SOME KEY POINTS Some states waive real estate transfer taxes if the land remains in agriculture. Land used for agricultural purposes is usually taxed at lower rate than residential properties. Purchases of inputs used to raise sheep are often exempt from sales taxes. If you are engaged in the business of farming, you must file a schedule F with the IRS. To qualify for favorable treatment as a farmer from the IRS, you must establish that are in business to make a profit (expectation is a profit in 3 out of the last 5 years). Income from a hobby farm is supposed to be reported to the IRS. Income from 4-H/FFA projects is taxable. There can be numerous tax advantages to raising sheep or engaging in similar farming activities. Every state offers some type of tax incentive to protect land from development. Farmers are usually exempt from sales tax on items purchased for use in their farm business. Expenses associated with the farm enterprise can be written off against ordinary income. Real Estate Transfer Taxes A realty transfer tax is a state and local tax assessed on real property when ownership of the property is exchanged between parties. All types of real property, including residential, commercial, and agricultural, are subject to the realty transfer tax. Some states wave the agricultural transfer tax if the purchaser of the land signs a "declaration of intent" specifying that the land will remain in agricultural use for at least five consecutive tax years. Loss of the use assessment during the 5 year period would result in the tax liability, plus penalty, being imposed. Agricultural Land Tax Assessment If land is "actively" used for agricultural purposes, its value is assessed according to its current use and not according to its current market value. Thus, agricultural producers pay lower property taxes. Requirements for agricultural land assessment (and enforcement of those regulations) vary by state and county. Factors which determine eligibility have to do with the numbers of acres in active farming, gross income from the land, and percent of income from farming -- and different combinations of those factors. For example, in Maryland, for land to be considered agricultural use, it should consist of least three (3) acres and the farming operation should generate a minimum gross income of $2,500. Sales and Use Tax Exemption There are agricultural exemptions for sales and use tax. Sales tax is waived for purchases and rentals of farm equipment, livestock, feed, bedding and supplies used in the production of agricultural products The raising of livestock by members of youth organizations, such as 4-H, for agricultural educational purposes also qualifies for a sales tax exemption. To qualify for an agricultural sales and use tax exemption, it may be necessary to apply with a state agency. In other states, all that's necessary is a signed statement with the vendor. Farming "For Profit" To qualify for favorable tax treatment as a farmer or sheep producer, you must establish that you are in business to make a profit. A farming operation is assumed to be "for profit" if it has reported a profit in three (3) of the last five (5) tax years, including the current year (IRS code, section 183). If you fail the three years of profit test, you may still qualify as a "for profit" enterprise if your intention is to make a profit. Nine point test determine if an operation qualifies as "per profit" after failing the initial "for profit" test No single factor indicates whether an activity is carried on for profit or not. All factors are considered. Tax Write-off Like other forms of agricultural production, sheep raising can be a tax write-off. Expenses from the sheep enterprise may be deducted from your tax return to offset ordinary income. Expenses that can be deducted on your taxes include feed, veterinary costs, bedding, breeding fees, ram replacement, land and equipment rental, hired labor, custom work, supplies, marketing and transportation costs, memberships, education, and depreciation. It is necessary to file a schedule F in order to deduct expenses from a sheep operation. Depreciation Depreciation is a cost of doing business. It is the depletion of capital assets. The value of goat breeding stock may be deducted utilizing two different methods of depreciation. The straight line method deducts 20% of the animal's value per year, while the accelerated method allows a more rapid rate of depreciation. However, you cannot depreciate breeding animals that you raised, because the costs associated with raising them are deducted as expense items: feed, medicine, etc. Buildings, fencing and equipment may also be depreciated. The rate of depreciation depends upon the useful life of the asset, which varies from three (3) to forty (40) years. Section 179 The Section 179 deduction allows you to deduct the full cost of a qualifying asset in the year it was placed into service rather than to depreciate it out over several years. There are caps to the total amount written off and limits to the total amount of equipment purchased. Paying Taxes If you make a profit on your sheep enterprise, you have to pay income taxes and self-employment taxes on the income unless it is offset by losses in another business. Income Taxes If you are in the trade or business of farming, you must complete and file schedule F, "Profit or Loss from Farming," along with IRS Form 1040. Schedule F is very similar to Schedule C for small business owners. For income tax purposes, farmers may use either a cash or accrual method of accounting. Income averaging is a method of reducing the annual tax burden. Self-Employment Tax Self-employment tax (SE tax) is a social security and Medicare tax primarily for individuals who work for themselves. It is similar to the social security and Medicare taxes withheld from the pay of most wage earners. You usually have to pay SE tax if you are self-employed. You are usually self-employed if you operate your own farm on land you either own or rent. The self-employment tax rate is 15 percent%. The rate consists of two parts: 12.4 percent for social security (old-age, survivors, and disability insurance) and 2.9 percent for Medicare (hospital insurance). You must pay SE tax and file Schedule SE (Form 1040) if your net earnings from self-employment were $400 or more. Record keeping Record keeping is an important aspect of taxes and the primary reason farm records are kept. There are many suitable record keeping systems. Ideally, the farm has a separate check book. A business checking account provides a good record of income and expenses. Transactions can be entered into a journal or ledgers. Nowadays, most transactions are recorded electronically. There are many suitable programs. Quicken and Quickbooks are especially popular among farmers. Supporting documents need to be stored in a safe place. In generally, these documents must be kept for at least three years from when the tax return was filed. Most farmers do not file their own taxes; they have an accountant. Hobby (not-for-profit farming) If you raise sheep with no intention of making a profit, it is a hobby. Any income from a hobby farm is reported on the first page of IRS form 1040 under "other income," not on a schedule F. Expenses of a hobby can only be deducted on schedule A, itemized deductions. Hobby losses cannot be used to offset unrelated income. 4-H and FFA Projects If an individual participates in a 4-H Club or FFA project, any net income received from sales or prizes related to the project may be subject to income tax. Net income should be reported on the appropriate IRS form. If the project is primarily for educational purposes and not profit, the net income is not subject to self-employment tax. Taxes are complicated and the tax code is constantly changing. Farmers should consult with tax accountants for the most up-to-date information on farm taxation and reporting. Consult an accountant or refer to IRS publication 225 Farmer's Tax Guide for answers to your tax questions.

SOME KEY POINTS A business plan is the foundation of a successful sheep enterprise and farm. The most important parts of the business plan are the production plan, marketing plan, and financial plan You can get help writing a business plan from various entities. The key factors affecting profitability in a sheep enterprise are usually percent lamb crop, feed costs, and market prices. In most agricultural enterprises, profit margins are slim and profitability varies from year to year, as supply and demand vacillate and input costs rise (and rarely fall). Sheep production is no different than any other agricultural enterprise. It is not a "get rich quick" scheme. It requires good animal husbandry and business management skills -- along with a little bit of luck -- to be successful and generate a consistent profit and return to land, labor, and capital. Business planning A business plan is the foundation of a successful farming operation. It is a "road map." It allows you to plan your business before investing any of your own resources. It increases the chances for success and helps avoid costly mistakes. Business planning is considered essential to the success of both new and established enterprises. If a business isn't "profitable" on paper, it's not likely to be profitable in practice. While the formats and components of business plans vary, most plans include an executive summary, business description, production plan, marketing plan, and financial plan. Not all plans include all of the same components or require as much detail. Business planning is usually more complicated for value-added enterprises versus production-only enterprises. It may be beneficial to separate the production side of the business from the processing and marketing of a value-added product, such as meat, dairy, or fiber products. Table: Components of a business plan Most states and counties have numerous public agencies that can assist agricultural producers with business planning: Small Business Development Center, Farm Service Agency, and Cooperative Extension. Many county governments now have someone in the Economic Development Office that specializes in agriculture enterprises. The University of Minnesota Center for Farm Financial Management has free online business planning software called AgPlan. In addition to completing your business plan online, you can view examples of business plans and share your plan with advisors. Purdue University has an online business planner called INVenture. It uses a question and answer format to help you write a business plan. If you prefer to develop a business plan on paper, you can download business planning worksheets from the University of Maryland Rural Enterprise Development Center. There are numerous other web resources for business planning. Key factors affecting profitability Profitability is income minus expenses. In the short run, expenses can be limited to operating costs. In the long run, a successful business has to cover all its fixed costs. In agriculture, fixed costs are often called the "dirt-5": depreciation, interest, repairs, taxes, and insurance. While many factors affect profitability of a sheep enterprise, the three key factors are feed costs, percent lamb crop, and market prices. Feed costs Feed costs, especially the cost of feeding the ewe flock, comprise the majority of costs in a sheep enterprise. It is not common for feed costs to comprise more than 70 percent of annual operating costs. Feed costs vary considerably geographically, from farm-to-farm, and from year to year. There are numerous strategies for reducing feed costs. No single feeding program is guaranteed to be more profitable. Some producers will be more profitable raising sheep predominately on forage diets, whereas others will be successful with considerable feeding of grain and/or by-products. Percent lamb crop Percent lamb crop is defined as the number of (quality) lambs marketed (or retained for breeding) per ewe exposed for breeding. While there are some additional costs associated with producing a higher percentage lamb crop (e.g. lamb finishing costs), for the most part more lambs mean more profit. It generally costs the same amount of money to maintain a ewe no matter how many lambs she produces. Overhead or fixed costs are also reduced when productivity is higher. The optimal size lamb crop varies by geographic location and production system. In situations where feed costs and overhead are very low and wool still comprises a significant portion of the income, a hundred percent lamb crop may be profitable, though a 125 percent lamb crop is probably feasible and more profitable. For many sheep producers, a 200 percent lamb crop is an appropriate and obtainable goal. Most breeds of sheep are capable of producing a 200 percent lamb crop if they are fed and managed properly. In situations where land and production costs are higher, lamb crops in excess of 200 percent are realistic. To achieve such a lofty goal, accelerated lambing programs or prolific genetics are usually required. Despite the higher profit potential, it is not recommended that beginning shepherds start with prolific breeds or attempt to lamb ewes at frequent intervals. There are various strategies for increasing lambing percentage. Not all strategies will likely be profitable on all farms. The number of lambs that a ewe gives birth to varies by her age, genetics, body condition, nutrition, and season. Ewes reach their peak productivity between the ages of 3 and 6. Maintaining too young of a flock will reduce lambing percentage, but should accelerate genetic improvement. In temperate climates, fertility is usually highest in the fall months when day length is shorter. Ewes bred to lamb in the spring (March-April) will usually give birth to more lambs than those bred to lamb in the winter or fall. While the heritability of reproductive rate is low, only about 10 percent, selection will increase lambing percentage. The birth type of the individual lamb is less important than the lamb's family history for multiple births. It is especially important to select rams from families and/or flocks with a higher percentage of multiple births. Rams with large testicles are also desirable for breeding, as scrotal circumference has been linked to reproductive rate in female progeny. Nutrition exerts a large effect on reproductive performance. Ewes that are in better body condition will usually ovulate more eggs. Flushing may increase the ovulation rates of ewes in sub-optimal body condition. It may also increase embryo survival. Flushing is when the nutrition is increased prior to and during the early part of the breeding season. It is usually accomplished by supplementing ewes with 1/2 to 1 lb. of grain per head per day or moving them to better quality pasture. Ewes that are already in good body condition usually do not respond to flushing. Market prices Obviously, higher (net) market prices will increase profitability. When evaluating marketing options, it is essential to compare "net" market prices. Higher prices aren't always more profitable, due to the increased costs associated with getting them. There are various ways to increase market prices. If lambs are marketed through public livestock auctions, there are various strategies for increasing returns. The best prices for lambs are usually obtained when lambs are sold directly from the farm to commercial buyers, direct marketers, or consumers. You avoid paying the fees associated with sale barns, though you are still obligated to pay the lamb check-off. For on-farm sales, it's important to have a scale so you know what your lambs weigh. You also need to closely follow the local, regional, and national markets, so you know what your lambs are worth. Often, you can accept a lower price at the farm than you would expect at a sale barn, since your are incurring less selling costs. On the other hand, you should seek a premium for "farm-fresh" lambs. If you sell directly to an abattoir, you may be able to establish a year-round or contract price. Larger abattoirs may be willing to pay for lambs according to a grid, which establishes a set of premiums and discounts. If you produce the kind of the lamb that the processor wants, you should be able to get a higher price for your lambs. Marketing lambs, carcasses, and/or meat directly to consumers certainly has the potential to increase the value of lambs marketed. Adding value to milk and fiber also has the potential to increase the value of production.

SOME KEY POINTS An enterprise budget is one of the best ways to estimate the profitability of a sheep enterprise. An enterprise budget is a list of income and expenses specific to the sheep enterprise. The difference between income and expenses is the expected profitability. For a true measure of profitability, it is important to include fixed (or overhead) costs known as "DIRTI": depreciation, insurance, repairs, taxes, and interest. When creating an enteprise budget, it is important to use your own figures. One of the best ways to estimate the profitability of an agricultural enterprise is to do an enterprise budget. If an enterprise is not profitable on paper, it is not likely to be profitable in practice. An enterprise budget is a list of income and expenses, based on a set of assumptions. Enterprise budgets estimate profitability for agricultural enterprises. They are useful for performing breakeven analyses and can be used to select the mix of enterprises on a farm. Below is a sample budget for a sheep enterprise with 100 ewes lambing annually. While the budget uses realistic figures, for an enterprise budget to be useful, it is important to use your own figures. This budget is meant only to serve as an example. You can download this budget as an Excel file and use your own figures and assumptions to estimate the profitability of your sheep enterprise. Budget explanation Before you construct a budget for an agricultural enterprise, you first have to make some assumptions. In this sample budget, flock composition is the number of breeding ewes and rams in the flock. Lambing percentage is the percentage (or number ) of lambs that you will market or retain from each ewe in the flock. This includes ewes that fail to get pregnant and/or raise a lamb. It also takes into account any death losses that occur before marketing or retention. Lambing percentage is one of the most important factors affecting profitability of a sheep enterprise. The figure you use will have a very large effect on profitability. You should experiment with different levels of productivity to determine what level of production is necessary to achieve a profit. Ewe replacement rate is the percentage of ewes that are replaced in the flock each year. You need to keep enough ewe lambs to replace the ewes that die, as well as the ones that you cull. A replacement rate of 15 to 20 percent is common. You can make more rapid genetic improvement if you replace ewes at an accelerated rate. Seedstock producers tend to replace females at a faster rate than commercial breeders. There tends to be a higher rate of replacement in intensively managed flocks, including dairy flocks. In some operations, it is common to purchase replacement females. In this case, the ewe replacement rate would be zero and the cost of replacement ewes would be a fixed cost (depreciation) of doing business. Fixed costs are not included in this simple budget. The ram replacement rate reflects how many years a ram is used. A 33 percent replacement rate means that the ram is used for three years before being culled or sold. In this budget, it is assumed that breeding rams are purchased. Otherwise, the flock is closed to outside animals. Income The income from a sheep enterprise includes the proceeds from the sale of market lambs, breeding stock, cull ewes and rams, and wool. It may also include government payments. Lamb prices will vary by year, season, type and quality of lamb, and marketing method. Lighter weight lambs usually bring more per pound than heavy weight lambs, but bring less total dollars. Male lambs may bring more than ewe lambs. Since marketing costs are not included anywhere else in the budget, the market price in the budget should include any selling fees, as well as the American lamb check-off. Prices for cull ewes and cull rams will also vary. Extremely thin or fat sheep are usually discounted in the marketplace. If your "culls" are still healthy, productive animals, you can try selling them for breeding to increase their value. Another alternative is to have cull animals slaughtered and have their meat made into sausage or snack sticks. The stronger flavor of mutton will be masked by the seasoning. On the other hand, some consumers favor the richer flavor of mutton. Wool prices vary by year, marketing method, and type of wool. Fine wool that is skirted brings the most money in the commodity market. Producers who direct market their wool to hand spinners and weavers may receive substantially more for their fleeces. Depending upon wool prices, wool income can be increased by participating in the government wool LDP program, which provides payments for both shorn wool and unshorn lamb wool. LDPs are not paid if wool prices exceed the support prices. The support price for wool is 40 cents per pound for ungraded wool and $1 per pound for graded wool. Wool income will be zero for hair sheep producers or wool producers who throw their wool away or give it to the shearer. Expenses Many producers believe that the only way to make money raising sheep or to make more money is to increase income. Lowering production costs is probably a more realistic way to increase the net income from a sheep enterprise. This can be done by lowering expenses and/or increasing productivity. Feed costs Feed costs are usually the largest expense associated with raising sheep and similar livestock. They include hay, grain, mineral supplements, lamb feed, and pasture costs. Though it varies by climate and production system, it usually takes from 1/4 to 1/3 of a ton (4 to 5 lbs. of hay for 120 to 150 days) to feed a ewe over the winter. There can be a lot of waste associated with feeding hay, especially round bales, so these losses should be factored into the budget. The figure for hay will be lower if the winter feeder period is shortened due to a longer growing season or an extended grazing season. The figure will be higher when the winter feeding period is longer due to a shortage of pasture or a shorter growing season. Some producers may feed year-round. The price of hay will vary significantly by geographic location, year, and type of hay. It is important to buy hay by weight (ton) so you know the cost of it. The amount of grain fed depends upon the production system and the productivity of the ewes. This budget assumes that 15 lbs. of grain is fed to a ewe during the last month of gestation (an average of 0.5 lbs. per day). It assumes that grain is fed for the first 60 days of lactation at a rate of one pound per offspring. The cost of grain fed to ewes can vary significantly, A complete sheep feed bought at a feed store can be very expensive. Grain costs can be reduced significantly if farm grains are used and simple rations are mixed on the farm. If a high quality legume hay (e.g. alfalfa) is fed during lactation, whole corn or barley can be fed, as opposed to a more expensive mixed ration. It is more difficult to estimate salt and mineral consumption by sheep. Estimates are given on the label, but sometimes sheep will eat more or less. There are considerable differences in mineral costs. Mineral costs can be reduced by feeding a trace mineral salt mix instead of a complete mineral. There is no need to provide supplemental minerals if the sheep are consuming an otherwise balanced ration. Some lambs may never see a bite of grain, whereas others will be creep-fed and finished on concentrate rations. This budget assumes that lambs are creep fed, then pastured and fed a pound of grain per day for 60 days post-weaning. Pasture costs would include establishment, renovation, and maintenance of pasture. Maintenance costs would include lime and fertilizer costs. They might also include spraying or mowing for weed control. Fence repairs can be included with pasture costs, though repairs are generally considered a fixed cost. Health The next section of the budget is for health (veterinary) costs. Detail is provided on deworming and vaccinations. Deworming should be done on an as-needed basis only, so it is hard to estimate yearly costs. For the purpose of the budget, it is assumed that each adult sheep is dewormed an average of once per year and that each lamb is dewormed an average of two times. Lambs are vaccinated twice for CD-T. Ewes and rams are boostered annually. The figure for additional vet costs would include other medicines, such as antibiotics and mineral and vitamin injections. The figure does not include veterinary services. It is assumed that the shepherd his or her own vet work. Supplies Needles and syringes would be included in the figure for supplies. Other supplies might include ear tags, rubber rings (for docking and castrating), and nipples (for bottle feeding). Other costs If traditional wooled sheep are being raised, there may be an annual cost of shearing. Some sheep (e.g. long wool breeds) are sheared twice per year. This budget item will be zero if hair sheep are raised or the shepherd does his or her own shearing. The budget includes a ram cost, as a ram is replaced every three years. The rule of thumb is that a "good" ram is worth the value of five market lambs. A good ram would be one with performance records, especially EBVs (estimated breeding values). If replacement ewes are purchased instead of raised, their cost will need to be added to the budget. The cost of a replacement ewe varies by age, breed, health status, and registration. Unless the sheep are kept outside year-round (without housing), most enterprises will incur a cost for bedding. It is difficult to estimate this cost, as bedding costs vary and different types of bedding can be used: straw, hay, shavings, newspaper, etc. The best figure is one obtained from actual costs in previous years of production. There is usually a cost associated with hauling animals to market. This cost should be included in the enterprise budget. A higher cost should be put if someone else will be paid to transport lambs to market. If lambs are picked up at the farm, there will be no cost for this item. The cost of hauling can also be built into the selling price of the lambs. If the farm uses guardian dogs (or other livestock guardians) for predator control, the cost of maintaining these animals should be included in the budget. This figure would include the cost of food and health care (shots, heartworm medicine, etc.) The sheep enterprise may incur various other expenses that should be included in the budget. Producers that don't have equipment may need to pay someone to clean their barn and/or mow their pastures. The last item in the budget is interest on operating money. It is the cost of using money. If you didn't raise sheep and invested the money instead, what could you earn? Sheep raising should be competitive with alternative uses of the money. The money is charged for six months at a current interest rate. Fixed costs Fixed costs are often referred to as the "DIRTI-5": depreciation, taxes, interest (on investment), land charges, and insurance. Sometimes a management fee is included as a fixed cost. These costs are considered to be “fixed” because they generally remain the same within a production period and do not vary with the level of output. Indirect, noncash, and overhead costs are other terms used to describe fixed costs. When there are more than one enterprise on the farm, it is more difficult to assign fixed costs to specific enterprises. Depreciation is one of the most important fixed costs on a farm. This is where the cost of buying breeding stock and equipment is accounted for. The bottom line In this budget, the difference between income and expenses represents the return to land, labor, and capital. Ideally, you want to earn a profit above total costs every year.