Revenue Procedure 98-58: Deferring Livestock Sale Gains

The Internal Revenue Service (IRS) provides two forms of tax relief for farmers and ranchers who are forced to sell livestock due to weather-related conditions such as drought or flood. These rules are designed to prevent a large tax liability in a year when a business is already under financial stress.

The first option allows a cash-basis farmer to defer income from these excess sales to the following tax year. This is a one-year postponement that does not require the farmer to buy replacement animals.

The second option allows a farmer to postpone reporting the financial gain from the sale, provided they replace the livestock within a set period. This aligns the tax impact with the year the herd is rebuilt and avoids the “bunching” of income from multiple years of sales into a single tax year.

Qualifying for Tax Relief

To be eligible for either form of tax relief, a taxpayer must be engaged in the business of farming. The specific requirements then depend on which relief option is chosen.

One-Year Income Deferral

A cash-basis farmer can choose to postpone reporting income from excess livestock sales for one year. To qualify, the sale must be due to weather-related conditions, and the farmer’s geographic area must have been designated as eligible for federal assistance.

Gain Deferral with Replacement

A farmer can postpone the gain from selling excess livestock if they purchase replacement animals. For this type of deferral, the farmer needs to prove that weather-related conditions caused them to sell more livestock than they normally would. A federal disaster declaration is not required to qualify for the initial deferral period.

For both options, the relief applies only to the sale of animals in excess of normal business practices. It is available for animals held for draft, breeding, or dairy purposes, but it excludes poultry. Animals held primarily for sale, like feeder cattle, do not qualify.

Calculating the Deferred Amount

The calculation method depends on which tax relief option is chosen.

For Gain Deferral with Replacement

The first step is to establish the number of animals that would have been sold in a normal year, based on an average of sales from previous years. The taxpayer then subtracts this normal sales number from the total number of eligible livestock sold to determine the “excess number.”

The total money received and the tax basis of the animals must be allocated proportionally between the normal sale and the excess sale. The gain on the normal portion of the sale is taxed in the current year. The deferrable gain is calculated only on the excess group. For example, if a rancher normally sells 40 cows but was forced to sell 100, the deferral applies only to the gain from the extra 60 cows.

For One-Year Income Deferral

The calculation for the one-year deferral is more direct. The farmer calculates the total income, not just the gain, from the sale of the excess number of animals. This is the amount of income that can be postponed and reported in the following tax year.

Making the Election on Your Tax Return

To officially defer the gain or income, the taxpayer must make a formal election by attaching a statement to their federal income tax return for the year the sale occurred. The required information depends on the option chosen.

For the gain deferral with replacement, the statement must declare the election is being made under the involuntary conversion rules for livestock. It should include evidence of the weather-related condition that forced the sale, a detailed calculation of the deferred gain, and information supporting the “normal business practice” sales figure.

For the one-year income deferral, the statement must also declare the election. It must include evidence that the sales were due to weather conditions in a federally declared disaster area and show the calculation of the income being deferred to the next year.

Replacement Rules for Gain Deferral

The one-year income deferral has no replacement requirement. The following rules apply only to taxpayers who elect to defer the gain by replacing their livestock.

The Replacement Period

The replacement period is two years, beginning on the last day of the tax year in which the excess sale occurred. This period is automatically extended to four years if the farm is located in an area that has been declared eligible for federal assistance due to the weather event. The IRS can grant further extensions if severe conditions, such as a persistent drought, continue.

Replacement Requirements

The replacement property must be “like-kind,” meaning the new livestock must be functionally the same as the animals sold and used for the same purpose. For example, dairy cows must be replaced with other cows intended for dairy use.

The deferred gain is not forgiven; instead, it reduces the tax basis of the new animals. If a taxpayer deferred a $40,000 gain and then spent $100,000 on a new herd, the basis of that new herd is reduced to $60,000. This lower basis will result in a larger gain or less depreciation in the future, ensuring the original gain is eventually taxed.

If the taxpayer fails to purchase qualifying replacement livestock within the allowed timeframe, the tax deferral is reversed. They must then file an amended tax return for the original year of the sale, report the deferred gain as income, and pay the resulting tax plus interest.