The following was posted by Dan Waters on the Midwest Business Law Journal on August 15, 2013.   

The Conservation Reserve Program (CRP) is a USDA land conservation program administered by the Farm Service Agency.  In exchange for annual “rent” payments from the FSA, farmers enrolled in a CRP agree to remove select parcels of land from agricultural production and plant species in order to improve environmental health and quality.  The long-term goals of the CRP are to preserve valuable land, improve water quality, prevent soil erosion and reduce loss of wildlife habitat.

Because CRP land is not used for production agriculture purposes, the term “rent” can be confusing to farmers receiving CRP payments.  This is particularly evident in the area of self-employment taxes.  Generally speaking, income from an active farming trade or business is subject to self-employment tax while rental income, which is passive in nature, is exempt from self-employment tax.

The IRS has taken the position that CRP rent payments are not “passive” rent payments exempt from self-employment taxes because a farmer’s performance of conservation and maintenance obligations under CRP contracts is an active farming trade or business.  According to the IRS, CRP payments – even though referred to as “rent” under the CRP contract – are in fact compensation for conducting certain farming activities.

In June 2013 the United States Tax Court addressed this issue for a non-farmer enrolled in a CRP in South Dakota.  The taxpayer hired a retired farmer to assist the taxpayer with his land conservation and maintenance obligations under the CRP contract.  The taxpayer argued that his CRP activities were minimal and did not give rise to the level of a farming trade or business.  Not surprisingly the Tax Court disagreed, finding that the taxpayer’s actions in (1) purchasing materials, (2) working with the retired farmer and paying him for fulfilling obligations under the CRP contract, and (3) expanding the amount of his land enrolled in the CRP were regular and continuous enough to constitute a farming trade or business.  Thus, according to the Tax Court, the taxpayer’s CRP rent payments were subject to self-employment tax.

It appears that the confusion and uncertainty of this issue is settling in favor of the IRS.  CRP payments will likely be subject to self-employment tax once the farmer becomes obligated to maintain and conserve land under the CRP contract.  The label of “rent” is irrelevant in this context because the IRS views CRP rent payments as compensation for the conservation and maintenance activities required under the CRP contract.  Farmers enrolled in a CRP program should consult their legal and tax professionals to determine the proper reporting of their CRP rent payments.

– Dan Waters is an attorney with the firm, Lamson, Dugan and Murray LLP and one of the authors at the Midwest Business Law Journal.

Update: The Morehouse case is being appealed to the 8th Circuit Court and an Appeal Fund is set up if you would like to contribute to overturning the decision: Checks can be made to the following:

Halleland Habicht Client Trust Account—CRP Appeal Fund

33 South Sixth Street, Suite 3900

Minneapolis, MN 55402