Matter of Burke
ORDER ON MOTION TO DISMISS
On August 19, 1987 a hearing on the standing Chapter 12 trustee’s motion to dismiss and the debtors’ resistance thereto came on for hearing in Davenport, Iowa. The trustee filed her motion to dismiss on April 9, 1987. The debtors resisted on April 22, 1987. The Federal Land Bank (FLB) joined in the trustee’s motion on May 11, 1987. The Production Credit Association of the Midlands (PCA) orally joined in the trustee’s motion at the hearing. Michael W. Fay appeared on behalf of the debtоrs. Elizabeth A. Nelson, standing Chapter 12 trustee, was present. John M. Titler appeared on behalf of the FLB and Michael McDonough appeared on behalf of the PCA. The case has been submitted on the testimony of the debtors, documentary evidence and a transcript of the deposition of debtor Stephen Burke.
FACTUAL BACKGROUND
The debtors have been farming in the Clinton County area since 1960. During the past few years, their 297 acre farm has been primarily devoted to row crops. In the fall of 1985 a corporation was formed. The principals of the corporation are three of the debtors’ children. The debtors are not shareholders of the corporation. The debtors leased the farm to the corporation for the 1986 crop year on a 60/40 crop share basis. Schedule E of the debtors’ 1986 federаl tax return shows that the debtors received rents in the amount of $22,609.00. Schedule F reveals that the
The 1986 tax return also states thаt the debtors received $29,777.00 in wages, $624.00 in dividends and $516.00 in capital gains. The corporation employed Stephen in 1986, and he provided the corporation with most of its labor. The debtors own the machinery that was used to farm the land. During 1986 Stephen received $10,-000.00 in wages from the corporation. $12,500.00 of the $29,777.00 wage figure was purportedly from wages Darlene received from the corporation. Darlene however received no wages from the corporation in 1986. The debtors amended their returns to reflect this. Darlene received approximately $7,277.00 in wages from her work at a deli.
The debtors’ income for 1986 is summarized as follows:
Rental income $22,609.00
Stephen Burke’s wages $10,000.00
Darlene Burke’s wages $ 7,277.00
Dividends $ 624.00
Capital gains $ 516.00
DISCUSSION
Only family farmers with regular annual income are eligible for protection under Chapter 12. 11 U.S.C. section 109(f). In order for an individual or an individual and a spouse to qualify as family farmers, they must be engaged in farming and (1) have aggregate debts that do not exceed $1,500,-000.00; (2) have at the date of filing at least 80% of their aggregate noncontin-gent, liquidated debts arising out of a farming operation owned or operated by them (excluding a debt for the principal residence unless the debt arises out of a farming operation); and (3) have received, during the taxable year preceding the one in which bankruptcy was filed, more than 50% of their gross income from the farming operation. 11 U.S.C. section 101(17)(A).
Only a challenge to the income criterion is before the court. The trustee, FLB and PCA contend that the 50% requirement is not met because Stephen’s wages and the rental income are not income arising out of a farming operation.
In addressing this eligibility issue, the court first turns to 11 U.S.C. section 101(20) which defines “farming operation” as including:
[F]arming, tillage of the soil, dairy farming, ranching, productiоn or raising of crops, poultry, or livestock and production of poultry or livestock products in an unmanufactured state. 1
A number of courts have examined the “farming operation” concept both in the context of involuntary proceedings and in Chapter 12 settings. In
Matter of Armstrong,
With respect to the rental income, the Seventh Circuit ruled that such income did not arise from a farming operation. The court observed that Mr. Armstrong received the rent payment in cаsh and up front. Finding that this type of arrangement did not expose the debtor to the risks inherent in agricultural production, the court ruled that the rental income was not derived from farming. Judge Cudahy dissented from the majority’s assessment of the rental income issue. He found the essential question to be whether the land rental was an integral part of the farm operation. Prior and proposed uses of the land were relеvant in answering the question. He agreed that the element of risk played an important role in the inquiry but did not accept that receiving rent at the outset of a lease necessitated finding that the rental income was not derived from a farming operation. Rather, Judge Cudahy urged examination of “the totality of the circumstances”.
In re Mary Freese Farms, Inc.,
In
In re Guinnane,
The concept of risk played an important role in
In re McKillips,
In
In re Rott,
In the case of
In re Wolline,
Also at issue in
Wolline
was the effect of tax returns on the eligibility issue. The debtor described the horse enterprise as “recreational” on Schedule C of his 1985 federal income tax return. None of the income from the horse operation was reported as farm income and expenses on Schedule F. The court ruled that the income tax declarations were not determinative of whether а debtor was a “farmer” for purposes of Chapter 12. It was “the nature of his activities, rather than any labels which may have been placed upon them, which is important.”
In re Wolline,
The court in
In re Mikkelsen,
The debtors’ past farming activities were significant in finding the debtors eligible for Chapter 12 relief in
In re Welch,
The inquiry into what constitutes a farming operation was narrowed in scope in
In re Tim Wargo & Sons, Inc.,
The analysis utilized in the preceding decisions certainly add credence to Judge Cudahy’s observation in Armstrong that the question of what constitutes a farming operation “allows no neat distinctions”. The varied results may be attributed to the scope of a particulаr court’s inquiry in making the “farming operation” determination. For the majority in Armstrong, a major consideration was risk. The rental income analysis was confined to an examination of the terms of the debtors’ lease with the tenant. In Tim Wargo & Sons, an important factor was whether the participation in the farming operation by the family members or relatives of the closely held corporate debtor was active or pаssive. In cases such as Rott, Guinnane, Wolline, Welch, and Mikkelsen, the courts examined a number of factors such as the debtor’s past activities, the relationship between the questioned activity and activities traditionally associated with farming and the circumstances surrounding any cessation of farming activities. The majority of decisions to date seem to be adopting a “totality of the circumstances” approach advocated by the dissent in Armstrong.
This court adopts the latter approach. To engage in a narrowly focused inquiry would result in excluding some debtors whom Congress sought to protect. A familiar example is the “financially distressed farm family” of four who began farming in the mid-1960’s, first renting then purchasing land. During the prosperous late 1970’s, the family purchased additional land for a price in excess of $2,000.00 per acre. Subsequent high interest rates, foreign production, domestic overproduction, depressed markets and the value of the dollar combined to depress commodity prices. The farm no longer was able to generate sufficient income to service its debt. Some production lenders cut off credit. To make ends meet, the husband and wife obtained at least part-time employment off the farm. Some or all of the land was leasеd. When negotiations with lenders failed, the farm family sought protection under Chapter 12.
It is the small family farm that Chapter 12 was designed to protect. 132 Cong.Rec. S. 15076 (daily ed. Oct. 3, 1986) (statement of Sen. Grassley). To disqualify this farm family because the income received from leasing the land was not received from a “risk laden” farming enterprise and therefore not derived from a farming operation would seemingly fly in the face оf congressional intent. Yet, this court must be mindful of Congress’ concern that tax shelters and large corporate farms are not the beneficiaries of Chapter 12’s protections.
Id.
Likewise, the focus must be on the “continuation” of farming endeavors and not on reviving abandoned operations.
See In re Tart,
Distinguishing between those operations Congress sought to protect from those it did not requires a consideration of a number of factors. In an effort to give the bankruptcy practitioners in this district some direction with respect to what may constitute income from a farming operation and what activities may equate with being engaged in a farming operation or conducting a farming operation, this court sets forth a few general guidelines.
A. Leasing Out Farm Land
1) Crop Share Arrangement.
Income received from a crop share arrangement typically will be farm income in the case of an individual or individual and spouse.
Such arrangement will not create an irre-butable presumption that a corporate or partnership debtor is engaged in farming. The family members or relatives must take an active role in the operation.
2) Cash Rent Arrangement.
Income received from a cash rent arrangement will be farm income in the case of an individual or individual and spouse only if the evidence reveals that past farming activities have been more
Cash rent arrangements with non family members and non relatives will create a rebuttable presumption that a corporate or partnership debtor is not engaged in farming. Such arrangement with family members or relatives will create a rebuttable presumрtion that the debtor is engaged in farming.
B. Sale of Farm Machinery
Income received from the sale of farm machinery will be farm income in the case of an individual or individual and spouse unless the debtors buy, sell or trade machinery in a business fashion or unless the sale entails all the machinery and the debtors do not intend to lease or to borrow machinery from another available source.
A total sale will suggest that a corporate or partnership debtor is not engaged in farming. A partial sale will normally be of little probative value.
C. Wages, Fees, Payments
Wages, fees or payments that result from a farming activity and relate to the farming operation will usually be farm income in the case of an individual or individual and spouse. “Farming activity” will be liberally construed but must somehow relate to the debtor’s farming operation, not the farming operation of others. An individuаl debtor “engaged in a farming operation” of a family related farm corporation or partnership may claim wages from such entity as farm income absent a showing of abuse of Congressional intent.
D.Income Tax Returns
Declarations made on income tax returns are not determinative of whether a debtor is a farmer for purposes of Chapter 12. However, the court does recognize that principlеs of tax law may be helpful in analyzing issues relating to the term “gross income” as used in section 101(17).
Applying the relevant guidelines to the present ease, there is no question that the income received from leasing the land is income related to farming since the land was leased on a crop share basis. Even under the restrictive risk analysis approach by the majority in Armstrong, income received from this type оf lease arrangement would be deemed income received from a farming operation. Designating the rental income as farm income means the 50% requirement of section 101(17)(A) is met.
The percentage of the debtors’ income that qualifies as income arising from farming increases when one considers that Stephen’s wages fall within the ambit of section 101(20). There is no dispute that he received wages from the corporation for his farming activities — planting, cultivating, and harvesting crops. The employer, the corporation, consisted of the debtors' children. Hence, the debtor and the corporation are so intertwined as to be almost indistinguishable. Additionally, the debtors own the machinery used to farm the land.
CONCLUSION AND ORDER
WHEREFORE, based upon the foregoing analysis, more than 50% of the debtors’ income arises from a farming оperation.
THEREFORE, the motions to dismiss are denied.
Notes
. Prior to passage of Chapter 12, the definition of "farming operation” was contained in section 101(18). Now paragraphs (17) through (49) have been redesignated as paragraphs (19) through (51) respectively. Bankruptcy Judges, United States Trustees and Farmer Bankruptcy Act of 1986, Pub.L. No. 99-554, section 251, 1986, U.S. CODE CONG. & ADMIN.NEWS (pamphlet 10A). All references to section 101 in this order reflect these changes.
. 11 U.S.C. section 101(19) defines a farmer as a "person that received more than 80 percent of such person’s gross income during the taxable year of such person immediately preceding the taxable year of such person during which the case under this title concerning such person was commenced from a farming operation owned or operated by such person”. This provision construed in tandem with section 101(20) has proven critical in a section 303(a) case (prohibits the commencement of involuntary Chapter 7 or Chapter 11 cases against farmers).
. 11 U.S.C. section 101(17)(B) sets forth the requirements a corporation or a partnership must meet in qualifying for Chapter 12 relief. There is no income test but more than 80% of the value of the assets of the debtor must be related to the farming operation and family members or relatives must conduct the farming operation.