Income Averaging for Farmers and Fishermen 2016
Checklist
Schedule J (Form 1040) 2016 allows eligible farmers and fishermen to reduce tax liability when
income spikes by averaging farm or fishing income over three prior years. This form applies only to individuals with farming or fishing net profit and remains unavailable to corporations, partnerships, or estates.
Understanding the 2016 farm income averaging requirements and the correct Schedule J attachment procedure is a critical compliance step for agricultural taxpayers. No stimulus reconciliation, ACA shared responsibility, TCJA rules, ARPA expansions, unemployment exclusion, charitable deduction changes, or energy credit modifications apply to Schedule J
(Form 1040) for 2016.
Schedule J Eligibility Requirements
You must be an individual taxpayer with taxable income from a farming or fishing business in the current year to use Schedule J. During any of the three prior base years, the IRS does not require that you have been engaged in a farming or fishing business.
Income averaging may be selected regardless of whether your filing status has changed between the election year and the base years. When calculating alternative minimum tax on
Form 6251, the income averaging election does not apply.
Farming business includes operating a nursery or sod farm, raising or harvesting trees bearing fruits or nuts, raising ornamental trees under six years old when severed, and raising or managing animals. A fishing business includes catching or attempting to catch fish, activities reasonably expected to result in harvesting fish, and operations at sea that support these activities.
How to Complete Schedule J for Income Averaging
Step 1: Prepare Required Documentation
Gather Schedule F, line 34, showing the current year farm net profit, or Schedule C showing fishing net profit from business operations. Collect prior-year tax returns that show taxable income for the three preceding years.
You do not need prior-year farm or fishing profit to qualify for income averaging. Locate your
2013, 2014, and 2015 Form 1040 returns to determine base year taxable income amounts required for the calculation.
Step 2: Complete Schedule J Income Sections
Enter your 2016 taxable income from Form 1040, line 43, or Form 1040NR, line 41, on
Schedule J, line 1. Your elected farm income, which is the sum of your taxable income from farming or fishing that you elect to average, should be entered on line 2a.
This amount cannot exceed your total taxable income. You may include less than your entire farm or fishing income if doing so provides better tax results.
Complete lines 2b and 2c if your elected farm income includes net capital gain by entering the appropriate capital gain amounts attributable to your farming or fishing business. Calculate your base income on line 3 by subtracting line 2a from line 1. Figure the tax on the line 3 amount using 2016 tax rates, tables, or worksheets, and enter the result on line 4.
Step 3: Allocate Income to Prior Years
Schedule J allocates one-third of your elected farm income to each of the three prior base years rather than calculating a four-year average. Enter your 2013 base year taxable income on line 5 using prior Schedule J amounts if you used income averaging in previous years, or using your
2013 Form 1040 taxable income if you did not.
Add one-third of your elected farm income from line 6 to the line 5 amount, and enter the combined result on line 7. Calculate the tax on the line 7 amount using 2013 tax rates and enter the result on line 8. Repeat this allocation process for 2014 and 2015 base years, with each year receiving exactly one-third of your current year's elected farm income.
Step 4: Calculate Your Final Tax
Add the tax amounts from all four years to determine your total income averaging tax. The calculation includes your 2016 tax on reduced taxable income plus the three tax increases resulting from adding one-third of elected farm income to each prior year.
Enter this total tax amount on Form 1040, line 44, or Form 1040NR, line 42. Compare this income averaging result with your tax calculated using standard methods to verify the election produces a lower tax liability.
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Step 5: File Schedule J With Form 1040
Attach the completed Schedule J to your Form 1040 and file as a single document. Schedule J must be accompanied by Schedule F for farming operations or the applicable profit and loss schedule for fishing operations.
The form does not contain a signature area because the signature on Form 1040 covers all attached schedules. Attach Schedule J only if you are using it to figure your tax, as the form instructions specify.
Documentation and Planning Considerations
Verify that no other income-reducing elections conflict with the three-year averaging period shown on Schedule J. Section 179 expensing elections and bonus depreciation elections may affect the net profit amounts available for averaging.
Document your prior-year net profit amounts to prevent adjustment disputes during an examination. Keep copies of your 2016 tax return and Schedule J for use in income averaging calculations for 2017, 2018, or 2019 if needed.
Income averaging provides the greatest benefit when current year income significantly exceeds prior year levels and when prior years had unused lower tax bracket capacity. The election allows you to utilize prior-year tax brackets that would otherwise remain inaccessible, reducing your overall tax burden across the four years.
This method taxes portions of your current income at lower rates from years when your income was lower. Agricultural taxpayers experience significant income fluctuations due to market conditions, weather events, and production cycles that make income averaging particularly valuable.
If you’re missing tax documents or want to ensure the numbers you enter match IRS records, we can help.
