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Crop insurance can muddy tax waters

Jeff Caldwell 10/23/2012 @ 9:08am Multimedia Editor for Agriculture.com and Successful Farming magazine.

If you're like many farmers whose crop yields have been gutted by drought this year, you're likely deriving some -- if not most -- income this year from crop insurance. This has a lot of implications, tax-wise. It can put you in something of a "unique tax bind," one expert says. So, what can you do to avoid that bind?

A combination of using cash accounting and contract-selling grain, in a year when much of that grain-sales income instead comes from crop insurance, can lead to a "bunching of income for farmers who would normally sell a portion or all of their crop in the year following harvest," says Ohio State University farm management specialist David Marrison. But, if that happens, there is protection from paying a boatload of taxes at once in the form of an Internal Revenue Service (IRS) provision.

The IRS section 451(d) and Treasury Regulation section 1.451-6 allows for the "postponement (for one year) of reporting compensatory payments received for crop losses," Marrison says. In other words, if you have lost income from crop yields but have recovered that income from crop insurance, you won't have to pay taxes on that income even though it all may come in this calendar year, vs. grain sales income that could come months or years down the road.

"Generally, this exception applies when crops cannot be planted or are damaged or destroyed by a natural disaster such as a drought or flood. To qualify for the exception, a farmer must use the cash method for accounting and must show that it is his or her normal business practice for crop income to be reported in the year following the year it was grown (i.e., sold in the following year)," Marrison says in a university report. "The election must cover all eligible crops from a single farming business. If a farmer has more than one farming business, he or she must make a separate election for each farming business. The exception does not allow the taxpayer to postpone or accelerate reporting a crop loss payment if the payment is received the year after the year of the crop loss. So if the farmer receives his insurance payment in 2013 for the 2012 affected crops, it cannot be deferred."

If you want to postpone reporting crop insurance income this year, Marrison says you'll need to report your insurance proceeds on line 8a of your Schedule F form, but not as a "taxable amount" on line 8b. "Check the box on line 8c and attach a statement to your tax return. It must include the taxpayer's name and address," he says. You'll also need to include the following information on that attachment:

  • A statement that you are making a choice under IRC section 451(d) and Treasury Regulation section 1.451-6.

  • The specific crop or crops destroyed or damaged.

  • A statement that under your normal business practice you would have included income from the destroyed or damaged crops in gross income for a tax year following the year the crops were destroyed or damaged.

  • The cause of the destruction or damage and the date or dates it occurred.

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