If you have made right marketing decisions and experienced good yields this year, you may be thinking of ways to avoid paying all that tax money to Uncle Sam. While that is an element to consider in the tax process, it should not drive your tax planning. Tax planning should be a part of your strategic plan rather than an afterthought to help you manage pain. Here’s how it works best:
#1 Know what’s going on with changes in the law.
2011 expense method depreciation remains unchanged with a maximum of $500,000 and still it is reduced, dollar for dollar, on equipment purchases over $800,000 for this year. This is slated to change at the end of 2012, with the depreciation benefit declining unless acted upon again by Congress. Without adding strategy into the picture, you might be thinking this is a great year to make some capital purchases. No doubt the equipment companies are out there helping you come to that conclusion. But, is the best strategy for reducing taxes the purchase of more equipment? The answer is, “It depends”.
#2 Keep it strategic
Think of this scenario… If I’m doing my taxes and I have made some good money this year, and I’m in need of some new/different equipment and I have planned for this and my working capital is built up in reserve for the purchase, and it doesn’t get me into a position of being too highly leveraged then it might be a good time to make a purchase before the end of the year. Often the mindset of farmers who hate to pay taxes results in sacrificing working capital and long term financial health in exchange for tax pain. A tool we use to help clients evaluate this is to divide the market value of the farm equipment owned by the total acres farmed. If this amount exceeds $500 per acre, you may want to look at alternative strategies. It takes discipline to do the right thing in this instance.
#3 Be certain you have a good adviser
One of the mistakes we can make is using a tax preparer who is only concerned with your paying less in taxes. For your long-term health, it’s a good idea to have a tax adviser who understands where your taxes fit into your total operation. Here are the questions your advisor should know the answers to:
- How will year end purchases affect working capital, return on assets and debt to equity ratios?
- What is the long term effect of an aggressive depreciation strategy?
- How will current investments be impacted by changes in future tax rates?
- What is the best way to characterize a transaction in order to take the greatest advantage from changes to the tax code?
A good advisor can help you answer all of these questions before you make a decision, ensuring your tax planning is integrated with your operation’s strategic plan.