IRS' Small Business/Self-Employed Division memorandum, "Pilot Program Auditing Schedule F Expenses" (Feb. 27, 2017)
IRS's Small Business/Self-Employed Division (SB/SE) has issued an internal memorandum that explains a pilot program for auditing expenses taken on Form 1040, Schedule F, Profit or Loss From Farming.
IRS's pilot program. IRS notes that there has been limited coverage of Schedule F in recent years by IRS's Correspondence Exam group. IRS notes that there may be compliance issues such as deducting expenses on the wrong form, deducting expenses actually belonging to another taxpayer, or deducting hobby losses.
Among the instructions that the memo provides to auditors are:
Deposits and supplies. Farmers often write a substantial number of checks during the last few days of the tax year to pay expenses. Large disbursements should always be part of an auditor's examination. He must then determine if the disbursement is a payment or a deposit. Whether an expenditure is a payment or a deposit depends on the facts and circumstances of each case.
Schedule F, Line 13, Custom Hire. Farmers may hire individuals or businesses who own equipment that the farmer does not own, such as no-till planters, combines, etc., to perform specific activities on their farms. These amounts are fully deductible as an expense on Line 13 of Schedule F, Custom Hires. Auditors should be attentive that amounts paid for rental or lease of equipment operated by the taxpayer should not be on this line; these should be listed on Line 24A, Rent or lease.
And, wages paid to employees should not be shown on this line. If an auditor does run into employee wages on this line, the memo instructs him to send an email with the employee's social security number to a specified IRS employee.
Fuel expenses. In order to determine that all fuel expenses are for conducting business on the farm, the auditor should ask the following questions:
- Do you have a storage tank on the farm?
- And how do you account for personal use from the storage tanks? And, if fuel was purchased from a gas station, the auditor should request an explanation of why that was done to ensure the gas was not for personal use.