Can a Kansas taxpayer subtract the net gain from selling certain breeding or draft livestock?

Plain-English summary

Kansas Notice 14-04 (Revised July 15, 2014) explains a new income-tax subtraction for gain on the sale of certain farm and ranch livestock, and how it interacts with the 2012 business-loss add-backs.

The change. 2014 Senate Bill 265 (Section 3) added subsection (c)(xxii) to K.S.A. 79-32,117. For all tax years beginning after December 31, 2012, a taxpayer may subtract the net gain from selling:

• (1) cattle and horses, regardless of age, held for draft, breeding, dairy or sporting purposes and held 24 months or more from acquisition; and
• (2) other livestock, regardless of age, held for those purposes and held 12 months or more -- but "livestock" here does not include poultry.

The key limit. The subtraction is capped at the amount of the additions recognized under subsection (b)(xix) (the 2012 business-loss add-back) that are attributable to the business in which the livestock sold had been used. So the livestock gain can only be subtracted up to the amount of related-business losses that were added back on the Kansas return. Non-livestock Section 1231 gains stay taxable, and non-livestock Section 1231 losses are not added back.

What is covered. The subtraction reaches both the IRC Section 1231 capital gain and the depreciation-recapture gain on the qualifying livestock.

Effective date / how to claim. Applies to tax year 2013; claim it on an amended 2013 return by entering the qualifying net gain on Schedule S, Line A26, not to exceed the related add-back losses on Lines A4, A6 and A7. Attach federal Schedule 4797 and all Schedules C, E or F. The notice works through several detailed Farmer Smith / Farmer Jones examples (including pass-through S-corporation situations) showing how the loss-attribution limit applies. (The amendment was also carried in reconciliation House Bill 2143.)

What this means for you

Farmers and ranchers

• If you sold long-held breeding, draft, dairy or sporting cattle, horses or other livestock at a gain, you may subtract that net gain -- but only up to the amount of related-business losses your Kansas return added back under (b)(xix).
• Poultry does not qualify.

Tax preparers

• Tie the subtraction to the specific business in which the livestock was used, confirm the 24-month (cattle/horses) or 12-month (other livestock) holding period, and cap it at the attributable add-back losses. Attach Schedule 4797 and the relevant Schedules C/E/F.

Common questions

Which animals qualify? Cattle and horses held 24+ months, and other livestock (not poultry) held 12+ months, for draft, breeding, dairy or sporting purposes.

Is the subtraction unlimited? No. It is limited to the (b)(xix) add-back amounts attributable to the same business in which the livestock was used.

Does it cover depreciation recapture? Yes -- both the Section 1231 capital gain and the depreciation-recapture gain.

How do I claim it for 2013? File an amended 2013 return using Schedule S, Line A26, with Schedule 4797 and Schedules C/E/F attached.

Citations and references

• K.S.A. 79-32,117(c)(xxii) -- new subtraction for net gain on qualifying long-held livestock, limited by the (b)(xix) add-back attributable to the same business.
• K.S.A. 79-32,117(b)(xix) -- the 2012 business-loss addition modification that caps the subtraction.
• IRC Section 1231 -- federal treatment of gains/losses on business property, including depreciation recapture.
• 2014 Senate Bill 265, Section 3 -- the amending legislation (also included in reconciliation House Bill 2143).

Source

• Landing page: Kansas Department of Revenue Policy Information Library
• Original document: Notice 14-04

Original ruling text

Policy & Research Phone: 785-296-3081
915 SW Harrison St FAX: 785-296-7928
Topeka KS 66612-1588 www.ksrevenue.org
Nick Jordan, Secretary Department of Revenue Sam Brownback, Governor
Richard Cram, Director

                                      Notice 14-04

              Modification For Net Gain From Sale of Certain Livestock

                                (Revised July 15, 2014)

  During the 2014 Legislative Session Senate Bill 265 was passed and signed into law.

Section 3 of the Bill amends K.S.A. 79-32,117, which relates to modifications made in
computing Kansas adjusted gross income.

  The calculation of Kansas income tax begins with federal adjusted gross income. Certain

addition and subtraction modifications are then made in order to determine Kansas adjusted
gross income. The amendment to K.S.A. 79-32,117 creates a new modification which allows the
net gain from the sale of certain livestock to be subtracted from federal adjusted gross income.
The amended language, found in subsection (c)(xxii) of K.S.A. 79-32,117, provides:

       (c) There shall be subtracted from federal adjusted gross income:
       (xxii) For all taxable years beginning after December 31, 2012, the amount of
 net gain from the sale of: (1) Cattle and horses, regardless of age, held by the taxpayer
 for draft, breeding, dairy or sporting purposes, and held by such taxpayer for 24
 months or more from the date of acquisition; and (2) other livestock, regardless of
 age, held by the taxpayer for draft, breeding, dairy or sporting purposes, and held by
 such taxpayer for 12 months or more from the date of acquisition. The subtraction
 from federal adjusted gross income shall be limited to the amount of the additions
 recognized under the provisions of paragraph (xix) of subsection (b) attributable to
 the business in which the livestock sold had been used. As used in this paragraph, the
 term ''livestock'' shall not include poultry.

Effective Date / Amended Returns

  The new subtraction modification found in amended K.S.A. 79-32,117(c)(xxii) applies to

tax year 2013. It can be claimed on an amended 2013 income tax return by entering on Schedule
S, Line A26 (other subtractions from federal adjusted gross income) the amount of net gain from
sale of qualifying livestock (as described in new 79-32,117(c)(xxii)), and cannot exceed the
amount of net losses entered as addition modifications on Lines A4, A6 and A7, which are
attributable to the business in which the livestock sold had been used. A copy of federal
Schedule 4797, as well as copies of all Schedules C, E or F, should be included with the

amended return. Please see updated tax year 2013 instructions for Kansas Schedule S on the
Department's website: www.ksrevenue.org

Depreciation

  The new subtraction modification applies to gains from the sale of certain livestock. This

includes both the IRC Sec. 1231 capital gain and the depreciation recapture gain.

Non-Livestock Gains or Losses

 IRC Sec. 1231 gains or losses from sale of non-livestock assets are outside the scope of

new subtraction modification. Those gains are subject to Kansas income tax and those losses
should not be "added back" under K.S.A. 79-32,117(b)(xix).

  For example assume that Farmer Smith sells some breeding cattle for a $5,000 gain. He

also has a tractor (another Sec. 1231 asset) that he sells for a $1,000 loss. He reports a net Sec.
1231 gain of $4,000 on his federal form 4797 which then flows through to the federal Schedule
D. He has a Schedule F loss of $10,000.

  In the example, the $5,000 net gain from the sale of qualifying livestock becomes a

subtraction modification of $5,000, if the taxpayer's Schedule F loss of $10,000 (reported on
Line 18 of the taxpayer's federal 1040 return, and which is an "add-back" modification under
K.S.A. 79-32,117(b)(xix) on the Kansas K40 return) is attributable to the business in which the
livestock sold had been used. If the taxpayer's Schedule F loss of $10,000 is not attributable to
the business in which the livestock sold had been used, then no subtraction modification for net
gain from the sale of livestock would be allowed. The loss that is "added back" must be
attributable to the business in which the livestock sold has been used, in order for the net gain
from sale of livestock to be allowed as a subtraction modification up to the amount of that add-
back loss.

Pass-Through Entities

  Use of the new subtraction modification when there are pass-through entities depends on

the facts of the situation. For example assume that Farmer Jones is the sole shareholder of an S
corporation engaged in farming. The S corporation sells $5,000 of breeding cattle which
qualifies for the subtraction modification and generates an ordinary (operating) loss of $3,000.
Farmer Jones's K-1 from the S corporation shows a $5,000 Sec. 1231 gain and an ordinary loss
of $3,000. Farmer Jones also farms some ground outside of the S corporation and his Schedule F
farm loss is $6,000.

 In the example, the S corporation has a $5,000 net gain (which passes through to the sole

shareholder Farmer Jones) on the sale of livestock, which is an IRC Sec. 1231 capital gain,
Farmer Jones will report on Schedule 4797. The S corporation's farming operation also incurs a

$3,000 loss, which will be reported on Schedule E and Line 17 of the Farmer Jones's individual
federal 1040 return. Farmer Jones farming operation (outside the S corporation), incurs a $6,000
loss, which will be reported on Schedule F and Line 18 of his individual federal 1040 return.

  The key facts in determining whether the new subtraction modification can be claimed are

whether the taxpayer has a loss reflected on Schedules C, E, or F and Lines 12, 17 or 18 of the
taxpayer's federal 1040 return that is shown as an "add-back" modification on the Kansas return,
and whether such loss is attributable to a business in which the livestock sold was used. In the
above example, Farmer Jones' S corporation livestock operation and his farming operation
outside his S corporation would be considered one farming business, in which the livestock sold
was used. The $3,000 loss from the S corporation livestock operation reported on Schedule E
and the $6,000 loss from the farming operation reported on Schedule F exceed the $5,000 net
gain from the sale of livestock. As a result, the $5,000 net gain from livestock sale can be
claimed as a subtraction modification under new K.S.A. 79-32,117(c)(xxii).

  In another example, assume that Farmer Jones is the sole shareholder of an S corporation

engaged in farming. The S corporation sells $30,000 of breeding cattle and also generates an
ordinary (operating) loss of $40,000. Farmer Jones's K-1 from the S corporation shows a
$30,000 Sec. 1231 gain and an ordinary loss of $40,000. Farmer Jones also farms some ground
outside of the S corporation and his Schedule F farm income is $40,000 from selling grain. The
cattle operation and the grain crop farming operation are both considered part of Farmer Jones's
business in which the livestock sold had been used.

  In this example, the S corporation has a $30,000 net gain (which passes through to the sole

shareholder Farmer Jones) on the sale of livestock, which is an IRC Sec. 1231 capital gain,
Farmer Jones will report on Schedule 4797. The S corporation's farming operation also incurs a
$40,000 loss, which will be reported on Schedule E and Line 17 of the Farmer Jones's individual
federal 1040 return. Farmer Jones farming operation (outside the S corporation), incurs a
$40,000 profit, which will be reported on Schedule F and Line 18 of his individual federal 1040
return. The $40,000 Schedule E loss will offset the $40,000 Schedule F income, so no
subtraction modification will be available for the $30,000 net gain from livestock sale under new
K.S.A. 79-32,117(c)(xxii).

  In a third example, assume that Farmer Jones is the sole shareholder of an S corporation

engaged in farming. The S corporation sells $30,000 of breeding cattle and also generates an
ordinary (operating) loss of $25,000. Farmer Jones's K-1 from the S corporation shows a
$30,000 Sec. 1231 gain and an ordinary loss of $25,000. Farmer Jones also farms some ground
outside of the S corporation and his Schedule F farm income is $10,000 from selling grain.
Farmer Jones also has a sole proprietorship carpentry business, separate from his farming
business (i.e. any profit or loss from his carpentry business is not attributable to the business in
which the livestock sold had been used), which earned a net profit of $30,000, reported on
Schedule C filed with Farmer Jones's federal 1040 return.

  In this third example, the S corporation has a $30,000 net gain (which passes through to the

sole shareholder Farmer Jones) on the sale of livestock, which is an IRC Sec. 1231 capital gain,
Farmer Jones will report on Schedule 4797. The S corporation's farming operation also incurs a

$25,000 loss, which will be reported on Schedule E and Line 17 of the Farmer Jones's individual
federal 1040 return. Farmer Jones farming operation (outside the S corporation), incurs a
$10,000 profit, which will be reported on Schedule F and Line 18 of his individual federal 1040
return. The $25,000 Schedule E loss and the $10,000 Schedule F income partially offset one
another, resulting in a net addition modification of $15,000 under K.S.A. 79-32,117(b)(xix)
attributable to the business in which the livestock sold had been used, so a subtraction
modification for the net gain from livestock sale under new K.S.A. 79-32,117(c)(xxii) is allowed,
but limited to $15,000. Because the $30,000 profit Farmer Jones's sole proprietorship carpentry
business reported on Schedule C and line 12 of Farmer Jones's federal 1040 return is not
attributable to the business in which the livestock sold had been used, it can be claimed as a
subtraction modification under K.S.A. 79-32,117(c)(xx).

Special Note

  Please note that the amendment to K.S.A. 79-32,117 found in Senate Bill 265 was later

included in House Bill 2143. This House Bill is a reconciliation bill. A reconciliation bill is
used when a statute is amended in two or more separate bills. K.S.A. 79-32,117 was included in
the reconciliation bill because it was amended by section 3 of Senate Bill 265 and by section 6 of
House Bill 2057.

                                 Taxpayer Assistance

Additional copies of this notice, forms or publications are available from our web site,
www.ksrevenue.org. If you have questions about this Notice, please contact:

                              Taxpayer Assistance Center
                             Kansas Department of Revenue
                             915 SW Harrison St., 1st Floor
                               Topeka, KS 66612-1588
                                 Phone: 785-368-8222
                                  Fax: 785-291-3614