Most people in the farm industry know they can sell qualifying farm property as a sole proprietor or partnership and use their lifetime capital gains exemption to avoid paying tax on the sale. However, many are unaware of the fact that there is a second calculation called the Alternative Minimum Tax (AMT).
This provision has been around for roughly 30 years, and it was introduced as a way to bring fairness to our tax system. At that time, there was a perception that high income earners and farmers were paying too little tax because of the deductions available. AMT is a separate calculation that could result in a significant tax bill, but it’s unique in that it’s considered a pre-payment on future tax.
In other words, the AMT you pay can be deducted from tax you have owing in the next seven years. Unfortunately, many people who use the capital gains exemption are seniors who won’t have adequate taxable future income to take advantage of AMT’s carry-forward potential. If you sell all of your business’s assets at once, you will likely have some regular tax to pay, as well as AMT. If your future income is limited to your pension and a small amount of investment income, you may find the AMT you have paid is not recoverable. As a result, the minimum tax you paid in the year of sale becomes a permanent tax. Fortunately, if you improve your understanding of AMT, you should be able to take advantage of the recovery opportunities available.
Dispelling misconceptions
There’s a widespread misconception that AMT is refundable, but that’s not the case. It can be used against any future tax owing for up to seven years, but you can only claim it if you have sufficient taxable income. It should also be noted that the effect of AMT on regular tax is not a dollar-for-dollar calculation. For example, if you have $25,000 of AMT owing this year and $25,000 of regular tax owing next year, the amount owing doesn’t become zero. There will always be some regular tax owing.
Generating future income
Any opportunity to push income – whether it’s from machinery and equipment sales, deferred grain sales, RRSPs or investments – into a future year will allow you to use up the AMT you have already paid. For example, if you’re a retiring farmer, you could sell your land in the current year, generate the minimum tax and sell your machinery and equipment or grain the following year, creating income in the future that this minimum tax can be applied against, in order to recover it. You may also generate income in the future by taking out invested income or withdrawing some RRSP that might have accumulated, bumping up your income and creating new opportunities to use up that AMT. If you have a corporation available, you could also take money out of the corporation, in order to generate income and recover the AMT.
Planning for the future
I once had a client who sold all of his grain, equipment and land in a single year. As a result, he had tax owing in the current year on the grain sales and the recapture of all the machinery and equipment. (He also had capital gains on the sale of land, but he used the capital gain exemption to eliminate this.) If he had planned correctly, he could have deferred those grain sales until the following year, which would have generated income, allowing him to use some of the minimum tax carried forward against that regular tax.
Selling your land first
If you have an auction sale and sell all your inventory (and pay all the regular tax) before you sell your land, you may be squandering an opportunity to recover AMT. It’s important to keep that in mind, so you structure the disposal of your equipment, inventory and land in a timely manner. This kind of planning will allow you to make better use of the AMT you owe when selling land.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
