# Hobby farming - tax issues / audits



## kidbalehook (Mar 19, 2013)

So my tax lady is telling me that losing a small amount each year is going to flag an audit eventually... I've never been audited. I have a good job in town and pay PLENTY in taxes (don't we all!) Anyway, between diesel, twine, repairs and such I lose a few thousand each year. (gross sales on 10 acres of hay, a little bit of custom work and a few meat goats for 4H projects is around $6-8K.) So I told her, OK that's fine... I will simply have her do my taxes like I don't farm... I won't claim any losses or profit, just keep it all "under the table" so to speak. She says "well, you can't do that!!!!" So what the hell do I do? Keep doing what I'm doing (I keep every receipt as proof if I ever do get audited) or just treat my little operation like most folks do a garage sale or lemonade stand? I know there are a lot of part-time / hobby guys on here like me, I'd like to see what you all do. Thanks


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## PaMike (Dec 7, 2013)

I think after so many years of losses your farm is a hobby not a business. So you cant offset your normal w-2 income with the hobby...not sure if you then still have to pay income tax on any "income" you generate in your hobby...

My schedule F (farm) always shows a loss HOWEVER I have schedule C income from an equipment sales and parts sales business that always shows significant income in addition to regular w2 income. The argument if audited is its just a matter of how the expenses are divided up...my farm pays for all the building up keep so the equipment sales business has less expenses and shows more profit..

Is there any way to show a profit on your none w2 businesses? or is everything a loss? Is everything is a loss then you don't truly have a business from the IRS point of view...


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## VA Haymaker (Jul 1, 2014)

Take my comments with a grain of salt.....

My guess is your accountant is not one familiar with farming and the tax code specific to it.

The tax code requires profit 3 out of 5 years with exceptions. If you look at the tax law, in addition to the 3 out of 5 rule, there is a list of things the IRS looks for in a "for profit" farm. Items include a business plan, working knowledge in the business, time spent in the business and an expectation the efforts will yield a profit - there is a list. They look to see if the business is conducted in a businesslike manner.

I'm told farms loose money year in and out and yet survive audits as they wipe out potential profits with equipment write-offs and I'm told the IRS understands this.

Hobby farming - as I understand it, your losses are limited by your gross revenue. In other words, a for profit farm can loose money in a given year, the best a hobby farm can hope for is to break even between profit and expenses.

We are a small operation too. From the get-go, we have been completely compliant with the tax code, including collecting sales tax. It would be our luck that one of our tax evading weed hay farmer neighbors would turn us in for tax evasion. We simply don't want to go there.

Again - take what I say with a grain of salt. Get a good farmer's accountant and read as much on the tax code as possible.

Lastly, FWIW - if you can whip your 10 acres into premium horse quality square bales of hay, you should get much more revenue per acre and maybe make a profit going forward.

Good luck,
Bill


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## mlappin (Jun 25, 2009)

Once you lose the farm status and considered strictly hobby then far as I know you can't write off anything. It would be like somebody trying to write off expenses for their model airplane hobby.


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## slowzuki (Mar 8, 2011)

Similar rules in Canada - we have a kind of part time farming category that limits applying loss against off farm income but you can carry a loss forward or backwards to another year.

There was a spate of millionaire race horse farm owners writing off their fun against investment income that started this rule here. They didn't participate in the managing of the business, it didn't meet the test for intent to profit, it was just a hobby for them to go watch their toys at the track.


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## mlappin (Jun 25, 2009)

Not sure how you can do it, but you don't need to show much profit for it to be a profit. Buy a few more things in bulk like twine and other consumables then carry that into the next year so you don't have those expenses.


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## Teslan (Aug 20, 2011)

leeave96 said:


> I'm told farms loose money year in and out and yet survive audits as they wipe out potential profits with equipment write-offs and I'm told the IRS understands this.


I would agree with that. My equipment purchases over the last few years to prepare for the expansion of acres last season kept me in a loss or break even point as far as taxes go. Then my tractor purchase last spring will carry forward for a few years to help out as will my pole barn lease. But soon the IRS will get more taxes as I won't need additional equipment. Although I sure have some pieces of equipment on my bucket list. Like another compact wheel loader. But nothing large for the next 5-7 years. Though a self propelled Milstak sounds good, but I sure can't justify the price for the amount of hay I do no matter how the depreciation would help me.


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## Tim/South (Dec 12, 2011)

Dad and I got audited 4 years in a row. It was back in the day when "whistle blowers" got a percentage of the money if their whistle was correct.

An audit is not a bad experience. They usually tell you in the letter what their specific concern are. We just showed the receipts and they were satisfied. They really do not understand much about farming and asked some general questions that reaffirmed they knew little about farming. Mostly number crunchers.

In our state it has to be obvious fraud to get a federal audit. They mostly depend on the state to sniff things out, then may become involved.

Farming is subsidized, whether a farmer participates in programs or not. That in itself lends to the notion that it is tough to make much profit. Making a living is a more accurate handle.

I have met with the state auditor for our area. This is because after I retired I became a full time farmer. Since I do not have PVC fences and a ton of toys, it was obvious I was not farming as a tax write off.

I show some nice income and also show the large expenses it takes to make that income.


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## slowzuki (Mar 8, 2011)

Good tax advice I had when I started was if you are gonna register and file taxes, claim every single penny you earn. The penalties for hiding income are pretty severe. The penalty for aggressive claiming of expenses that are later disallowed is pretty much you pay back the money and you get to have more audits in the future.


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## Vol (Jul 5, 2009)

Teslan said:


> Though a self propelled Milstak sounds good, but I sure can't justify the price for the amount of hay I do no matter how the depreciation would help me.


Sure you can justify it.....maybe not now, but after you get your younguns raised and educated and houses paid for....that's when the real big boy toys show up! 

Regards, Mike


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## r82230 (Mar 1, 2016)

Attached is a piece from the IRS (if you choose to believe them), that I think is a good read (and place to start anyhow). You will notice things like the 3 out of 5 years of profits, that leave mentions and something's that Tes pointed out. There is a lot of variables in the equation, say you where getting into hops farming, could be a year or two before profits, what about an orchard (apples as an example), could be several years, where as chickens or vegetable farm maybe you could turn a profit in year one.

Couple of points of interest, the IRS audits around 1 out of 119 returns (of all returns, 2015). So if that was an average you could possibly get audited once every 119 years. However, they put some 'filters' on the returns that are audited. If you DON'T have a schedule C, F, rental income or earned income credit (free money, for low income with kids). Your chances are 1 out of 330 (according to Kiplinger), so with a schedule C or F, your chance are much greater. 

As a side note: The POTUS will be audited this year as mandated by the government (IDK if Trump knew this or not when he threw his hat into the ring). :huh:

The percentage of IRS audits that the taxpayer comes out even or better (they over paid according to the IRS audit), but it was higher than I would have guessed. In 2015 it was almost 40,000 audits that got a BIGGER refund (Kiplinger again).

Larry

http://www.kiplinger.com/article/taxes/T056-C005-S001-how-to-handle-an-irs-audit-of-your-tax-return.html

PS thought I would edit with the Kiplinger's site to input your information and see what your odds are of being audited are (enter at your own risk, do you really want to know something like this is the $64 question).

http://www.kiplinger.com/tool/taxes/T055-S001-calculator-what-s-your-risk-of-a-tax-audit/index.php

Otherwise, if you-like the majority of American taxpayers-earn between $25,000 and $200,000, you have a better-than-average shot of dodging an IRS audit. Here's the breakdown:

Returns by Income Percent of total returns Percent audited in 2014

All returns 100% 0.86%
No adjusted gross income 1.83% 5.26%
$1 - $24,999 39.08% 0.93%
$25,000 - $49,999 23.32% 0.54%
$50,000 - $74,999 13.12% 0.53%
$75,000 - $99,999 8.33% 0.52%
$100,000 - $199,999 10.70% 0.65%
$200,000 - $499,999 2.87% 1.75%
$500,000 - $1 million 0.48% 3.62%
$1 million - $5 million 0.24% 6.21%
$5 million - $10 million 0.02% 10.53%
Over $10 million 0.01% 16.22%

Source: Internal Revenue Service Data Book, 2014


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## Teslan (Aug 20, 2011)

I'm sure Trump has been audited before. I will try to not make over $10 million a year so I won't stand an extra percentage in getting audited. I guess I need to be doing something with race horses according to that attached brochure:


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## NewBerlinBaler (May 30, 2011)

kidbalehook - your tax lady is mistaken. You can keep on farming without filing a Schedule F and any revenue your farm produces just goes in your pocket. However, you need to continue keeping good records. In effect, your farm revenue will simply minimize your losses.

If you ever show a profit (that is, your revenue exceeds expenses) then and only then will you need to file a schedule F & pay taxes on the profit you made that year.

I just went thru this with my accountant last year. For 5 seasons, I filed a Schedule F and showed a loss every year. Finally, my accountant said "enough". So starting with the 2016 tax this year, I'm not filing a Schedule F any longer - but I'm still keeping records of all revenue and all expenses.

My operation is only 20 acres. Property tax, insurance, write-down of buildings and machinery, fuel, repairs, etc will likely keep me from ever being profitable. So from now on, I plan to pocket all revenue.


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## atgreene (May 19, 2013)

You need a new accountant that understands business and farm business. We've never had an issue, expensing farm equipment and other farm items gets complicated.


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## kilroy (Aug 3, 2016)

atgreene said:


> You need a new accountant that understands business and farm business. We've never had an issue, expensing farm equipment and other farm items gets complicated.


I agree, find another accountant. Showing a profit after so many years is bogus info and a good accountant knows different.


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## rjmoses (Apr 4, 2010)

One way to play the tax game is to work depreciation heavily. E.g., I will depreciate most equipment over 7 years. This gives me a steady expense which offsets profit years against loss years. I try to figure what depreciation scheme works best for my purchase---and is probably allowable.

Also, for hobbies, it is my understanding that you can deduct expenses up to the amount of income that you make. E.g., you make $7500 but spent $10,000, you can then deduct the $7500. (As with all free advice, double check me--it may or may not be applicable to your situation.)

Ralph


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## r82230 (Mar 1, 2016)

Couple of more things:

Hire a CPA that is versed in schedule F (and maybe schedule C, depending upon your operation). What I think is a good source to find such a CPA is your local Farm Credit loan officer (just them who other farmers are using, wanting 2-3 names preferably).

Secondly, just remember it is the 'filer' who is responsible for the taxes and penalties, not the preparer. The preparer is just putting YOUR numbers in the right box, YOU are responsible for the accuracy and documentation of the numbers (as others have mentioned record keeping).

The reason I recommend CPAs is because they are REQUIRED to do annual continuing education and our taxes/tax code has changes every year (some years a lot more than others).

Something I find amazing is how anyone can put a shingle out as an accountant/tax preparer, with no formal education/real certification/ongoing training requirement (oh, wait I just answered my own question, why would the IRS want more accurate tax returns, the penalties on mistakes are 'free' money). :huh:

My pennies worth today.

Larry


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## RockmartGA (Jun 29, 2011)

One thing that small business owners who also have outside personal income should do is to maintain separation between the two sources of income and not co-mingle funds. Basically, you need separate personal and business checking accounts. Owner's capital investment in the business should be properly recorded as well as any salaries or Draws.

I think one of the biggest "gotcha" occurs when small business owners co-mingle personal and business funds. It is difficult to convince the IRS that it is a business and not a hobby when there is no clear lines between business and personal.

Next, regarding the 3 of 5 rule, I don't think the IRS pays too much attention to the fact that you are losing money as they do to the amount and the structure of the losses. I think they have parameters set up that automatically flag certain tax returns when they go outside these parameters.

For example, let's say you have $50,000 in outside income. You have a hay operation and show a $25,000 loss. You might get away with that for a year or two. Continue with those losses and then the IRS will question whether you have a "Going Concern".

Now, let's say you have $50,000 outside income and show a farm loss of $3,000. Also, those losses are attributable to depreciation expense. The IRS probably wouldn't flag that for an audit.


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## slowzuki (Mar 8, 2011)

If you are a bad person and co-mingle funds in one account because you didn't know better when starting, don't fret. First, make sure you keep detailed records of deposits into that account that are not farming related!!!!!! If you are audited the default position is that money is taxable income. It doesn't matter if you withdraw 1000$ and put it back in minutes later, you will need to support where that came from if not income.

From personal experience, get a different farm business account asap. You will find it makes your life so much easier when it comes time to do your books. You can see from your bank statement any missing receipts. You don't need to figure out the dozens of cryptic line items of transactions for personal stuff to sort them out. It just reduces the amount of work to do my least favourite farm task.


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## mlappin (Jun 25, 2009)

Another thing, at least at state level and this may have changed as well since it's been awhile since my Mom was employed as a tax auditor for Indiana, but here it is, they only have the personal to audit x number of returns, soon as they start coming in they start "randomly" selecting returns for audit, if possible wait till the very last minute to file, more than likely they have their audits lined up for the year by then.


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## skyrydr2 (Oct 25, 2015)

I need to look again, but I do believe you can claim your model airplanes as a hobby and write it off(they may have dropped this recently) up to a certain amount. But you would surely want to keep all your receipts.
Years back I claimed my r/c car racing hobby and caught a nice deduction from it.


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## muffntuf (May 1, 2017)

The goal is to make a profit - even if $1 a year- you have to show that you are working towards that goal of being profitable. I was audited and fined $5k a couple years back, but I learned a lot in the audit and keep much better books now. Your CPA should be versed in agriculture if not then find another one that is. I don't fear an audit anymore - but don't like them because it takes time out of my life for 6 weeks. So be prepared.


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## kidbalehook (Mar 19, 2013)

muffntuf said:


> The goal is to make a profit - even if $1 a year- you have to show that you are working towards that goal of being profitable. I was audited and fined $5k a couple years back, but I learned a lot in the audit and keep much better books now. Your CPA should be versed in agriculture if not then find another one that is. I don't fear an audit anymore - but don't like them because it takes time out of my life for 6 weeks. So be prepared.


Why were you fined?


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## deadmoose (Oct 30, 2011)

muffntuf said:


> The goal is to make a profit - even if $1 a year- you have to show that you are working towards that goal of being profitable. I was audited and fined $5k a couple years back, but I learned a lot in the audit and keep much better books now. Your CPA should be versed in agriculture if not then find another one that is. I don't fear an audit anymore - but don't like them because it takes time out of my life for 6 weeks. So be prepared.


Profit or income?

My uncle who has done income taxes forever always tells me to make sure I have revenue. He says make it up if needed. But profit not necessary. But I still pay way too much based on off farm income. Even when the farm loses money.


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## muffntuf (May 1, 2017)

Deadmoose- 'try to make a profit' not actual profit. Revenue is good- but they always ask- when do you think you will make a profit? Profit after revenue-expenses is either a loss or a profit. Loss- they can't tax you on that. Profit- is what is taxable.


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