If you are engaged in a farming business, you may be able to average all or some of your farm income by allocating it to the 3 prior years (base years). This may give you a lower tax if your income from farming is high and your taxable income from one or more of the 3 prior years was low. The term "farming business" is defined in the Instructions for Schedule J (Form 1040).taxmap/pubs/p225-012.htm#en_us_publink1000217859
You can use income averaging to figure your tax for any year in which you were engaged in a farming business as an individual, a partner in a partnership, or a shareholder in an S corporation. Services performed as an employee are disregarded in determining whether an individual is engaged in a farming business. However, a shareholder of an S corporation engaged in a farming business may treat compensation received from the corporation that is attributable to the farming business as farm income. You do not need to have been engaged in a farming business in any base year.
Corporations, partnerships, S corporations, estates, and trusts cannot use income averaging. taxmap/pubs/p225-012.htm#en_us_publink1000217860
EFI is the amount of income from your farming business that you elect to have taxed at base year rates. You can designate as EFI any type of income attributable to your farming business. However, your EFI cannot be more than your taxable income, and any EFI from a net capital gain attributable to your farming business cannot be more than your total net capital gain.
Income from your farming business is the sum of any farm income or gain minus any farm expenses or losses allowed as deductions in figuring your taxable income. However, it does not include gain or loss from the sale or other disposition of land, or from the sale of development rights, grazing rights, and other similar rights.taxmap/pubs/p225-012.htm#en_us_publink1000217861
Gains or losses from the sale or other disposition of farm property other than land can be designated as EFI if you (or your partnership or S corporation) used the property regularly for a substantial period in a farming business. Whether the property has been regularly used for a substantial period depends on all the facts and circumstances.taxmap/pubs/p225-012.htm#en_us_publink1000217862
If you (or your partnership or S corporation) liquidate your farming business, gains or losses on property sold within a reasonable time after operations stop can be designated as EFI. A period of 1 year after stopping operations is a reasonable time. After that, what is a reasonable time depends on the facts and circumstances.taxmap/pubs/p225-012.htm#en_us_publink1000217863
If your EFI includes both ordinary income and capital gains, you must allocate an equal portion of each type of income to each base year to figure the tax on EFI. For example, you cannot allocate all of the capital gains to a single base year.taxmap/pubs/p225-012.htm#en_us_publink1000217864
If you average your farm income, you will figure your tax on Schedule J (Form 1040).taxmap/pubs/p225-012.htm#en_us_publink1000217865
If your taxable income for any base year was zero because your deductions were more than your income, you may have negative taxable income for that year to combine with your EFI on Schedule J.taxmap/pubs/p225-012.htm#en_us_publink1000217866
You are not prohibited from using income averaging solely because your filing status is not the same as your filing status in the base years. For example, if you are married and file jointly, but filed as single in all of the base years, you may still average farm income.taxmap/pubs/p225-012.htm#en_us_publink1000217867
You subtract your EFI from your taxable income and add one-third of it to the taxable income of each of the base years to determine the tax rate to use for income averaging. The allocation of your EFI to the base years does not affect other tax determinations. For example, you make the following determinations before subtracting your EFI (or adding it to income in the base years).
- The amount of your self-employment tax.
- Whether, in the aggregate, sales and other dispositions of business property (section 1231 transactions) produce long-term capital gain or ordinary loss.
- The amount of any net operating loss carryover or net capital loss carryover applied and the amount of any carryover to another year.
- The limit on itemized deductions based on your adjusted gross income.
- The amount of any net capital loss or net operating loss in a base year.
If your child was under age 19 (or 24 if a full-time student) at the end of 2009 and had investment income of more than $1,900, part of that income may be taxed at your tax rate instead of your child's tax rate. For more information, see the Instructions for Form 8615.
If you use income averaging, figure your child's tax on investment income using your rate after allocating EFI. You cannot use any of your child's investment income as your EFI, even if it is attributable to a farming business. For information on figuring the tax on your child's investment income, see Publication 929, Tax Rules for Children and Dependents.taxmap/pubs/p225-012.htm#en_us_publink1000217869
You can elect to use income averaging to compute your regular tax liability. However, income averaging is not used to determine your regular tax or tentative minimum tax when figuring your AMT. Using income averaging may reduce your total tax even if you owe AMT.taxmap/pubs/p225-012.htm#en_us_publink1000217870
You may be able to claim a tax credit if you owed AMT in a prior year. See the Instructions for Form 8801, Credit for Prior Year Minimum Tax—Individuals, Estates, and Trusts.taxmap/pubs/p225-012.htm#en_us_publink1000217871
You can use income averaging by filing Schedule J (Form 1040) with your timely filed (including extensions) return for the year. You can also use income averaging on a late return, or use, change, or cancel it on an amended return, if the time for filing a claim for refund has not expired for that election year. You generally must file the claim for refund within 3 years from the date you filed your original return or 2 years from the date you paid the tax, whichever is later.