This chapter contains a description of tax provisions applied to agriculture in 2019, unless otherwise specified. They include taxes on income and profit, property, good and services, environmental taxes, and tax incentives for R&D and innovation.
Taxation in Agriculture
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Chapter 38. United States
Abstract
38.1. Overview
The tax system in the United States is characterised by a pronounced federalism. In addition to taxes at the federal and state levels, at the local level counties, municipalities and townships, school districts as well as special purpose authorities are allowed to raise taxes. The federation levies federal income tax on individuals, which is a uniform tax on gross income. Federal income tax is the main form of direct taxation on farm households, followed by social security and self-employment taxes. Some states do not have their own income tax and others raise it in a quite different form. Municipalities raise their own income taxes and in seven states municipalities are able to set corporate income taxes. All the states as well as most municipalities raise land and real estate property taxes. The Internal Revenue Code (IRC) of 22 October 1986 (including all later changes) is decisive for all federal taxes. The legal validity of the remaining taxes are the tax laws and the constitution of the respective federal states or municipalities. The differing approaches results in considerable variation in tax arrangements between states and between rural and urban areas. This complexity means that it is difficult to measure favourable treatment of agriculture at the national level.
Implemented in 2018, the Tax Cuts and Jobs Act (TCJA) 2017 has made extensive changes to the federal income tax system. Corporate tax rate is now simplified and levied at a single lower rate of 21% (instead of tiered rates) and the progressive individual income tax rates have been lowered and the seven tax brackets have been broadened. The TCJA will expire after 2025.
According to research undertaken by the ERS (2018) the biggest impact for farmers from the TCJA comes from the reduced marginal income tax rates. Analysis using farm household income data from 2016 indicates that instead of an average effective income tax rate of 17.2%, under the TCJA family farm households would face an average tax rate of 13.9%, with mid-sized farms (those with gross cash farm income of between USD 350 000 and USD 1 million) benefiting the most.
In the United States, the most important tax advantages for agriculture under federal income tax is income averaging and the deductibility of certain capital expenditures and the treatment of some income from asset sales as capital gains. However, the reduced tax on farm real estate for state and local property tax purposes may be the most significant tax expenditure overall. Also the opportunity to use cash accounting (in contrast to accrual accounting) reduces the administrative burden of bookkeeping for taxes for farmers with gross annual cash farm income of less than USD 25 million.
38.2. Income taxation
Under the current income tax structure, depending on how it is organised, a farm business can be taxed under the federal individual income tax or corporate income tax. State level tax treatment is the same as federal, meaning a business taxed at the federal level as a corporation would also generally be taxed as a corporation at the state level.
Farms can be organised as the following forms of businesses: C corporations, sole proprietorships, partnerships, limited liability company and subchapter S corporations. Farms may also choose to form a Limited Liability Company (LLC) which the Internal Revenue Service (IRS) treats as either a corporation, partnership or as an entity separate from its owner for income tax purposes.
Most agribusinesses are large corporations and are taxed under the corporate income tax structure. In 2017, only 2% of family farms operated as C corporations.
Sole proprietorships, the most common form of farm organisation, are taxed at the individual level. According to the 2017 Agricultural Resource Management Survey, sole proprietorship comprises 89% of all farms. Partnerships and subchapter S corporations are also taxed at the individual level with income from farms passing through to the individual partners or shareholders for taxation purposes. Partnerships comprise about 6% of farms while corporations account for about 4% (2% subchapter S corporations and 2% C corporations). Therefore, about 97% of all farms are taxed under the individual income tax rather than the corporate income.
Farmers benefit from both general tax provisions available to all taxpayers and from provisions specifically targeted to farmers. In general, income from farming is taxed more favourably than income from many other businesses. Some of the specific provisions that are responsible for this treatment include the current deductibility of certain capital costs, capital gains treatment of proceeds from the sale of farm assets, cash accounting, and farm income averaging. These and other provisions reduce the farm income tax base, allow some farm income to be taxed at reduced rates, and contributes to smoothing annual income variations.
National subsidies for soil, groundwater or environmental protection, care for wild animals or forests are sometimes tax-free for the farmer. For example the Conservation Reserve Program (CRP) targets the removal from environmental sensible land from production. Payments from CRP are not considered as part of rental income. However, CRP is used in net income to calculate Self-Employment taxes but it is not subject to federal income taxes.
Capital gains treatment for assets used in farming. Under certain conditions income generated by the sale of assets used in farming businesses is not subject to income tax and is instead taxed as capital gains or losses. Among the farm assets eligible for such treatment are farmland, buildings, machinery and livestock held for draft, dairy, breeding, or sporting purposes. To be eligible livestock must be held for a minimum amount of time (the required holding period) before income generated from the sale is eligible for long term capital gain treatment and is taxed at a lower or zero rate. By planning farmers can move income to the most favourable tax rates
Current deduction for development costs. Another feature of the federal income tax that applies specifically to farmers is the ability to deduct the cost of developing certain farm assets in the tax year when the costs are incurred or paid. Examples of pre-productive development costs include raising dairy, draft, breeding, or raising livestock to their age for mature use, caring for orchards and vineyards before they are ready to produce crops, and clearing land and building long-term soil fertility by applying lime, fertiliser, and other materials.
Cash accounting. While businesses are generally required to use the accrual method of accounting for tax purposes, most farm sole proprietors are allowed to use the cash method of accounting. A large number of farm partnerships and small business corporations also are allowed to use the cash method. Only corporations (other than a family corporation) that had gross receipts of more than USD 1 million for any tax year beginning after 1975 or a family corporation that has gross receipts of more than USD 25 million for any tax year after 1985 are required to use the accrual method of accounting. The main advantage of using cash accounting relates to the mismatch of incomes and expenses in different tax years since it is always beneficial to receive a benefit sooner rather than later.
Current deduction for soil and water conservation expenditures. Since 1954, farmers have been allowed to claim immediate federal income tax deductions for certain types of expenditures on soil and water conservation or for the prevention of erosion of land used in farming. Examples of expenses have included levelling, grading, terracing, custom furrowing, planting windbreaks, and constructing, controlling, and protecting diversion channels, drainage ditches, irrigation ditches, earthen dams, watercourses, outlets, and ponds.
Income averaging. Under the current law, a farmer can elect to shift a specified amount of farm income, including gain on the sale of farm assets except land, to the preceding three years and pay tax at the rate applicable in each year. The current income shifted back is spread equally among the three years. If the marginal tax rate was lower during one or more of the preceding years, a farmer may pay less tax than without income averaging. This helps to reduce the potential higher taxes that might otherwise occur as a result the combination of variable farm income and a progressive tax rate structure. The TCJA retains this provision.
In addition to targeted provisions, farmers and agribusinesses benefit from various general provisions including the tax treatment of capital investments which have been modified by TCJA to effectively allow the write-off of capital purchases in the first year of purchase. Capital purchases include breeding livestock and milking sheds as well as farm equipment.
Under section 179 of the TCJA the amount of capital purchases that can be immediately deduced is increased to USD 1 million (from USD 510 000). In additional until 2022, businesses making investments above the section 179 limit can deduce 100% of the difference between their investment and the USD 1 million limit in the first year of purchase (“100% bonus depreciation”). This measure applies to new and used farming equipment bought and put into use after September 2017. The bonus depreciation percentage will be phased out starting from the end of 2022, by 20% each year until it is completely eliminated by 2027. Allowing a large share of investment to be recovered in the first year of the investment and thereafter at an accelerated rate reduces the tax rate and encourages additional capital investment.
According to ERS (2018) the new section 179 provisions are unlikely to have a major effect on the majority of farms because most make investments in depreciable capital assets that are below the previous maximum thresholds of section 179. In 2009-2016, less than 1% of farms made investments above the USD 1 million limit.
38.3. Property taxation
At the state and local level, annual property taxes are of the greatest significance.
Local property taxes in particular are generally associated with provision of community services, particularly education, so that lower tax rates for less dense uses of land, such as agriculture, may be related to lower use of those services per taxable land unit.
All states have adopted some special assessment programme designed to reduce the amount that farmers are required to pay in state and local property taxes. The most common type of programme is known as the “use-value assessment” whereby property taxes are based on some version of the hypothetical value of land if it were to remain in agricultural use in perpetuity. This can provide significant property tax relief, lowering farm operating expenses and reducing the potential that financial pressures could force some farmers to sell their land for development purposes. In 2018, foregone federal estate tax revenue from the “special use valuation” programme for farmers is estimated as being USD 59.7 million according to the ERS.
Federal estate tax applies a unified tax rate structure to gifts and transfers of money and property at death. The taxes have been amended numerous times (and were even repealed for one year in 2010), most recently by the TCJA which maintains the basis structure of the tax. A progressive rate is applied above the threshold level of USD 11.18 million as amended (and doubled) by the TCJA. There are additional rules that reduce gift and estate tax in small family business; special use valuation of farmland and instalment payment of estate taxes. Although these provisions apply to both farms and other small businesses, in their application the primary beneficiaries of the special use value provision are farms.
Generally, the value of a property for estate tax purposes is the fair market value at the date of death. For real property devoted to farming or other closely held business, special rules apply and the value of the farm is set to its use value. To qualify for this use value, the property must:
be transferred to a qualified heir
must have been used as a farm for five years during the last eight years
the decedent or a member of the decedent’s family must have participated in the farm business
the value of the qualified real property must equal at least 25% of the estate
the combined value of real and other business property must be at least 50% of the gross estate.
For most farms, the special use value is 40-70% lower than the fair market value.
Also farmers are able to donate part of their land to an easement on which development is restricted. The value of the proportion of the land under the easement is then excluded from the value of the property, creating extra tax savings.
38.4. Tax on goods and services
Sales tax is a state and local consumption tax and thus varies widely ranging from less than 1% to over 10%. Most states provide partial or full relief from sales taxes on food for household consumption.
Both the federal and state governments impose an excise or sales tax on fuel (gasoline, diesel fuel, etc.). In many jurisdictions, including federal, fuel tax exemptions are granted to a range of off-road fuel uses, including construction, marine, and agriculture, on the basis that the fuel tax is intended to support the development and maintenance of road-based infrastructures. Fuel used on a farm for farming purposes is fully or partially exempt from the excise tax. No tax is charged on dyed diesel fuel for farming. Farmers can claim a tax refund or tax credit for gasoline and undyed diesel used in agricultural production.
Estimates of the value of the tax expenditures are supplied by the United States to the OECD for inclusion in its PSE/CSE database. Table 38.1 contains the figures for single years from 2013 to 2018.
Table 38.1. Estimates of tax expenditures, 2013 to 2018
USD million
|
Form of concession |
2013 |
2014 |
2015 |
2016 |
2017 |
2018 |
|---|---|---|---|---|---|---|
|
Tax concession (income) |
1 260 |
1 683 |
1 795 |
2 068 |
1 936 |
2 153 |
|
Fuel tax exemption for farms |
678 |
751 |
777 |
777 |
777 |
777 |
|
Total |
1 938 |
2 434 |
2 572 |
2 845 |
2 713 |
2 930 |
|
Producer Support Estimate (PSE) |
28 714 |
39 335 |
37 386 |
36 442 |
33 813 |
44 308 |
|
Total tax exemptions % of PSE |
7 |
6 |
7 |
8 |
8 |
7 |
|
Form of concession |
2013 |
2014 |
2015 |
2016 |
2017 |
2018 |
Source: OECD PSE/CSE database.
38.5. Environmental taxes
There are no taxes in the United States to improve the environmental impact of agriculture-related activities.
38.6. Tax incentives for R&D and innovation
The United States offers tax incentives for R&D or the introduction of innovation. There are three provisions: a deduction from taxable income for research expenses, a tax credit for increasing research activities, and an exemption for donations to charitable agricultural research organisations. These tax credits for R&D are retained under the TCJA however after 2021 R&D expenses must be recorded in the balance sheet and depreciated over a five year period.
The deduction for research expenses allows businesses to elect to deduct from taxable income the entire amount of eligible R&D expenditures in the year which they were incurred. These costs include salaries for researchers, operational costs and costs for materials and supplies used for the research experimentation.
Under the tax credit businesses are allowed to reduce their federal income tax by an amount equal to 20% of their qualified R&D expenditure over a certain threshold (based on a complex calculation). Alternatively, simplified credit allows a credit equal to 14% of research expenses in excess of 50% over the average qualified research expenditures for three prior years.
Qualified research expenses must be experimental for the purposes of discovering information that is technological in nature and used in the development of a new or improved product, process, formula or invention. Eligible expenditures are limited to direct wage and salary, supplies, costs for equipment and from 65% to 100% of contract research expenses. The credit is not refundable. However it can be carried forward for 20 years to reduce future tax liability.
A variety of farming and food manufacturing and processing activities are potentially eligible for the credit. However in 2008 only 0.1% of the credit was received by firms involved in agricultural production. The credit primarily benefits large corporations with about 87% of the credit going to firms with over USD 50 million in assets in 2008.
Thirty-six states offer tax credits for R&D expenses too and as of 2005 the average effective rate of the various state level credits had reached 6% of qualified R&D expenditure.
38.7. Other taxes
Estimates of federal tax expenditures for agriculture under the federal income tax can be found in a report by the Joint Committee on Taxation (Estimates of Tax Expenditures for Fiscal Years 2018-2022, JCX-81-18, October 2018). The report acknowledges that concessions exist under other forms of tax but confines itself to those within income tax. It lists seven tax expenditures and provides estimates for the annual amount of the tax expenditure for fiscal years 2018 to 2022. The JCT figures are used for scoring Federal legislation.
JCT estimates of the total expenditure (in USD billion) for the five-year period 2018-22 are listed in Table 38.2.
Table 38.2. Estimates of tax expenditure to agriculture 2018-22
USD billion
|
Tax expenditure |
Estimate for 2018-22 (total) USD billion |
|---|---|
|
Income averaging for farmers and fishers |
0.9 |
|
Exclusion of cost-sharing payments |
0.2 |
|
Expensing by farmers for fertiliser and soil conditioner costs |
0.8 |
|
Expensing of soil and water conservation expenditures |
0.7 |
|
Exclusion of cancellation of indebtedness income of farmers |
0.5 |
|
Two-year carry back period for net operating losses attributable for farming |
0.3 |
|
Cash accounting for agriculture |
0.1 |
Source: Joint Committee on Taxation (2018) Estimates of Federal Expenditures for the Fiscal Years 2018-2022. Prepared for the Committee on Ways and Means and the Committee on Finance. US Government Printing Office, Washington. JCX-81-18.
Further reading
Cnossen, S., “VAT and agriculture: lessons from Europe”, In Tax Public Finance (2018) 25: 519. https://doi.org/10.1007/s10797-017-9453-4.
Hemmings, P. (2016), "Policy Challenges for Agriculture and Rural Areas in Norway", OECD Economics Department Working Papers, No. 1286, OECD Publishing, Paris, https://doi.org/10.1787/5jm0xf0r676c-en.
OECD (2019), Innovation, Agricultural Productivity and Sustainability in Japan, OECD Food and Agricultural Reviews, OECD Publishing, Paris, https://doi.org/10.1787/92b8dff7-en.
OECD (2019), Innovation, Agricultural Productivity and Sustainability in Latvia, OECD Food and Agricultural Reviews, OECD Publishing, Paris, https://doi.org/10.1787/9789264312524-en.
OECD (2018), Consumption Tax Trends 2018: VAT/GST and Excise Rates, Trends and Policy Issues, OECD Publishing, Paris, https://doi.org/10.1787/ctt-2018-en.
OECD (2018), Agricultural Productivity and Sustainability in Sweden, OECD Publishing, Paris, https://doi.org/10.1787/9789264085268-3-en.
OECD (2018), OECD Environmental Performance Reviews: Czech Republic 2018, OECD Environmental Performance Reviews, OECD Publishing, Paris, https://doi.org/10.1787/9789264300958-en.
OECD (2018), OECD Economic Surveys: Chile 2018, OECD Publishing, Paris. https://dx.doi.org/10.1787/eco_surveys-chl-2018-en.
OECD Science, Technology and Industry Scoreboard 2017, https://doi.org/10.1787/9789264268821-en.
OECD (2018), Consumption Tax Trends 2018: VAT/GST and Excise Rates, Trends and Policy Issues, OECD Publishing, Paris, https://doi.org/10.1787/ctt-2018-en.
OECD (2018), Innovation, Agricultural Productivity and Sustainability in Estonia, OECD Food and Agricultural Reviews, OECD Publishing, Paris, https://doi.org/10.1787/9789264288744-en.
OECD (2018), OECD Rural Policy Reviews: Poland 2018, OECD Publishing, Paris. http://dx.doi.org/10.1787/9789264289925-en.
OECD (2018), Innovation, Agricultural Productivity and Sustainability in Korea, OECD Food and Agricultural Reviews, OECD Publishing, Paris, https://doi.org/10.1787/9789264307773-en.
OECD (2017), OECD Environmental Performance Reviews: Switzerland 2017, OECD Publishing, Paris. http://dx.doi.org/10.1787/9789264279674-en.
OECD (2017), Agricultural Policies in Costa Rica, OECD Publishing, Paris http://dx.doi.org/10.1787/9789264269125-en.
OECD (2016), Innovation, Agricultural Productivity and Sustainability in the United States, OECD Food and Agricultural Reviews, OECD Publishing, Paris, https://doi.org/10.1787/9789264264120-en.
OECD (2015), Innovation, Agricultural Productivity and Sustainability in Canada, OECD Food and Agricultural Reviews, OECD Publishing, Paris, https://doi.org/10.1787/9789264238541-en.
OECD (2015), Innovation, Agricultural Productivity and Sustainability in Australia, OECD Publishing, Paris, http://dx.doi.org/10.1787/9789264238367-en .
OECD (2015), Innovation, Agricultural Productivity and Sustainability in the Netherlands, OECD Food and Agricultural Reviews, OECD Publishing, Paris, https://doi.org/10.1787/9789264238473-en.
OECD (2005), Taxation and Social Security in Agriculture, OECD Publishing, Paris. http://dx.doi.org/10.1787/9789264013650-en.
OECD (1998), Adjustment in OECD Agriculture: Reforming Farmland Policies, OECD Publishing, Paris, https://doi.org/10.1787/9789264162617-en.
van der Veen, H. et al. (2007), Exploring Agricultural Taxation in Europe, LEI, The Hague, http://edepot.wur.nl/23200.