Pay to Play, the government plans to have you pay them to do their job when you need something from them.
The ag economy relies on government funded/supported roads, railways, ports and locks, and dams to get the product to the end user. A proposal to spend money on Infrastructure should be as interesting to a farm producer as the farm bill. Like all ideas, the devil is always in the details. In the latest proposal from the White House, they want to spend $200 billion on federal funded projects over the next ten years (with 25% of that number targeted to rural areas) it appears to be a pay as you go proposal.
The initial review of the plan looks to come from tolls and fees on the users of the improved infrastructure. Fear not, those costs will be passed along to the end consumer. Additionally, the plan will rely on the participation of state and local governments paying in to the projects bottom line. In some cases, they will have to fund 90% of the project and match funds to the federal dollars. Those funds are projected to come from property taxes, sales taxes, and user fees. The problem with this concept is that stressed local governments with razor thin budgets will simply forego the attempt to secure the match grant, while the areas that are economically strong will harvest those grants far easier.
Where state and local governments are not involved, the plan looks to the private sector. Specifically, the plan anticipates private industry maintaining river waterways including, locks and dams.
Farm Bill Talk
The latest proposals on the anticipated farm bill show that crop insurance copays by the producer will increase (but still having the government pay over ½ of the insurance premium) and industries that rely upon USDA services, like meat inspection, will face increased user fees for the government to do its job. Additionally, cuts in conservation program technical assistance aid are projected. The cuts and caps on copays are aimed at farm operators whose adjusted gross income is above $500,000. Using numbers from 2013, that would be about 2% of farmers effected.
Crop insurance subsidies are not necessarily a bad thing, as crop insurance in advance of a disaster is far easier to administer in the time of a disaster than the ad hoc disaster relief bills of the 1980s that used to be passed after an ag disaster like a drought. Those “after the cat is out of the bag” programs are harder to manage, implement, and enforce than standing programs.
Tax Law Changes
The tax law updates are already being examined for loop holes and advantages, as they should be. One giant loop hole appears to be the 20% credit off the gross sales made to a cooperative of ag products. While the initial revelation was made with assertions that the language was hasty and not the intended result and would be corrected, no correction has been made.
The effect of granting a credit based off where a commodity is sold will have an impact on the market. While this in an over simplification, if a seller of goods realizes that 20 cents of every dollar is not taxable when they sell at the coop, and it is taxable if they sell directly to a private processor like ADM, BUNGE, or the ethanol plant, the choice seems pretty clear.
The projection is that the cooperatives will be overloaded with willing sellers, so they will lower their asking price to curb sales to match storage and capacity to sell, while the processors will move their price to adjust for the taxation discount. That is good theory in an economics exam final, but its application in the country side is suspect. I think lobbyists for the cooperative industry and the processor industry will both be hard at work to keep the status quo, or they will make the change to avoid the preferential treatment.
Generally, people prefer their back yards to never change, ever. Even if the rules allow for something different that isn’t currently being done and double if the new permitted use is loud, smelly, or interrupts view. New proposals for property use create challenges. Nobody wants a permitted use that they don’t particularly care for to occur, especially when it impacts them, regardless of what the current zoning rules may be. That is not how zoning works, the first in line do not get to control the narrative. Instead, we establish uses based on zoning districts (ag. Commercial, residential etc) .
By doing this we all give up certain rights to do things with our property in exchange for other privileges based on the zoning and services. When we live in an agriculture district and enjoy the wide-open spaces, we should expect that livestock production will occur in those spaces. When we live in the city and get our garbage picked up, streets plowed, and water piped to our tap, we give up some of our property rights (such as loud music, building on every square inch of your lot, or keeping animals) in exchange for those conveniences. As farms have lost their nostalgic appeal from yesteryear, and are in some circles villainized, understanding how new ag practices and production techniques impact your neighbors and the current zoning law, is as important as selecting the right chemical program for your row crop production enterprise.
In Iowa, a master matrix controls rules regarding location sites for livestock buildings. Other states allow counties or cities the power to develop zoning ordinances on this issue. Iowa producers would do well to remember the special protections ag zoning and the master matrix system affords them. Consider Minnesota, where counties are in the business of granting a conditional use permit (aka a Special use permit) for new livestock feeding operations. A special use permit gives permission to do something in a zoning district that you can’t do as a matter of right, but can conduct as long as you meet terms made by the zoning authority. However, those terms can’t be outlandish or unrelated to a zoning plan.
In a recent Minnesota case, the operator applied for a permit to build a 4,700-hog finishing facility, which met all the established criteria. After a public hearing, the county granted the application. The real estate agents attacked the permit issued on some specific grounds, claiming the county didn’t apply the law correctly. The real reason, to me, was that they didn’t want hog production in the area as they feared it would drive prices down. That is classic “not in my back-yard” material. The county, or other zoning authority, is given wide discretion on what decisions it makes; the court sided with the county in this case. The take away is that the local government appointees need to be plugged into what is going on in the local environment, and what the status of the law is. The down ticket local elections for supervisors and other locally appointed boards can shape what goes on in an area for a long time.
How long Iowa will maintain its favorable ag zoning is unknown. Last legislative session, environmental groups were seeking support from county level boards to put pressure on the Iowa legislature. Their goal is to loosen some of the control the master matrix has on livestock siting in Iowa. The Minnesota rubric may well seep south in the coming years if the ag community does not stay vigilant.
In 2017, up to $6,350 of earned income per child are exempt from taxation. Further, the parent does not have to pay FICA tax for their children under 18 who work for them or their partnership. Corporations do not have that same exemption from paying FICA tax, regardless of who owns it. These earnings by the child can be considered income for a ROTH IRA. The ROTH IRA, as post tax dollars, can be withdrawn without penalty at any time (to include for education), only the earnings will be subject to tax. If correctly drawn out for education, even the earnings are not subject to the early withdrawal penalties. ROTH IRA dollars are not a resource for Federal Financial Aid Considerations; however, by comparison, cash in savings accounts are considered assets. If the child doesn’t use funds for education, they continue to grow as a retirement savings. The disadvantage to a Roth IRA account is the low amount (up to the amount of earned income the child makes or in any case $5,500 maximum) that can be contributed each year.
Agricultural endeavors have an increasingly small margin for error. Operators use GPS guided equipment to precisely apply the calculated amount of seed, fertilizer, and chemical to the ground to produce a crop with the highest potential return on investment. Marketing decisions are made after considering macro and micro economic information sources, predictions on weather, and considerations for next year’s cash demand needs for the operation. Increasingly, specialists are consulted for agronomics, equipment upgrades, and marketing decisions.
Despite all the external support available, sometimes, internal record keeping can make or break an enterprise. Not keeping receipts because of assumptions regarding the other side keeping the copy, failing to document the who, what, when, where, and why of a purchase, or failing to keep accurate records of what the business is doing can come back to bite the operation years down the road.
It is so easy to put off the hard work of memorializing, filing, and storing the supporting pieces to the story of the operation. The current climate of “FAKE NEWS” and conflicting stories from once reputable news organizations will have an impact far beyond the next election cycle. It frames the finder of fact in a future dispute. Documentation and records and the ability to retrieve them become more important, not less, in this digital age. Having “the goods” when you need to produce them can be critical to establishing the legitimacy of the data, and proving that it is not fabricated.
Take a look at your record keeping in your operation. Can you provide the supporting data to the purchases, the agreements, and the transactions you undertake? Sometimes, something as simple as a receipt of payment can establish rights and responsibilities of parties for years to come. When a party to that transaction has selective amnesia, it becomes critical to be able to prove each element of the transaction.
Tax Policy Implications Run Far Deeper Than a Temporary Reprieve
I am reluctant to write about the pending attempt to change the tax code. I haven’t even signed up for the annual tax school update, because I am certain information presented in November will be stale by December with the way things are moving in the federal landscape.
However, some larger, broad brush policy strokes are clearly being established, and regardless of five or seven tax brackets, the implications to the rural portion of the country are beginning to be seen. Of course, the 70 million Americans who don’t make enough to pay taxes, or the 1/3 of those who technically should pay but have enough exemptions to not actually pay, are not impacted at all by these proposed changes.
First, what everybody is asking about, rates. The proposed tax rates from the House:
12%: $0 - $45,000 for individuals ($90,000 for married taxpayers)
25%: $45,001 - $200,000 for individuals ($260,000 for married taxpayers)
35%: $200,001 - $500,000 for individuals ($1 million for married taxpayers)
39.6%: $500,001+ for individuals ($1,000,001+ for married taxpayers)
Under this plan, by the year 2027, 31% of the “middle class” will be paying higher actual taxes than under the current law due to roll backs.
The Senate brackets start at 10% and move six times, up to 38.5%. Both house and senate plans eliminate, or limit, deductions for mortgage interest, state and local taxes paid, property taxes, retirement savings, personal deduction credit, educator expense, AMT, and alimony. The house does away with student loan interest deductions.
Most likely, the senate’s tax plan impact is a 10% reduction for those under $30,000 in income, those under $70,000 would see about a 7.15% cut in the first year, but with the loss of deductions, taxes actually go up for people earning less than $200,000.
First, the Estate Tax “repeal”, or its sexier name, the “Death Tax”. Current suggestions would raise the death tax bar from the “low” $5.49 million dollars of property that EACH PERSON can transfer during life or death before paying 40% tax to $10 million per person. That would be about 2000 acres at $10,000 per acre (with no debt against it). “Step up” in basis would be allowed for property held at death despite rumors that it was on the chopping block. Yes, when the thresholds for estate tax were traumatically lower, people were impacted and hard choices to stay or farm had to be made. I personally find the idea of a death tax offensive and socialist. However, many, many more people will have capital gains issues. Heirs selling newly inherited property, and putting that capital to use in projects they understand and are passionate about is good. Heirs who are tax adverse and hang on to property because they don’t want to pay taxes rarely invest in the land or the local community. That is bad. Those heirs, as a generality, do not care about beginning farmers, 4H fund raisers, or continuing any one specific person’s farm operations. They are, rightly so, focused on a return on their asset. The retention under the plan of step up in basis is a far bigger deal than the elimination of the estate tax. With the retention of 1031 tax free exchanges, which were also in doubt of continued authorization, this plan means that farm real estate transactions may continue as we have come to see them in recent years.
Second, the proposals do little to impact those who earn less than $260,000 of taxable income. Many farm operations have a large gross income but have taxable income less than that number. If you make more than that through actual work and not rental or passive income, the tax adjustments are a negative. The cuts are largely available to those who do not need to work to provide cash. Those who make money through S Corp holdings and real estate partnerships will be better off than those who earn similar money via work like CPAs, counselors, dentists and yes, lawyers.
Third, the deduction for medical expenses would be eliminated, as have the deductions for student loan interest, tax prep expenses, moving expenses, unreimbursed employee expenses, and alimony. That is concerning, as many older land owners look to a contract sale to move the farm into the hands of the next generation. As they realize the capital gains, they have increasing medical expenses in the form of nursing home or hospital bills to offset the tax. Student loans are quite expensive and are supposed to be taken to invest in higher paying jobs and further career advancements. Loan rates set by the government, which are now also not deductible, when determining taxes to pay to the government, looks like a nice continued source of taxation. Currently, each dollar of income is reduced by each dollar of interest paid for student loans until a substantial income threshold is met. The removal of this deduction is a wet blanket on higher education loans, which may not be a bad thing. Free access to government loans without a thought on pay back prospects needs to be curtailed. Four year degrees costing $100,000 in leisure studies seems like a long shot to get a return salary commensurate with the education investment.
Fourth, earned income tax credit (EITC) stays. As a tax preparer, it has been a source of frustration to jump through the hoops to ensure those who are entitled to it can claim it, because of the fraud associated with the program. It also skews towards rewarding partial, but not full employment, and off the books work to keep income reporting artificially low. I am not a fan of the EITC and wish it would have gone on the chopping block. It almost has a “buying low income votes” feel to it, and I doubt it will ever be eliminated.
Fifth, under the proposal, businesses conducted as sole proprietorships, partnerships, and S corporations would be taxed at a rate of 25%. However, businesses that offer "professional services", read doctors, lawyers, and accountants who don’t work for large companies don’t get this break. Other business owners can choose to categorize 70% of their income as wages (and pay the individual tax rate) and 30% as business income (taxable at 25%) OR fix the ratio of wage income to business income based on capital investment. Corporations that pay tax on profits (c corporation) at the corporate level drops to 20%.
Finally, plans increase the ability to expense equipment purchases instead of slowly depreciating them over the time of their expected useful life. Some farm operators who have a strong desire to not pay tax use new equipment purchases with immediate expensing to erase profit. They run into trouble in future years when the payments are due and the profits are shrinking. The payments are made with dollars that are profit, and not associated with the expense, as the expense was already consumed in a prior year.
For illustration purposes, imagine a widower with social security and just enough farm ground (288 acres tillable $2.88 million valuation) to cover her current nursing home expenses, with rental income at $250 per acre. She has a daughter who would like to own the farm, as she rents it currently. It’s a fact pattern that is, plus or minus an annuity payment, is fairly common. We will compare her facts to the policy implications of what is being proposed in Washington.
Our widower likely doesn’t have an estate tax problem. If her daughter has a viable wife and husband operation with an equipment line of $3 million dollars (which is easier to accumulate) and 1500 acres free and clear, she would be flirting with the new proposed cap for estate taxes. Using discounted gifting tactics can stretch that cap a ways past the $20 million mark.
The widower in our example would lose a substantial deduction and begin to pay on her income with the elimination of medical payments as an expense deduction. This will make her less likely to sell the property on contract as she will pay capital gains tax on the sale with no corresponding deduction like she would have under the current system. This deduction loss will not be offset by the increase in standard deductions, as medical expenses for nursing care are well above $50,000 per year in most locations.
All of this is, of course, subject to change. The concern is that the passive investors (or idle rich if you will) are receiving a break on income generation and on the death tax, while those who work continue to pay into the system.
Sumner, Iowa Attorney practicing in Iowa primarily in Ag Law, Bankruptcy, Estate Planning, Real Estate Law, Family Law & Criminal Defense. Lawyers at the Dillon Law P.C. are dedicated serving Iowa, including but not limited to the cities of Allison, Charles City, Cresco, Decorah, Des Moines, Dubuque, Elkader, Grundy Center, Independence, Manchester, New Hampton, Waterloo, Waverly, Waukon, West Union & Vinton, and the communities that makeup Allamakee, Benton, Black Hawk, Bremer, Buchanan, Butler, Chickasaw, Clayton, Delaware, Dubuque, Fayette, Floyd, Grundy, Howard, Polk, Winneshiek, counties. © 2021 Dillon Law P.C. Sumner Location | 209 E. 1st Street, Sumner, IA 50674 Directions Volga City Location | 502 Washington St, Volga City, IA, 52077. We are there most Fridays 10-3 and by appointment. Directions Telephone: (563) 578-1850 Email: firstname.lastname@example.org Home | Attorneys | Blog | Ag Law | Bankruptcy | Estate Planning | Real Estate Law | Family Law | Criminal Defense | Contact | Iowa Ag Law Attorney Sumner Taxation Commercial Transactions Production Contracts Labor Hobby Farm Liability Bremer Fayette County Lawyer