Publication 225 |
2000 Tax Year |
Not-for-Profit Farming
If you operate a farm for profit you can deduct all the ordinary
and necessary expenses of carrying on the business of farming on
Schedule F. However, if you do not carry on your farming activity, or
other activity you engage or invest in, to make a profit, you report
the income from the activity on line 21 of Form 1040 and you can
deduct expenses of carrying on the activity only if you itemize your
deductions on Schedule A (Form 1040). Also, there is a limit on the
deductions you can take. You cannot use a loss from that activity to
offset income from other activities.
Activities you do as a hobby, or mainly for sport or recreation,
come under these rules. So does an investment activity intended only
to produce tax losses for the investors.
The limit on not-for-profit losses applies to individuals,
partnerships, estates, trusts, and S corporations. It does not apply
to corporations other than S corporations.
In determining whether you are carrying on your farming activity
for profit, all the facts are taken into account. No one factor alone
is decisive. Among the factors to consider are whether:
- You operate your farm in a businesslike manner,
- The time and effort you spend on farming indicate you intend
to make it profitable,
- You depend on income from farming for your
livelihood,
- Your losses are due to circumstances beyond your control or
are normal in the start-up phase of farming,
- You change your methods of operation in an attempt to
improve profitability,
- You, or your advisors, have the knowledge needed to carry on
the farming activity as a successful business,
- You made a profit in similar activities in the past,
- You make a profit from farming in some years and how much
profit you make, and
- You can expect to make a future profit from the appreciation
of the assets used in the farming activity.
Limit on deductions and losses.
If your activity is not carried on for profit, take deductions only
in the following order, only to the extent stated in the three
categories, and, if you are an individual, only if you itemize them on
Schedule A (Form 1040).
Category 1.
Deductions you can take for personal as well as for business
activities are allowed in full. For individuals, all nonbusiness
deductions, such as those for home mortgage interest, taxes, and
casualty losses (see chapter 13),
belong in this category. For the
limits that apply to mortgage interest, see Publication 936.
Category 2.
Deductions that do not result in an adjustment to the basis of
property are allowed next, but only to the extent your gross income
from the activity is more than the deductions you take (or could take)
for it under the first category. Most business deductions, such as
those for fertilizer, feed, insurance premiums, utilities, wages,
etc., belong in this category.
Category 3.
Business deductions that decrease the basis of property are allowed
last, but only to the extent the gross income from the activity is
more than deductions you take (or could take) for it under the first
two categories. The deductions for depreciation, amortization, and the
part of a casualty loss an individual could not deduct in category (1)
belong in this category. Where more than one asset is involved, divide
depreciation and these other deductions proportionally among those
assets.
Individuals must claim the amounts in categories (2) and (3) above
as miscellaneous deductions on Schedule A (Form 1040). They are
subject to the 2%-of-adjusted-gross-income limit. See Publication 529,
Miscellaneous Deductions, for information on this limit.
Partnerships and S corporations.
If a partnership or S corporation carries on a not-for-profit
activity, these limits apply at the partnership or S corporation
level. They are reflected in the individual shareholder's or partner's
distributive shares.
Presumption of profit.
Your farming or other activity is presumed to be carried on for
profit if it produced a profit in at least 3 of the last 5 tax years,
including the current year. Activities that consist primarily of
breeding, training, showing, or racing horses are presumed to be
carried on for profit if they produced a profit in at least 2 out of
the last 7 tax years, including the current year. The activity must be
the same for each year within this period. You have a profit when the
gross income from an activity is more than the deductions for it.
If a taxpayer dies before the end of the 5-year (or 7-year) period,
the period ends on the date of the taxpayer's death.
If your business or investment activity passes this 3- (or 2-)
years-of-profit test, it is presumed to be carried on for profit. This
means the limits discussed here do not apply. You can take all your
business deductions from the activity on Schedule F, even for the
years that you have a loss. You can rely on this presumption unless
the IRS shows it is not valid.
If you fail the 3- (or 2-) years-of-profit test, you may still be
considered to operate your farm for profit by considering the factors
listed earlier.
Using the presumption later.
If you are starting out in farming and do not have 3 (or 2) years
showing a profit, you may want to take advantage of this presumption
later, after you have had the 5 (or 7) years of experience allowed by
the test.
You can choose to do this by filing Form 5213. Filing
this form postpones any determination that your farming activity is
not carried on for profit until 5 (or 7) years have passed since you
first started farming. Form 5213 must be filed within 3 years after
the due date of your return for the year you first started farming.
However, if you receive a notice from the IRS proposing to disallow
your farm loss, file this form within 60 days after receiving the
notice.
The benefit gained by making this choice is that the IRS will not
immediately question whether your farming activity is engaged in for
profit. Accordingly, it will not limit your deductions. Rather, you
will gain time to earn a profit in 3 (or 2) out of the first 5 (or 7)
years you carry on the farming activity. If you show 3 (or 2) years of
profit at the end of this period, your deductions are not limited
under these rules. If you do not have 3 (or 2) years of profit (and
cannot otherwise show that you operated your farm for profit), the
limit applies retroactively to any year in the 5- (or 7-) year period
with a loss.
Filing Form 5213 automatically extends the period of limitations on
any year in the 5- (or 7-) year period to 2 years after the due date
of the return for the last year of the period. The period is extended
only for deductions of the activity and any related deductions that
might be affected.
For more information on not-for-profit activities, see
Not-for-Profit Activities in chapter 1 of Publication 535.
Previous| First | Next
Publication Index | IRS-Forms Main | Home
|