In general, an expense cannot be deducted if paid in advance.
This is true for both the cash basis method of accounting (the choice
for most individuals) and the accrual method of accounting (used by
some businesses, including businesses run by individuals). The
prepaid amount is treated as an asset with a useful life extending
beyond the current tax year, and carried over to the tax year where
the expense applies.
The general rules for prepaid expenses (and income) and for accrued
expenses (and income) are listed below for Cash Basis taxpayers and
then for Accrual Basis taxpayers. Don't take these two terms too
literally. Some Cash Basis taxpayers are allowed to accrue some
items. And some Accrual Basis taxpayers must report on the Cash
Receipts and Cash Disbursements method for some items.
There are many special rules and exemptions dealing with all sorts of
unique circumstances, so you should check with your income tax advisor
before applying any of these general rules to your own situation.
Cash Receipts and Cash Disbursements method
Cash basis taxpayers record income when it is
received, and claim deductions when expenses are paid. (Treas.
Reg. § 1.446-1(c)(i))
A cash basis taxpayer can look to the "doctrine of constructive
receipt" and the "doctrine of cash equivalence" to help determine when
income is received. Most individuals start as cash basis taxpayers.
There are three types of taxpayers that cannot use the cash basis: (1)
C corporations; (2) partnerships with at least one C corporation
partner; and (3) tax shelters. (IRC
Accrual method of accounting
Accrual basis taxpayers
items when they are earned and claim deductions when expenses
are owed. (Treas.
Reg. § 1.446-1(c)(ii))
An accrual basis taxpayer looks to the "all-events test" and
"earlier-of test" to determine when income is earned. (Treas.
Reg. § 1.446-1(c)(1)(ii)(A); Revenue Ruling 74-607)
Under the "all-events test," an accrual basis taxpayer generally must
include income "for the taxable year when all the events have occurred
that fix the right to receive income and the amount of the income can
be determined with reasonable accuracy. Under the "earlier-of
test," an accrual basis taxpayer receives income when (1) the required
performance occurs, (2) payment therefore is due, or (3) payment
therefore is made, whichever happens earliest. (Revenue
Under the "earlier of test" outlined in Revenue Ruling 74-607, an
accrual basis taxpayer may be treated, as a cash basis taxpayer, when
payment is received before the required performance and before the
payment is actually due. An accrual basis taxpayer generally can
claim a deduction "in the taxable year in which all the events have
occurred that establish the fact of the liability, the amount of the
liability can be determined with reasonable accuracy, and economic
performance has occurred with respect to the liability." (Treas.
Reg. § 1.461-1(a)(2)(i))
2½ month rule accrued wages
and payroll taxes | welfare
benefit fund §419(e) | §404 | §461 |
medical and dental expenses
Rev. Rul. 2007-12 |
Rev. Rul. 2011-29
Per reg 1.263(a)-4(f)(7), you can elect
not to have the 12-month rule apply. But once you elect for a
particular item, are you bound as an accounting method for that
item? I do not think so but thought I would confirm.
An example is prepaid insurance. Assume
for 12/31/07 there is prepaid insurance which expires 6/30/08 for
$10,000, and taxpayer capitalizes it for books, and elects not to
deduct the $10,000 for tax purposes either. At 12/31/08, there is
prepaid insurance of $12,000 which expires 6/30/09. I think I can
still deduct the $12,000 on the 2008 calendar year tax return even
though it is capitalized for books.
Twelve month rule exception:
the rule does not apply if the
prepaid amount does not extend beyond 12 months after the benefit
- paying a 12 month insurance
policy or 12 month licensing fee, for example, is generally
deductible when the payment is made.
- cash basis taxpayers have
been allowed to deduct insurance prepayments in excess of 12 months
in the 8th circuit court
(Waldheim Realty & Investment Co. v. Comr., 245 F.2d 823 (8th Cir.
1957), rev'g 25 T.C. 1216 (1957). The decision appears to turn on
the taxpayer's uniformity in deducting prepaid premiums.)
prepayments which are purely tax-motivated may not be allowed as a current deduction even if they meet the 12-month test.
(e.g., McMullan v. US., 686 F.2d 915 (Ct. Cl. 1982); Burck v. Comr., 63 T.C. 556 (1975), aff'd, 533 F.2d 768 (2d Cir. 1976).)
Zaninovich v. Commissioner, KTC 1980-4 (9th Cir. 1980)
Since the proposed transfer will
be in lieu of paying the 2003 rent and will not create a benefit in
excess of 12 months after the current year, the exception to the
general rule will not apply. Therefore, if you are a cash method
taxpayer, you would be entitled to a rent deduction equal to the
entire value of the realty in the year the property is transferred to
If you have adopted the accrual method of accounting for federal
income tax purposes, the proper year for claiming a rental deduction
is the year in which you occupy the property to which the rent payment
relates. Since your proposed transfer of the 10 acres will be in lieu
of payment of rent for 2003, you would be entitled to a rental
deduction equal to the value of the 10 acres only on your 2003 federal
income tax return if you are an accrual method taxpayer.
PPC 15L 15-16
Cash-basis taxpayers are not required to
capitalize expenses that create any right or benefit that expires on
or before the earlier of (1) 12 months after the first date on which
the taxpayer realizes the right or benefit or (2) the end of the tax
year following the year the payment was made. Taxpayers can
elect, however, not to apply this 12 month rule. In that case, prepaid
expenses are capitalized and amortized.
How to elect: the election is made by treating
the amounts as capital expenditures on a timely filed original tax
return for the year the amounts are paid.
the twelve month rule exception:
the exception does not apply to
interest paid in one year that
relates to a charge for the use of funds for any portion of a
subsequent year may be deducted only in the subsequent year.
the exception to the twelve month rule exception:
A narrow exception to the rule
relating to prepaid interest applies to the payment of "points" when
buying a house.
A current deduction for points is
the indebtedness upon which the
points are paid is incurred to purchase or improve the
payor's principal residence;
- a refinancing of the amount
of existing debt does not pass this test.
- new debt acquired after the
purchase or improvement does not pass this test.
the indebtedness is secured by the
taxpayer's principal residence;
charging points is an established
business practice of lenders in the locality in which the debt is
the amount of the points does not
exceed the amount generally charged by lenders in the locality.
All four conditions must be met in
order for the taxpayer to be entitled to a current deduction for the
points. If all four conditions are not met, the amount of the points
must be amortized and deducted ratably over the term of the loan.
the exception to the exception to the twelve month rule exception:
up to $100,000 is allowed as an
to work on later..
In U.S. Freightways Corp. [88 AFTR 2d 2001-6703 (6th Cir. 2001), rev'd
and rem'd 113 TC 329 (1999)], the Seventh Circuit reversed the
Tax Court's decision and allowed an accrual-bases
taxpayer to currently deduct licenses, fees, and insurance premiums
benefiting a 12-month period that extended into the next tax year. The
Seventh Circuit adopted a one-year rule that allows both cash-and
accrual-bases taxpayers to immediately deduct fixed, one-year
recurring expenses that benefit the next taxable year. The IRS argued
against a one-year rule, but later announced plans to issue proposed
regulations that would allow taxpayers to immediately deduct prepaid
items that satisfy a 12-month rule (Ann. 2002-9, 2002-7 IRB 536). The
proposed regulation will allow taxpayers to immediately deduct prepaid
expenses whose benefit does not extend beyond the earlier of 12 months
after the taxpayer starts realizing the benefit from teh expenditure
or the end of the taxable year following the year of payment.
Since USFreightways could not prove that sections 162
and 263 sanction deductibility of the expenses, the court did not even
address the issue of whether the company’s accounting method clearly
reflected its income. Its conclusion was broad enough to apply to all
taxpayers and all expenditures whose benefits extend beyond the end of
the current tax year.
taxpayers must capitalize all expenditures that provide a substantial
benefit beyond yearend. The fact that the expenses are recurring is
immaterial. Likewise, there is no 12-
Three-Pronged Test for Certain Prepaid Expenditures
All Events Test
Recurring Item Exception
3½ month rule
2½ month rule accrued wages
and payroll taxes
30 days rule for prepaid expenses
(Tax Savvy page 71)
The first exception is the so-called “3 ½ month rule” in §
1.461-4(d)(6)(ii). That rule provides that a taxpayer is permitted to
treat services or property as provided to the taxpayer (i.e., as
economic performance) as the taxpayer makes payment to the person
providing the services or property if the taxpayer can reasonably
expect the person to provide the services or property within 3 ½
months after the date of payment
Unlike the deferred compensation rule, the 3 ½ month rule is an “all
or nothing” rule with respect to a particular liability. Therefore,
the 3 ½ month rule does not apply to allow a deduction in year 1 for a
prepayment made at the end of year 1 for services to be performed in
the first 3 ½ months of year 2 under a contract that extends beyond
that 3 ½ month period
9 month rule
Property taxes generally accrue at some specific point in time when
the tax becomes a lien on the property, personal liability for the tax
arises, or some other definite event occurs. Economic performance,
moreover, does not occur until the tax is paid. However, if a special
election is made by an accrual method taxpayer, the taxpayer may
deduct real property taxes ratably over the period to which the tax
§461(c). See Regs. §1.461-1(c)(3)(ii) (Requiring that a taxpayer
submit a written request for permission to make the election within 90
days after the beginning of the taxable year to which the election
first applies); Rev. Proc. 2005-63, 2005-36 I.R.B. 491 (Providing a
waiver of the 90-day requirement and procedures for eligible taxpayers
to follow); Rev. Proc. 2007-56, 2007-34 I.R.B. 388 (Due date for
election may be further extended for taxpayers affected by a
Presidentially declared disaster or terroristic or military action
(§7508A) and is extended for taxpayers serving in, or in support of,
the Armed Forces in an area designated by the President as a combat
zone or serving with respect to a contingency operation §7508)). See
¶2340 for further discussion of the election.
While the rules for deducting prepaid farm expenses have not
changed, the IRS is taking a closer look at the deduction in recent
audits. This material discusses the general rules that make the
expenses eligible for a current deduction.
ISSUE, FOUND ON THE INTERNET (TO BE DELETED AFTER REVIEWING)
ISSUE 5: PREPAID EXPENSES: CHANGE OF
GENERAL RULES FOR PREPAID EXPENSES
Farm producers who use the cash method
of accounting are allowed to deduct the cost of supplies purchased
during the year even if the supplies will not be used until the
following year if they meet the
of two sets of rules.
One set of rules comes from case law and IRS rulings. The general
rule is stated in Grynberg v.
Commissioner, 83 T.C. 255 (1984), and is applied to feed expenses
in Rev. Rul. 79-229 1979-2 C.B. 210. This
rule requires the producer to meet the following three conditions to
claim a deduction in the year of the expenditure:
The expenditure must be a payment for the
supply rather than a deposit.
The prepayment must be made for a business
purpose and not merely for tax avoidance.
The deduction must not result in a material
distortion of income.
The other set of rules is set out in
I.R.C. §464(f). Those rules limit a taxpayer’s deduction for prepaid
expenses to 50% of deductible expenses other than the prepaid expenses
unless the taxpayer is a “qualified farm related taxpayer.” A “farm
related taxpayer” is any taxpayer:
Whose principal residence is on a farm
Whose principal occupation is farming, or
Who is a member of the family of a
taxpayer who meets the requirements of 1 or 2 above
To be “qualified,” the farm related
taxpayer must meet one of the following two requirements:
Aggregate prepaid farm supplies for the
prior three years must be less than 50% of the aggregate deductible
farming expenses other than prepaid expenses, or
Extraordinary circumstances (such as a
flood or a drought) caused prepaid expenses to exceed 50% of farming
expenses other than prepaid expenses in the current year.
Patty Producer uses the cash method of accounting. In
December 2000, she paid $20,000 to Supply Cooperative for fertilizer
to be applied in the spring of 2001 on her corn crop. Patty’s
deductible expenses for 2000 other than this
purchase of fertilizer was $100,000. She purchased the
fertilizer in December for two reasons. First, she was offered a
discount for purchasing in December rather than the following spring.
Second, she was concerned that fertilizer may be difficult to buy at
any price the following spring. Patty is allowed to deduct the $20,000
she paid for the fertilizer on her 2000 income tax return. She meets
the three requirements of the general rule. I.R.C. §464(f) does not
limit her deduction for two reasons. First, she is a qualified farm
related taxpayer, so the 50% limit does not apply to her. Second, she
has not exceeded the 50% limit.
EFFECT OF CHANGE IN PLANS
After purchasing supplies for the
following year, a producer’s plans may change. He or she may decide
not to produce the crop or raise the livestock for which the supply
was purchased. Such producers must address the tax consequences of
that change in plans.
Assume the same facts as in
Example 1, except that the price of corn dropped dramatically before
Patty planted her crop and the cost of fertilizer increased
significantly. Consequently, Patty decided to sell the fertilizer she
had purchased and plant an alternative crop that does not require
fertilizer. She found a buyer that paid her $25,000 for the
What are the income tax consequences of
Patty’s change in plans?
Law and Analysis
Deduction on 2000
A potential consequence of Patty’s
change in plans is a denial of the $20,000 deduction on her 2000
income tax return.
In Rev. Rul.
82-208, 1982-2 C.B. 58, the prepayment rules were applied to a payment
of estimated state income taxes on
December 31, 1981. The
IRS noted that estimated state income taxes are deductible in the year
they are paid if the amount of the payment is reasonably determined in
good faith at the time of the payment. In that ruling, the IRS held
that the taxpayer had no reasonable basis to believe that he owed any
additional state income taxes and did not allow the estimated payment
to be deducted on the 1981 income tax return.
Applying the principle of Rev.
Rul. 82-208 to the facts in Example 2, the
IRS is not likely to challenge Patty’s deduction of the $20,000 on her
2000 income tax return. At the time she made the payment, she in good
faith thought that she would use the fertilizer on her 2001 corn crop.
Income on 2001
The sale of the fertilizer in 2001
results in taxable income for 2001. Since Patty deducted the cost on
the fertilizer on her 2000 income tax return, she has a zero basis in
the fertilizer. Therefore, Patty must report the full $25,000 that she
received for the fertilizer on her 2001 income tax return. The other
income line of Schedule F (line 10 on the 2001 Schedule F) is the
logical place to report this income since it was neither purchased for
resale (Schedule F, line 1) nor raised (Schedule F, line 4).
The same tax consequences are likely to
follow from the purchase and sale of other farm supplies so long as
there is a good faith expectation the supply will be used in the farm
business when it is purchased and there is a genuine change in plans
that results in a sale of the supply. The following supplies are
likely to qualify for the above tax consequences for the reasons
listed with each supply.
Feed Drought forced sale of livestock
Seed Weather conditions or market caused producer to
not plant the crop
Pesticides Weather conditions or market caused producer to not
plant the crop
Fuel Weather conditions or market caused producer
to not plant the crop
Return of Supplies to Seller for a
If the supplies are returned to the
seller for a credit, the taxpayer must be careful to not trigger the
deposit rule. If the supply is returned to the seller for a credit
equal to the original amount paid, the original transaction could
appear to be a deposit rather than a purchase. The taxpayer should
document the negotiations that result in a credit for the taxpayer.
Assume the same facts as in
Example 2, and in addition assume that Patty sells the fertilizer back
to Supply Cooperative and receives cash for the sale. These facts do
not jeopardize Patty’s argument that the original purchase was a
purchase and not a deposit.
If Patty received a credit from Supply Cooperative that could only
be used to purchase other supplies from the cooperative, the IRS could
argue that her original payment was a deposit and not a purchase.
However, since Patty negotiated a different price for the fertilizer,
she can show that she faced the risk of a price change. Therefore, she
is likely to prevail on her argument that the original payment was a
If Patty received a credit from Supply
Cooperative that is exactly equal to her original purchase price, it
is more difficult for her to show that her original payment was not a
deposit. She should document her negotiations with Supply Cooperative
so that she can prove that she faced the risk of a price change and
that the credit was the same as the original purchase price only
because the value of the fertilizer when she returned it was the same
as the cost of the fertilizer when she purchased it.
© 2001 Copyrighted by the Board of Trustees of the University of
Sec. 461. General Rule For Taxable Year Of Deduction
461(a) General Rule
The amount of any deduction or credit allowed by this subtitle shall
be taken for the taxable year which is the proper taxable year under
the method of accounting used in computing taxable income.
461(b) Special Rule In Case Of Death
In the case of the death of a taxpayer whose taxable income is
computed under an accrual method of accounting, any amount accrued as
a deduction or credit only by reason of the death of the taxpayer
shall not be allowed in computing taxable income for the period in
which falls the date of the taxpayer's death.
461(c) Accrual Of Real Property Taxes
461(c)(1) In General
If the taxable income is computed under an accrual method of
accounting, then, at the election of the taxpayer, any real property
tax which is related to a definite period of time shall be accrued
ratably over that period.
461(c)(2) When Election May Be Made
461(c)(2)(A) Without Consent
A taxpayer may, without the consent of the Secretary, make an election
under this subsection for his first taxable year in which he incurs
real property taxes. Such an election shall be made not later than the
time prescribed by law for filing the return for such year (including
461(c)(2)(B) With Consent
A taxpayer may, with the consent of the Secretary, make an election
under this subsection at any time.
461(d) Limitation On Acceleration Of Accrual Of Taxes
461(d)(1) General Rule
In the case of a taxpayer whose taxable income is computed under an
accrual method of accounting, to the extent that the time for accruing
taxes is earlier than it would be but for any action of any taxing
jurisdiction taken after December 31, 1960, then, under regulations
prescribed by the Secretary, such taxes shall be treated as accruing
at the time they would have accrued but for such action by such taxing
Under regulations prescribed by the Secretary, paragraph (1) shall be
inapplicable to any item of tax to the extent that its application
would (but for this paragraph) prevent all persons (including
successors in interest) from ever taking such item into account.
461(e) Dividends Or Interest Paid On Certain Deposits Or Withdrawable
Except as provided in regulations prescribed by the Secretary, amounts
paid to, or credited to the accounts of, depositors or holders of
accounts as dividends or interest on their deposits or withdrawable
accounts (if such amounts paid or credited are withdrawable on demand
subject only to customary notice to withdraw) by a mutual savings bank
not having capital stock represented by shares, a domestic building
and loan association, or a cooperative bank shall not be allowed as a
deduction for the taxable year to the extent such amounts are paid or
credited for periods representing more than 12 months. Any such amount
not allowed as a deduction as the result of the application of the
preceding sentence shall be allowed as a deduction for such other
taxable year as the Secretary determines to be consistent with the
461(f) Contested Liabilities
461(f)(1) the taxpayer contests an asserted liability,
461(f)(2) the taxpayer transfers money or other property to provide
for the satisfaction of the asserted liability,
461(f)(3) the contest with respect to the asserted liability exists
after the time of the transfer, and
461(f)(4) but for the fact that the asserted liability is contested, a
deduction would be allowed for the taxable year of the transfer (or
for an earlier taxable year) determined after application of
subsection (h), then the deduction shall be allowed for the taxable
year of the transfer. This subsection shall not apply in respect of
the deduction for income, war profits, and excess profits taxes
imposed by the authority of any foreign country or possession of the
461(g) Prepaid Interest
461(g)(1) In General
If the taxable income of the taxpayer is computed under the cash
receipts and disbursements method of accounting, interest paid by the
taxpayer which, under regulations prescribed by the Secretary, is
properly allocable to any period--
461(g)(1)(A) with respect to which the interest represents a charge
for the use or forbearance of money, and
461(g)(1)(B) which is after the close of the taxable year in which
paid, shall be charged to capital account and shall be treated as paid
in the period to which so allocable.
This subsection shall not apply to points paid in respect of any
indebtedness incurred in connection with the purchase or improvement
of, and secured by, the principal residence of the taxpayer to the
extent that, under regulations prescribed by the Secretary, such
payment of points is an established business practice in the area in
which such indebtedness is incurred, and the amount of such payment
does not exceed the amount generally charged in such area.
461(h) Certain Liabilities Not Incurred Before Economic Performance
461(h)(1) In General
For purposes of this title, in determining whether an amount has been
incurred with respect to any item during any taxable year, the all
events test shall not be treated as met any earlier than when economic
performance with respect to such item occurs.
461(h)(2) Time When Economic Performance Occurs
Except as provided in regulations prescribed by the Secretary, the
time when economic performance occurs shall be determined under the
461(h)(2)(A) Services And Property Provided To The Taxpayer
If the liability of the taxpayer arises out of--
461(h)(2)(A)(i) the providing of services to the taxpayer by another
person, economic performance occurs as such person provides such
461(h)(2)(A)(ii) the providing of property to the taxpayer by another
person, economic performance occurs as the person provides such
461(h)(2)(A)(iii) the use of property by the taxpayer, economic
performance occurs as the taxpayer uses such property.
461(h)(2)(B) Services And Property Provided By The Taxpayer
If the liability of the taxpayer requires the taxpayer to provide
property or services, economic performance occurs as the taxpayer
provides such property or services.
461(h)(2)(C) Workers Compensation And Tort Liabilities Of The Taxpayer
If the liability of the taxpayer requires a payment to another person
461(h)(2)(C)(i) arises under any workers compensation act, or
461(h)(2)(C)(ii) arises out of any tort, economic performance occurs
as the payments to such person are made. Subparagraphs (A) and (B)
shall not apply to any liability described in the preceding sentence.
461(h)(2)(D) Other Items
In the case of any other liability of the taxpayer, economic
performance occurs at the time determined under regulations prescribed
by the Secretary.
461(h)(3) Exception For Certain Recurring Items
461(h)(3)(A) In General
Notwithstanding paragraph (1) an item shall be treated as incurred
during any taxable year if--
461(h)(3)(A)(i) the all events test with respect to such item is met
during such taxable year (determined without regard to paragraph (1)),
461(h)(3)(A)(ii) economic performance with respect to such item occurs
within the shorter of--
461(h)(3)(A)(ii)(I) a reasonable period after the close of such
taxable year, or
461(h)(3)(A)(ii)(II) 8-1/2 months after the close of such taxable
461(h)(3)(A)(iii) such item is recurring in nature and the taxpayer
consistently treats items of such kind as incurred in the taxable year
in which the requirements of clause (i) are met, and
461(h)(3)(A)(iv)(I) such item is not a material item, or
461(h)(3)(A)(iv)(II) the accrual of such item in the taxable year in
which the requirements of clause (i) are met results in a more proper
match against income than accruing such item in the taxable year in
which economic performance occurs.
461(h)(3)(B) Financial Statements Considered Under Subparagraph (A)(iv)
In making a determination under subparagraph (A)(iv), the treatment of
such item on financial statements shall be taken into account.
461(h)(3)(C) Paragraph Not To Apply To Workers Compensation And Tort
This paragraph shall not apply to any item described in subparagraph
(C) of paragraph (2).
461(h)(4) All Events Test
For purposes of this subsection, the all events test is met with
respect to any item if all events have occurred which determine the
fact of liability and the amount of such liability can be determined
with reasonable accuracy.
461(h)(5) Subsection Not To Apply To Certain Items
This subsection shall not apply to any item for which a deduction is
allowable under a provision of this title which specifically provides
for a deduction for a reserve for estimated expenses.
461(i) Special Rules For Tax Shelters
461(i)(1) Recurring Item Exception Not To Apply
In the case of a tax shelter, economic performance shall be determined
without regard to paragraph (3) of subsection (h).
461(i)(2) Special Rule For Spudding Of Oil Or Gas Wells
461(i)(2)(A) In General
In the case of a tax shelter, economic performance with respect to
amounts paid during the taxable year for drilling an oil or gas well
shall be treated as having occurred within a taxable year if drilling
of the well commences before the close of the 90th day after the close
of the taxable year.
461(i)(2)(B) Deduction Limited To Cash Basis
461(i)(2)(B)(i) Tax Shelter Partnerships
In the case of a tax shelter which is a partnership, in applying
section 704(d) to a deduction or loss for any taxable year
attributable to an item which is deductible by reason of subparagraph
(A), the term "cash basis" shall be substituted for the term "adjusted
461(i)(2)(B)(ii) Other Tax Shelters
Under regulations prescribed by the Secretary, in the case of a tax
shelter other than a partnership, the aggregate amount of the
deductions allowable by reason of subparagraph (A) for any taxable
year shall be limited in a manner similar to the limitation under
461(i)(2)(C) Cash Basis Defined
For purposes of subparagraph (B), a partner's cash basis in a
partnership shall be equal to the adjusted basis of such partner's
interest in the partnership, determined without regard to--
461(i)(2)(C)(i) any liability of the partnership, and
461(i)(2)(C)(ii) any amount borrowed by the partner with respect to
such partnership which--
461(i)(2)(C)(ii)(I) was arranged by the partnership or by any person
who participated in the organization, sale, or management of the
partnership (or any person related to such person within the meaning
of section 465(b)(3)(C)), or
461(i)(2)(C)(ii)(II) was secured by any asset of the partnership.
461(i)(3) Tax Shelter Defined
For purposes of this subsection, the term "tax shelter" means--
461(i)(3)(A) any enterprise (other than a C corporation) if at any
time interests in such enterprise have been offered for sale in any
offering required to be registered with any Federal or State agency
having the authority to regulate the offering of securities for sale,
461(i)(3)(B) any syndicate (within the meaning of section
461(i)(3)(C) any tax shelter (as defined in section 6662(d)(2)(C)(ii)).
461(i)(4) Special Rules For Farming
In the case of the trade or business of farming (as defined in section
464(e)), in determining whether an entity is a tax shelter, the
definition of farming syndicate in section 464(c) shall be substituted
for subparagraphs (A) and (B) of paragraph (3).
461(i)(5) Economic Performance
For purposes of this subsection, the term "economic performance" has
the meaning given such term by subsection (h).
461(j) Limitation On Excess Farm Losses Of Certain Taxpayers
[Editor's Note: Section 15351(a) of Pub. L. 110-246 added subsec. (j)
effective for taxable years beginning after December 31, 2009.]
If a taxpayer other than a C corporation receives any applicable
subsidy for any taxable year, any excess farm loss of the taxpayer for
the taxable year shall not be allowed.
461(j)(2) Disallowed Loss Carried To Next Taxable Year
Any loss which is disallowed under paragraph (1) shall be treated as a
deduction of the taxpayer attributable to farming businesses in the
next taxable year.
461(j)(3) Applicable Subsidy
For purposes of this subsection, the term "applicable subsidy" means--
461(j)(3)(A) any direct or counter-cyclical payment under title I of
the Food, Conservation, and Energy Act of 2008, or any payment elected
to be received in lieu of any such payment, or
461(j)(3)(B) any Commodity Credit Corporation loan.
461(j)(4) Excess Farm Loss
For purposes of this subsection--
461(j)(4)(A) In General
The term "excess farm loss" means the excess of--
461(j)(4)(A)(i) the aggregate deductions of the taxpayer for the
taxable year which are attributable to farming businesses of such
taxpayer (determined without regard to whether or not such deductions
are disallowed for such taxable year under paragraph (1)), over
461(j)(4)(A)(ii) the sum of--
461(j)(4)(A)(ii)(I) the aggregate gross income or gain of such
taxpayer for the taxable year which is attributable to such farming
461(j)(4)(A)(ii)(II) the threshold amount for the taxable year.
461(j)(4)(B) Threshold Amount
461(j)(4)(B)(i) In General
The term "threshold amount" means, with respect to any taxable year,
the greater of
461(j)(4)(B)(i)(I) $300,000 ($150,000 in the case of married
individuals filing separately), or
461(j)(4)(B)(i)(II) the excess (if any) of the aggregate amounts
described in subparagraph (A)(ii)(I) for the 5-consecutive taxable
year period preceding the taxable year over the aggregate amounts
described in subparagraph (A)(i) for such period.
461(j)(4)(B)(ii) Special Rules For Determining Aggregate Amounts
For purposes of clause (i)(II)--
461(j)(4)(B)(ii)(I) notwithstanding the disregard in subparagraph (A)(i)
of any disallowance under paragraph (1), in the case of any loss which
is carried forward under paragraph (2) from any taxable year, such
loss (or any portion thereof) shall be taken into account for the
first taxable year in which a deduction for such loss (or portion) is
not disallowed by reason of this subsection, and
461(j)(4)(B)(ii)(II) the Secretary shall prescribe rules for the
computation of the aggregate amounts described in such clause in cases
where the filing status of the taxpayer is not the same for the
taxable year and each of the taxable years in the period described in
461(j)(4)(C) Farming Business
461(j)(4)(C)(i) In General
The term "farming business" has the meaning given such term in section
461(j)(4)(C)(ii) Certain Trades And Businesses Included
If, without regard to this clause, a taxpayer is engaged in a farming
business with respect to any agricultural or horticultural commodity--
461(j)(4)(C)(ii)(I) the term "farming business" shall include any
trade or business of the taxpayer of the processing of such commodity
(without regard to whether the processing is incidental to the
growing, raising, or harvesting of such commodity), and
461(j)(4)(C)(ii)(II) if the taxpayer is a member of a cooperative to
which subchapter T applies, any trade or business of the cooperative
described in subclause (I) shall be treated as the trade or business
of the taxpayer.
461(j)(4)(D) Certain Losses Disregarded
For purposes of subparagraph (A)(i), there shall not be taken into
account any deduction for any loss arising by reason of fire, storm,
or other casualty, or by reason of disease or drought, involving any
461(j)(5) Application Of Subsection In Case Of Partnerships And S
In the case of a partnership or S corporation--
461(j)(5)(A) this subsection shall be applied at the partner or
shareholder level, and
461(j)(5)(B) each partner's or shareholder's proportionate share of
the items of income, gain, or deduction of the partnership or S
corporation for any taxable year from farming businesses attributable
to the partnership or S corporation, and of any applicable subsidies
received by the partnership or S corporation during the taxable year,
shall be taken into account by the partner or shareholder in applying
this subsection to the taxable year of such partner or shareholder
with or within which the taxable year of the partnership or S
The Secretary may provide rules for the application of this paragraph
to any other pass-thru entity to the extent necessary to carry out the
provisions of this subsection.
461(j)(6) Additional Reporting
The Secretary may prescribe such additional reporting requirements as
the Secretary determines appropriate to carry out the purposes of this
461(j)(7) Coordination With Section 469
This subsection shall be applied before the application of section
(Aug. 16, 1954, ch. 736, 68A Stat. 157; Sept. 14, 1960, Pub. L.
86-781, Sec. 6(a), 74 Stat. 1020; Oct. 24, 1962, Pub. L. 87-876, Sec.
3(a), 76 Stat. 1199; Feb. 26, 1964, Pub. L. 88-272, title II, Sec.
223(a)(1), 78 Stat. 76; Oct. 4, 1976, Pub. L. 94-455, title II, Sec.
208(a), title XIX, Sec. 1901(a)(69), 1906(b)(13)(A), 90 Stat. 1541,
1775, 1834; July 18, 1984, Pub. L. 98-369, div. A, title I, Sec.
91(a), (e), 98 Stat. 598, 607; Oct. 22, 1986, Pub. L. 99-514, title
VIII, Sec. 801(b), 805(c)(5), 823(b)(1), title XVIII, Sec. 1807(a)(1),
(2), 100 Stat. 2347, 2362, 2374, 2811; Dec. 22, 1987, Pub. L. 100-203,
title X, Sec. 10201(b)(5), 101 Stat. 1330-387; Nov. 10, 1988, Pub. L.
100-647, title I, Sec. 1008(a)(3), 1018(u)(5), 102 Stat. 3436, 3590;
Dec. 19, 1989, Pub. L. 101-239, title VII, Sec. 7721(c)(10), 103 Stat.
2400; Nov. 5, 1990, Pub. L. 101-508, title XI, Sec. 11704(a)(5), 104
Stat. 1388-518; Aug. 20, 1996, Pub. L. 104-188, Sec. 1704, 110 Stat.
1755; Dec. 21, 2005, Pub. L. 109-135, title IV, Sec. 412(aa), 119
Stat. 2577; Pub. L. 110-246, title XV, Sec. 15351(a), June 18, 2008,
122 Stat. 1651.)