Tax Treatment of Biofiltration Systems
We had an interesting question come into the office recently. The question involved the tax treatment of a biofiltration system for a farmer. I wasn’t familiar with the concept so I did a little research to find out exactly what a biofiltration system is. Basically, biofiltration removes contaminates (such as nitrates) in water by metabolizing microorganisms as the water flows past. The biofilters are basically a buried trench with woodchips through which tile water flows before the water enters a ditch, stream or other surface water. I don’t fully grasp how the technology works, but that’s not essential to figuring out the tax issue. The “system” consists of a diversion structure that channels the water through the woodchips, and a “capacity control structure” that is adjusted to control the flow of the water through the woodchips. The structure is placed at the end of the tile line.
These systems can be pretty costly. What we’ve heard is that some farmers have incurred costs of about $14,000 to put a system in.
So how do you handle the cost of installing a biofiltration system taxwise? The systems themselves appear to be new technology, so there isn’t any specific IRS guidance. But, I think a biofiltration system is personal property, like equipment. It’s equipment that is designed to treat water as it comes out of the tile. That would make it 7-year MACRS property. At worst, it’s 15-year property as a land improvement, but I think the more likely classification is as personal property. It would also be eligible for I.R.C. §179 unless, of course, the taxpayer is a cash rent tenant or unless the non-corporate lessor rules come into play.
If there is cost sharing involved, the cost-share could be excluded under the formula contained in the regulations for I.R.C. §126, but the taxpayer’s basis in the system (improvement) would be reduced by the amount excluded. It doesn’t look as if the conservation expense rules of I.R.C. §175 would come into play.
From what I could determine, it looks like the early reports on biofiltration systems are that they are able to remove a significant percentage of nitrates from water coming out of field tile drains. That’s good news. It also points out that agriculture finds ways to solve conservation and water quality issues without the need for burdensome regulation. Hopefully the Des Moines Water Works and those funding their lawsuit against Iowa agriculture are paying attention.
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