CGNA: Chapter 5 - Agricultural Assets, Advanced - Part 1 of 2

CGNA: Chapter 5 - Agricultural Assets, Advanced - Part 1 of 2

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This article is an excerpt from Charitable Gifts of Noncash Assets, a comprehensive guide to illiquid giving by Bryan Clontz, ed. Ryan Raffin. Published by the American College of Financial Services for the Chartered Advisor in Philanthropy Program (CAP), with generous funding from Leon L. Levy. For a free digital copy, click here, and to order a bound copy from Amazon, click here.

by Phil Purcell

Below is an in-depth examination on gifts of agricultural assets. Agricultural asset topics are based on Phil Purcell’s “Gifts of Agricultural Assets.” For quick take-aways on gifts of real estate, see Agricultural Assets Quick Take-Aways. For a review based on that article, see Agricultural Assets Intermediate. For an in-depth examination adapted and excerpted from the article, see Agricultural Assets Advanced. For further details, see Agricultural Assets Additional Resources.

Gifts of agricultural assets are a unique class in that they literally grow. Donors will typically give crops and timber after the assets have already been harvested. Livestock gifts have special considerations for charities resulting from their unique upkeep.

Another unique feature of agricultural assets is a significant level of legislation at both federal and state levels—so donors, nonprofits, and advisors should ensure they are up-to-date with current law.

Land represents an important agricultural asset for gift planning purposes. Any charitable organization considering the acceptance of land should follow some important policies and procedures. For example, liability for environmental contamination can be “strict and several,” applying to the charitable organization should it hold title even for a brief period of time.3 Both federal and state environmental laws and regulations apply. See the discussion in Chapter 1 for an in-depth discussion on gifts of land.

Valuation of Noncash Gifts

Regardless of the type of agricultural asset that is donated, valuation is a very important consideration. The charity that receives the donated asset is not responsible for the valuation of the gift for tax deduction purposes. In fact, the IRS only requires the charity’s gift receipt or written acknowledgment to “describe” (not value) the donated property.4 Failure to follow the rules for gift receipts can result in denial of the charitable deduction.5

Cash-basis taxpayers making gifts of crops have some special rules for calculating the charitable deduction. The cost of growing the gifted crops is deducted as a business expense, but only in the year the crops were grown.6 This deduction should be taken on the donor’s return in Schedule F, “Profit or Loss from Farming.”7 Regardless of when the crops were grown, the donor avoids including the revenue from sale in taxable income.

Gift Planning with Crops, Livestock and Equipment: Techniques

Similar to planning with land, there are many ways to plan gifts of crops, livestock and equipment. The same three broad categories of gift techniques are those that help the charity now (current use gift), help the charity later (deferred use gifts), and gifts that pay income. Each of these techniques will require consideration of unique planning issues and opportunities. In particular, since the IRS considers crops, livestock, and equipment to be business inventory and/or personal property, the tax benefits are very different than with gifts of land. And, as a result, the use of some planning techniques will be less popular and more complex.

Current Gifts

Current gifts of crops, livestock, and equipment require special consideration given their tax treatment. In general, crops, livestock, and some equipment are a form of personal property that is considered ordinary income property of the farmer. The IRS taxes ordinary income property at the owner’s ordinary income tax rate rather than the capital gains tax rate when it is sold.

The charitable deduction rules in this context are as follows: An outright gift of ordinary income property, unlike capital gain property discussed above, is subject to a reduction rule that generally limits the deduction to the lesser of fair market value and cost basis. Crops and livestock can be ordinary income property if held as business inventory. Other types of ordinary income property include tangible personal property such as depreciated equipment or machines—the taxpayer recaptures prior depreciation deductions as ordinary income upon a sale. For example, if the donor has depreciated real property including buildings in excess of straight-line depreciation, then all or a portion of the excess depreciation will be recaptured as ordinary income if the property is sold at a gain. Of course, any property the owner holds for less than the long-term capital gains holding period is ordinary taxable property when sold.

Two types of cost and expense are not to be treated under any section of the Code as resulting in any basis for the contributed property. These are 1) any costs and expenses which the taxpayer treats as part of the cost of goods sold of the crops for the year of contribution, and 2) any such costs and expenses which are properly deducted under Section 162 or other section of the Internal Revenue Code (Code).8 The regulations offer two examples of the application of this rule.

First, as Example 5 in the regulations:

“In 1970, C, a farmer using the cash method of accounting and the cal- endar year as the taxable year, contributed to a church a quantity of grain which he had raised having a fair market value of $600. In 1969, C paid expenses of $450 in raising the property which he properly deducted for such year under Section 162. Under Section 170(e)(1)(A) and paragraph (a) of § 1.170A-4, the amount of the charitable contribution in 1970 is reduced to zero ($600−[$600−$0]). Accordingly, C is not allowed any [charitable] deduction under Section 170 for the contributed property.”9

And the second example states the following:

“The facts are the same as in Example 5 except that the $450 expenses incurred in raising the contributed property were paid in 1970. The result is the same as in Example 5, except the amount of $450 is deductible under Section 162 for 1970.”10

Unharvested crops and the land it grows on that the owner holds for more than one year are collectively long-term capital gain property. The length of time for which the donor holds the crop, as distinguished from the land, is immaterial relative to the determination of the holding period for long-term consideration. As discussed above, a charitable deduction for a gift of the land along with the unharvested crops (i.e., noncash property) is based on appraised fair market value of the land and crops on the date of contribution—subject to a 30 percent of AGI deduction limitation. If the recipient charitable organization that receives the donated property later harvests the crop for sale, then the income from the harvested crops may be unrelated business income when the charitable organization sells the assets.11 A gift of unharvested crops without the land is considered a gift of a futures contract, i.e., ordinary income property. Therefore the IRS limits the donor's deduction for a gift of unharvested crops to cost basis.

As explained above, regulations limit a gift of harvested crops to cost basis, plus consideration for costs of goods sold, which may mean no charitable deduction value at all. However, there is potential tax benefit to the donor in the saving of income taxes by avoidance of potential income on the sale of the crops, as well as avoidance of the related self-employment tax. Furthermore, a gift of crops will not count as income in potential government subsidy payment limitation calculations.12 Therefore it is very important that the donor transfer title to the harvested crops to the charity before the sale at auction, contract, or other means takes place. The donor should use a signed deed of gift and receipt for the noncash gift from the charity to document this donation prior to sale. And the bill of sale should document that the charity owned and sold the crops.

A landlord who has nonmaterial participation in the production of crops may want to donate crop shares (i.e., right to receive the crop). In that case, a gift of the crop shares triggers income tax recognition at the time of contribution per the assignment of income doctrine.

A charitable contribution deduction is available for the gift that may offset in part or whole the income tax liability.13 On the other hand, a farmer who has material participation in the production of the crops and who contributes crop shares may do so without income recognition. Sharecroppers who contribute crops may receive a deduction for their fair market value.14

Livestock includes cattle, hogs, horses, mules, donkeys, sheep, goats, fur-bearing animals, and other mammals. Livestock does not include poultry, chickens, turkeys, pigeons, geese, other birds, fish, frogs, reptiles, etc. Livestock the owner holds for draft, dairy breeding, or sporting purposes may be long-term capital gain property if held

(i)   for 24 months or more from the date of acquisition in the case of cattle or horses, or

(ii)   for 12 months or more from the date of acquisition in the case of such other live- stock. Therefore a charitable contribution of qualified livestock to a related use public charity may qualify for full fair market value deduction.15 Otherwise, livestock may be deemed ordinary income property as inventory and thereby the IRS limits taxpayers to a cost basis deduction as explained above. Other animals that are not livestock will be considered tangible personal property subject to the “related used” charitable reduction rule discussed below.

Agricultural equipment such as tractors, combines, trucks and so forth, as well as animals that are not livestock as discussed above, are tangible personal property. Assuming that the donor is not in the business of selling such equipment or livestock, then the asset is likely not inventory. However, a different “reduction rule” applies to tangible personal property that is not deemed inventory. In this case, the “related use” reduction rule applies. Pursuant to this rule, the donor’s income tax charitable deduction is limited to the lesser of fair market value and cost basis if the recipient charity sells or puts the property to an “unrelated use.”16 The regulations require the taxpayer to provide proof that the charity is in fact putting the property to a related use, or that it is reasonable to anticipate that the property will not be put to an unrelated use.17 For example, property donated for a charity auction is deemed (per se) an unrelated use.

A donor must recapture part of the charitable contribution deduction by including it in income if all the following statements are true:

1. The donor gave tangible personal property with a claimed value of more than $5,000, and the deduction is more than the cost basis in the property.

2. The organization sells, trades, or otherwise disposes of the property after the year it was contributed but within three years of the contribution.

3. The organization does not provide a written statement (such as on IRS Form 8282, Part IV), signed by an officer of the organization under penalty of perjury, that either

a. certifies its use of the property was substantial and related to the organization's purpose, or

b. certifies its intended use of the property became impossible.

Therefore the charity should explain the related use in the gift receipt letter and, if applicable, accurately complete and sign IRS Form 8282, sharing a copy with the donor as required, to protect the donor’s claim of a fair market value deduction.

Gifts of natural resources are also possible. These gifts include oil, gas, timber, water and mineral interests. State and federal laws may apply to define whether the particular resource is deemed real or personal property, as well as whether it is tangible or intangible personal property. These determinations can impact the charitable deduction value as described above. However, there is no charitable deduction if the donor contributes land but retains mineral interests as the IRS would consider this an impermissible partial interest gift.18 On the other hand, if the natural resource is the only interest the donor owns, such as in the case of royalty interests, then a tax deduction is allowed. Issues relating to gifts of royalties are discussed in more depth in Chapter 8 on gifts of mineral interests.

  • 3. See Comprehensive Environmental Response, Compensation and Liability Act (CERCLA). 42 U.S.C. § 1906 et seq.
  • 4. See IRS Publication 1771.
  • 5. See Durden v. Commissioner, T.C. Memo. 2012-140 (May 17, 2012).
  • 6. Patrick, G.F. (December 2011), “Income Tax Management for Farmers in 2011,” Purdue Univ. pp. 22 – 23, http://www.agecon.purdue.edu/extension/programs/tax/2011_INCOME_TAX%20MA....
  • 7. Locher, J. (April 21, 2011), “Increasing Charitable Yields with Bushel Gifts,” farmdoc daily, Department of Agricultur- al and Consumer Economics, University of Illinois at Urbana-Champaign, http://farmdocdaily.illinois.edu/2011/04/increasing-charitable-yields-w.....
  • 8. Reg. § 1.170A-1(c)(4).
  • 9. Reg. § 1.170A-1(c)(4), Example 5.
  • 10. Reg. § 1.170A-1(c)(4), Example 6.
  • 11. IRC § 512. Determining unrelated business taxable income (UBTI) is a three-part test: (1) The income must be from a trade or business (i.e., selling of goods or performing of services); (2) The activity must be regularly carried on (i.e., with frequency and continuity); and (3) The activity must not be substantially related to charity’s exempt purpose or mission. IRS Form 990-T is used to report UBTI. And see IRS Publication 598, Tax on Unrelated Business Income of Exempt Organizations at www.irs.gov.
  • 12. Rev. Rul. 55-138; White v. Broderick, 104 F.Supp 213, 41 A.F.T.R. 1253 (D. Kan. 1952); Campbell v. Prothro, 209 F.2d 331, 45 A.F.T.R. 131 (5th Cir. 1954).
  • 13. Rev. Rul. 75-11; Private Letter Ruling 8415030 (January 6, 1984).
  • 14. Thompkins v. U.S. (S.D. III. 1977). 15. Reg. § 1231.
  • 15. Reg. § 1231.
  • 16. IRC § 170(e)(1)(B)(i).
  • 17. Reg. § 1.170A-4(b)(3)(ii).
  • 18. Rev. Rul. 76-331.

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