Producers Should Look at Tax Implications of Drought

By: Kay Ledbetter, Texas A&M AgriLife Extension Service

Drought plagued much of the state in 2013, causing property damage and additional livestock liquidations for many Texas agricultural producers. These losses and any unexpected revenue may have implications at tax time, a Texas A&M AgriLife Extension Service specialist said.

DeDe Jones, AgriLife Extension risk management specialist in Amarillo, said much of the U.S. experienced abnormally dry conditions over the past 36 months, and it was especially severe in Texas, where 108 Texas counties were designated as natural disaster areas at the beginning of this year.

Economists estimate more than $7.6 billion in lost revenues over the past 36 months in Texas. Jones said low moisture fueled wildfires and ruined crops and pastures. And with the price of hay increasing by 200 percent during this time, Texas ranchers were forced to severely cull their herds and sell off large numbers of cattle in auctions.

This situation poses several financial management challenges, she said.

In a typical year, any gain on property loss reimbursement such as insurance payments or the sale of livestock is subject to taxes, Jones said. However, under these unusual circumstances, additional options should be explored.

Several options, including Internal Revenue Service Form 4684, IRS code 1033 and IRS code 451, are available to help farmers and ranchers deal with these weather-related issues in excess of normal business practices, she said. She encouraged producers to contact a tax accountant to determine the option that best fits their operation and business plan.

The first option, IRS Form 4684, allows producers to postpone reimbursement gains for up to four years. The second, IRS code 1033, pertains to draft, breeding or dairy animals that will be replaced within a given time period. The final alternative, IRS code 451, allows a one-year postponement in reporting sales proceeds on raised livestock.

Reporting casualty losses on IRS Form 4684 allows farmers and ranchers to defer any gains that result from insurance reimbursements for fire-related losses associated with fences, equipment, etc.

Producers have up to two years under normal circumstances and four years during times of disaster to utilize any money received for property restoration or replacement. The replacement period begins on the date their property was damaged, destroyed or stolen. It ends two or four years following the tax year in which the gain is realized.

The four-year option is available only to those located in a federally declared disaster area, Jones said. To be eligible for deferment, producers must attach a statement to their tax return indicating the date and details of their casualty, the amount of insurance or other reimbursement received, how the gain was calculated, and proof of a disaster declaration, if applicable.

Under the 1033 election, drought liquidations of breeding livestock are considered involuntary conversions of capital equipment. Gains can be postponed for up to two years in typical circumstances and four years during times of disaster if animals are replaced in a county-declared disaster area.

All replacement cattle should be used for the same purpose as the livestock that was sold, Jones said. For example, beef cows must be replaced with beef cows. The taxpayer also has to show that adverse weather conditions caused the sale of more livestock than normal. Gain postponement is only allowed on those animals sold because of the unfavorable weather.

To be eligible for a 1033 election, producers must attach a statement to their tax return indicating the existence of an adverse weather-related condition, proof of a disaster declaration, if applicable, and documentation listing the amount of gain realized on liquidated cattle. They should show the amount and kind of livestock sold or exchanged, and estimate the number of animals typically sold or exchanged under normal weather conditions.

Section 451 allows cattle owners to postpone gains for one year on raised livestock only, Jones said. To qualify for this election, taxpayers must show that their primary business is farming or ranching and use the cash method of accounting. They should demonstrate that the livestock would normally have been sold at a later date but were liquidated early due to drought.

Additionally, she said, they must provide proof that the sale of livestock was caused by weather conditions from a region officially declared a disaster area. The liquidation can take place before or after a disaster is declared, as long as the same disaster caused the sale. Income can be postponed only on those cattle liquidated as a result of weather-related causes.