Farm Accounting and Agriculture Tax Basics

Farm and agriculture accounting works by applying a set of tax methods, elections, and reporting forms specifically designed for agricultural businesses. Farmers typically report income and expenses on Schedule F (Form 1040) and can choose between the cash and accrual accounting methods. The federal tax code also gives agricultural operations access to several elections, including income averaging, accelerated depreciation, and installment sale options, that are unavailable or more restricted for other industries.

What Makes Farm Accounting Different

Agricultural businesses operate on a fundamentally different economic cycle than most other industries. Income can vary dramatically from year to year depending on commodity prices, weather, and crop yields. Expenses are often paid months before the corresponding income arrives. The IRS has long recognized this reality and built specialized provisions into the tax code to address it.

The primary reporting document for most individual farmers and sole-proprietor agricultural operations is Schedule F (Form 1040), “Profit or Loss From Farming.” Corporate farms and partnerships use their respective business returns, but the underlying rules in IRS Publication 225, the Farmer’s Tax Guide, apply broadly across entity types. Publication 225 is updated each year and is the essential reference for anyone advising or operating a farming business.

What Counts as a Farming Business

The IRS defines farming broadly. It includes cultivating soil or raising or harvesting agricultural or horticultural commodities, operating a nursery or orchard, raising livestock, poultry, or fish, and operating a dairy. If your primary business activity fits any of these descriptions, you have access to the farm-specific tax provisions described below.

Choosing an Accounting Method for Agriculture

Cash Method

The cash method is the dominant choice for farming businesses and is expressly permitted by the tax code for most agricultural operations. Under the cash method, you report income when you receive payment and deduct expenses when you pay them, not when the obligation arises. This flexibility is a powerful planning tool because it allows farmers to time income and expenses across tax years.

Farming syndicates, which are partnerships or other entities where interests are held by investors not actively participating in farming, generally cannot use the cash method. Most family farms, single-owner operations, and active farming entities are not affected by this restriction.

Accrual Method

Larger agricultural corporations, and operations that have crossed certain gross receipts thresholds, may be required to use the accrual method. Under accrual accounting, income is recognized when earned and expenses when incurred, regardless of cash timing. For farms, this means that unharvested crops at year-end, growing livestock inventories, and outstanding commodity contracts all have accounting consequences that do not arise under the cash method.

When using the accrual method, farmers must complete Part III of Schedule F to reconcile farm income on an accrual basis, in addition to the standard income and expense lines in Parts I and II.

Prepaid Expenses Under the Cash Method

One of the most common farm accounting issues involves prepaid expenses, particularly seed, feed, fertilizer, and chemicals purchased before year-end for use in the following year. The IRS allows cash-method farmers to deduct these prepayments, but limits the deduction to 50% of other deductible farm expenses for the year, excluding the prepayments themselves. Exceptions to the 50% cap apply when the prepayment reflects a genuine business reason, such as locking in price or quantity, and when the farmer’s three-year average of prepayments has stayed below 50% of other expenses.

Exceeding the cap does not result in a permanent disallowance; the excess simply carries to the following year when the supplies are actually used.

Key Ag Tax Elections Every Farmer Should Know

Farm Income Averaging

Farm income can spike in years of high commodity prices or large livestock sales. Income averaging under Section 1301 allows farmers to elect to spread all or part of their current-year farm income across the three prior tax years. The election is made on Schedule J (Form 1040) and does not require amending prior returns. Instead, it recalculates tax as if the elected income had been earned ratably over those years.

This election is particularly valuable when earlier years had lower income and unused capacity in lower tax brackets. The eligible income includes crop and livestock sales and gains on farm equipment but excludes gains from selling farmland or development rights.

Section 179 Expensing

Section 179 allows a business to immediately deduct the full cost of qualifying property rather than depreciating it over many years. The One Big Beautiful Bill Act (OBBBA), signed into law on July 4, 2025, more than doubled the codified Section 179 limit for tax years beginning after December 31, 2024. The statute set a base cap of $2,500,000 with a phase-out beginning at $4,000,000 of qualifying property placed in service, and both amounts are indexed for inflation. For 2026, the inflation-adjusted figures from IRS Revenue Procedure 2025-32 are a $2,560,000 expensing cap and a $4,090,000 phase-out threshold, with the deduction fully phased out at $6,650,000.

Qualifying property for farmers includes tractors, combines, irrigation equipment, grain handling systems, livestock facilities, and most other tangible personal property used in the farming business. Single-purpose agricultural or horticultural structures also qualify.

Bonus Depreciation

Before OBBBA, bonus depreciation had been phasing down, reaching 40% for property placed in service in 2025. OBBBA restored and made permanent 100% bonus depreciation for qualified property acquired after January 19, 2025 and placed in service after that date. The acquisition date is generally the date of a written binding contract, so property under a contract signed before January 20, 2025 remains on the prior phase-down schedule. The IRS issued interim guidance on the new rules in Notice 2026-11.

For farms, bonus depreciation covers the same broad range of equipment as Section 179. Importantly, trees and vines that are planted or grafted remain eligible for bonus depreciation, which is significant for orchards and vineyards that operate on long production timelines before first harvest.

The practical difference between Section 179 and bonus depreciation is that Section 179 cannot create a loss, while bonus depreciation can, and bonus depreciation applies to used property as well as new.

Installment Sale Election for Qualified Farmland

OBBBA added a new provision, codified as Internal Revenue Code Section 1062, that allows a seller of farmland to pay the resulting capital gains tax in four equal annual installments rather than in a lump sum in the year of sale. To qualify, the land must be sold to a qualified farmer, the property must be subject to a legally enforceable restriction prohibiting non-farm use for at least 10 years after the sale, and the land must have been used or leased for farming purposes for substantially all of the 10 years before the sale. This is not a traditional installment sale of the property; it is a method for spreading the tax payment.

The first installment, equal to one-fourth of the total tax attributable to the sale, is due with the tax return for the year of sale. The remaining three installments are due annually in subsequent years. Acceleration rules require all unpaid installments to become due on certain events, including a missed payment or the taxpayer’s death. The election does not change the amount of tax owed; it only changes when the IRS receives it. IRS Notice 2026-3 addresses related estimated-tax relief.

Section 199A QBI Deduction for Farmers

Sole proprietors, partners, and S corporation shareholders in farming businesses have long benefited from the 20% qualified business income (QBI) deduction under Section 199A. OBBBA made this deduction permanent, eliminating the 2025 sunset date established by the Tax Cuts and Jobs Act.

For 2026, the deduction is 20% of qualified business income from the farming operation, subject to wage and capital limitations for higher-income taxpayers. Effective for tax years beginning after December 31, 2025, OBBBA expanded the phase-in ranges for taxpayers approaching the income thresholds and added a minimum deduction of $400 for taxpayers with at least $1,000 of qualified business income from a trade or business in which they materially participate. The $400 floor is indexed for inflation after 2026. Farming is not a specified service trade or business (SSTB), so farmers are not subject to the more restrictive SSTB phase-out rules that apply to certain professional service businesses.

Depreciation and Livestock Basis Considerations

Beyond the first-year elections discussed above, standard depreciation is a major component of farm accounting. Farm buildings, drainage tile, fencing, and storage structures depreciate over periods set by the Modified Accelerated Cost Recovery System (MACRS). Most farm equipment and machinery depreciates over 5 or 7 years, depending on classification.

Livestock purchased for draft, breeding, or dairy purposes has a cost basis that must be tracked and depreciated. Livestock raised on the farm, by contrast, generally has a zero basis for animals born into the herd. When raised livestock is sold, the entire proceeds are ordinary income unless the animals were held for draft, breeding, or dairy use for the required holding period, in which case the gain may qualify for Section 1231 treatment.

Crop Insurance and Disaster Payments

Farmers who receive crop insurance proceeds in the year damage occurs can elect to defer recognition of that income into the following year. This is valuable when the damage year is already a low-income year and the following year’s income will be more manageable. The election must be made by the due date of the return for the year the proceeds are received.

Federal disaster payments, including Agriculture Risk Coverage and Price Loss Coverage payments from USDA programs, are generally includable in farm income in the year received under the cash method.

Agriculture Accounting and Business Structure

Entity choice matters significantly for farms. Sole proprietors and single-member LLCs file on Schedule F and are subject to self-employment tax on net farm income. Partnerships and S corporations pass income through to owners but offer flexibility in allocating wages, which affects both self-employment tax and the QBI deduction wage limitation.

C corporations are less common in farming because double taxation generally outweighs the benefits, but some very large operations use a corporate structure for liability or succession planning purposes.

For farms with significant estate planning concerns, OBBBA permanently raised the estate and gift tax exemption to $15,000,000 per individual for 2026 (with inflation indexing applying in later years), which reduces the urgency of aggressive lifetime gifting strategies for most farm families. However, the interaction between the estate tax exemption and carryover basis rules still warrants careful planning when transitioning land between generations.

Modus works with agricultural businesses across the country on tax planning and compliance tailored to the unique demands of the farming cycle. Our AI-native approach means faster document turnaround and source-linked workpapers that give farm owners and their lenders a clearer picture. For broader industry-specific advisory, see our industries overview.

Related reading: Oil and Gas Accounting: Successful Efforts vs. Full Cost

Frequently Asked Questions

What accounting method do most farmers use?

Most farmers use the cash method of accounting, which allows income to be reported when received and expenses deducted when paid. The cash method aligns well with the seasonal and commodity-driven nature of farming income. The IRS expressly permits most farming businesses to use the cash method, though farming syndicates and some larger corporate farming operations are required to use the accrual method.

What is Schedule F and who files it?

Schedule F, “Profit or Loss From Farming,” is the IRS form used by sole proprietors, single-member LLCs, and certain other farmers to report farm income and expenses. It is filed as part of Form 1040. Farmers organized as partnerships or S corporations report farm activity on their entity returns, which then pass income and deductions through to the owners’ individual returns.

What is farm income averaging and how does it help?

Farm income averaging, made under the Section 1301 election on Schedule J, lets a farmer spread all or part of their current-year farm income over the three prior tax years. If those earlier years had lower income and available room in lower tax brackets, the election can reduce the farmer’s total federal income tax for the current year. The election is made annually and does not require amending prior returns.

How does Section 179 apply to farm equipment?

Section 179 allows farmers to immediately deduct the full purchase price of qualifying equipment, machinery, and certain structures in the year they are placed in service rather than depreciating the cost over several years. For 2026, the maximum Section 179 deduction is $2,560,000, with a phase-out starting at $4,090,000 of qualifying property placed in service. The limit was permanently raised by OBBBA to a $2,500,000 base and is indexed for inflation going forward.

Can farmers use the QBI deduction?

Yes. Farming is a qualified trade or business for purposes of the Section 199A QBI deduction, and farming is not classified as a specified service trade or business, so the more restrictive SSTB income phase-out rules do not apply. For 2026 and beyond, the deduction is permanent under OBBBA. Eligible farmers can deduct up to 20% of their qualified business income, subject to applicable wage and capital limitations at higher income levels.

What is the new installment sale election for farmland under OBBBA?

OBBBA created a new election under Internal Revenue Code Section 1062 for sellers of qualified farmland that allows the capital gains tax from the sale to be paid in four equal annual installments rather than all at once. To qualify, the land must be sold to a qualified farmer, must be subject to a legally enforceable restriction against non-farming use for at least 10 years after the sale, and must have been used or leased for farming for substantially all of the 10 years before the sale. This provision does not reduce the amount of tax owed; it simply spreads the payments over four years to help sellers manage cash flow.