Active Vs Passive Income
The distinction of active versus passive income is very important.
Especially for corporations, as they pay a much higher rate of tax on passive income compared to active.
In some cases, passive income is very easy to identify, for example, dividend income derived from investments that the corporations has made with some of the excess cash that it won’t need for operations. However, in some cases, it gets a little more difficult to make the distinction.
Some farmers will keep a large amount of funds in savings in order to save up for new equipment or to protect themselves against years where revenues are very low. These farmers may have a filing position to argue the fact that this investment income is just a by-product of their operations.
Another common example is when farmers rent out their land. Whether the rental income is strictly a defined cash amount or determined by a crop share agreement, this revenue should typically be treated as passive. Furthermore, this rental income would no longer be farm income and now be subject to the accrual method of accounting for tax purposes. In order for the income to remain active and classified as “farm income”, the owner of the land must maintain all key cropping decisions and risks. One common strategy to maintain the active income classification is to enter into a joint venture with the interested party where both parties incur expenses, are involved in management decisions, and are subject to risk.
If you believe passive income rules apply to your farm corporation and are concerned about its tax consequences give our Ag Team a call and one of our members will help identify the tax implications and provide options that may be at your disposal to minimize the tax.