ARCHIVED - Livestock of Farmers

From: Canada Revenue Agency

What the "Archived Content" notice means for interpretation bulletins

NO: IT-427R

DATE: June 4, 1993

SUBJECT: INCOME TAX ACT
Livestock of Farmers

REFERENCE: Subsection 28(1) (also section 29, subsections 28(1.1), (4) and (4.1), 69(1.1), 70(2) and (3), 88(1.6) and the definition of "inventory" in 248(1), and paragraphs 69(1)(a), (b) and (c), 85(1)(c.2) and 87(2)(b))

Application

This bulletin cancels and replaces Interpretation Bulletin IT-427 dated March 5, 1979. Except as otherwise stated, the comments in this bulletin apply to fiscal periods commencing after 1988.

Summary

This bulletin deals with various topics of interest to farmers who raise livestock and have chosen the cash method of determining income. It defines livestock. It discusses the inventory adjustments relating to taxpayers using the cash method. The bulletin also discusses some of the tax consequences of using the cash method in relation to a farmer becoming a non-resident of Canada, the death of a farmer, gifts of livestock and other inventory by a farmer, the disposition by a farmer of livestock and other inventory to a corporation and the amalgamation or winding-up of corporations in the business of farming.

Discussion and Interpretation

1. Proceeds from the sale of livestock, including those animals in a basic herd, are by virtue of the definition of "inventory" in subsection 248(1) considered to be income if a taxpayer is in the business of farming (referred to as "farmer" in this bulletin). A farmer who has a basic herd is permitted a formula deduction on both an optional and a mandatory basis under section 29 in the year of disposition of any livestock in a basic herd. See the current version of Information Circular 86-6, Basic Herds, for a discussion on basic herds.

Meaning of Livestock

2. Livestock is not defined in the Income Tax Act, but includes any and all animals, (i.e. living organisms which are not plants or bacteria) if they are kept, maintained and bred under controlled conditions for profit. This definition does not apply, however, for purposes of a basic herd. Animals in a basic herd are defined in subsection 29(3) to include only cattle, horses, sheep or swine.

Cash Method - Inventory Adjustments

3. The optional and mandatory inventory adjustments under paragraphs 28(1)(b) and (c) respectively apply to a farmer using the cash method in computing income from a farming business. Paragraph 28(1)(f) requires that the amount included in income under paragraph 28(1)(b) or (c) reduce income in the immediately subsequent fiscal period. See the current version of IT-526, Farming - Cash Method Inventory Adjustments, for a discussion on these adjustments. The option under paragraph 28(1)(b) provides the farmer with an opportunity to average income.

Change in Residence

4. A farmer using the cash method who ceased to reside in Canada or ceased to carry on a farming business in Canada after July 13, 1990 and at the end of a particular taxation year is not a resident in Canada and not carrying on a farming business in Canada will be required to include in income for the particular taxation year the fair market value of accounts receivable from the farming business. Doubtful or uncollectible accounts receivables will be reflected in the fair market value of the receivables. Although this requirement applies to each taxation year in which the conditions of subsection 28(4) are met, it does not apply to an amount that is otherwise included in income in the year or a previous taxation year. This provision may apply where:

(a) a Canadian resident ceases to carry on a Canadian farming business and becomes non-resident,

(b) a Canadian resident ceases to carry on a farming business in another country and becomes non-resident, or

(c) a non-resident ceases to carry on a Canadian farming business.

5. A farmer using the cash method who ceased to reside in Canada, and whose inventory from a farming business ceased to be used in connection with a business carried on in Canada, at a particular time after July 13, 1990 will be required by virtue of subsection 28(4.1) to include the fair market value of such inventory in income at that particular time. This provision may apply where:

(a) a Canadian resident carrying on business in Canada becomes non- resident and moves some or all of the inventory of the Canadian business to another country,

(b) a Canadian resident carrying on business in another country becomes non-resident, or

(c) a non-resident carrying on business in Canada moves some or all of the inventory of the Canadian business to another country.

Where the amounts included in the farmer's income under subsection 28(4.1) are in respect of animals in a basic herd, an amount may be deducted from the farmer's income under section 29 in respect of these animals.

Death of a Farmer

6. Where a farmer who determines income using the cash method dies and has an inventory of livestock, the value of the livestock is a right or thing for purposes of subsections 70(2) and 70(3). Subsection 70(2) requires the legal representative of such a deceased farmer to include the value of livestock at death in the deceased farmer's income tax return for the year of death or elect to file a separate return to include the value of all the decedent's rights or things (including livestock) and pay tax thereon for the taxation year in which the farmer died as if the farmer were another person. Subsection 70(2) will not apply by virtue of subsection 70(3) in respect of livestock that is transferred or distributed to the beneficiaries before the time for making an election under subsection 70(2) has expired. Subsection 70(3) also provides that on the subsequent realization or disposition of the livestock by the beneficiaries, the proceeds will be income to them. The legal representative may, in computing income for the deceased and the beneficiaries, include an amount for the value of part of the herd of livestock in the return of income of the deceased for the year of death under subsection 70(2) and to transfer or distribute the remainder to the beneficiaries so that subsection 70(3) applies. Please refer to the current version of IT-212, Income of Deceased Persons - Rights or Things, for further details on subsections 70(2) and (3).

7. An example of a situation where the apportionment referred to in 6 above may be advantageous is as follows:

(a) The deceased's income for
the part year prior to death                 $10,000 loss

(b) Fair market value of livestock
at the date of death                             $50,000

(c) The deceased's legal representative
wishes to transfer the livestock
to the beneficiaries under subsection
70(3), but also wishes to utilize
the $10,000 loss the deceased has
incurred in the part year prior to death
and the deceased's non-refundable
personal tax credits

Solution:

The value of livestock equal to, $10,000 plus an amount sufficient to utilize the personal tax credits of the deceased, is included in the deceased farmer's return of income for the year of death as a right or thing under subsection 70(2). The livestock not included in the value under subsection 70(2) is transferred to the beneficiaries under subsection 70(3) and, on the subsequent realization or disposition of the livestock, the proceeds will be income to them.

8. Where under subsection 70(2) the inventory of livestock, including a basic herd, is a right or thing on the death of a farmer, the valuation day value of the basic herd that remains on hand at the time of death may be deducted from the value of livestock included as a right or thing. In such cases, paragraph 69(1)(c) is applicable to deem the beneficiaries to acquire the herd at fair market value at the time of acquisition. The fair market value is normally the value used in computing the income of the deceased under subsection 70(2). The beneficiaries are not, however, permitted a basic herd deduction under section 29 for the inherited livestock.

9. If subsection 70(3) is applicable to the transfer of livestock from a deceased farmer, the deceased will not be subject to tax in respect of the livestock. The amount received by one of the beneficiaries or other persons beneficially interested in the estate or trust upon realization or disposition of the herd or part of the herd will be included in computing income for the taxation year in which it was received. The cost to the beneficiary of the herd for the purpose of subsection 70(3) is described in subsection 69(1.1) as an amount equal to the deceased's cost that has not been deducted by the deceased in computing income plus any expenditures made or incurred by the beneficiary to acquire the herd. Since the cost of livestock of a farmer using the cash method, would, except for the basic herd, have been deducted by the deceased in some year, the cost of the livestock to the beneficiary would normally be nil. In the case of the basic herd, the cost to the beneficiary will be considered to be an amount equal to the fair market value at December 31, 1971 of the basic herd minus the amounts previously deducted by the deceased pursuant to section 29.

10. The optional inventory adjustment and the mandatory inventory adjustment mentioned in 3 above do not apply in a year in which a farmer died.

Gift of Livestock and other Inventory

11. For taxation years and fiscal periods ending after 1990, where inventory is acquired, in circumstances where paragraph 69(1)(a) or (c) applies, by a farmer who determines income using the cash method, the acquired inventory is deemed by virtue of subsection 28(1.1) to have been purchased and paid for. The farmer is therefore allowed to deduct the fair market value of the inventory and is required to consider such acquired inventory as purchased inventory for the purposes of the mandatory inventory adjustment (see 3 above). For taxation years and fiscal periods ending before 1991, the Department will continue its practice where a farmer gifts livestock inventory to a child. Where such a child receiving the property uses the livestock in the business of farming and computes income using the cash method, the child will be considered to have made a payment for the livestock equal to that fair market value and consequently may deduct this amount under paragraph 28(1)(e). If the recipient of the inventory does not elect to use the cash method, the fair market value of the livestock will be treated as inventory. A farmer who disposes of inventory in circumstances where paragraph 69(1)(b) applies is required to include the fair market value of such inventory in income.

Rollover of Livestock to a Corporation

12. A farmer using the cash method to compute income from a farming business may elect to roll over inventory owned in connection with the farming business to a corporation under subsection 85(1). Where such a farmer disposes of inventory owned in connection with that business to the corporation, paragraph 85(1)(c.2) will apply for dispositions occurring after July 13, 1990. Paragraph 85(1)(c.2) restricts the selection of the deemed proceeds of disposition of the farmer and the cost to the corporation in respect of purchased inventory of the farmer to an amount that is the aggregate of

(a) the proportion of the amount that would have been included under paragraph 28(1)(c) in computing the farmer's income, if the farmer's taxation year had ended at the time of the disposition, that the value of the purchased inventory disposed of is of the value of all purchased inventory owned by the farmer at that time, and

(b) such additional amount as the farmer and corporation may designate, not exceeding the excess of the fair market value of the purchased inventory disposed of over the amount described in (a) above.

The amount selected may also be restricted by paragraph 85(1)(b).

13. Subparagraph 85(1)(c.2)(ii) ensures that the farmer will be required to include the deemed proceeds of disposition in income under subparagraph 28(1)(a)(i). On the other hand, subparagraph 85(1)(c.2)(iii) ensures that the corporation will be entitled to deduct the deemed cost of the inventory under subparagraph 28(1)(e)(i) where the corporation computes its income using the cash method and will be required to consider such inventory as purchased inventory for the purpose of the mandatory inventory adjustment (see 3 above).

14. A farmer who has a basic herd may also elect to roll over the basic herd to a corporation under subsection 85(1). The farmer will be permitted a deduction calculated under section 29 in the year of the rollover of the basic herd. The basic herd is treated as normal purchased livestock inventory in the hands of the corporation which receives it and subparagraph 85(1)(c.2)(iii) will apply if both the farmer and the corporation determine their income under section 28.

Amalgamation of Farm Corporations

15. An amalgamated corporation from an amalgamation occurring after 1988 acquires, by virtue of paragraph 87(2)(b), the inventory of a predecessor corporation that has used the cash method prior to the amalgamation at a cost equal to the amounts, if any, included in computing the predecessor corporation's income under both paragraphs 28(1)(b) and (c) in its last taxation year. Where the amalgamated corporation also computes its income under the cash method, the cost of the inventory will be deemed to be an amount paid by the amalgamated corporation. The amalgamated corporation will be entitled to deduct the cost of the inventory under paragraph 28(1)(e) and is required to consider such acquired inventory as purchased inventory for the purpose of the mandatory inventory adjustment (see 3 above).

Winding-up of Farm Corporations

16. Subsection 88(1.6) applies to a winding-up commencing after July 13, 1990 in circumstances to which subsection 88(1) applies and where the corporation (subsidiary) that is wound-up used the cash method. The subsidiary's cost amount immediately before the winding-up of purchased inventory distributed to the parent is the aggregate of

(a) the proportion of the amount that would have been included under paragraph 28(1)(c) in computing the subsidiary's income if its taxation year had ended at the time of the winding-up that the value of the purchased inventory being distributed to the parent is of the value of all purchased inventory owned by the subsidiary at that time, and

(b) such additional amount as the subsidiary may elect, not exceeding the excess of the fair market value of the distributed purchased inventory over the amount described in (a) above.

The cost amount of the inventory is included in the subsidiary's income under 28(1)(a). Where the parent also computes its income under the cash method, the cost amount of the inventory will be deemed to be an amount paid by the parent. The parent will be entitled to deduct the cost amount of the inventory under paragraph 28(1)(e) and is required to consider such inventory as inventory purchased at the time it was acquired for the purpose of the mandatory inventory adjustment (see 3 above).

If you have any comments regarding the matters discussed in this bulletin, please send them to:

Director, Technical Publications Division
Legislative and Intergovernmental Affairs Branch
Revenue Canada, Taxation
875 Heron Road
Ottawa, Ontario
K1A 0L8

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