form 1040 on March 1, 1998.
1) The total number of gallons bought and for the entire tax year. However, you cannot On his Schedule F, he deducted the total cost
used during the period covered by your claim a refund for excise tax on gasoline, of gasoline (including $110 of excise taxes)
claim. special motor fuel, and compressed natural used on the farm for farming purposes. Then,
2) The dates of the purchases. gas used on a farm for farming purposes. File on Form 4136, he claimed the $110 of excise
a claim for refund on Form 8849. tax paid on the gasoline as a credit. Ed re-
3) The names and addresses of suppliers ports the $110 as additional income on his
and amounts bought from each during Quarterly refund claim. You can file a 1998 Schedule F.
the period covered by your claim. quarterly refund claim for any of the first three
quarters of your tax year for which you qualify. Accrual method. If you use an accrual
4) The purpose for which you bought and method, include the entire claim in gross in-
used the fuel. To qualify for a quarterly refund, you must
claim the following amounts for fuel used come for the tax year in which the qualifying
5) The number of gallons used for each during the quarter: use occurred. It does not matter if an
purpose. accrual-basis taxpayer filed for a quarterly
1) At least $1,000 for gasoline used for refund or claimed the entire amount as a
It is important that your records show nontaxable purposes (other than use on credit.
separately the number of gallons used for a farm for farming purposes).
each purpose that qualifies as a claim. For Example. Todd Green, an accrual farmer,
more information about recordkeeping, see 2) At least $1,000 for special motor fuel and filed his 1997 Form 1040 on April 12, 1998.
Publication 552, Recordkeeping for Individ- compressed natural gas used for non- On Schedule F, he deducted the total cost of
uals. taxable purposes (other than use on a gasoline (including $155 of excise taxes) that
farm for farming purposes). he used on the farm during 1997. On Form
4136, Todd claimed the $155 excise tax paid
3) At least $750 for undyed diesel fuel
Claiming a Credit (other than for use on a farm for farming
on the gasoline as a credit. He must report
the $155 as additional income on his 1997
You file a claim for credit (including the fuel purposes). Schedule F.
tax credit) on Form 4136 and attach it to your
income tax return. Do not claim a credit on A special rule for diesel fuel and aviation
Form 4136 for any excise tax for which you fuel allows you to aggregate the fuel used in
have already filed a refund claim on Form each quarter. You may file a claim for the
8849. quarter for which the combined total is at least
$750.
Fourth quarter claims. You cannot file
How to claim a credit. How you claim a
credit depends on whether you are an indi- a quarterly claim for refund for the fourth 19.
vidual, partnership, corporation, S corpo- quarter of your tax year. You file claims for the
fourth quarter as a credit on your income tax
ration, trust, or farmers' cooperative associ-
ation. return. Your Rights as
Individuals. You claim the credit on line
59 and check box b of the 1997 Form 1040. When to file quarterly claim. You must file a Taxpayer
If you may not otherwise have to file an in- a quarterly claim by the last day of the third
come tax return, you must do so to get a fuel month after the end of the quarter for which The first part of this chapter explains some
tax credit. See the instructions for Form 1040. the claim is being filed. If you file your claim of your most important rights as a taxpayer.
Page 90 Chapter 19 Your Rights as a Taxpayer
The second part explains the examination, more tax. We may close your case without explains your rights to appeal liens,
appeal, collection, and refund processes. change; or, you may receive a refund. levies and seizures and how to request
By mail. We handle many examinations these appeals.
and inquiries by mail. We will send you a let-
ter with either a request for more information Refunds. You may file a claim for refund if
Declaration of or a reason why we believe a change to your
return may be needed. If you give us the re-
you think you paid too much tax. You must
generally file the claim within 3 years from the
Taxpayer Rights quested information or provide an explana-
tion, we may or may not agree with you, and
date you filed your return or 2 years from the
date you paid the tax, whichever is later. The
Protection of your rights. IRS employees we will explain the reasons for any changes. law generally provides for interest on your
will explain and protect your rights as a tax- Please do not hesitate to write us about any- refund if it is not paid within 45 days of the
payer throughout your contact with us. thing you do not understand. If you cannot date you filed your return or claim for refund.
resolve a question through the mail, you can Publication 556, Examination of Returns, Ap-
Privacy and confidentiality. The IRS will request a personal interview with an exam- peal Rights, and Claims for Refund, has more
not disclose to anyone the information you iner. information on refunds.
give us, except as authorized by law. You By interview. If we notify you that we will
have the right to know why we are asking you conduct your examination through a personal
for information, how we will use it, and what interview, or you request such an interview,
happens if you do not provide requested in- you have the right to ask that the examination
formation. take place at a reasonable time and place that
Page 94
1040
Department of the Treasury—Internal Revenue Service
Form
U.S. Individual Income Tax Return 97 (99) IRS Use Only—Do not write or staple in this space.
For the year Jan. 1–Dec. 31, 1997, or other tax year beginning , 1997, ending , 19 OMB No. 1545-0074
Label Your first name and initial Last name Your social security number
(See L Walter A. Brown 543 00 2111
A
instructions B If a joint return, spouse’s first name and initial Last name Spouse’s social security number
on page 10.) E
L Jane W. Brown 543 00 1222
Use the IRS
Home address (number and street). If you have a P.O. box, see page 10. Apt. no.
label. H For help in finding line
Otherwise, E RR 1 Box 25 instructions, see pages
please print R 2 and 3 in the booklet.
E City, town or post office, state, and ZIP code. If you have a foreign address, see page 10.
or type.
Hometown, VA 02115 Yes No Note: Checking
Presidential
©
“Yes” will not
Election Campaign Do you want $3 to go to this fund? X change your tax or
(See page 10.) If a joint return, does your spouse want $3 to go to this fund? X reduce your refund.
1 Single
Filing Status 2 X Married filing joint return (even if only one had income)
3 Married filing separate return. Enter spouse’s social security no. above and full name here. ©
Check only 4 Head of household (with qualifying person). (See page 10.) If the qualifying person is a child but not your dependent,
one box. enter this child’s name here. ©
5 Qualifying widow(er) with dependent child (year spouse died © 19 ). (See page 10.)
%
6a X Yourself. If your parent (or someone else) can claim you as a dependent on his or her tax No. of boxes
Exemptions return, do not check box 6a checked on
6a and 6b 2
b X Spouse No. of your
c Dependents: (2) Dependent’s (3) Dependent’s (4) No. of months children on 6c
social security number relationship to lived in your who:
(1) First name Last name you home in 1997 3
● lived with you
MICHAEL BROWN 579 00 9999 Son 12 ● did not live with
If more than six MATTHEW BROWN 579 00 9998 Son 12 you due to divorce
dependents, or separation
see page 10. SARAH BROWN 579 00 9997 Daughter 12 (see page 11)
Dependents on 6c
not entered above
Add numbers
entered on 5
d Total number of exemptions claimed lines above ©
Page 95
Form 1040 (1997) Page 2
33 Amount from line 32 (adjusted gross income) 33 30,850 –
Tax
34a Check if: You were 65 or older, Blind; Spouse was 65 or older, Blind.
Compu- © 34a
Add the number of boxes checked above and enter the total here
tation
b If you are married filing separately and your spouse itemizes deductions or
you were a dual-status alien, see page 18 and check here © 34b
$ %
Itemized deductions from Schedule A, line 28, OR
35 Enter Standard deduction shown below for your filing status. But see
the page 18 if you checked any box on line 34a or 34b or someone
larger 35 7,500 –
can claim you as a dependent.
of
your: ● Single—$4,150 ● Married filing jointly or Qualifying widow(er)—$6,900
● Head of household—$6,050 ● Married filing separately—$3,450
36 Subtract line 35 from line 33 36 23,350 –
If you want
the IRS to 37 If line 33 is $90,900 or less, multiply $2,650 by the total number of exemptions claimed on
figure your line 6d. If line 33 is over $90,900, see the worksheet on page 19 for the amount to enter 37 13,250 –
tax, see
page 18. 38 Taxable income. Subtract line 37 from line 36. If line 37 is more than line 36, enter -0- 38 10,100 –
39 Tax. See page 19. Check if any tax from a Form(s) 8814 b Form 4972 © 39 1,519 –
40 Credit for child and dependent care expenses. Attach Form 2441 40
Credits 41
41 Credit for the elderly or the disabled. Attach Schedule R
42 Adoption credit. Attach Form 8839 42
43 Foreign tax credit. Attach Form 1116 43
44 Other. Check if from a Form 3800 b Form 8396
c Form 8801 d Form (specify) 44
45 Add lines 40 through 44 45 –0 – –
46 Subtract line 45 from line 39. If line 45 is more than line 39, enter -0- © 46 1,519 –
47 Self-employment tax. Attach Schedule SE 47 3,852 –
Other 48
48 Alternative minimum tax. Attach Form 6251
Taxes 49
49 Social security and Medicare tax on tip income not reported to employer. Attach Form 4137
50 Tax on qualified retirement plans (including IRAs) and MSAs. Attach Form 5329 if required 50
51 Advance earned income credit payments from Form(s) W-2 51
52 Household employment taxes. Attach Schedule H 52
53 Add lines 46 through 52. This is your total tax © 53 5,371 –
54 Federal income tax withheld from Forms W-2 and 1099 54 227 –
Payments 55
55 1997 estimated tax payments and amount applied from 1996 return
56a Earned income credit. Attach Schedule EIC if you have a qualifying
child b Nontaxable earned income: amount ©
and type © 56a
Attach
Forms W-2, 57 Amount paid with Form 4868 (request for extension) 57
W-2G, and 58
1099-R on 58 Excess social security and RRTA tax withheld (see page 27)
the front. 59 Other payments. Check if from a Form 2439 b X Form 4136 59 350 –
60 Add lines 54, 55, 56a, 57, 58, and 59. These are your total payments © 60 577 –
61
Refund 61 If line 60 is more than line 53, subtract line 53 from line 60. This is the amount you OVERPAID
62a Amount of line 61 you want REFUNDED TO YOU © 62a
Have it
directly © b Routing number © c Type: Checking Savings
deposited!
See page 27
and fill in 62b, © d Account number
62c, and 62d. 63 Amount of line 61 you want APPLIED TO YOUR 1998 ESTIMATED TAX © 63
Amount 64 If line 53 is more than line 60, subtract line 60 from line 53. This is the AMOUNT YOU OWE.
For details on how to pay, see page 27 © 64 4,794 –
You Owe 65 Estimated tax penalty. Also include on line 64 65
Under penalties of perjury, I declare that I have examined this return and accompanying schedules and statements, and to the best of my knowledge and
Sign belief, they are true, correct, and complete. Declaration of preparer (other than taxpayer) is based on all information of which preparer has any knowledge.
©
Here Your signature Date Your occupation
Keep a copy WALTER A. BROWN 2-23-98 FARMER
of this return
for your Spouse’s signature. If a joint return, BOTH must sign. Date Spouse’s occupation
records. JANE W. BROWN 2-23-98 TEACHER
Paid Preparer’s
signature © Date
Check if
self-employed
Preparer’s social security no.
Preparer’s
Use Only
Firm’s name (or yours
if self-employed) and
address
© EIN
ZIP code
Page 96
OMB No. 1545-0074
SCHEDULE F Profit or Loss From Farming
(Form 1040)
Department of the Treasury
© Attach to Form 1040, Form 1041, or Form 1065.
Attachment
97
Internal Revenue Service (99) © See Instructions for Schedule F (Form 1040). Sequence No. 14
Name of proprietor Social security number (SSN)
WALTER A. BROWN 543 00 2111
A Principal product. Describe in one or two words your principal crop or activity for the current tax year. B Enter principal agricultural activity
MILK code (from page 2) © 2 4 0
E Did you “materially participate” in the operation of this business during 1997? If “No,” see page F-2 for limit on passive losses. X Yes No
Part I Farm Income—Cash Method. Complete Parts I and II (Accrual method taxpayers complete Parts II and III, and line 11 of Part I.)
Do not include sales of livestock held for draft, breeding, sport, or dairy purposes; report these sales on Form 4797.
1 Sales of livestock and other items you bought for resale 1 12,960 –
2 Cost or other basis of livestock and other items reported on line 1 2 3,180 –
3 Subtract line 2 from line 1 3 9,780 –
4 Sales of livestock, produce, grains, and other products you raised 4 129,599 –
5a Total cooperative distributions (Form(s) 1099-PATR) 5a 33 – 5b Taxable amount 5b 33 –
6a Agricultural program payments (see page F-2) 6a 438 – 6b Taxable amount 6b 438 –
7 Commodity Credit Corporation (CCC) loans (see page F-2):
a CCC loans reported under election 7a 665 –
b CCC loans forfeited 7b 7c Taxable amount 7c
8 Crop insurance proceeds and certain disaster payments (see page F-2):
a Amount received in 1997 8a 8b Taxable amount 8b
c If election to defer to 1998 is attached, check here © 8d Amount deferred from 1996 8d
9 Custom hire (machine work) income 9 1,258 –
10 Other income, including Federal and state gasoline or fuel tax credit or refund (see page F-3) 10 567 –
11 Gross income. Add amounts in the right column for lines 3 through 10. If accrual method taxpayer, enter
the amount from page 2, line 51 11 ©
142,340 –
Part II Farm Expenses—Cash and Accrual Method. Do not include personal or living expenses such as taxes, insurance,
repairs, etc., on your home. –
For Paperwork Reduction Act Notice, see Form 1040 instructions. Cat. No. 11346H Schedule F (Form 1040) 1997
Page 97
SCHEDULE SE Self-Employment Tax OMB No. 1545-0074
(Form 1040)
Department of the Treasury
© See Instructions for Schedule SE (Form 1040).
Attachment
97
Internal Revenue Service (99) © Attach to Form 1040. Sequence No. 17
Name of person with self-employment income (as shown on Form 1040) Social security number of person
WALTER A. BROWN with self-employment income © 543 00 2111
Who Must File Schedule SE
You must file Schedule SE if:
● You had net earnings from self-employment from other than church employee income (line 4 of Short Schedule SE or line 4c of
Long Schedule SE) of $400 or more, OR
● You had church employee income of $108.28 or more. Income from services you performed as a minister or a member of a
religious order is not church employee income. See page SE-1.
Note: Even if you had a loss or a small amount of income from self-employment, it may be to your benefit to file Schedule SE and
use either “optional method” in Part II of Long Schedule SE. See page SE-3.
Exception. If your only self-employment income was from earnings as a minister, member of a religious order, or Christian Science
practitioner and you filed Form 4361 and received IRS approval not to be taxed on those earnings, do not file Schedule SE. Instead,
write “Exempt–Form 4361” on Form 1040, line 47.
No Yes
Ä Ä Ä
Are you a minister, member of a religious order, or Christian
Yes Was the total of your wages and tips subject to social security Yes
Science practitioner who received IRS approval not to be taxed
Ä
Ä
or railroad retirement tax plus your net earnings from
on earnings from these sources, but you owe self-employment
self-employment more than $65,400?
tax on other earnings?
No
Ä
Are you using one of the optional methods to figure your net Yes No
Ä
Ä
No that you did not report to your employer?
Ä
Did you receive church employee income reported on Form Yes
Ä
No
Ä Ä
Ä
YOU MAY USE SHORT SCHEDULE SE BELOW YOU MUST USE LONG SCHEDULE SE ON THE BACK
Section A—Short Schedule SE. Caution: Read above to see if you can use Short Schedule SE.
1 Net farm profit or (loss) from Schedule F, line 36, and farm partnerships, Schedule K-1 (Form
1065), line 15a 1 27,260 –
2 Net profit or (loss) from Schedule C, line 31; Schedule C-EZ, line 3; and Schedule K-1 (Form
1065), line 15a (other than farming). Ministers and members of religious orders, see page SE-1
for amounts to report on this line. See page SE-2 for other income to report 2
%
● $65,400 or less, multiply line 4 by 15.3% (.153). Enter the result here and on
Form 1040, line 47. 5 3,852 –
● More than $65,400, multiply line 4 by 2.9% (.029). Then, add $8,109.60 to the
result. Enter the total here and on Form 1040, line 47.
Page 98
OMB No. 1545-0172
Depreciation and Amortization
Form 4562 (Including Information on Listed Property) 97
Department of the Treasury Attachment
Internal Revenue Service (99) © See separate instructions. © Attach this form to your return. Sequence No. 67
Name(s) shown on return Business or activity to which this form relates Identifying number
WALTER A. & JANE W. BROWN FARMING 543-00-2111
Part I Election To Expense Certain Tangible Property (Section 179) (Note: If you have any “listed property,”
complete Part V before you complete Part I.)
1 Maximum dollar limitation. If an enterprise zone business, see page 2 of the instructions 1 $18,000
2 Total cost of section 179 property placed in service. See page 2 of the instructions 2 61,229. –
3 Threshold cost of section 179 property before reduction in limitation 3 $200,000
4 Reduction in limitation. Subtract line 3 from line 2. If zero or less, enter -0- 4 –0 –
5 Dollar limitation for tax year. Subtract line 4 from line 1. If zero or less, enter -0-. If married
filing separately, see page 2 of the instructions 5 18,000. –
(a) Description of property (b) Cost (business use only) (c) Elected cost
Page 99
Form 4562 (1997) Page 2
Part V Listed Property—Automobiles, Certain Other Vehicles, Cellular Telephones, Certain Computers, and
Property Used for Entertainment, Recreation, or Amusement
Note: For any vehicle for which you are using the standard mileage rate or deducting lease expense, complete only
23a, 23b, columns (a) through (c) of Section A, all of Section B, and Section C if applicable.
Section A—Depreciation and Other Information (Caution: See page 8 of the instructions for limits for passenger automobiles.)
23a Do you have evidence to support the business/investment use claimed? X Yes No 23b If “Yes,” is the evidence written? X Yes No
(c) (e) (i)
(a) (b) Business/ (d) (f) (g) (h)
investment Basis for depreciation Elected
Type of property (list Date placed in Cost or other Recovery Method/ Depreciation
use (business/investment section 179
vehicles first) service basis period Convention deduction
percentage use only) cost
24 Property used more than 50% in a qualified business use (See page 7 of the instructions.):
CAR 1-6-94 60 % 12,350. – 7,410. – 5 150DB/HY 1,005. – * –0 –
PICKUP TRUCK 5-18-94 100 % 7,076. – 7,076. – 5 150DB/HY 1,179. – –0 –
%
25 Property used 50% or less in a qualified business use (See page 7 of the instructions.):
% S/L –
% S/L –
% S/L –
26 Add amounts in column (h). Enter the total here and on line 20, page 1 26 2,184. –
27 Add amounts in column (i). Enter the total here and on line 7, page 1 27 –0 –
Section B—Information on Use of Vehicles
Complete this section for vehicles used by a sole proprietor, partner, or other “more than 5% owner,” or related person.
If you provided vehicles to your employees, first answer the questions in Section C to see if you meet an exception to completing this section for those vehicles.
(a) (b) (c) (d) (e) (f)
Vehicle 1 Vehicle 2 Vehicle 3 Vehicle 4 Vehicle 5 Vehicle 6
28 Total business/investment miles driven during
the year (DO NOT include commuting miles) 6,270 11,350
29 Total commuting miles driven during the year –0 – –0–
30 Total other personal (noncommuting)
miles driven 4,180 –0–
31 Total miles driven during the year.
Add lines 28 through 30 10,450 11,350
Yes No Yes No Yes No Yes No Yes No Yes No
32 Was the vehicle available for personal
u u
use during off-duty hours?
33 Was the vehicle used primarily by a
more than 5% owner or related person? u u
34 Is another vehicle available for personal
use? u u
Section C—Questions for Employers Who Provide Vehicles for Use by Their Employees
Answer these questions to determine if you meet an exception to completing Section B for vehicles used by employees who
are not more than 5% owners or related persons.
Yes No
35 Do you maintain a written policy statement that prohibits all personal use of vehicles, including commuting,
by your employees?
36 Do you maintain a written policy statement that prohibits personal use of vehicles, except commuting, by your employees?
See page 9 of the instructions for vehicles used by corporate officers, directors, or 1% or more owners
37 Do you treat all use of vehicles by employees as personal use?
38 Do you provide more than five vehicles to your employees, obtain information from your employees about
the use of the vehicles, and retain the information received?
39 Do you meet the requirements concerning qualified automobile demonstration use? See page 9 of the instructions
Note: If your answer to 35, 36, 37, 38, or 39 is “Yes,” you need not complete Section B for the covered vehicles.
Part VI Amortization
(d) (e)
(b) (c) (f)
(a) Amortization
Date amortization Amortizable Code Amortization for
Description of costs period or
begins amount section this year
percentage
40 Amortization of costs that begins during your 1997 tax year:
Page 100
Depreciation Worksheet
Date Cost or Business/ Section Depreciation Prior Basis for Method/ Recovery Rate or Depreciation
Description of Property Placed in Other Investment 179 Years Depreciation Convention Period Table Deduction
Service Basis Use % Deduction %
STRAIGHT LINE
BARN 1-8-78 6,400 100% 4,864 1,536 SL 25 256
SILO 1-2-80 16,000 " 13,600 2,400 SL 20 800
ALTERNATE ACRS
MACHINE SHED 1-2-86 6,000 100% 3,480 2,520 Mod SL 19 5.3 318
MACRS
TRACTOR #2 (traded 3/97) 1-8-93 7,297 100% 5,000 804 2,297 SL/HY 10 10.0 114.85*
DAIRY COW #54 9-9-93 1,200 " 600 1,200 SL/HY 7 14.29 171.48
CAR (listed property) 1-6-94 12,350 60% 4,334 7,410 150DB/HY 5 16.66 1,005.–**
MILK TANK 1-4-95 11,500 100% 10,000 448 1,500 150DB/HY 7 15.03 225.45
MANURE SPREADER 5-3-95 3,400 " 1,015 3,400 150DB/HY 7 15.03 511.02
CATTLE FEEDING FACILITY 1-9-97 37,500 100% –0 – 37,500 150DB/HY 10 7.50 2,812.50
MACHINE SHED IMPROVEMENT 2-20-97 1,300 " –0 – 1,300 150DB/HY 20 3.75 48.75
TRACTOR #5 3-7-97 25,107 " 18,000 –0 – 7,107 150DB/HY 7 10.71 761.16
9,707.62
Page 101
Index
Page 102
Casualty and theft losses ..... 68 Money purchase ................... 82 Social security number .............. 73
Crop shares .......................... 15 P Nonqualified ......................... 86 Software, computer ................... 38
Depreciation ................... 38, 40 Partnership .................................. 9 Profit-sharing ........................ 82 Soil:
Diseased .............................. 70 Passenger automobile ............... 47 Qualified ......................... 81, 82 Conservation ........................ 30
Feed ..................................... 23 Pasture income ......................... 15 Salary reduction ................... 85 Contamination ...................... 71
Feed assistance ................... 17 Patronage dividends .................. 18 SEP ...................................... 84 Spouse, property transferred
Immature .............................. 43 Penalties: SIMPLE ....... 81, 82, 83, 84, 85, from ...................................... 36
Losses ............................ 29, 56 Estimated tax ......................... 7 86 Standard meal allowance .......... 26
Purchased ............................ 57 Information returns ................. 9 Small business owners ........ 83 Start-up costs for businesses .... 49
Raised .................................. 57 Trust fund recovery .............. 80 Stock bonus ......................... 82 Stock bonus plan ....................... 82
Sale of ............................ 14, 56 Per-unit retain certificates ......... 19 Returns: Subscriptions ............................. 29
Unit-livestock-price, inventory Personal expenses .................... 29 Corporation ........................... 10
valuation .......................... 12 Placed in service ....................... 39 Dependent's ........................... 6
Used in a farm business ...... 57 Pollution control facilities ........... 49 Forms used by farmers .......... 8
Weather-related sales .... 14, 70 Postponing gain ......................... 70 Information ............................. 9 T
Loans ................................... 16, 24 Prizes ......................................... 21 Partnership ............................. 9 Tax preparation fees ................. 24
Losses: Problem Resolution Program 3, 91 Penalties ............................. 7, 9 Tax problems, unresolved ........... 3
At-risk limits .......................... 28 Produce ..................................... 14 Qualified farmer due dates .... 7 Tax shelters:
Casualty ............................... 67 Profit-sharing plans ................... 82 Sample ................................. 91 At-risk limits .......................... 28
Disaster areas ...................... 70 Property: Self-employed ........................ 6 Defined ................................. 12
Farming ................................ 68 Changed to business use .... 34 Right-of-way income .................. 21 Tax-free exchanges ................... 52
Growing crops ...................... 29 Received for services ........... 34 Taxes:
Hobby farming ...................... 28 Section 1245 ........................ 61 Excise ................................... 87
Livestock ........................ 56, 70 Section 1250 ........................ 62 Federal use .......................... 25
Net operating (NOL) ............. 27 Section 1252 ........................ 63
Section 1255 ........................ 63
S General ................................. 25
Nondeductible ...................... 29 S corporation ............................. 10 Self-employment .................. 73
Theft ..................................... 67 Publications and forms, free ..... 94 Sale of home ............................. 59 State and federal .................. 25
Section 179 deduction: State or local general sales . 25
Carryover .............................. 41 Taxpayer rights .......................... 91
M TeleFile ........................................ 3
Q How to elect ......................... 41
How to figure ........................ 41 Telephone expense ................... 24
MACRS ...................................... 42 Qualified farm debt .................... 20
Market gain, reporting ............... 16 Limits .................................... 41 TeleTax ........................................ 3
Quotas and allotments .............. 33
Marketing quota penalties ......... 26 Listed property ..................... 46 Tenant house expenses ............ 26
Material participation ................. 75 Qualifying: Theft losses ............................... 67
Meals ......................................... 26 Costs ............................... 40 Timber ................................. 28, 57
Methods of accounting .............. 11 R Property ........................... 40 Trade-in ..................................... 35
Minimum tax credit .................... 73 Recordkeeping ................ 4, 26, 73 Recapture ............................. 42 Travel expenses ........................ 26
Modified ACRS (MACRS): Reforestation expenses ............. 49 Self-employed health insurance 25 Truck expenses ......................... 26
ADS method ......................... 45 Refund: Self-employment income ........... 74 Trust fund recovery penalty ...... 80
Conventions ......................... 44 Deduction taken ................... 21 Self-employment tax:
Declining balance method .... 45 Fuel tax ................................ 21 Community income .............. 78
Depreciable property ............ 42 Reimbursements: Gross income from farming . 76
Depreciation methods .......... 45 Casualties and thefts 34, 68, 69 Landlord participation ........... 75 U
Excluded property ................ 43 Deduction taken ................... 21 Material participation ............ 75 Uniform capitalization rules:
Figuring the deduction ......... 43 Expenses .............................. 22 Net income, defined ............. 74 Basis of assets ..................... 36
Percentage tables ................ 45 Feed assistance ................... 17 Optional method ................... 76 Inventory ............................... 12
Property classes ................... 44 Real estate taxes ................. 33 Partnership ........................... 76 Unstated interest ....................... 66
Recovery periods ................. 44 Reforestation expenses ....... 49 Regular method .................... 75
Money purchase pension plan .. 82 To employees ....................... 26 Rental income ...................... 75
Rent expense ............................ 25 Share farming ....................... 74
Rental income ........................... 15 Who must pay ...................... 74 W
Repairs ...................................... 24 Settlement costs (fees) ............. 33 Water conservation ................... 30
N Replacement: Share farmers ............................ 74 Water well ............................ 31, 44
Net operating loss ..................... 27 Period ................................... 71 SIMPLE plans: Weather-related sales, live-
Noncapital asset ........................ 55 Property ................................ 70 Contribution limits ................. 86 stock ............................... 14, 70
Nontaxable exchanges .............. 52 Repossessions .......................... 54 Definitions ............................. 86 Wetlands .................................... 30
Not-for-profit farming ................. 28 Retirement plans: Setting up ............................. 85 Withholding:
Defined benefit ..................... 82 Social security and Medicare Income tax ............................ 79
Defined contribution ............. 82 tax: Social security and Medicare
O HR–10 .................................. 83 Depositing tax ...................... 80 tax ................................... 79
On-line filing ................................ 3 IRAs ...................................... 86 Withholding of tax ................ 79
Overdue tax bill ........................... 3 Keogh ................................... 83 Withholding statement ............ 8
Page 103
Tax Publications for Business Taxpayers
General Guides 463 Travel, Entertainment, Gift, and Car 597 Information on the United States-
Expenses Canada Income Tax Treaty
1 Your Rights as a Taxpayer 505 Tax Withholding and Estimated Tax 598 Tax on Unrelated Business Income
17 Your Federal Income Tax (For 510 Excise Taxes for 1998 of Exempt Organizations
Individuals) 515 Withholding of Tax on Nonresident 686 Certification for Reduced Tax Rates
225 Farmer’s Tax Guide Aliens and Foreign Corporations in Tax Treaty Countries
334 Tax Guide for Small Business 517 Social Security and Other 901 U.S. Tax Treaties
509 Tax Calendars for 1998 Information for Members of the 908 Bankruptcy Tax Guide
553 Highlights of 1997 Tax Changes Clergy and Religious Workers 911 Direct Sellers
595 Tax Highlights for Commercial 527 Residential Rental Property 925 Passive Activity and At-Risk Rules
Fishermen 533 Self-Employment Tax 946 How To Depreciate Property
910 Guide to Free Tax Services 534 Depreciating Property Placed in 947 Practice Before the IRS and Power
Service Before 1987 of Attorney
Employer’s Guides 535 Business Expenses 953 International Tax Information for
536 Net Operating Losses Businesses
15 Employer’s Tax Guide (Circular E) 537 Installment Sales 1544 Reporting Cash Payments of Over
15-A Employer’s Supplemental Tax Guide 538 Accounting Periods and Methods $10,000
51 Agricultural Employer’s Tax Guide 541 Partnerships 1546 How to use the Problem Resolution
(Circular A) 542 Corporations Program of the IRS
80 Federal Tax Guide For Employers in 544 Sales and Other Dispositions of
the Virgin Islands, Guam, American Assets
Samoa, and the Commonwealth of Spanish Language Publications
the Northern Mariana Islands 551 Basis of Assets
(Circular SS) 556 Examination of Returns, Appeal
Rights, and Claims for Refund 1SP Derechos del Contribuyente
179 Guía Contributiva Federal Para 579SP Cómo Preparar la Declaración de
Patronos Puertorriqueños 560 Retirement Plans for Small Business
(SEP, Keogh, and SIMPLE Plans) Impuesto Federal
(Circular PR)
561 Determining the Value of Donated 594SP Comprendiendo el Proceso de Cobro
926 Household Employer’s Tax Guide
Property 850 English-Spanish Glossary of Words
583 Starting a Business and Keeping and Phrases Used in Publications
Records Issued by the Internal Revenue
Specialized Publications Service
587 Business Use of Your Home
(Including Use by Day-Care 1544SP Informe de Pagos en Efectivo en
378 Fuel Tax Credits and Refunds Exceso de $10,000 (Recibidos en
Providers)
594 Understanding the Collection Process una Ocupación o Negocio)
Page 104
Tax Publications for Individual Taxpayers
General Guides 530 Tax Information for First-Time 901 U.S. Tax Treaties
Homeowners 907 Tax Highlights for Persons with
1 Your Rights as a Taxpayer 531 Reporting Tip Income Disabilities
17 Your Federal Income Tax (For 533 Self-Employment Tax 908 Bankruptcy Tax Guide
Individuals) 534 Depreciating Property Placed in 911 Direct Sellers
225 Farmer’s Tax Guide Service Before 1987 915 Social Security and Equivalent
334 Tax Guide for Small Business 537 Installment Sales Railroad Retirement Benefits
509 Tax Calendars for 1998 541 Partnerships 919 Is My Withholding Correct for 1998?
553 Highlights of 1997 Tax Changes 544 Sales and Other Dispositions of 925 Passive Activity and At-Risk Rules
595 Tax Highlights for Commercial Assets 926 Household Employer’s Tax Guide
Fishermen 547 Casualties, Disasters, and Thefts 929 Tax Rules for Children and
910 Guide to Free Tax Services (Business and Nonbusiness) Dependents
550 Investment Income and Expenses 936 Home Mortgage Interest Deduction
Specialized Publications 551 Basis of Assets 946 How To Depreciate Property
552 Recordkeeping for Individuals 947 Practice Before the IRS and Power
3 Armed Forces’ Tax Guide 554 Older Americans’ Tax Guide of Attorney
378 Fuel Tax Credits and Refunds 555 Federal Tax Information on 950 Introduction to Estate and Gift Taxes
463 Travel, Entertainment, Gift, and Car Community Property 967 IRS Will Figure Your Tax
Expenses 556 Examination of Returns, Appeal 968 Tax Benefits for Adoption
501 Exemptions, Standard Deduction, Rights, and Claims for Refund
and Filing Information 1542 Per Diem Rates
559 Survivors, Executors, and 1544 Reporting Cash Payments of Over
502 Medical and Dental Expenses Administrators $10,000
503 Child and Dependent Care Expenses 561 Determining the Value of Donated 1546 How to use the Problem Resolution
504 Divorced or Separated Individuals Property Program of the IRS
505 Tax Withholding and Estimated Tax 564 Mutual Fund Distributions
508 Educational Expenses 570 Tax Guide for Individuals With
514 Foreign Tax Credit for Individuals Income From U.S. Possessions Spanish Language Publications
516 U.S. Government Civilian Employees 575 Pension and Annuity Income
Stationed Abroad 584 Nonbusiness Disaster, Casualty, and 1SP Derechos del Contribuyente
517 Social Security and Other Theft Loss Workbook 579SP Cómo Preparar la Declaración de
Information for Members of the 587 Business Use of Your Home Impuesto Federal
Clergy and Religious Workers (Including Use by Day-Care 594SP Comprendiendo el Proceso de Cobro
519 U.S. Tax Guide for Aliens Providers) 596SP Crédito por Ingreso del Trabajo
520 Scholarships and Fellowships 590 Individual Retirement Arrangements 850 English-Spanish Glossary of Words
521 Moving Expenses (IRAs) (Including SEP-IRAs and and Phrases Used in Publications
523 Selling Your Home SIMPLE IRAs) Issued by the Internal Revenue
524 Credit for the Elderly or the Disabled 593 Tax Highlights for U.S. Citizens and Service
525 Taxable and Nontaxable Income Residents Going Abroad 1544SP Informe de Pagos en Efectivo en
526 Charitable Contributions 594 Understanding the Collection Process Exceso de $10,000 (Recibidos en
527 Residential Rental Property 596 Earned Income Credit una Ocupación o Negocio)
529 Miscellaneous Deductions 721 Tax Guide to U.S. Civil Service
Retirement Benefits
Page 105