Income Averaging for Farmers and Fishermen 2011
Checklist
Schedule J permits eligible farmers and fishermen to elect income averaging under IRC Section
1301, allowing three-year averaging to reduce tax liability when current-year farm or fishing income significantly exceeds prior-year income. This form applies only to specified agricultural and fishing businesses, and nonfarming or nonfishing income does not qualify for this method.
Eligibility Requirements
You must be engaged in a farming or fishing business during the tax year to elect income averaging on Schedule J. The Internal Revenue Service does not require you to have been engaged in farming or fishing during any of the base years.
No minimum percentage of gross income from farming or fishing activities is required to qualify for this election. Even if your filing status differed between the election year and the base years, you have the option to average your farming or fishing income.
Qualifying Farming Activities
A farming business includes cultivating land or raising or harvesting any agricultural or
horticultural commodity. The trade or business of farming encompasses the following activities
- Operating a nursery or sod farm qualifies as a farming business under IRC Section
1301.
- Raising or harvesting trees bearing fruits, nuts, or other crops meets the definition of
farming.
- Raising ornamental trees that are six years old or younger when severed from roots
qualifies for income averaging.
- Raising, shearing, feeding, caring for, training, and managing animals constitutes a
farming business for Schedule J purposes.
Leasing land to a tenant engaged in farming qualifies when lease payments are based on a share of the tenant’s production. A fishing business means the trade or business of fishing in which the fish harvested are intended to enter commerce through sale, barter, or trade.
Self-Employment Tax Considerations
Self-employment tax obligations continue to apply separately from the income averaging election. Farmers and fishermen remain subject to self-employment tax on net earnings from their farming business or fishing business operations, regardless of whether they elect income averaging on Schedule J.
Base Period Calculation
Schedule J uses a three-year base period for income averaging calculations. For tax year 2011, the base years are 2008, 2009, and 2010. You must gather farm or fishing business records, including profit and loss statements and Schedule F or Schedule C, for the current year and all three base years. These records enable you to calculate net farm or fishing income for the complete base period.
The election does not apply when figuring your alternative minimum tax on Form 6251. This election does not necessitate that you recalculate the tax liability of any minor child who was obligated to use your tax rates in the previous years.
How to Complete Schedule J (2011) for Farm and Fishing
Income Averaging
Step 1: Complete Part I of Schedule J
Enter your elected farm income for the tax year on Schedule J Part I. Elected farm income represents the amount of your taxable income from farming or fishing that you elect to include on line 2a. You do not have to include all of your taxable income from farming or fishing on line
2a. Your elected farm income cannot exceed your taxable income for the year.
Step 2: Calculate Taxable Income from Farming or Fishing
Your taxable income from farming or fishing includes all income, gains, losses, and deductions attributable to your farming business or fishing business. If you conduct both farming and fishing businesses, you must figure your elected farm income by combining income, gains, losses, and deductions attributable to your farming and fishing businesses.
Elected farm income also includes any gain or loss from the sale or other disposition of property regularly used in your farming business or fishing business for a substantial period of time.
Income from the sale or other disposition of land, from the sale of development rights, grazing rights, and other similar rights, as well as income, gain, or loss, is not included in elected farm income.
Step 3: Apply the Tax Calculation Method
The income averaging calculation uses a specific formula under IRC Section 1301. You calculate income tax by first reducing the current-year taxable income by the elected farm income and computing the income tax on that reduced amount.
Next, you increase the taxable income for each of the three base years by one-third of the elected farm income. Then, you determine the increase in income tax that arises from the addition of one-third of the elected farm income to the taxable income of each base year.
Complete Part II of Schedule J using the three-year averaging method as required by the 2011 form instructions. The mechanism does not produce a single averaged taxable income figure but instead allocates elected farm income across base years to compute incremental income tax increases.
Calculate Schedule J, line 7, by subtracting line 6 from line 5 to determine your base year taxable income for 2008. Calculate Schedule J, line 8, by figuring the income tax on the amount shown on Schedule J, line 7, using the applicable 2008 tax rate schedules or worksheets.
Step 4: Identify Income and Supporting Forms
You should find your income, gains, losses, and deductions from farming or fishing reported on different tax forms. These forms include the following:
1. Schedule F reports profit or loss from farming operations for the tax year.
2. Schedule C or Schedule C-EZ reports business income if you file farming or fishing income as a sole proprietor.
3. Schedule D reports capital gains and losses from the sale of farm or fishing property.
4. Schedule E Part II reports income from partnerships or S corporations engaged in farming or fishing businesses.
5. Form 4797 reports the sale of business property regularly used in your farming or fishing business.
6. Form 8949 reports sales and other dispositions of capital assets related to farming or fishing operations.
Enter the farm or fishing income from Schedule F or the business schedule on the applicable line of Form 1040 as instructed in the 2011 Schedule J instructions. Verify that no nonqualifying income has been included in the averaging calculation, as Schedule J applies only to farming and fishing income.
- Full IRS transcript retrieval (Wage & Income + Account)
- Professional tax form review
- Preparation & filing support
- Tax relief options if you owe the IRS
Step 5: Attach Required Schedules and File
Attach Schedule J to Form 1040 and include all supporting schedules for verification of the three-year calculation. These supporting schedules include Schedule F, Schedule C, or equivalent business schedules that document your farming or fishing income and deductions.
Sign and date Form 1040, ensuring Schedule J is properly assembled as a required attachment when electing income averaging under this form. Reference the Internal Revenue Service
“Where to File” page for Schedule J (Form 1040) for 2011 to mail the complete tax return with all attachments to the appropriate filing address for paper returns.
Tax Planning and Documentation Resources
Effective tax planning for farm income averaging requires understanding the three-year calculation methodology and how elected farm income affects prior base years. IRS Publication
225, Farmer’s Tax Guide, provides comprehensive guidance on farming business income reporting, deductions, and the farm income averaging election process for eligible taxpayers.
Keep a copy of your 2011 tax return to use for farm income averaging in 2012, 2013, or 2014.
The election allows you to utilize unused tax brackets from prior years, which can result in income taxed at higher rates for the current year being taxed at lower rates from previous years.
You may need to reference Form 1045, Application for Tentative Refund, when calculating net operating loss carrybacks that affect base year taxable income calculations on Schedule J.
Strategic tax planning using farm income averaging can produce substantial savings when current-year income significantly exceeds income in one or more base years.
Filing Requirements for Schedule J (Form 1040)
Complete Form 1040 Schedule J and attach it to your Form 1040 income tax return when electing farm income averaging for 2011. Mail your tax return with all required attachments to the address specified in the Where to File instructions for your state and form type.
Retain copies of your completed tax return and all supporting schedules for at least three years after the filing deadline or the date you filed your return, whichever is later. These records provide documentation for farm income averaging elections in subsequent years when you reference base year amounts on future Schedule J forms.
If you’re missing tax documents or want to ensure the numbers you enter match IRS records, we can help.
