ISSUES RELATED TO INCOME FROM SALE OF LIVESTOCK DUE TO WEATHER-RELATED CONDITIONS Timothy D. Bachicha, CPA Extension Farm Management Specialist Colorado State University Cooperative Extension Telephone (719)

TWO SEPARATE ISSUES: IRS Code section 451(e): Think Sales of Market Livestock - primarily IRS Code Section 1033(e): Think Sale or Exchange of Capital Asset Breeding Livestock, Draft or Dairy

Important points: 1. Election 2. Cash Basis Farmer 3. Forced to Sell 4. Area Designated 5.Under 451 – income recognized next year 6. Contrary to usual business practices

Must Attach Statement Basic information about taxpayer Evidence of weather related conditions Specific numbers and types of animals Normally sold (last three years) Sold this year Computation of income deferred

IMPORTANT Election must be made separately for each broad generic classification Hogs, Cattle, Sheep Not based on age, sex or breed

Why Defer Income? Federal Income Tax Brackets Time Value of Money Self-employment Tax Issues Social Security Limits on Earnings 2002 – $84, $80,400

Considerations Multi-year perspective Tax not main factor in decision Next Year? How does it fit with other elections? Sec. 179 ($24,000) 30% Bonus Depreciation Income Averaging

Considerations, 2 NOL Carrybacks/carryforwards Crop Insurance Proceeds – Election?

Decisions, Decisions !!! Process is multi-faceted Consider your OWN situation Consult your own Tax Professional

Section 1033 Involuntary Conversion Think Exchange

Defer Recognition of Gain Mandatory if directly converted (exchanged) Optional under other situations Insurance Proceeds Sales due to Weather-related Conditions DROUGHT

Contingent Replacement Within a certain time frame Replacement Property must be SIMILAR OR RELATED IN SERVICE (OR IN USE) NOT LIKE KIND

CONTINGENT, 2 Qualified Replacement property Cost at least as much as amount realized Cost less? - Recognize gain!

General Rules Property Involuntarily Converted Purchase Replacement Property Make a Valid Election

DEFINITION Compulsory or Involuntary Destruction – in whole or in part Deemed Involuntary Conversion: Destruction of Diseased Livestock Sales on Account of Drought

Drought Sales Solely on account of drought, flood, or other weather related conditions

Example: Normally sell 50 cull cows Drought – Sell 75 Involuntary Conversion – 25 head

Replacement Property Similar or related in service or use Not = to Like-Kind definition …similarity in the relationship of the services or uses which the original replacement properties have to the taxpayer- owner.

Replacement, 2 Substantially similar property Substantial Continuation of prior commitment Character of Investment has not changed not necessarily duplicate Return as close as possible to his/her original position

Special Rule Related party transactions Realized gain <$100,000, deferral of gain is denied.

Examples Similar in Use Not Similar in Use

Purchase Requirement Purchased Not Raised in Own Herd Purchase Price = Cost Basis Gift – N/A Tax-free Exchange – N/A

Special Definition If replacement is not Feasible Soil Contamination Other Environmental Condition Then replacement can be with any other property used for farming purposes

Replacement Period Two-years December 31, 2004 Must be Completed Extension Possible

Making the Election Include only the Gain that may not be deferred Provide statement with details Deemed Election

What If…? Replacement not made or, All conditions not satisfied? Not Replaced within time frame Costs Less Decide to not replace Other conditions not met

AMEND! The Original Return for the Year of the Involuntary Conversion Any intervening years that are affected NOL carry forward or carry back

Change Election Didnt Make Election? File amended return before replacement period ends

Change Election, 2 Made Election, want to change? Replacement property doesnt qualify Cost is less Change or revoke before actual replacement

Change Election, 3 AMENDED RETURNS

BOTTOM LINE Get competent professional advice Know your operation Know your plans Know what is available Not an easy decision

Colorado Tax Credit FYI – Income 55 Credit available to offset Colorado Tax 4.63% of amount actually deferred Under IRC Sec 451 – not 1033 Principal trade or business is farming Carry forward unused credits – 5 years