“I had rather be on my farm than be emperor of the world.”
The growth and strength of our nation, with its vast geographic territory, is integrally connected to farming. Although the percentage of the population engaged in farming has shrunk dramatically since the nation’s early days, there are still two million farms in the United States. Unfortunately, the future of the family farm is in jeopardy. In 2017, between one-half and three-quarters of small farms (depending upon the type of farm) had an operating profit margin in the red zone, signifying a high risk of financial problems. In fact, for many small farming families, the majority of household income comes from off-farm sources such as wage income, non-farm business earnings, and dividends, and operators of small farms frequently report losses from farming.
What Can Be Done?
In light of the considerable challenges faced by family farms, particularly small ones, including high land prices, stiff regulatory requirements, rising equipment costs, and the unpredictability of weather, it is essential for farmers to implement business and estate planning strategies that will strengthen their likelihood of success over the long term. Farmers should carefully consider which type of business entity will facilitate not only the present success of their farm, but their future success as well. Their planning choices should also take into account the eventual transfer of the farm to the next generation. Family farms are more likely than other businesses to be passed down to succeeding generations, so the strategies implemented should consider not only the needs of the present generation, but also those of the generations that will follow.
When helping these types of clients, a few things estate planners should consider addressing are:
Identifying goals: The goals of the current generation of farm owners are likely to differ in some respects from those of the family members who will succeed them. In addition to ensuring the current viability of the farm, they are likely to be concerned about their future financial security. Members of the older generation, as they age, need to maintain sufficient income for their retirement, while scaling back and eventually eliminating their role in farm management. In addition, they want to ensure the continuation of the farm and the fair treatment of their heirs, including those who are unlikely to be involved in the farm business.
Mitigating tax liabilities: Tax liability is likely to be a major concern for the succeeding generation. Many heirs have been forced to sell their family farms in order to pay estate taxes, so it is vital to minimize the amount of estate taxes and obtain insurance policies with a payout sufficient to cover taxes that are due.
Transferring ownership and management of farm: Future heirs to the farm need to assume management responsibilities and increase their share of ownership. This could occur in stages, depending upon the individual circumstances and preferences of both generations. For example, there could initially be a transfer of management, and later, a transfer of assets. Alternatively, there could be incremental transfers of both management and ownership. The members of the younger generation who are interested in operating the farm will often also want to ensure that their decision-making authority is not impeded by non-farming heirs.
Planning for aging farm owners: Because family farms often have significant assets but lack liquidity, long-term care planning for aging farm owners is also important in ensuring farm preservation. Long-term care is a substantial expense that could be financially disastrous for a farming family, as it could force the sale of the farm or its assets. Planning for long-term care should be done well in advance. Under federal law, most transfers of assets made within five years of the date a Medicaid application is submitted will be disregarded, and those who transfer assets during that period may be penalized. Long-term care insurance, though expensive, is significantly less costly than a lengthy stay in a nursing facility and is a better solution than having to sell the family farm.
Rethinking choice of entity: Most farming businesses, regardless of size, are held as sole proprietorships. The benefit of a sole proprietorship is that there are few legal requirements. However, one of the main problems with a sole proprietorship is the lack of a legal distinction between personal and business assets. So, if a personal judgment is obtained against a farmer, a lien could be placed on the assets of the farm. Another important deficiency is that the sole proprietorship provides no mechanism for a smooth transfer of the farm to succeeding generations, resulting in probate administration following a farm owner’s death, which is both costly and time-consuming. As legal advisors to farmers, we should encourage them to consider other types of business entities and estate planning tools. A limited liability company (LLC) or a family limited partnership (FLP) can be formed to protect assets, reduce tax liability, and provide for an orderly transfer with minimal conflict between family members.
Upcoming Learning Opportunity
To learn more about this topic, consider participating in this summer's Farm and Ranch Income Tax, Estate and Business Planning Seminar hosted by Washburn University School of Law and sponsored by WealthCounsel. WealthCounsel founder and principal, Stan Miller, will be presenting "The Next Hundred Years: Will the Family Farm Survive? How Can We Help Make Sure It Does?"
The conference will take place on August 13th and 14th in Steamboat Springs, Colorado. If you cannot attend in person, the conference will also be webcast! For more information and to register, please visit: http://washburnlaw.edu/employers/cle/farmandranchtax.html.