Missouri FFA



AM6Agriculture Management, Economics, & SalesTax Management and DepreciationUnit: Agribusiness Management Lesson Title: Tax Management and DepreciationStandards ABS.04.01.02.a. Identify financial concepts associated with production and profit.ABS.04.01.03.a. Explain the importance of return on investment for an agribusiness enterprise.ABS.04.01.03.b. Analyze reporting requirements for income, property, and employment taxes associated with small AFNR businesses.Missouri Personal Finance I.3 Relate taxes, government transfer payments, and employee benefits to disposable SS.ELA-Literacy.L.11-12.1?Demonstrate command of the conventions of standard English grammar and usage when writing or SS.ELA-Literacy.L.11-12.2?Demonstrate command of the conventions of standard English capitalization, punctuation, and spelling when SS.ELA-Literacy.W.11-12.2?Write informative/explanatory texts to examine and convey complex ideas, concepts, and information clearly and accurately through the effective selection, organization, and analysis of SS.Math.Content.HSN-Q.A.1?Use units as a way to understand problems and to guide the solution of multi-step problems; choose and interpret units consistently in formulas; choose and interpret the scale and the origin in graphs and data SS.Math.Content.HSA-SSE.A.1?Interpret expressions that represent a quantity in terms of its SS.Math.Content.HSA-SSE.B.4?Derive the formula for the sum of a finite geometric series (when the common ratio is not 1) and use the formula to solve problems.?Student Learning ObjectivesSlide 2 in AM6 Tax Management and Depreciation Lesson ObjectiveAfter completing the lesson on tax management and depreciation, students will demonstrate their ability to apply the concept in real-world situations by obtaining a minimum score of 80% on a Tax Management News Report.Enabling ObjectivesAs a result of this lesson, the student will…Calculate taxable income and analyze the advantages and methods of maximizing after-tax income.Categorize income and expenses.Define depreciation, calculate basis, and calculate expensing.Recognize the importance and benefits of reducing and increasing taxable income.Calculate MACRS depreciation.Time: Approximately 320 minutesList of ResourcesBacon K., Boren N., Kirkwood V., Birkenholz R., Plain R., Rohrbach N. (1988).?Agriculture Management and Economics Instructor Guide. Columbia, MO: Instructional Materials Laboratory.Bacon K., Boren N., Kirkwood V., Birkenholz R., Plain R., Rohrbach N. (1988).?Agriculture Management and Economics Student Reference Guide.?Columbia, MO: Instructional Materials Laboratory.Internal Revenue Service. (2012). Farmer's Tax Guide. Retrieved from Revenue Service. (2012). How To Depreciate Property. Retrieved from Revenue Service. (n.d.). Welcome to the Understanding Taxes Teacher Site. Retrieved from . IRS. Retrieved from . Missouri Department of Revenue. Retrieved from . List of Tools, Equipment, and SuppliesAM6 PowerPoint PresentationAM6 Activity Sheet and Evaluation PacketNote cards or small sheets of paper for review activityMACRS CalculatorDepreciation Calculator Version 2012 from Missouri Record BookKey Terms Slide 3 in AM6 Tax Management and DepreciationThe following terms are presented in this lesson (shown in bold italics):DeductibleNon-DeductibleCapitalDepreciationBasisInterest Approach: Use an interest approach that will prepare the students for the lesson. Teachers often develop approaches for their unique class and student situations. A possible approach is included here.Slide 4 in AM6 Tax Management and DepreciationDeath and Taxes – Show students the quote on the PowerPoint slide and get their first reactions by shouting out words, phrases, thoughts, etc. Take these comments and use them to facilitate a conversation about taxes, tax breaks, tax laws, etc. See what students know about taxes, reducing their taxes, etc. If it’s difficult to facilitate a discussion using the words that have been shouted out and/or students do not shout out many words, create a K-W-L chart on a writing surface and complete first in pairs and then as an entire class. Teachers are encouraged to add to this list also, especially if they know there is background information students are not aware of that will help them understand the content of this lesson. Use this chart to see what students know about taxes, reducing their taxes, etc. To deepen understanding of taxes before covering this lesson, divide students into pairs or small groups and have them research some of the items listed in the ‘W’ column that will not be covered in this lesson. The following sites may be helpful with this research, or to improve teacher knowledge of this content: of Content and Teaching Strategies554164510795004899025107950052247801079500Objective 1: Calculate taxable income and analyze the advantages and methods of maximizing after-tax income. Teaching StrategiesRelated ContentRefer back to discussion from the Interest Approach while introducing the goal of tax management and taxable income.Slide 5 in AM6 Tax Management and DepreciationAsk students this question to get their thoughts before revealing the PowerPoint slide. Slide 6 in AM6 Tax Management and DepreciationThere are three methods we will discuss to maximize after-tax income.Slide 7-9 in AM6 Tax Management and DepreciationPractice calculating after-tax cash cost using AM6.1Slide 10 in AM6 Tax Management and DepreciationGoal of tax management Maximize after-tax incomeDetermining taxable incomeGross income (total amount of income)- Exclusions (income not subject to tax)- Deductions (business expenses, depreciation, and home mortgage interest)- Exemptions (deductions for self and dependents)= Adjusted gross income- Taxes due= After-tax incomeWhy is the goal not to pay lowest amount of taxes possible?To pay no income tax, a business would either have to make very little money or have an enormous amount of deductions to offset any taxesHaving large deductions may lower taxes, but a business may not be able to afford the extra expensesVery true in agricultural businesses that may have a profitable year on year and operate at a loss the next yearMethods of maximizing after-tax incomeMaintain complete and accurate records of all possible deductions that can be used to lower taxable income – Often overlooked tax-deductible items = Dues to agricultural organizations, costs of agricultural magazines and other references and business materials, farm share of utility bills, wages to children and giving children livestock or crops, mileage on family car, cost of child care, retirement plan set up with professional advice, mortgage and business interestMaintain a constant level of income – Extremely profitable year = business is taxed at higher rate, very poor year = may not be able to use deductions if deductions exceed incomePostpone income to the next year – Often used when business has a good year and manager realizes business will have to pay large amount in taxes; Sign a contract to provide a service or product before end of year and not take payment until after first of the year5633720508000Objective 2: Categorize income and expenses. Teaching StrategiesRelated ContentIn order to maintain efficient records that can easily be used for tax purposes, a business needs to categorize their income and expenses.Slide 11 in AM6 Tax Management and DepreciationSlide 12 in AM6 Tax Management and DepreciationCategorizing incomeOrdinary income – Wages, tips, and salaries; How most employee income is classified; Subject to tax rules established by IRSCapital gains income – Income from sale of capital assets above original purchase price; Stock is a common example; Not subject to social security tax; Manager purchases stock for $20 per share, shares are sold for $25, capital gain of $5 per share that can be taxedNon-taxable income – Non-taxable to the person receiving the income; Gifts, increase in value of capital assets, interest on municipal bonds, value of home provided as fringe benefit; Portion of social security benefits are non-taxableCategorizing expensesDeductible – Expenses incurred on a day-to-day basis are deductible upon purchase; Expenses on items business will buy, change in some way, and re-sell are deductible upon sale of the item; Feeder cattle = feed is deducted upon purchase; purchase cost of cattle are deducted when sold Non-deductible – Cannot be used to lower taxable income; Housing, personal transportation, food, clothing, recreation, and education; Also known as family living expensesCapital – Depreciable Expenses – Items the business needs to operate, may last several years so purchase cost is deducted over a number of years instead of year purchased; Capitalized Expenses – Cost of these items cannot be deducted or depreciated; Only way to recover cost is to sell item; Land and homes are main examples; Expected to increase in value over time566102531681600533590531369000Objective 3: Define depreciation, calculate basis, and calculate expensing. Teaching StrategiesRelated ContentFacilitate a discussion about students’ knowledge of depreciation. Slide 13 in AM6 Tax Management and DepreciationThere are two types of depreciation – Management and Tax.Slide 14 in AM6 Tax Management and DepreciationThis method of depreciation most clearly reflects real depreciation.Slide 15 in AM6 Tax Management and DepreciationPose questions to students regarding their thoughts on the definition of basis and how it relates to depreciation. Slide 16 in AM6 Tax Management and DepreciationSlide 17 in AM6 Tax Management and DepreciationExpensing is used for capital items. Recall examples of capital items.Slide 18 in AM6 Tax Management and DepreciationComplete AM6.2 to practice calculating basis and expensing.DepreciationThe loss of value each year due to wear, age, or obsolescenceAgricultural items with a useful life of more than one year are deducted throughout their useful life until the value of the asset is zeroAssets like a greenhouse, tractor, farm building, etc. contribute to agricultural production over several years, so it is beneficial to have their costs written off over their useful lifeNet worth statement shows true value of depreciable assetsManagement Depreciation and Tax DepreciationTax DepreciationReduction in Book Value of an asset for tax purposes - Recovers the cost of the asset through calculated depreciation using IRS guidelines; Follows IRS guidelines but does not necessarily reflect the true wear and obsolescence of the assetManagement DepreciationReduction in value of an asset applied as a cost to the business’s annual Profit & Loss statement - Recovers the cost of the asset to reflect actual useful life, wear and tear, and obsolescenceStraight Line Mid-Year DepreciationSLMYUsed for consistency and fairnessMost clearly reflects “real” depreciationIRS changes / tweaks methods for computing tax depreciation almost every year.BasisThe value of an item that can be depreciatedBook value of trade-in property plus cash difference paidBasis on property already owned is the remaining undepreciated value, or book value, or the propertyNOT the list or replacement costProvides the starting point to determine tax depreciationBasis exampleA business purchases a pickup for $15,000Business trades in an old pickup with an undepreciated value of $3,000 and pays the $12,000 cash differenceThis makes the basis $15,000 (3,000 + 12,000)If the pickup is strictly used for business, the $15,000 can be depreciated using tax depreciation.If the pickup is partially used for business and partially used for personal use, the percent of time used for business is multiplied by the basis to determine the amount that can be used for depreciationExpensingAn option that allows manager to deduct up to $10,000 per year from the basis of a capital item to be used in the businessDeduction is counted as a business expense in the year purchasedLowers business’s taxable income by amount expensed$10,000 limit can be applied to one item or a combination of itemsFull $10,000 does not have to be usedLimitations – Up to $10,000 per year on capital items purchased that year can be expensed; Amount expensed cannot be depreciated. Basis is lowered by amount expensed; One can only expense cash difference paid; Expensing cannot be used to create a lossRemaining amount that is not expensed falls under regular rules of depreciationCan create larger first year deduction by expensing up to the limit and claiming depreciation on the same item during one year5629275377690053136802984500Objective 4: Recognize the importance and benefits of reducing and increasing taxable income.Teaching StrategiesRelated ContentFacilitate a discussion on how businesses could reduce their taxable income.Slide 19 in AM6 Tax Management and DepreciationFacilitate a discussion on how businesses could increase their taxable income and why they would want to increase this income.Slide 20 in AM6 Tax Management and DepreciationSlide 21 in AM6 Tax Management and DepreciationReducing taxable incomeWhen one expects to pay a large amount in taxes, business owners might…Postpone sales to next yearUse deferred sales contract – Allows delivery of item sold, but delays income until next yearMake advanced payments for items such as feed, fertilizer, fuel, etc.Purchase needed equipment and machinery before end of year to utilize depreciationUse expense to allow additional deduction from the basis of depreciable items in year purchasedUse accelerated depreciation to increase amount of depreciationContribute to Individual Retirement Account (IRA) Increasing taxable incomeDone so deductions and personal exemptions are not lostIncrease sales in current yearPostpone expenses and investments until after January 1Pay bills after January 1Do not use expensingUse straight-line depreciationGet a supplemental income – Off-farm labor or custom workWithdraw money from an IRABy increasing and decreasing taxable income when appropriate, income can be evened out effectively. Over a period of years, this should result in maximizing after-tax income.5645150311150053447951968500Objective 5: Calculate MACRS depreciation. Teaching StrategiesRelated ContentRecall from students the purpose of depreciation when introducing that they will be learning how to calculate depreciation using various methods.Slide 22-23 in AM6 Tax Management and DepreciationLet’s go through each piece we must know to figure MACRS Depreciation. First up, Property Classes. Slide 24-26 in AM6 Tax Management and Depreciation2nd piece is placed-in-service date.Slide 27-29 in AM6 Tax Management and Depreciation3rd piece is basis.Slide 30 in AM6 Tax Management and Depreciation4th piece is recovery period.Slide 31 in AM6 Tax Management and DepreciationReview AM6.3 listing the Farm Property Recovery Periods according to the Farmer’s Tax Guide Table 7-1.5th piece is convention.Slide 32-36 in AM6 Tax Management and DepreciationThere are three methods used to calculate MACRS Depreciation.Slide 37 in AM6 Tax Management and DepreciationRegular MACRS has three calculations depending on the property class.Slide 38 in AM6 Tax Management and DepreciationSlide 39 in AM6 Tax Management and DepreciationSlide 40 in AM6 Tax Management and DepreciationSlide 41 in AM6 Tax Management and DepreciationSlide 42 in AM6 Tax Management and DepreciationComplete the first page of AM6.4 to practice calculating depreciation by regular MACRS.Slide 43 in AM6 Tax Management and DepreciationComplete the second page of AM6.4 to practice calculating depreciation using the optional straight-line methodSlide 44 in AM6 Tax Management and DepreciationComplete the third page of AM6.4 to practice calculating depreciation using alternative MACRS.MACRS DepreciationThe Modified Accelerated Cost Recovery System Used to recover the basis of most business and investment property placed in service after 19862 depreciation systems – General Depreciation System (GDS) and Alternative Depreciation System (ADS)To figure MACRS Depreciation, we must know property's recovery class, placed?in?service date, basis for depreciation, recovery period, convention, depreciation methodGDS Property ClassesSee “Which Property Class Applies Under GDS”in chapter 4 of Publication 946 for a complete list of examples of the types of property included in each class3-year property - Tractor units for over-the-road use5-year property - Automobiles, taxis, buses, and trucks; Computers and peripheral equipment; Office machinery (such as typewriters, calculators, and copiers); Breeding cattle and dairy cattle 7-year property - Office furniture and fixtures (such as desks, files, and safes); Agricultural machinery and equipment10-year property - Vessels, barges, tugs, and similar water transportation equipment; Any single purpose agricultural or horticultural structure; Any tree or vine bearing fruits or nuts15-year property - Certain improvements made directly to land or added to it (such as shrubbery, fences, roads, sidewalks, and bridges); Orchards and vineyards 20-year property – Farm buildings (other than single purpose agricultural or horticultural structures)25-year property - This class is water utility propertyResidential rental property – This is any building or structure such as a rental home (including a mobile home) if 80% or more of its gross rental income for the tax year is from dwelling units. Nonresidential real property – This is section 1250 property such as an office building, store, or warehouse that is neither residential rental property nor property with a class life of less than 27.5 years.Placed-In-Service DateWhen property is ready and available for a specific use, whether in a business activity, an income producing activity, a tax-exempt activity, or a personal activity. Even if you are not using the property, it is in service when it is ready and available for its specific use.Farm equipment – A farmer buys a planter, and it was delivered in December 2011 after harvest was over. Depreciation begins on the planter in 2011 because it was ready and available for its use in 2011 even though it will not be used until the spring of 2012; If planter comes unassembled in December 2011 and is put together in March of 2012, it is placed in service in 2012, beginning depreciation in this yearImmature livestock – Depreciation begins when livestock reaches age of maturity; Bought for drafting purposes – depreciation begins when livestock can be worked; Bought for dairy purposes – depreciation begins when livestock can be milked; Bought for breeding purposes – depreciation begins when livestock can be bred; Basis for depreciation is initial cost of immature livestockBasis for DepreciationProperty’s costBasis multiplied by percentage of business useRecovery PeriodNumber of years over which an owner recovers the property’s costConventionMid-month convention – Nonresidential real property, residential rental property, and any railroad grading or tunnel bore; Treats property as being purchased or sold in middle of month; Rental house purchased in March will receive 9 ? months of depreciation during first year and 2 ? months of depreciation that last yearMid-quarter convention – Applies when 40% or more of basis of 3-year to 20-year property purchased in the tax year is bought in the last quarter; Last quarter is last three months of the year; Sam purchased $2,000 worth of breeding heifers on March 1st and purchased a $5,000 used pickup on November 1st. 1) Determine in what quarter each was purchased; 2) Calculate total basis for the year $2,000 + $5,000 = $7,000; 3) Calculate 40% of total basis $7,000 x .40 = $2,800; 4) Since basis for last quarter exceeds 40%, determine first-year depreciation for each item purchased and multiply by quarter purchased; Heifers were purchased at midpoint of first quarter, leaving 7/8 of the year to depreciation; Pickup was purchased at midpoint of fourth quarter, leaving 1/8 of year for depreciationMid-year convention – Applies to 3-year to 20-year property if mid-quarter convention does NOT apply; Applies on sale of property; All property put into service during the year is treated as if it were purchased at midpoint of the year; If only depreciable purchase was in March, item will receive ? year depreciation the first yearDepreciation Method3 choices for MACRS DepreciationRegular MACRSOptional Straight-lineAlternative MACRSRegular MACRS200% Declining Balance – Applies to nonfarm 3-year to 10-year property; Switch-over provision applies when appropriate; 200% / property class x undepreciated value = annual depreciation; For a $5,000 used pickup (five-year property), the formula for the first year is 200% / 5 x $5,000 x appropriate convention = first year depreciation150% Declining Balance – Applies to 15-year and 20-year property and all property used in a farming business (except real property); Switch-over provision applies when appropriate; 150% / property class x undepreciated value = annual depreciation; For a $3,000 machine shed (20-year property), the formula for the first year is 150% / 3 x $3,000 x appropriate convention = first year depreciationStraight-line – Applies to nonresidential real property and residential rental property; Mid-month convention applies; Switch-over provision does NOT apply; basis / property class = annual depreciation; For a $40,000 rental house (27 ? year property), the formula for the first year is $40,000 / 27.5 x midmonth convention = first year depreciationDeclining-balance methods calculate depreciation as a fraction of each year’s remaining balance. To recapture full amount of depreciation, switchover to straight-line comparison method of depreciation during last part of recovery periodStraight-line comparison method uses the remaining basis of the declining balance method and the remaining years in the regular straight-line formula. Straight-line comparison method shows when to make a switchover to regular straight-line method. Switchover should occur when amount calculated under straight-line comparison method exceeds amount calculated using declining-balance method.Optional straight-lineOption to use straight-line depreciation instead of 200% or 150% declining balance methods on 3-year to 20-year property; Once item is depreciated using straight-line depreciation, it must continue on straight-line; basis / property class = annual depreciationAlternative MACRSLonger recovery periodUse straight-line formula to calculate annual depreciation; basis / alternative MACRS years = annual depreciation; First year depreciation calculated using rules that apply to mid-year, mid-quarter, or mid-month conventionsReview/Summary:Slide 45 in AM6 Tax Management and DepreciationThe goal of tax management is to increase after-tax income. Tax management strategies may be one of the most profitable ways of reaching this goal. Occasionally income will need to be increased or decreased in an attempt to have an even level of income. This will result in the lowest taxes in the long run. It is also important to be able to categorize income and expenses as the different categories can have a significant impact on taxes. Tax depreciation is a very useful tool in income tax management. Basis provides the first step in determining depreciation. It must be determined if expensing, depreciation, or both are going to be used. The type of item will determine the property class and the depreciation method used. The time of year in which the item is purchased may affect which convention is used to calculate the first year depreciation. All items depreciated using the declining-balance method must switchover to straight-line depreciation when the amount that could be claimed using straight-line depreciation exceeds the amount calculated using the declining-balance method.Review: 5621020406400053143153810000CDE Income Tax Management Practice: Complete AM6.5 for more practice calculating depreciation.Slide 46 in AM6 Tax Management and DepreciationExit cards: Students will answer the following questions on a note card or small slip of paper and hand to teacher as they exit:What did you learn today about tax management and depreciation?What questions do you still have about tax management or calculating depreciation?ApplicationExtended ActivitiesInvite a local tax advisor to class to discuss tax management and depreciation. Have students create 5-8 thought-provoking questions. At the conclusion of class, have students create 8 newspaper headlines themed around the main points and tips the students learned from the tax advisor.Use the Farm Doc Finance Tools MACRS Calculator to have students practice calculating depreciation. Use examples from class and/or the Missouri Farm Management CDE to plug into the calculator. Students can even put in numbers pertaining to their personal Supervised Agricultural Experience Program. Examine the Depreciation Calculator Version 2012 from the Missouri Record Book. Teachers – Create a sample problem for students to input into the excel document or use a former students’ records (removing names and identifiable information). 562102013139600EvaluationTax Management News Report AM6.6Alternate - Paper-pencil Quiz Evaluation AM6.7Answers to EvaluationEvaluation AM6.6Answers will vary. Use scoring guide on AM6.6 to assess student work. Alternate Evaluation AM6.7BACDepreciable – purchase price can be recovered over a period of years; Capitalized – can only be recovered through the sale of the itemOrdinary income, capital income, non-taxable incomeD$200 + $250 = $450$850CDCDBCCDCCDB ................
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