Conservation acres may be subject to new tax
By Jason Orr

The IRS is accepting public comments on a proposal to collect self-employment tax on CRP contracts

With no political compromise on the horizon, it appears one way the IRS will try to bolster Social Security’s financial health is by subjecting all CRP payments to the Self-Employment Contributions Act (SECA) tax. What this means for landowners who collect CRP payments is a potential additional 15.3 percent tax on top of their regular income tax rate.
For example, Taxpayer A (who has never farmed this ground and is single) enters into a 10-year CRP contract with the USDA. Taxpayer A arranges for a third party to perform the tilling, seeding, fertilizing and weed control required to enter the CRP contract. Then, each year, Taxpayer A will receive $100,000 in CRP payments. And for the sake of example, assume Taxpayer A has no other source of income. Based on these facts, Taxpayer A’s income tax liability will be approximately $20,218. The new IRS proposed revenue ruling will increase Taxpayer A’s tax liability to approximately $32,110. That is an increase of $11,892 and is attributable to SECA.

Most taxpayers in the above situation have relied upon well-settled tax rules and have excluded CRP payments from SECA tax. These existing rules exclude from the computation of “net earnings from self-employment” net rentals from real estate (including such rentals paid in crop shares), unless such rentals are received in the course of a trade or business as a real estate dealer, or by a taxpayer who materially participates in farming activities on the rented real estate.

However, an appeals court has said that participation in a CRP contract meets the criteria of a trade or business irrespective of whether the participant performs the required activities personally or arranges for his obligations to be satisfied by a third party. The court goes on to say that CRP rental payments are not payments for the right to use or occupy real property. CRP rental payments are made in exchange for conducting activities that meet the commitments of a CRP contract. Therefore, CRP rental payments are not excluded from net income from self-employment as rentals from real estate.

The proposed ruling from the IRS claims that SECA applies to CRP rental payments (including incentive payments) from the USDA to a farmer actively engaged in the trade or business of farming. Furthermore, it is proposed that SECA applies to an individual not otherwise actively engaged in the trade or business of farming who enrolls land in CRP and fulfills the CRP contractual obligations by arranging for a third party to perform the required activities.

The likely economic impact of the proposed ruling has yet to be determined. Still, it is apparent that some landowners may receive greater income by not renewing their CRP contracts, starting to farm these tracts of land instead. Given current commodity prices, this scenario looks even more likely.

This could mean greater soil loss, reduced wildlife habitat and an increase in crop supply—an undoing of the basic goals of CRP.

For now, this is only a proposed revenue ruling. And the IRS is currently accepting public comment on the issue. Comments must be submitted by March 19, 2007.

Comments should reference Notice 2006-108 and be addressed to:

Internal Revenue Service
Office of the Associate Chief Counsel
(Tax Exempt and Government Entities) CC: TEGE
1111 Constitution Avenue, N.W., Rm. 4000
Washington, DC 20224
Attn: Elliot Rogers