Cessation of farming operations

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Farming operations can be discontinued for various reasons such as voluntary cessation, death or sequestration of the taxpayer. The cessation of farming operations has tax implications for the taxpayer. The treatment of livestock under these circumstances is considered below.

Voluntary cessation of farming operations
A taxpayer who discontinues farming operations can decide to either dispose of all livestock or to retain all or some of the livestock. The proceeds received from the disposal of the livestock during that process (that is, the discontinuance of farming operations) will form part of the taxable income derived from the farming operations.
The position of a taxpayer who discontinues farming operations, but retains livestock or has entered into a “sheep lease” or similar agreement is governed by section 26(2). This section provides that certain provisions of the First Schedule will remain applicable until all such livestock retained has been disposed of.

Section 26(2) applies to livestock that has been taken into account and for which expenditure has previously been allowed as a deduction under the Act in the determination of the taxable income derived from farming operations. It therefore applies to game livestock of a farmer since the cost of the game would have been claimed under section 11(a) and the livestock would have been included in opening and closing stock albeit at a standard value of nil.

Death
The death of a game farmer has income tax and capital gains tax consequences for the deceased person, the deceased estate and the heirs or legatees. These consequences are briefly discussed below with reference to livestock.
(a) Income tax
Deceased person
The taxable income of a person upon death must be determined for the period from the beginning of the year of assessment to the date of death.

As discussed in earlier a person carrying on game-farming operations includes the value of game livestock held and not disposed of at the beginning and end of the year of assessment in opening and closing stock at a standard value of nil. The same principle applies to the final year of assessment of the deceased person with the result that game livestock will be reflected at a nil value in opening and closing stock in that year.

Deceased estate
An executor of a deceased estate must include the market value (determined at the date of death of the deceased). of game livestock acquired from the deceased person in opening stock in the deceased estate’s tax computation. For the purposes of applying the limitation rule in paragraph 8 the market value of that opening stock must be taken into account.

Any game livestock still on hand at the end of the deceased estate’s first year of assessment will be included in closing stock at a standard value of nil, and the same applies to amounts to be included in opening and closing stock in subsequent years of assessment of the deceased estate.
On inclusions in the gross income of the estate and deductions claimable by the estate, see “Heirs and legatees” below.

Heirs or legatees
Any amount received by or accrued to the deceased estate from the disposal of game livestock must be included in the gross income of the deceased estate unless it is derived for the immediate or future benefit of an ascertained heir or legatee, in which case it must be included in the gross income of that heir or legatee [section 25(1)].
Deductions or allowances relating to game-farming operations conducted by the executor must be claimed by the deceased estate unless they relate to income which has been included in the income of an ascertained heir or legatee under section 25(1). In the latter event the deductions or allowances must be claimed by the heir or legatee [section 25(2)]. For example, an ascertained heir or legatee would claim the market value of game livestock acquired by the estate on the date of death.

The amount received by or accrued to an heir or legatee who disposes of game livestock acquired by inheritance will be of a capital nature provided that it was disposed of at the earliest opportunity and not made part of a farming operation (see Capital gains tax below).

By contrast, any amount received by or accrued to a farmer on disposal of inherited game livestock which has been incorporated into the farmer’s farming operations must be included in the farmer’s gross income. Under paragraph 4(1)(a)(ii)(aa) the farmer will be entitled to an opening stock deduction for the inherited livestock equal to its market value. Any inherited game livestock not disposed of in the year of assessment in which it was acquired will have a standard value of nil for closing stock purposes. However, for the purposes of applying the limitation rule in paragraph 8 the market value of the opening stock must be taken into account.

(b) Capital gains tax
For more information on the capital gains tax consequences of deceased estates, see Comprehensive Guide to Capital Gains Tax .

Deceased person

Under paragraph 40(1) of the Eighth Schedule a deceased person is deemed to dispose of that person’s assets (with some exceptions) to the deceased estate for an amount received or accrued equal to their market value on the date of death.

One of the exceptions to this rule is assets bequeathed to the person’s spouse. In that case the surviving spouse is subject to roll-over treatment under paragraph 67(2)(a) of the Eighth Schedule and steps into the shoes of the deceased person in relation to the asset. This means that the surviving spouse takes over from the deceased person, amongst other things, the date of acquisition, the date of incurral of expenditure and the amount of expenditure on the asset.

Game livestock held on the date of death is thus generally deemed to be disposed of by the deceased person for an amount received or accrued equal to its market value, except if the livestock is bequeathed to the person’s spouse. This amount will comprise the proceeds for CGT purposes under paragraph 35 of the Eighth Schedule (since game livestock has a nil value for closing stock purposes under the First Schedule, the proceeds reduction rule in paragraph 35(3)(a) of the Eighth Schedule will not apply).

In determining the base cost of game livestock, any expenditure incurred in acquiring it must be reduced by any portion which has been allowed as a deduction under section 11(a) (Under paragraph 20(3)(a) of the Eighth Schedule). Thus the cost of any game livestock which has been fully allowed under section 11(a) will have a base cost of nil. However, to the extent that the cost has been limited under paragraph 8 it will have a base cost equal to the portion not allowed as a deduction under section 11(a).

The base cost of game livestock acquired before 1 October 2001 may be determined using the time-apportionment, market value or 20% of proceeds method.

Deceased estate
The deceased estate is deemed to acquire the assets from the deceased person for an amount of expenditure equal to their market value on the date of death (paragraph 40(1A)(a) of the Eighth Schedule).
Paragraph 40 of the Eighth Schedule envisages that an executor will deal with the assets of the estate either by –
• awarding an asset to an heir or legatee; or
• disposing of the asset to a third party.
An asset awarded by the executor to an heir or legatee is treated as having been disposed of for proceeds equal to its base cost.

The deceased estate must determine a capital gain or loss for assets disposed of to a third party. The proceeds on disposal of an asset are reduced under paragraph 35(3)(a) of the Eighth Schedule by any amount included in gross income or which was taken into account in determining taxable income. Likewise, the base cost of an asset is reduced under paragraph 20(3)(a) by any amount which is or was allowable or is deemed to be allowed as a deduction in determining taxable income. Whether these proceeds and base cost reductions occur will depend on whether there is an ascertained heir or legatee.

If there is an ascertained heir or legatee any amount received by or accrued to the estate which would have been income in the hands of the deceased person is deemed to be income in the hands of the heir or legatee under section 25(1). In this situation the deceased estate will not reduce its proceeds under paragraph 35(3)(a) of the Eighth Schedule.

If there is no ascertained heir or legatee, section 25(1) deems the amount to be income of the deceased estate, and in this event the amount received by or accrued to the deceased estate must be reduced under paragraph 35(3)(a) in arriving at its proceeds.

The same principle applies to deductions, that is, section 25(2) attributes them to an ascertained heir or legatee but leaves them in the deceased estate when there is no such heir or legatee. Thus, when the deductions remain in the deceased estate they will reduce base cost under paragraph 20(3)(a) of the Eighth Schedule but if they are attributed to an heir or legatee the deceased estate’s base cost will not be reduced. An example of such a deduction is the opening stock of the deceased estate. In this regard the deceased estate is granted an opening stock deduction at market value for the game livestock acquired from the deceased person [paragraph 4(1)(b)(ii)(aa)]. As a result, its expenditure deemed to have been incurred under paragraph 40(1A)(a) of the Eighth Schedule will be reduced to nil by paragraph 20(3)(a) of the Eighth Schedule if there is no ascertained heir or legatee. The deceased estate will accordingly have a base cost of nil for the livestock in question. Conversely, if there is an ascertained heir or legatee there will be no such reduction because the deduction against income will have been attributed to the heir or legatee.

Heirs or legatees
Under paragraph 40(2)(b) of the Eighth Schedule an heir or legatee is deemed to have acquired inherited game livestock at a base cost equal to the deceased estate’s base cost. This deemed cost is treated as expenditure actually incurred for the purposes of paragraph 20(1)(a) of the Eighth Schedule and may, depending on the circumstances (see below), be reduced under paragraph 20(3)(a) of the Eighth Schedule.

A disposal by an heir or legatee would, for example, be on capital account if the inherited game livestock was disposed of at the earliest opportunity and it is not made part of an existing farming operation.

As a rule, an heir or legatee who disposes of inherited livestock on capital account will have a base cost for that livestock equal to its market value on the date of death of the deceased person. The livestock acquired by the deceased estate by natural increase occurring after the date of the deceased’s death would have a base cost to the estate of nil since the estate would not have incurred any expenditure for that livestock. An heir or legatee who inherits such “natural increase” livestock will also acquire it at a base cost of nil. The proceeds from a sale of livestock on capital account will as a rule be equal to the amount received or accrued.

By contrast, an heir or legatee who commences to use the game livestock in a farming operation or brings it into an existing farming operation will be on revenue account. In these circumstances the heir or legatee will acquire that livestock for revenue expenditure equal to its market value [paragraph 4(1)(a)(ii)(aa) read with section 25(2)]. The base cost of the livestock established under paragraph 40(2)(b) of the Eighth Schedule must therefore be reduced under paragraph 20(3)(a) of the Eighth Schedule by the paragraph 4(1)(a)(ii)(aa) deduction. An heir or legatee who disposes of game livestock on revenue account will have proceeds of nil because the amount would be included in gross income.

Insolvency or liquidation
Section 25C deems the estate of a natural person before sequestration and that person’s insolvent estate to be one and the same person for the purpose of determining –
• any allowance, deduction or set off to which that insolvent estate may be entitled;
• any amount which is recovered or recouped by or otherwise required to be included in the income of that insolvent estate; and
• any taxable capital gain or assessed capital loss of that insolvent estate.

The person before sequestration must submit a return of income for the period commencing on the first day of the year of assessment and ending on the date before the date of sequestration. Game livestock will have a standard value of nil for closing stock purposes at the end of that person’s year of assessment in the normal way.

The insolvent estate must submit a return of income for its first year of assessment from the date of sequestration until the end of that year and for all subsequent years of assessment until the estate is wound up.

The insolvent estate will have an opening stock of game livestock of nil based on the “one and the same person” principle because the closing stock of the person before sequestration was nil. Any assessed loss of the person before the date of sequestration will be brought forward into the insolvent estate. Game livestock will continue to have a standard value of nil for closing stock purposes in the first year of assessment of the insolvent estate and for the purposes of determining future opening and closing stock. Any amount received by or accrued to the insolvent estate from the disposal of the livestock must be included in the gross income of the insolvent estate.

For CGT purposes there is no deemed disposal on date of sequestration as a result of the “one and the same person” principle in section 25C. Given that game livestock is floating capital there should be no CGT implications when game livestock is disposed of by the trustee of the insolvent estate.

A company that is being wound up or liquidated remains the same taxable entity until it is finally dissolved. In practice a company must submit an interim return of income for the period from the beginning of the year of assessment up to the date immediately before the date of liquidation and another return from the date of liquidation until the end of the year of assessment. Game livestock will have a standard value of nil for opening or closing stock purposes. Any amounts derived by the company after date of liquidation must be included in its gross income.

Cessation of farming owing to the sale of land to the state
Paragraph 20 provides for a concessionary rate of tax when a farmer’s farming operations are wound up as a result of a sale of the farm land to the state and the farmer derives abnormal farming income. This could apply to, say, the expropriation of a game farm. Since this issue is not unique to game farmers it is not explored in further detail in this Note.