SERVICE DETAILS HOW ELIGIBLE FARMERS CAN ELECT OUT OF THE UNIFORM CAPITALIZATION RULES FOR THEIR PLANT OR ANIMAL PRODUCTION.

Notice 87-76

This notice provides guidance with respect to the election, available to certain taxpayers engaged in a farming business, not to have the capitalization rules of section 263A apply to any plant or animal produced by such taxpayers in their farming business.

Section 263A requires the capitalization or inclusion in inventory of the direct and indirect costs incurred in the business. Section 263A is effective for costs incurred after December 31, 1986, in taxable years ending after such date. In the case of inventory property, section 263A is effective for taxable years beginning after December 31, 1986.

In general, section 263A and the regulations thereunder provide that an election not to have the rules of section 263A apply to the production of certain farm property (a "section 263A election") is available to taxpayers engaged in a farming business, except that no election may be made by a corporation, partnership or tax shelter required to use an accrual method of accounting under section 447 or 448(a)(3). (In addition, a section 263A election may not be made with respect to certain costs involving the farming of pistachio trees and citrus or almond groves.) Further, unless consent is obtained from the Commissioner, the section 263A election may only be made for the taxpayer's first taxable year that begins after December 31, 1986 and during which the taxpayer engages in a farming business. A section 263A election, once made by a taxpayer, can only be revoked with the consent of the Commissioner. In the case of a partnership or S corporation, the election must be made by the partner or shareholder.

This notice clarifies the application of these rules in several respects. The first issue concerns the case of a fiscal year taxpayer (i.e., a taxpayer with a taxable year other than a calendar year) engaged in a farming business who would be required under section 263A to capitalize costs incurred after December 31, 1986 within a fiscal year which began before that date. Unless consent is obtained from the Commissioner, such a taxpayer would be precluded from making a section 263A election for the fiscal year in question because such year did not begin after December 31, 1986.

Under this notice, the consent of the Commissioner is hereby granted to any otherwise eligible taxpayer to make a section 263A election if the taxpayer's first taxable year to which section 263A applied began before December 31, 1986. Such a taxpayer may make a section 263A election by (i) making such election on schedule E, F, or other schedule attached to a timely filed income tax return for the fiscal year for which the election is effective; or (ii) as provided in section 1.263A-1T(c)(6)(iv), reporting income and expenses in accordance with the rules under the election on a timely filed income tax return for the fiscal year for which the election is effective. For purposes of these provisions only, a taxpayer described in this paragraph will be considered to have timely filed a federal income tax return for the first fiscal year to which section 263A applies if that return (including an amended return) is filed on or before the later of (i) 180 days after the date this notice is published in the Internal Revenue Bulletin; or (ii) the date such return (including extensions) would otherwise be due.

In order to be treated as having made the section 263A election by reporting income and expenses in accordance with the rules under the election, it is necessary to report both income and expenses in accordance with the rules contained in section 1.263A-1T(c), e.g., it is necessary to use the alternative depreciation system as provided in section 168(g)(2) with respect to all property of the taxpayer (or a related person) used predominantly in any farming business of the taxpayer which is placed in service during a taxable year for which the section 263A election is in effect. Any taxpayer not complying with these rules will not be treated as having made a section 263A election and thus is required to capitalize costs with respect to farming property produced by the taxpayer as provided under section 263A. Thus, for example, a farmer who continues to expense production costs otherwise required to be capitalized under section 263A but fails to use the alternative depreciation system under section 168(g)(2) for applicable property placed in service has not made a section 263A election and thus is not in compliance with the provisions of section 263A.

In addition, this notice provides guidance to taxpayers engaged in the business of farming who do not produce property to which the rules of section 263A apply until a taxable year subsequent to the general effective date of section 263A. Assume, for example, that Farmer A, a calendar year taxpayer, is engaged in the growing of wheat and corn for the taxable year beginning in January 1, 1987 and that Farmer A is not required to use an accrual method under section 447 or 448(a)(3). Since Farmer A is producing property that has a pre-productive period of less than 2 years, the provisions of section 263A would not apply to Farmer A for his first taxable year beginning on January 1, 1987, during which he was engaged in the trade or business of farming. In addition, assume that Farmer A does not make a section 263A election for the taxable year beginning in 1987. Moreover, assume that in 1990, Farmer A begins to raise dairy cattle or another type of property with a pre-productive period of more than 2 years. Unless Farmer A obtains the consent of the Commissioner, he would be precluded from making a section 263A election with respect to his production of farm property, because the election was required to be made for his first taxable year beginning after December 31, 1986. Under this notice, the consent of the Commissioner is hereby granted to any otherwise eligible taxpayer to make a section 263A election for the first taxable year during which the taxpayer produces property to which the provisions of section 263A apply, although such year may be subsequent to the general effective date of section 263A. Thus, in the previous example, Farmer A may make a section 263A election for his 1990 taxable year.