Central Western VA Mountains | My Grandfather use to say, "there's a big flat zero in farming". With our small haying operation, we're dong OK, but watching our dollar and careful not to commit financial Harakiriover a bale of hay.
However, I look around and see farms (not BTO's) buying, really expensive tractors and/or equipment or erecting a big barn. I'll go to an auction and some guy will bid (IMHO) some crazy price for a worn out tractor. Riding down the road by their place, I don't see how it pencils out. I especially don't know from an IRS profit/loss aspect how it pencils out on their taxes and the IRS's definition of zero, above or below it.
Question is - how do these small farms turn a profit with such capital expenses? How do they make make enough to recover their capital investments? Wondering if they have to?
Do farms have to earn back enough money to pay their capital expenses as far as the IRS is concerned? If they depreciate, especially via rule 179, do they simply clear the books of their capital expenditures such that the following year, even they are hopelessly indebted with high dollar equipment, which they may NEVER recover the cost - are able to show a profit and the IRS is good with that?
Is it a common occurrence that a farmer buys land, equipment, buildings, etc - writes off all this stuff and operates on paper year in/out in the black and satisfies the IRS that they are profitable while never fully recovering their capital investment - is this how it works?
Were it not for family land, 30-50 year old tractors/equipment and wrenching ability on our part, there's no way we could afford farming, make a profit - or ever recover the capital investment for all, the above. We re-invest our return and have a few newer pieces, but no way could we ever have started farming hay any other way - sort of a pay as you go with us and I cannot imagine us (with our small operation) ever spending 100k on a tractor; the thought of it makes me twitch!
If the IRS demands not only you have to make a profit in 3 out of 5 years and if, as part of that equation, it includes making enough $$$'s to completely cover your capital investments in the same time period. I just don't see it. Is capital recovery part of the calculation for the IRS's profit/loss determination? Neighbor buys a $100k tractor, writes it off with 179, has expenses the following three years of 5,000 and gross revenue against it of $15k for a net profit of $10k per year, which if he could use 100% of it to pay for the tractor - he's 10 years doing it, but in the mean time, he's made $10k a year for 3 of 5 years and is good to go with the IRS. Is that how it works? Is that how these farmers are able to show a profit? Is this how seemingly (in my eyes) farms that I don't see turning a lot of dollars are able to invest in capital equipment (surely supplemented by their W2 day job income) and yet satisfy the IRS definition of profit and continue the depreciation for another capital investment for another day?
Help me understand how capital recovery fits into the IRS's determination of farming profit/loss for taxes. |
IRS Profit/Loss and Capital Recovery
