Chapter 14 – Farming
14.1 Overview
Primary production in New Zealand forms a major part of our GDP. Not surprisingly there are specific tax provisions relating to this form of enterprise. Agricultural production is unique since it is the only form of production involving “natural increase”. As a result, special accounting and tax rules are required.
The tax treatment of livestock has been subject to ongoing amendments since 1986. Set out below are the current options as well as a discussion of other tax provisions that relate directly to the farming enterprise.
Whether or not an activity is covered by the farming agricultural provisions is an important issue. The Department accepts that the following activities are carried on for farming or agricultural purposes:
animal husbandry
cropping
growing fruit or vegetables
beekeeping
poultry
growing plants, shrubs and flowers, market gardening and wine growing
sharemilking, dairymilking
There are particular income tax provisions relating to those farmers whose activities involve livestock. In particular, the Government has set specific valuation methods for particular “specified” livestock. These methods differ from the standard valuation methods available for non- specified livestock.
14.2.1 Specified Livestock
14.2.2 Valuation Options - Specified Livestock (ITA Subpart EC)
14.2.3 Non-Specified Livestock (ITA EC 28 - EC 31)
14.2.4 Capital Expenditure and Developmental Expenditure (ITA Subpart DO)
14.2.5 Specific Farming Tax Issues and Provisions
14.2.5.1 Farmhouse Deductions Interest and Rates
14.2.5.2 Income Equalisation Scheme (ITA Subpart EH)
14.2.5.3 Farmers as Employers
14.2.5.4 Accident Compensation Premiums
14.2.5.5 Standing Timber (ITA ss CB 24, CB 25)
14.2.5.6 Crops Purchased with Land
14.2.5.7 Spreading Fertiliser
14.2.5.8 GST Registration - Lessor of Land
14.2 Application
14.2.1 Specified Livestock
The following types of livestock are “specified” livestock:
sheep
beef cattle
dairy cattle
deer
goats
pigs
All other types of livestock are non-specified livestock.
Excluded from specified livestock is livestock held by taxpayers who are involved in trading in livestock rather than farming livestock.
14.2.2 Valuation Options - Specified Livestock (ITA Subpart EC)
There are various options available for the valuation of specified livestock. These are:
national standard cost
self-assessed cost
market value and replacement price
herd scheme
high priced scheme
These valuation methods are discussed below:
• National Standard Cost (ITA EC 22-24)
This method is based on “national average costs” of production rather than on market value. National average cost is set annually for 16 classes of livestock. Current values are available on the IRD website. The objective of the scheme is to reflect costs of production that keep up with changes in actual values. As livestock values increase, so does assessable income. National standard cost is designed for revenue stock as opposed to livestock treated as capital stock.
• Self-Assessed Cost (ITA EC 10 & 25)
This method is the alternative to national standard cost where there is a desire to record as close as possible the cost of the livestock in the accounts. Effectively, it adopts the actual farm cost of production instead of the nationally averaged cost. However it is thought that the cost of compliance will limit the application of this scheme and will only benefit farmers whose costs of production are significantly lower than the national average.
• Market Value and Replacement Price (ITA EC 25)
Legislation does not define how market value is to be determined. The Department’s policy is that market value/ replacement price is the current price at balance date when immediate replacement is possible. However, when a taxpayer uses this valuation method they must be able to substantiate the value used, i.e. by using a valuation of a recognised livestock agent. This method is unlikely to be used unless market/ replacement value falls below cost.
• Herd Scheme (ITA EC 14-21)
The herd scheme uses the national average market values that are calculated using the “snapshot” valuation method. This method takes a value of each class of livestock on a specific day.
This scheme removes any assessable income arising from the movement in the value of livestock between years. Assessable income will therefore only arise where there is a change in the number of stock held in each class for the year. However, this means that where a farmer is increasing the number of stock on hand due to natural increase, they will be subject to taxation on unrealised income. Once a farmer has elected to value stock on the herd scheme method, this is irrevocable. However, a farmer may elect to exit the herd scheme when changing to a fattening regime as this suits a cost-based valuation regime.
• High Priced Scheme (ITA EC 32-36)
It is mandatory to use this method where the purchase price of the livestock is more than five times the national average market value for that relevant class, and the stock are capable of being used for breeding or expected to be capable of being used for breeding on maturity.
Effectively, this scheme provides a depreciation write down of the value of the stock over the breeding life of each class of stock.
• Switching Between Schemes
There are a number of rules regarding the ability to change schemes. You should discuss this issue with your financial advisor when considering changing schemes.
14.2.3 Non-Specified Livestock (ITA EC 28 - EC 31)
Non-specified livestock can be valued at the taxpayer’s option by one of the following methods (EC 30):
cost price
market value
replacement price
standard value as approved by the Commissioner of Inland Revenue
Non-specified livestock would include such animals as alpacas, buffaloes, ostriches and emus.
There are separate special rules for bloodstock (EC 38-48).
From 1 January 2019 the costs of a stand-out yearling acquired by a new investor with an intention of breeding for profit will be deductible as if it were acquired by an existing breeding business.
14.2.4 Capital Expenditure and Developmental Expenditure (ITA Subpart DO)
The following expenditure on land used for farming or agricultural purposes is fully deductible in the year when it is incurred:
destruction of weeds or plants detrimental to the land
destruction of animal pests detrimental to the land
clearing, destruction and removal of scrub, stumps and undergrowth
the repair of flood or erosion damage
the planting and maintaining of trees for the purpose of preventing or combating erosion
the planting and maintaining of trees for the purpose of providing shelter
the construction on the land of fences for agricultural purposes including the purchase of wire or wire netting for the purpose of making new or existing fences rabbit proof
Other capital expenses are subject to a depreciation allowance where the expenditure relates to defined expenditures on land improvements.
Where it is not deductible as ordinary repairs and maintenance, and is not included in the list of 100% deductible items as set out above, then it may be capitalised and subject to depreciation if the expenditures constitute improvements to land.
Where the expenditure is neither 100% deductible nor a depreciable improvement to land, then the ordinary depreciation regime applies to the expenditure.
Where a farm is purchased and the vendor has not fully deducted development expenditure the purchaser may continue to deduct that expenditure on the same basis as the vendor. Accordingly, it is important that record keeping of such expenditure is maintained, and it is preferable that such expenditure is detailed in the sale and purchase agreement.
14.2.5 Specific Farming Tax Issues and Provisions
The following items are deductible:
legal costs incurred preparing an application for finance
legal costs regarding leases
vehicle expenses
a percentage of dwelling expenses including depreciation, repairs and maintenance, insurance and power if the dwelling is on farm property (see below)
the cost of installing a telephone, the monthly telephone rental and business tolls (no private portion adjustment is required for installation or monthly rental)
total rates incurred on farm property (no private portion adjustment is required for dwelling)
newspapers or bulletins that contain farm information
other consumables still held at balance date subject to a maximum value of $58,000
14.2.5.1 Farmhouse Deductions Interest and Rates
From the start of 2017-18 financial year (1 April 2017 for those with 31 March balance dates), farmers are classified into two categories: Type 1: These are sole traders and partnerships operating a farm where the value of the farmhouse is 20% or less than the total value of the farm. They are allowed a flat 20% deduction for farmhouse expenses without any evidence. Supporting evidence will be required if they wish to claim more. They also qualify for an automatic 100% deduction for interest and rates.
Type 2: For all other farmers, including sole traders and partnerships whose farmhouse is worth more than 20% of the total value of the farm, interest, rates and farmhouse expenses must be based on actual figures. Business use can be determined using a “home office” type calculation based on actual time and space.
14.2.5.2 Income Equalisation Scheme (ITA Subpart EH)
Farming income is subject to both seasonal and international market conditions, hence income can fluctuate considerably. The Income Tax Act provides for an income equalisation scheme to allow for this occurrence. Effectively, income may be deposited into this scheme, and that income will not be included in the assessable income for that year. That income can be left in that scheme for up to five years, and when it is withdrawn it becomes gross income in the year of withdrawal.
14.2.5.3 Farmers as Employers
It is reasonably common for an employer to provide free or subsidised board and lodgings to an employee. However, income tax legislation requires that such a benefit be included in the employee’s assessable income. The value of this board or lodging is the fair market value.
14.2.5.4 Accident Compensation Premiums
A farmer is considered to be self-employed and thus is liable for accident compensation employer and earner premium on their assessable income. Sharemilkers are also considered to be self-employed and as such are also liable for their own accident compensation and employer premiums. See Chapter 21 “Accident Compensation” for further details.
14.2.5.5 Standing Timber (ITA ss CB 24, CB 25)
Income from the sale of trees, either standing or ready for milling is taxable.
Where the sale of a farm includes trees, the purchaser and vendor should agree on a market price and include this in the agreement. The market value of the trees, excluding ornamental and incidental trees but including shelter belts and erosion prevention plantings, will be taxable to the vendor immediately and will be deductible to the purchaser when the trees are sold in the future.
14.2.5.6 Crops Purchased with Land
Where a farm is sold or purchased with crops growing on the land, the crops will not be assessable to the vendor or deductible to the purchaser unless the sale and purchase agreement specifically allocates a portion of the price to the crops.
14.2.5.7 Spreading Fertiliser
Regrassing and fertilising expenditure is fully deductible in the year incurred unless it is associated with a significant capital activity, such as a farm conversion. ITA s EJ 3 may allow costs to be spread up to 4 years. When incurred as part of a significant capital activity it can be depreciated at 45% DV.
14.2.5.8 GST Registration - Lessor of Land
Court cases have demonstrated what to consider when determining whether a taxpayer should be registered for GST.
Land is often owned in a family trust or partnership and leased to a separate farming entity. Where the lease cost is less than the GST registration threshold (see Chapter 20) the lessor is not required to be GST registered.
However, where the farming entity pays, for example, rates and insurance costs, which are normally the responsibility of the owner of the land, these costs must be added to the lease cost. If the lease cost and the total costs paid for by the lessee exceed the GST registration threshold the lessor of the land is deemed to be registered for GST.
GST registration cannot be avoided by the lessor charging a less than market lease cost where the lessee is an “associated person” of the lessor. In these circumstances, where the open market value of the lease is greater than the GST registration threshold, the lessor will be deemed to be registered for GST.
We strongly recommend you consult your financial advisor where a farming entity is leasing land from a related party. This will help avoid GST surprises.
14.3 Practical Hints
In a sale and purchase agreement, any developmental expenditure not fully deducted by the vendor should be scheduled out in a sale and purchase agreement
Consult your professional advisor when considering which valuation method should be used for specified livestock
Ensure the allowance for deductibility of household expenditure is claimed including all interest expenses, rates expenditure and telephone rental
Ensure the value of standing timber is included in any farm sale and purchase agreement