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IOWA: CRP 'MATERIAL PARTICIPATION' FOR CAPITAL GAIN EXCLUSION

October 31, 2006

Unlike the federal government, Iowa has no special tax rate for long-term capital gains. For a few taxpayers, though, it has something much better: a complete exclusion from income for long-term gains. Very long term.

Iowa allows taxpayers to exclude gains where they meet two ten-year requirements:

- The gain is on business property held for at least ten years; and

- The taxpayer "materially participated" in the business for ten years.

For retired farmers, there is a special rule: you are considered to have "materially participated" in any year if you materially participated for five of the eight years you farmed before retirement. "Material participation" is generally determinined under the federal tax law's "passive activity" rules.

Yesterday the Iowa Department of Revenue released a policy letter holding that participation in the Conservation Reserve Program (CRP) counts as "material participation." The fact pattern from the policy letter:

The situation posed in your letter involves farmland that was owned by the taxpayer for 41 years, the last 18 years as part of an S corporation. The taxpayer farmed the land until 18 years ago when it was put into CRP (Conservation of Reserve Program) for 10 years. The land was then taken out of CRP and farmed for one year, and then was put back into CRP seven years ago. The taxpayer retired three years ago, and has been cash renting his remaining land since retirement.

Citing two private letter rulings, the Department ruled that CRP participation counts as material participation, and the retired farmer was allowed to sell his farmland at a gain without tax.

So - if you are being paid to not farm, you are materially participating in farming. Is this a great country, or what?

IOWA'S SUPER-LONG TERM CAPITAL GAINS DEDUCTION: IF YOU QUIT, DON'T WAIT TOO LONG TO RETIRE

You can find a recap of the basic rules defining "material participation" below in the extended entry.

MATERIAL PARTICIPATION BASICS

The tax regulations say you achieve "material participation" in for a tax year if:

-You participate at least 500 hours in one activity; or
-You participate at least 100 hours and at least 500 hours in more than one "100 hour" activities; or
-You participate at least 100 hours and more than anybody else, or
-You are the only participant; or
-You materially participated in five of the past ten years )or in any three years for a service activity).

There is also a "facts and circumstances" test, but don't count on it.

A special rule apples to real estate. If you are not a "real estate professional," losses are normally passive no matter what, unless you provide "extraordinary" personal services.

If you are a "real estate" professional," you can apply the normal material participation rules to determine whether you have a passive activity. To be a real estate professional, you have to spend at least half your working hours - not less than 750 hours annually - in "real property development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage trade."

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