Farm Taxes

🌾Understanding Farm Taxes

As more people enter the livestock world, especially with high-value breeding stock, it’s important to understand how farm taxes actually work.

1) What Counts as a “Farm” to the IRS?

The IRS does not consider you a farm simply because you have animals or acreage.

A farm must be operated with the intent to make a profit.

✔️ IRS “Hobby Loss Rules” (Section 183)

To be considered a farm (not a hobby), you must show a profit in 2 out of 7 years for livestock breeding operations.

You can still be considered a legitimate business even if you fail the test, but only if you can show:

• clear effort to make a profit
• accurate records
• marketing efforts
• breeding plan
• reasonable expectation of success

Simply buying animals and taking write-offs is not enough.

❗ The danger for new breeders:

If you focus only on write-offs and have no profit years, your “farm” can be reclassified as a hobby, and all prior deductions can be reversed.

2) Assets & Depreciation — How It Works

Depreciation lets you deduct the cost of long-term farm assets over several years.

Depreciable livestock:

• Cows held for breeding
• Breeding ewes & rams
• Breeding Bulls

NOT depreciable:

• Animals held primarily for sale (calves / lambs)
• Pets (steer)
• Show animals not used for breeding
• Rescues or hobby animals

Example

You buy a bull for $15,000.

Useful life for this bull is 10 years.

You depreciate him over 5 years at $3,000 per year.

If you sell him in year 8 for $3,000:

• Your sale price of $3,000 is still reported as ordinary income but it’s classified as depreciation recapture because you’ve fully depreciated the bull.  

If you keep him but close your farm:

• You are treated as if you “sold” him to yourself
• You owe income tax (recapture) on his fair market value (FMV).  

Which brings us to…

3) Closing a Farm — What Happens to Animals & Assets

When you stop operating as a farm, the IRS requires a “distribution of assets.”

🟢 What happens when you retire your breeding animals?

If you retire a breeding cow, ram, bull, or ewe:

• The IRS treats it as though you sold it to yourself
• You must report FMV (fair market value)
• You must pay recapture tax (reported as income) on the FMV amount.
• But you do NOT have to physically sell or give up the animal

You can absolutely keep your animals as pets — but you just must account for the tax side.

Example 

• Bought for $15,000
• Depreciated fully over 5 years
• You retire and close the farm
• FMV today: $10,000 

The IRS taxes you as if you:

“sold” the animal to yourself for $10,000

→ $10,000 is added to your reported income on your final farm return as depreciation recapture and you pay income taxes on this amount as you would any other ordinary income.

This is why depreciation is a tool, not free money.

4) How Do You Determine FMV When Closing?

Fair market value = what a willing buyer would pay a willing seller today.

Common methods:

• Recent sales of similar breeding stock
• Appraisals
• Auction values
• Private treaty comps
• Breed registries
• Market trends
• Online sales listings

You cannot simply say “it’s worth $0” unless:

• The animal is older, unsound, infertile, or unmarketable
• And you can reasonably support that claim if audited

A young, fertile, proven $15,000 ram or mini cow is not zero value, even if you “retire” him.

5) Can You Just Say an Animal Has No Value?

Only if it is realistically true.

IRS will allow $0 value if:

• The animal is too old
• No longer fertile
• Unsound
• Sick
• No longer economically useful
• No real resale market

You also cannot claim $0 value simply because:

• You want to keep them
• You are retiring
• You prefer not to pay recapture

However —

If the animal will not be used for breeding again, its value may legitimately drop significantly.

FMV is based on reality, not sentiment.

6) Keeping Other Farm Assets When You Close

Many breeders worry:

“If I close my farm, do I lose all my farm stuff?”

No — you keep everything.

But assets fall into categories:

🟩 Depreciable assets

(barns, shelters, fencing, tractors, equipment)

→ Must report FMV at closure

→ Recapture on depreciation taken

🟨 Non-depreciable assets

(hay feeders, buckets, routine tools)

→ Must still be reported at FMV if they were business assets

→ But often small enough that IRS doesn’t question much

🟦 Fixed property like barns

These remain on your land.

When you later sell the land, the barns’ depreciation, just like your home, affects what you owe in capital gains. 

7) What Else Can Be Deducted on Schedule F?

Schedule F allows farmers to deduct ordinary and necessary expenses.

Common deductible items:

• Hay & feed
• Bedding
• Grain & supplements
• Vet care & meds
• Breeding fees
• Semen / embryo costs
• Minerals
• Shearing
• Hired labor
• Fuel
• Utilities
• Repairs
• Small tools
• Barn supplies
• Mortgage interest 
• Property taxes
• Show fees
• Registrations & memberships
• Interest in farm loans
• Marketing & website costs
• Accounting/bookkeeping
• Insurance
• Vehicle expenses (farm % only)

BUT

These deductions must be tied to a profit-motivated farm, not a hobby.  And you may only be able to deduct a portion of that expense.  For example, your property taxes may be $10,000 but only half of the property is utilized for farming activities so only $5,000 can be deducted. 

8) Why You Might NOT Depreciate Certain Assets

Many accountants recommend not depreciating certain animals or assets when:

✔️ You plan to keep the animal for life

Depreciation requires recapture later, which can create a tax bill.

✔️ The animal may appreciate in value

High-end annimals often increase in value.

✔️ You may want to avoid recapture tax later

Retiring a $20,000 breeding bull and “selling” it back to yourself at FMV can trigger thousands in recapture.

✔️ You are unsure if the farm will show consistent profit

If the IRS reclassifies your activity as a hobby:

→ ALL depreciation deductions can be reversed.

✔️ You’re more concerned with long-term flexibility than short-term deductions

Some breeders prefer to preserve:

• higher basis in animals
• lower future tax liability
• simpler bookkeeping
• cleaner records for future farm expansion or partnerships

Depreciation is optional for many assets.

You do NOT have to depreciate something just because you can.

🌟 Final Thoughts for New Breeders

Tax deductions are helpful — but you must operate like a real business.

You need:

• good records
• intent to make profit
• marketing
• breeding plans
• smart use of deductions
• awareness of recapture when you retire