Farm Succession Is Tricky Business

On the surface, things have never been better in terms of farm succession. Wisconsin farmers collectively earned an estimated $2.4 billion in net farm income last year, which would set an all-time record. The value of farmland, and the demand for it, has rarely been higher and stronger. Healthy commodity prices have made it easier to run a farm profitably, and Wisconsin farmers are increasingly finding customers overseas. In Dane County alone, farming is a $3 billion annual economic driver.

With the possible exception of niche farmers who would like their successors to carry on the uniqueness of their operation, finding a willing buyer or successor is not particularly challenging. However, experts who have worked with farm families note that farm succession is trickier than other types of business succession, and even if farm families have not planned to transition, they might be inclined to jump the gun and avoid the tax and depreciation breaks that will expire by year's end if Congress does not act to extend them.

There are a number of different ways that farm ownership can be transferred, but beyond farmers positioning themselves with ample retirement income, the stickiest succession point is the treatment of non-farm children. "Farmers have a unique problem," said attorney Sverre Roang, a shareholder in Whyte Hirschboeck Dudek. "It's not terribly unique from that of other small businesses, but it is unique in the sense that all their wealth tends to be tied up in the [farm] land.

"With a small business, you could theoretically give your kids an equal share in the corporation. One of the kids actually runs it, but everyone takes part. That is harder to do with land. Farms are so tied to the land, it's difficult to work through that. That is a classic problem that was here five or 10 years ago, and it's going to be here 10 years from how. It probably will never go away."

Family affairs

Nathan Brinkman, president of Triumph Wealth Management, noted that land is an illiquid asset. When farmers are contemplating a generational transition or sale, they face variables that don't exist elsewhere. One is that normally their land has greatly appreciated over time, which means there are tax triggers that come into play for the parents. In addition, because the parents typically have owned the property and operations, children working in the business often don't make a lot of money. In most other types of businesses, owners have an operation (and perhaps some real estate) in which they can get their children involved early on, and have higher income potential than they would see in agriculture.

"So the business is typically dependent on the land, and yet the land is a tricky thing to pass on, just due to the tax consequences," Brinkman explained.

While each situation has its nuances, farm successions typically start with what's best for the parents, and then get into children involved in the business and children who are outside the business. That introduces a difficult fairness question about how to treat each set of children, and Brinkman advises farm parents to understand that it's never going to be fair and equal.

"I think parents place a lot of pressure on themselves just trying to make everything equal, and oftentimes the kids don't have that same expectation," Brinkman noted. "The kids understand that if their brother or sister stayed home to run the business, he or she is providing value to the business, but the parents often have a difficult time viewing it that way."

One problem that springs from this dilemma is that the parents often will take assets outside of the farm and give those to the children who are not involved in the farm, even though the heirs involved in the farm need that liquidity, Brinkman noted. So while the heirs generally are getting something illiquid (the land), they have to work with banks and therefore need the liquidity of those assets to maintain the debt service on loans and lines of credit and other operational requirements.

Farmer and farm journalist Pam Jahnke, also known as "The Fabulous Farm Babe," said one of most important considerations is that agriculture is an incredibly expensive business to get into. With high land values and the expense of farm equipment, trying to transition a relatively young person or couple into farming can be complicated.

"So usually what happens is they start small, so maybe they are coming back to farm and they might buy a few cows, and they just grow their way in," Jahnke said. "In a cash crop business, it can be more tricky."

Frank Friar, an economic development consultant for the Wisconsin Farm Center, a department of the Wisconsin Department of Agriculture Trade and Consumer Protection, has been working with farm families who are transitioning to the next generation in their own family. When the time is right to transition your assets, there are a lot of decisions to make: How to transition the land? Where will the assets go – family members or non-related parties? Should we sell or pass the land and assets on through wills or estates? With people living longer, will they have enough income to surpass inflation?

At the moment, tax laws are very favorable for making this transition, but that could change come Jan. 1, 2013, especially with the capital gains tax. "The people who have land for sale, if it's good, quality land, are seeing that land being a pretty hot item, and it doesn't stay on the market long," Friar said. "They are bringing some good prices, and the good part of that is the capital gains tax is maybe at an all-time low in our lifetimes. I don't know where it will go in the future but when people think it was 40% a few years ago, and now it's a maximum of 15%, it may be a good time to sell."

Friar looks at a best-case scenario. "If they are 65 years old now and live to be 95, do they have enough income to get them to 95 with a decent standard of living?" he asked. "Especially if they say we want to give some of this property to our sons and daughters and our sons-in-law and daughters-in-law because right now, when a married couple can gift $10 million in property, and there is no tax consequence, a lot of people are looking at that and saying, 'We want to utilize that tax break.'"

Transition game

Jahnke's family, which runs a 200-acre crop farm in Oconto County, has decided to establish a limited liability company in which her siblings have partnered with their parents. Six years ago, they began talking about how things will transition. "The way it happens is Mom and Dad live on the farm and own the land, and we cover the taxes for the farm and all operating costs," she explained. "I make the management decisions as far as cash crops, my sister (Michelle) is the bookkeeper, my brother [Darrell] does some of the labor, and Mom and Dad [Darrell and Beverly Jahnke] are the primary landowners.

"We also have a will that parcels out the farm in equal portions to us kids. I don't have any desire to take ownership of the land that is coming my way. We are keeping it together and farming it together."

The home where her parents live on the farm will be in her brother's name to keep it in the family name on that piece of ground. "A lot of it has to do with what commodity prices are going to be, and where our professional careers are at that particular stage," she said. "We don't anticipate ever breaking the farm up. We are running it as cash crop operators. We don't anticipate breaking up that partnership anytime soon."

Jahnke admits her situation is "pretty easy," but the planning requires family communication. "It's one of those deals where nobody likes to look at their mortality, and for my parents, it's not something that is high on their list of conversations. We make group decisions. We sit down and have quarterly meetings on the farm, just so that we know what is going on with crops and the labor situation and that stuff. We don't talk about, 'Hey, when are we going to get that land? We know what the will says. We know what the LLC allows us to do."

Elsewhere, Jahnke said the recession has convinced people to return to the family farm, and improving farm economics has enabled farm operations to welcome them back. "But how you do it is tricky," she noted. "Everybody wants health insurance. Everybody wants a vacation. You want a place to live. There are a lot of things that a farm, as a business, has to take into account.

"To have a son or daughter come back and farm, then you have to figure out how Mom and Dad are going to retire comfortably," she added. "That's not just a financial dollars and cents discussion. You have to decide when Dad is going to quit making decisions for the farm. When is he going to stop driving a tractor every spring? Maybe one year, you get half the cows. Maybe the next year, you are buying the other half of the herd. It could be a real gradual thing, and anything can break down at any point of the process."

 

Agrarian adventure

The farmers most likely to have a difficult time selling or transitioning their farms are niche farmers like John and Dorothy Priske, who run Fountain Prairie Inn & Farms in Fall River, Wis., about 32 miles northeast of Madison in Columbia County.
John and Dorothy, who are both 62, have begun to think about transitioning their farm, but its uniqueness, a blessing for them in operational terms, poses challenges for the transition. They have no children or other relatives to pass the farm to, so their preference is to retain the land and transition the business to someone else, especially someone who can maintain their unique operation and take it to another level.

"The challenge is to find that unique person that would like to do what we're doing, and even do a better job of it," he said. "They might be younger and have more ambition and have better ideas."

The Priskes maintain a beef herd of more than 450 head – they produce Scottish highland beef – on their 278-acre property, where they employ a grass-based farming system. In addition to accommodating a beef herd, the property includes a bed-and-breakfast.

They admittedly serve a niche, or specialty market. "We're not really a commercial farm," John explained. "We are more direct marketing, and we try to market as locally as possible, so finding markets overseas is not something we'd do. We are more small food, know-your-farmer, and we shorten the food chain to as close as possible to where it is produced."

They also are known for their ecological practices in the Aldo Leopold mold, and their farmer-as-conservationist ethic, which has garnered them several awards, is something they would like the next operator to embrace and build upon.

One reason why finding a suitable successor might be difficult is the multifaceted nature of the operation. The next operator will have to be well versed in production, marketing the beef and meeting the brand promise, and then finance and budgeting – not an easy blend of skills to find. Production alone entails grass management, veterinary health, nutrition, genetics, and everything else that goes with getting that beef large enough to be butchered.

The Priskes have established incubators on their property to allow young farmers to come and learn, but many young people don't seem to have the necessary commitment and work ethic. They will need to take the farm to higher levels that entail value-added things like using some of the beef for heat-and-eat products, perhaps by installing a commercial kitchen on the farm, and even engaging in on-farm beef processing, where they would not have to leave the property to do the butchering.

"What we are learning is that it's probably not going to be one person who can do what we do," he said. "It's just very challenging and it takes a lot of work and commitment. You just don't go home after an eight-hour day. You are almost married to this."

Priske said the transitional moment of truth is approaching not only because the couple is close to retirement age, but also because the farm is close to securing a conservation easement that would prohibit the property from being developed for another purpose. The easement would be held by a land trust out of Madison.

"That will allow us to pursue the transition a little bit more deliberately," he noted. "We have got to cross that next bridge because it's taken a lot of years to get to this point."

Understanding Food Inflation

When it comes to measuring inflation, families who put food on the table and gas in their car think of the government's measure of core inflation – which excludes food and energy – as Cleopatra, aka "The Queen of Denial."

How could these two necessities not be part of the core inflation rate? The stated reason is that food and energy are considered volatile outliers, often experiencing temporary price shocks that make them diverge from the overall inflationary trend.

That's little comfort to American consumers, especially with prominent executives like Walmart CEO Bill Simon bluntly predicting hyperinflation in food prices. Attorney Sverre Roang, shareholder with Whyte Hirschboeck Dudek, has tracked farm trends for years, and while he knows that predicting inflation is dangerous territory, he also knows that every indication points to higher food prices.

"I'm someone who, when the Walmart CEO says something, I listen because they control so much of the commercial marketplace that what he's saying is worth listening to," Roang said. "I can't imagine how prices don't go up when the cost of all the [farm] inputs are going up; there is no way they can't go up further."

Many trace the current trend to 2005, when renewed concern over America's dependence on foreign oil helped breathe new life into renewables like corn-based ethanol. Given that increased U.S. ethanol production has driven more demand for corn, economists worried about how that would affect the price of food. As it turns out, the impacts have been felt more abroad than in the U.S. – so far.

According to Roang, the most dramatic changes have come from China, which has one-fifth of the world's population and an increasingly westernized diet. The Chinese diet has shifted to more proteins (meat), which requires more grain to feed livestock. Roang notes this change has led to an unprecedented run in soybean and corn prices.

Since the U.S. uses a surprising amount of soybeans and corn in everything from oils to sweeteners, many believe the inflated commodities prices will last for several years.

"The difference between our country, and the reason we haven't felt it as much, is that we don't directly consume commodities as much," Roang explained. "We take a lot of our corn and feed it to cattle. We reprocess it into cereals and other products, so there are ways for food processors to manage the cost of the product as commodity prices go up and down.

"Contrast that to a country where one of the staple foods might be rice, and if rice shoots through the roof, your budget just got blown. They are completely at the whim of commodity prices. Or take Mexico last year, when there was a run-up on tortillas. It was directly due to the corn commodity prices.

"The big question is how much can it be managed before it hits our pocketbooks? Is there going to be a way for the food processors to mitigate the ultimate cost?"

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