FARMING
INCOME
Hobby
Farm loss calculation for 1998 on.
QUESTION:
Our children bought a hobby farm in the Cariboo. Where would we search to find out the tax implications of such
a purchase? (They have 10 acres, a barn, outbuildings etc.)
___________________________
ANSWER: The
fact that you have called it a hobby farm means that it has NO tax
consequences on anybody's tax return. There are no tax deductions
associated with a hobby farm.
Loss up to
$2,500
$______________
$_____________ B
Balance - up to
$12,500
$______________ C
Half of Balance (max $6,250)
$______________ $_____________ D
Restricted Farm Loss (Max
$8,750) (B +
D) $_____________ $_____________
E
Carry Forward Restricted
farm Loss (A - E)
$_____________ F
The carry forward loss
can only be used against future farming profits.
A WORKING
(non-restricted) farm is one where the farm is the principal source of
work and income and in this case 100% of losses are deductible but there
is not usually anything to deduct them against.
The CCRA (old revenue
Canada) also has a farm pamphlet which explains the basics well. You
can get it mailed to you or pick it up off the web at:
http://www.ccra-adrc.gc.ca
My own chapter is far
superior when it comes to the definition however, because it gives specific
tax cases for you to compare your own operation with.
There is no limitation on
the size of the farm. Small poultry operations can be run successfully
on 10 acres. Small orchards of 10 acres can be a working farm. On the
other hand, 640 acres of horse ranch owned by DAND AUTO Parts was ruled to be
a restricted farm even though they were grossing significant amounts of
money.
Hope this helps
david
ingram
From
1990 Ultimate Year Round Tax Guide
The
major farming cases have been moved to the section on EXPECTATION of PROFIT
(about page 180 - see alphabetical list at bottom of page under Profit,
expectation of.) This has been done so that they
were accessible by any businessperson. By keeping these farming cases in the
farming section, other business people with no interest in farming would not
have seen them.
Since
1988 CCRA has recognized: Gentleman Farmers, Hobby Farms, Dual Incomes
Since
1989 CCRA has recognized:Fish Farmers
Fish
Farming is causing great consternation in the fishing industry. The courts
are treating them as farmers rather than fishermen as the following case
shows.
TAXCASE:
In 1989, Paul and Maureen Durst won
their right to deduct their losses from a fish farming operation in Ontario.
However, Judge Taylor of the Tax Court of Canada ruled that they were limited
to the losses allowed by section 31(1) of the Income Tax Act and restricted
the amounts to $5,000 each per year.
The
June 18, 1987 Budget has finally helped to resolve the situation for farm
losses where there is a farmer with an outside source of income. The
provision requiring profits in three out of seven years is a little dicey,
but any legitimate farmer will be able to put off a purchase, or speed up a
sale to create a profit in three years. It will just increase losses in the
other four years. Any accountant will have to wonder about the intelligence
of the individual or individuals who thought this one up.
For
1988 and 1989, the old $5,000 limit for `part-time' farmers has been
increased to $15,000 (it should have been increased to $25,000 to keep up
with inflation since its inception in the early fifties).
However,
the farmer with the dual incomes must have farm profits in three out of seven
years. It is this last provision, which will be easy to circumvent. In the
ensuing pages are many examples of when a Dual Income Farmer will be able to
make the deduction and `what the rules are'. (See the Profit - expectation
section for 1990 cases).
Since
1989 CCRA has implemented a new system where farmers will no longer
`write-off' their animals. Instead of being able to write-off the cost of a
race horse, for instance, there is a class of animals, much like the system
for other types of assets. This should stop a `city slicker' from buying a
horse and writing it off (or trying to write it off) in the year of purchase.
1988
and 1989 saw over 40 cases in the courts dealing with farm and restricted
farm losses. However, there were no new breakthroughs and the new rules have
addressed many of the problems with regard to losses and restrictions.
Therefore, I am merely listing them and their results. If you are involved in
a major case, it will assist you in your research.
1988 TAX COURT OF CANADA DECISIONS
Taxcase: Ianson
- lost - no reasonable expectation of profit
Taxcase:
Leighland
- lost - restricted to $5,000
Taxcase:
Weiss
- lost - restricted - horses were a sideline
Taxcase:
Epstein
- lost - no business
- no deduction - hobby
Taxcase:
Smith
- lost - tree farm not expected to make profit
Taxcase:
Armstrong
- half/half - referred back to recalculate
Taxcase:
Boddington
– lost, no expectation of profit horses sold
Taxcase:
Campbell
– won, full time dairy to beef to hogs to dairy
Taxcase:
McCullough
– lost, restricted farming a sideline for doctor
Taxcase:
Howes
- lost - restricted - business but only a sideline
Taxcase:
Chandler
- lost - restricted - major but no profit expectation
Taxcase:
Rose
- lost - restricted - horses a sideline for doctor
Taxcase:
Gray
- won - Class 1 farmer - horses a business
Taxcase:
Solotorow
- won - Class 1 farmer - Xmas trees a business
Taxcase:
McGinnis
- lost - No expectation of profit
Taxcase:
McAllister
- lost - No reasonable expectation of profit
As
you can see, not many people won in the Tax Court of Canada in 1988!
1989 TAX COURT OF CANADA DECISIONS
Taxcase:
McLeese
- lost - Chief source of income not farming or combination
Taxcase:
Sniderman
- lost - dog breeding not farming - no reasonable expectation of profit
Fish
Farming is causing great consternation in the fishing industry.
The
courts are treating them as farmers rather than fishermen as the following
case shows.
TAXCASE:
In 1989, Paul and Maureen Durst
won their right to deduct their losses from a fish farming operation in
Ontario. However, Judge
Taylor of the Tax Court
of Canada ruled that they were limited to the losses allowed by section 31(1)
of the Income Tax Act and restricted the amounts to $5,000 each per year.
Taxcase:
Aujla
- lost - losses restricted to $5,000 each
Taxcase:
Livergant
- lost - restricted to $5,000 even though 1980 gross over $140,000
Taxcase:
Harris
- lost - no evidence as to how he intended to make a profit farming
1989
FEDERAL COURT - TRIAL DIVISION DECISIONS
Taxcase:
Richardson
- lost - business was accounting, not horse breeding
Taxcase:
Madronich
- won - tree farm operation a real business with expectation of profit
Taxcase:
Hoeft
- lost - Judge Martin overturned win in Tax Court - restricted to $5,000
Taxcase:
Mohl
- lost - Judge Strayer upheld earlier Tax Court loss - restricted to $5,000
Taxcase:
Pavlkovich
- WON - Judge Muldoon overturned Tax Court Loss - expectation of profit
Taxcase:
Glass - WON - Judge Dube
ruled his 30 hour a week job a desperate attempt to provide needed cash flow
to keep full time farm going - no restrictions
1989 FEDERAL COURT OF APPEAL DECISIONS
Taxcase:
Morrissey
- lost - Tax Court of Canada Decision reversed by Judges Mahoney,
MacGuigan and Desjardins
Taxcase:
Gordon
- lost - Judges Marceau, Stone and Desjardins upheld
*
As an
example, if the auto is judged a passenger vehicle, only
$20,000 of its capital cost can be depreciated, and interest on a loan is
limited to $10.00 a day. If leases, only the value of $20,000 can be deducted
(changed to $24,000 for vehicles purchased after August 31, 1989).
*
Clearing or leveling land expenses may be deducted or carried forward
to another year.
FARMHOUSE
OFFICE
Beginning
in 1988, there is not an automatic deduction of 25% of the farm home for
business. For 1988 and 1989, you must keep a detailed record of the area used
and pro-rate that area's expenses as a percentage of the total costs of the
home. In addition, the work space must be your principal place of business
and it must be dedicated to the business. It may not be part of a rec room
anymore. If you are using a fiscal year that started in 1987, this does not
apply until the 1989 year.
BUILDINGS
- CLASS 1
*
Buildings now go into class 1 and are depreciated at 4%, unless they
were contracted for prior to June 17, 1987.
*
Existing buildings in class 3 may not have additions exceeding
$500,000 or 25% of the value of the building on December 31, 1987.
ELIGIBLE
CAPITAL EXPENDITURES
*
The additions or deductions from your Eligible Capital Account are
based upon 3/4's instead of 1/2 of the amounts.
*
The maximum annual deduction has been reduced from 10% (of 1/2) to 7%
(of 3/4's).
*
The existing balance of your cumulative eligible
capital account is increased by one-half.
*
A disposition of an eligible capital property may result in an
addition to business income or a deemed taxable capital gain.
*
Any deemed capital gains are eligible for the lifetime capital gains
deduction (up to $500,000).
CAPITAL
GAINS DEDUCTION
*
You must include 1/2 of a capital gain in your income.
Therefore
the maximum lifetime exemption has been changed to $250,000.
The
definition of Qualified Farm Property has been modified.
QUALIFIED FARM PROPERTY MUST BE OWNED BY:
*
you or your spouse
* a partnership, an interest in which is an “interest
in a family farm
partnership” of you or your spouse.
It
may include property that is:
*
a share of the capital stock of a family farm corporation that you or
your spouse owned,
* an interest in a family farm partnership
that you or your spouse owned, or
*
real property or eligible capital property.
Real
property or eligible capital property can only be qualified farm property if
it is used in carrying on a farming business in Canada and is used by:
*
you or your spouse
*
any of your children, grandchildren or great grandchildren,
*
either of your parents
*
a family farm corporation where any of the above individuals
owned
a share of that corporation, or
*
a family partnership where you, your spouse or any of
your
children, grandchildren, great grandchildren or parents owner an
interest in that partnership
Real
property or eligible capital property acquired before or after June 18, 1987
under the terms of an agreement entered into before June 18, 1987 will
qualify if:
*
in the year you dispose of the property, it or the property for which
it was substituted, was used in carrying on a farming business in Canada by
either an individual, a partnership or a corporation referred to above, or
*
it was used in carrying on a farming business in Canada at least five
years during which the property was owned by either or a partnership referred
to above.
Real
property or eligible capital property acquired after June 17, 1987 will meet
this requirement if it is owned by an individual or partnership referred to
above throughout the 24 months immediately before its disposition and
*
if the property or property for which it was substituted was used by
an individual for at least two years while the property was so owned, and the
individual's gross revenue from the farming business in Canada in which the
individual was actively engaged on a regular and continuous basis must have
exceeded the individual's income
from all other sources in the year, or
·
if
the property was used by a family farm corporation or
partnership, the corporation or partnership used the property in carrying on
a farming business in Canada for at least 24 months during which time you,
your spouse, or any of your children, grandchildren, great grandchildren or
parents were actively engaged in the farming business.
Stay
tuned for further information as it is released.
INVESTMENT
TAX CREDITS
·
you may use investment
tax credits to reduce your federal individual
surtax;
·
the annual investment
tax credit limit is a new limit
restricting
the deductibility of credits;
·
the carry-over period
for credits earned after April
19,
1983 has been extended from 7 to 10 years;
·
you may now claim a
partial refund of the investment
tax
credit; and
·
the capital cost of
related property is reduced in the
year
following the year in which you deduct or receive a refund for an
investment tax credit.
STANDBY
CHARGES
If
a partnership makes an automobile available to a partner or an employee,
it must include a reasonable standby charge in the income of the partner or
employee. See the 1989 Income Tax Deduction at Source Tables for
information on how to calculate the standby charge.
FORWARD
AVERAGING
·
there is no more
forward averaging.
FIVE
YEAR BLOCK AVERAGING
·
There is no more 5
year block averaging for blocks starting after
1987. For the purposes of block averaging, minimum tax provisions
do not apply.
1984,
1985, 1986, 1987 LIMITS
In
most respects the same principles apply to preparing a statement of
income and expense for a farm as they do to any other kind of business.
The
form T2042 provided by Revenue Canada (see example) is quite helpful
in this regard, and does go into considerably more detail than does
the form provided for businesses in general.
On
the income side of the statement there is a considerable breakdown given
of the various items which may have brought revenue to the farm;
not all of these will always be applicable to any given farm. Most
of the categories are, of course, quite self-explanatory, but a few
do deserve special comment. The first of these is the optional inclusion of a
part of the livestock on hand. By this technique you may claim
as income any amount up to the actual value of the livestock that
you hold. You may easily wonder why you would want to add an amount
to income when the effect would be to increase your taxable income and
perhaps your taxes. The suggestion given in the Farmer's and Fisherman's Income
Tax Guide published by Revenue Canada is that a person anticipating
a substantial sale of livestock in the following year would want to claim
some of it now in order to establish a form of averaging of income over
the two years. Another reason might be that you expect
to have little or no taxable income in the current year; by claiming additional
income this year at a time when you can afford it you are creating a
situation where the income will effectively be exempted in the year when
it is actually received. Yet another reason might be to keep your farm losses
down to $15,000.00 where the rules relating
to restricted farm losses of another year apply. You then derive a
benefit from those losses which cannot be carried forward for more than
five years.
If
your income includes payments which you have received because some
of your livestock were destroyed as a part of a government program
to stop the spread of some contagious disease among animals, that
payment is, of course, taxable income. You do have, however, an option
with regard to such payment in that you may choose to include it in
income in either the year in which it is received or the following
year. The effect of this is to allow you to spread this payment over
two years, either to take advantage of the averaging effects, or to
allow the payment to be offset by the cost of the livestock which
you may purchase to replace what has been destroyed.
The bulk of expenses shown on the T2042 are also self-explanatory.
In addition to the expenses shown, if you claimed an amount in respect
of the livestock on hand in the previous year, this would become an
expense item this year.
A
question that is often raised in determining the expenses of a farm
is how much of the expenses of operating the farm house can be claimed;
in this regard it is worthwhile to quote from the Farmer's and Fisherman's Income
Tax Guide on this point:
Taxcase:
If the home on your farm forms an integral part of a
full-time
farming operation, you may claim an amount not exceeding
1/4 of all repairs to the home. The cost of light, power, heat, taxes,
telephone and fire insurance should be allocated between the home
and the other farm properties and only that portion applicable to
your farming business should be claimed. For example, taxes could
be apportioned on the basis of assessed values, while the business
portion of electric power would depend on whether most was used to
light the farm house or to light outbuildings or a shop.
Taxcase
...If the home is used mainly as a residence and you are
not a
full-time farmer dependent on farming for your living, then a
lesser portion of the expenses will be allowed, based on usage for
the farm.(before 1988 only)
These
are only guidelines and not the law, but they do make it clear that
there is no one way to determine the allowable expenses in the operation
of the farmhouse. The true breakdown can only be determined on the basis
of the facts as they are in your own circumstances.
A
farmer is allowed to claim the full costs of clearing or leveling land,
installing drainage tile, or constructing of an unpaved road. (For 1988,
1989, and 1990 the cost of clearing land can be capitalized.)
It is noteworthy that this would not be allowable in the case of a
non-farmer; such a person would only be able to claim a Capital Cost
Allowance in respect of these amounts.
Once you have determined your total expenses and subtracted them from
your gross income to determine the profit, you should add to this
profit the value of certain benefits which you and your family derived
from the operation of the farm. These benefits would include items such as
any meat or produce which you consumed directly when you could
have sold it on the open market. Although the price which you would
ordinarily receive for these items may be small, and many farmers
will only use for themselves that portion of the goods which was unsaleable
on any given market day, these goods do have some value, and it would
take a naive auditor indeed to believe that a farmer did not appropriate
any of his crops for his own use.
WHEN
IS A FARMER A `FARMER'?
This
brings us to a very important and very problematical area of taxation as
it affects farm operations. When is a farmer a farmer?
As
far as tax law is concerned there are three types of persons engaged in
farming operations: the hobby farmer, the gentleman farmer, and the
business farmer. Unfortunately the line separating these three
classifications is not a very clear one.
The
hobby farmer is the person who has a patch of land upon which he may be
producing some crop or raising some livestock, but his operation is such that
there is no prospect that he will ever derive a profit;
he cannot deduct any losses from his farming operation against his other
income.
The
gentleman farmer does have an expectation of profit from the
operation of the farm, but he does not depend on farming for a living; his
losses are restricted.
The
business farmer farms on a full-time basis; his losses are
fully deductible. It goes without saying that the tax department would
find it equitable to tax any of these three groups on the full value of
the profits if there should be a good year.
The
difficulty rises with differentiating between 'business' and
'gentleman' farmer. The tax act itself is worded in a very confusing manner;
it would have the special rules applying ‘where a taxpayer's chief source
of income for a taxation year is neither
farming nor a combination of farming and some other source of income’.
In
the light of the last part of that definition, it would be quite easy for a
person to consider himself as having his chief source of
income from a combination of farming and some other source. The fact that
there happens to be a loss in a year does not in itself mean
that the farming is not a chief source of income.
There
is a further portion to this section of the Income Tax Act giving the
Minister of National Revenue the absolute right to designate
whether
these rules will apply.
This
right, however, may only be exercised
at a high level, and it would appear that there is a real
unwillingness to invoke this provision lest the tax department be
stuck with it in the following years. In dealing with these provisions
our approach is to give the taxpayer the benefit of the doubt.
Thus,
if there is some question as to whether he really is attempting
to run a genuine farming business, we find it much better to claim
a full loss on the principle that if we don't, it certainly won't
be allowed; if we do claim it and it is later disallowed there will
always remain a chance to dispute the issue later at a higher level.
Of
course, there are many full-time farmers who have found it necessary
to `take a job in town', in order to survive and keep the farm alive.
When the farm was first, there is no problem in applying the `Business'
farmer rules. When the farmer has an agriculture degree and is clearly getting
started in a major farming operation, it is easy to apply
the Business farmer rules. The problem usually arises when the farmer is a
professional person or businessman with a `farm on the side'.
It
is easy to class that person as a `gentleman farmer' even though he may
be putting a major amount of time, money, and energy into the
project.
There
remains the question of what to do once we have decided that a person is
really only a gentleman farmer, and what special calculations must be
applied. The rules allow such a person to claim fully the first
$7,500 of his farm loss and then one-half of the next $7,500
of his losses; none of the remaining losses from farming are deductible
in the current year. The part of the loss attributable to an expense
for Research and Development is not considered in determining the amount
of restricted farm loss; this part is always fully deductible.
The
difference between the amount that is claimable and the actual total farming
loss is known as the restricted farm loss, and it may be carried back as a
deduction in the previous year against farming income
or forward as a deduction in future years in a manner similar to
that used for non-capital losses. There is a further restriction
in those years, i.e. the amount of restricted farm losses of other years
allowed as a deduction is limited to the amount of the farm
profit in the year in which the deduction is taken.
Thus,
if in all of the years in which a deduction might be taken there also
happens
to be a loss from farming, the restricted farm loss will no longer be
claimable. A further point that should be made in the matter of
restricted farm losses dealing with partnerships. The income is divided
between partners before the restricted farm loss is calculated; each
partner will then be able to have the loss restrictions applied separately.
Thus
if two persons, both of whom would be called gentleman farmers,
incur a loss as equals in their farming partnership of $20,000, the
loss which each of them will claim on his current year's tax return
will be $7,500 + 1/2 x $2,500 = $8,750, and NOT 1/2 x ($7,500 + 1/2
x $12,500) = $10,000
Taxcase:
This restricted farm loss legislation sometimes runs to
the
absurd. In 1983, Reynald Plante lost his claim for full
deductions of his farming losses in the Federal Court, Trial Division. He and
his brother had bought a farm to breed and train race horses.
They constructed a stable, house, coach house, and training track, purchasing
many thousands of dollars worth of equipment such as sulkies, harnesses and
horses. In 1976 and 1977, they tried to deduct one half of $22,376.12 and
$24,994.99 respectively. The tax office restricted
the losses to $5,000 each. They appealed to the Tax Review Board in 1981
and lost their claim, including a deduction for automobile expenses.
Judge
Walsh of the Federal Court agreed with the Tax Review Board with regard
to the restricted farm loss but agreed with the deduction for the
automobile expenses. This case is particularly interesting because at
the time of the trial, Mr. Plante was devoting all his time to his horse
business and was in fact making a profit. Usually
either a judge will accept this, or the tax office will have dropped the
case. It points out how the
Remember
that for 1988, the rules are changed to a maximum of $15,000
loss allowed for four out of seven years. The other three years must be
profitable to claim losses in four years.
OPINION
The
rule is punitive in these days of full-time farmers HAVING to
take outside work to support their farms. Since this is happening
all over North America, it is obviously wrong and an abuse of the legislative
process. It is hoped that the Conservative government
will do something to rectify the situation, even though they have
not yet done so. I personally spoke with
Perrin Beatty, John Bosley,
Bob
Wenman and others during the
Conservative Task Force on Taxation
in
March, 1984. Perrin Beatty, who became Minister of
National
Revenue after September, 1984, and Bob
Wenman, now Parliamentary
Secretary for Defence (and doing a great job), both recognized the
problem and seemed to want to do something about it. Their something
as I have mentioned leaves a lot to be desired. The following paragraph
has now been partially answered. I leave it in as a bit of history.
When
I started in this business in 1966, it was rare for the $5,000
limit to be reached, let alone be exceeded by twenty and thirty thousand
dollar amounts. Today, however, it is common for a young (or older)
farmer to be working in town, making twenty or thirty thousand dollars,
and putting every single cent into the farm mortgage interest payments
(watch CBC's Country Calendar if you are a `city slicker'). Obviously,
the Minister of Finance has to either increase the limits to take
inflation into account (when the law was originally passed, the $5,000
limit would be like $25,000 today), or they have to abolish the law
and be tougher on the "real business and expectation of profit"
rules. I vote for the "expectation of profit rules" and abolish
the limit.
Taxcase: As an example, I give you the 1982 case of Norman
Hall and
Stirling Lane. They also went
into the horse breeding business.
Mr. Taylor, a member of the Tax Review Board, ruled that their operations
were certainly a business with an expectation of profit. The expenses
were $4,500 in 1978, $18,800 in 1979, and $45,000 in 1980. And their
business income was 0 for 1978, $1,800 for 1979 and $28,000 for 1980.
However,
he was bound by the rules of Section 31 which limited their losses to
$5,000 per person each year. The fact that it was a partnership doubled
the loss to $10,000. It would only have been $5,000 if the same amounts
had been spent but there was only one person.
Taxcase: In a totally ridiculous case, also in 1982,
Edward Hibberd
lost
all his claim for a farm loss, even though he had an actual business in
operation with horses boarding, etc. The provincial government created a
green belt which restricted the expansion of the horse business, causing
it to fold. As there was no longer an expectation of profit,
the disallowance of the continuing expenses may be right in law, but
it is hard to justify the punishing of a citizen by one government
because of the actions of another. The land in this case was expropriated.
Taxcase:
In 1977, Philrick Limited
won their similar case after
ten years of persecution. Their land was expropriated by the
government for the `never to be' expansion of the Pickering Airport.
Because the tax office was in the process of re-assessing the Philrick
tax returns, the tax office seized the proceeds of the expropriation.
After years of trials (all three won by Philrick), the tax department
finally abandoned the fight, leaving the Philrick owners broke and
divorced. Because the tax office had seized the money from the expropriation,
the owners were unable to purchase equivalent property and the business
also died. If any case is evident in Canadian Law of a taxpayer being
beaten by the system, this is it. It shows all the bad parts and none
of the good parts. The money returned by the tax office went to pay
lawyers and accountants, leaving the owners with nothing, or at least very
little.
Thankfully,
the new system is better, because the tax office cannot seize while a
legitimate appeal is proceeding, but that is not enough.
The
government MUST remove the restricted farm loss provisions. Think of
your own or a friend's business where he or she has had to get
outside income to support themselves during tough times (I worked
as a night desk clerk for four years while getting CEN-TA off the
ground). Imagine...a hobby service station, a
hobby shoe store,
a
hobby pet store. Well, you can imagine a hobby pet store, and that
is the problem... as soon as animals are involved, there is a tendency
to consider the business a hobby and non-deductible.
Just because a person likes their job, it is no reason to disallow
losses or restrict losses during tough times. Make a farm a business or
a hobby.
If
would have thought that Philrick would have been enough, but DNR
did have to do it again.
Taxcase:
In 1985, Paul E. Graham
won his case for the third
time in
the Federal Court of Appeal. He clearly had another job which was providing
the money to get going, but he spent 8 hours a day at
work and 11 hours a day on the farm. In addition, his employer allowed
him all the unpaid time off he needed in the spring and fall. He was
clearly a full-time farmer with a `hobby job'. Aw heck, you know what
I mean. Why not drop a line to Mr. Wilson, and another to Mr. Mulrooney,
and another to Mr. Wenman, and another to your own MP and get them
to quit persecuting farmers.
Taxcase:
Also in 1985, Harold S. Hadley,
C.A. won his case for
a full farm loss rather than a restricted loss. His investment exceeded
one million dollars, he had 756 acres of land and was running
a cow/calf operation and dealing in purebred cattle. However, the
devastation which hit this kind of operation in 1977 and 1978 caused
him to lose large amounts of money and he ended up selling the whole
business. In 1981, R. St-Onge of the Tax Review Board had ruled that
Mr. Hadley was only entitled to a $5,000 deduction (with a $1,000,000
investment - some hobby). However, the Federal Court found in favor
of Mr. Hadley. But you were right, DNR has appealed the case, and
intends to run Mr. Hadley through another three years of trials. Does
it make sense to you?
Taxcase:
In 1987, Dr. Ronald Timpson
won (in Federal Court) his
appeal
to his 1985 Tax Court of Canada loss. A medical doctor,
with no farming experience, he lost $36,000 in 1977 and $43,000 in
1978 in his purebred cattle operation. Although he carried on a full-time
medical practice, he devoted over 34 hours a week to the farm. Judge Cullen
agreed that he had a reasonable expectation of profit and removed
the $5,000 restriction imposed by the lower court.
Dr.
Timpson carried on a full-time farming business and was allowed full-time
expenses.
Taxcase:
Mr. John and Mrs. Olga Magee
lost
their Federal Court
claim
in 1987. They purchased 80 acres and a race horse in 1977. For
the next nine years they were consistently in the red and deducted
their losses from business income. Judge Strayer turned their 1981
and 1982 losses down on the basis that there was no reasonable expectation
of profit for the years in question.
Taxcase:
On the other hand, In 1987,
Steven Gorjup won for
the
second time. He had previously had his claim for `restricted farm
losses' allowed in the Tax Court of Canada in 1985. DNR appealed the
win and Judge Jerome of the Federal Court upheld the lower court ruling.
He said that ten years was not an unreasonable time to experience
start-up costs in a large farming operation. (This decision was rendered
on July 17, 1987, 29 days after the budget speech said that losses
would only be allowed if there were profits in three out of seven
years.) Gorjup had a full-time job but worked 45 hours a week on the
farm. He also had developed and followed an operational plan. He had a
farming background and originally had planned to be in business
with his father-in-law. Those plans were thwarted when his father-in-law
had a stroke in 1977. The tax years in dispute were 1979 and 1980.
CAPITAL
GAINS AND THE FARMER
Although
capital gains are properly a matter treated at line 127,
certain factors are so special to farmers that they are best discussed here.
Restricted
Farm Losses that could not be claimed in any year may be added to the
cost of the farm so as to reduce the gain if those losses can be attributed
to property taxes or interest on the purchase of
the land. This method can
reduce a gain on the property but
cannot
create or increase a loss. This is something to be careful about since the
effects will be spread over a number of years, and
it will not become significant until the farm is sold.
If
in the first year you acquired a restricted farm loss through high mortgage
interest, and had farm losses in the following five years,
you would no longer be able to deduct that loss from your other income.
It
would be added to the cost base of the farm in the sixth year following.
Then, if it was yet another twenty years before you sold the farm, it would
be very easy to forget an adjustment which arose so long
ago. This is just one more reason why it is imperative to keep proper
records.
TIP
If,
as a farmer, you sold your property and it included your principal
residence, special rules apply. Principal residence in this situation
would include a place which has been subject to a declaration for
up to four years. At your option you may elect to treat the residence
portion according to regular principal residence rules, while treating
the farming portion in the usual manner of a disposition of land.
Alternatively
you may calculate the gain on the entire property, and
then reduce that gain by the number of years plus one in which you
have held the farm, times $1,000.
There
is a further factor affecting farmers. If you dispose of the
farm by a transfer to your spouse or children, there is no capital gain on
the transaction. For transfers made after April 10, 1978,
this also applies to shares in a family farm corporation as well as
to farms held by an individual. What in effect happens is that the
person receiving the farm does so at your adjusted cost base, and
if he eventually sells it, his gain at that time will be based on
the same cost price that would have applied if you had sold it to
a stranger. These rules apply to property transferred either by gift or
will. The June 18, 1987 budget reaffirmed the $500,000 Capital Gains Tax Free
for the `Working' Family Farm (see section on Capital
Gains).
SPECIAL
RULES NOW APPLY FOR FARMERS AND RRSPs.
The
maximum deduction which may be claimed is equal to the lesser of the capital
gain arising from the sale of the farm and $10,000
for each year of full-time farming between 1972 and 1984, less any
such special deduction claimed by one's spouse, and minus any regular
contribution made to an RRSP in 1985, 1986 and 1987. (please check this
absolutely BEFORE you make a contribution - there have been so
many changes, I check everything now before I make a commitment.)
But
it isn't all clear sailing. We have to realize that people do get old,
do want to try other things, and occasionally, family relationships
get mixed up. Sometimes, a non-blood relative can be closer than children or
parents or siblings.
Taxcase: This situation came up in 1985, with the estate of MaryJane
Gale, see
line 127 - capital gains cases for more information
on this
subject. She had been in a nursing home for the last three
years of her life. Her daughter-in-law and her grandson lived on the
farm which had been left to the grandson in her will. The daughter-in-law
remarried and her new husband farmed the land and reported the profits
on his tax return. DNR taxed the estate as if the farm had been disposed
of and Judge Kempo of the Tax Court of Canada ruled that it had been.
The grandson lived on the farm but he did not farm it and neither did the
grandmother. No evidence was presented to show that the grandson or
daughter-in-law did any work on the farm. (Unusual; every time
I drove by a relative's farm, I was put to work - which points out
an unusual situation: if city relatives visit the farm, they work;
can you imagine the farm relatives visiting in the city and working in
the hardware store, or the drugstore, or at the insurance office?
Back
to the point...)
Because the
husband was not a child of the deceased, and she had not
farmed it for the last three years, the estate was taxed as if the
farm was sold. Do you think that that was what parliament expected
when
they passed the law?
So,
if you are thinking of moving off the farm and you want it to pass to your
children, be careful to make sure that you operate the
farm. DO NOT RENT it out. Continue to operate it yourself by hiring
or continuing to drive the tractor in the summer. Do not turn the
control over to a non-child and if you are in this position get back
to work. Of course, the budget's $500,000 capital gains exemption applies
immediately to the sale of a working farms and likely bypasses
the above paragraph completely.
The
following is reproduced from the December 1987 pamphlet TAX
TREATMENT
OF FARM LOSSES which was
released as part of the Dec
16,
1987 Budget speech.
Reasons
for the White Paper Proposals
The White Paper proposals concerning the taxation of farm businesses
were introduced for two main reasons. The first involved the concern
that the special tax provisions available to farmers might be used more often
as a tax shelter mechanism by taxpayers with high off-farm
incomes. These special farm provisions include cash basis accounting,
the $500,000 capital gains exemption for farm property, the full
deductibility
of carrying charges on farm land, the deductibility of certain land
clearing and improvement costs (e.g. tile drainage) as current expenses
and an accelerated capital cost allowance rate for certain types of
farm buildings.
The
use of these special provisions could result in current farming losses
being generated through accounting practices which do not necessarily
reflect an economic loss and may be used to reduce off-farm income. The
prospect of tax free capital gains in combination with the current accounting
and tax treatment has increased the attraction in certain parts of the
country of farming as a tax shelter mechanism for high income earners.
As
reflected in several recent court decisions (see my own previous text), the
current law does not restrict the benefit of these special tax provisions
only to bona fide farm operations.
