This time of year, everyone is shopping and looking for a good deal. For some people that might be Christmas shopping. Media advertisements everywhere are showing discounted prices knowing how people are attracted to the bargains. Sometimes I am guilty of the same thing but often when I see discounts, I shake my head knowing that just because there’s a discount doesn’t mean you need it or that it’s a good deal.
Farmers might be shopping too. I see pages full of land auctions and land for sale in every farm magazine. I also know of many farmers attempting to trade for equipment with a lot of uncertainty regarding availability. There’s no doubt, this time of year money is in the air and people are looking for a good deal.
One of my concerns is how farm families address inflation in their planning as land values have gone crazy again. It is time to review your plan if you have not set prices. I have seen countless farm estate plans with legal documents that indicate a 10%, 20% or 30% land discount for a farming heir to buy out non-farming heirs.
While this might sound like a good thing, is the discount still doing what it’s supposed to be doing? Let’s consider an example with all loan payments being stretched out to 30 years at 4%. Maybe when you did your estate plan your farm heir was supposed to get a 20% discount on a purchase at your death. At the time fair market value of the ground was $5,000/acre. The 20% discount at that point would have chiseled off $1,000/acre and got the buying price to $4,000/acre. That would get a loan payment on that to $240 per acre, which at that time may have been a little high but at least “in the ball-park” keeping in mind that property taxes would be on top of that ranging maybe from $20 to $100 dollars per acre depending on the state you are in.
Then fast forward a few years and ground became worth $10,000/acre and the 20% discount was now worth $2,000/acre and the buyout price would be $8,000/acre. Then the loan cost per acre would be $480/acre plus property tax. Thirty years of that $480 payment would have been a little salty for most farms just a year or two ago. Also keep in mind that for a farm transition we are not usually just talking about one parcel but your whole farm.
Now fast forward to where we are today with $15,000/acre land sales. Now your discount is worth a whopping $3,000/acre. That sounds big, especially since that could be more than you paid for the ground in the first place. That gets your farm heir’s buyout “down to” $12,000/acre and their land payment to $720/acre. Hmm, how does that sound now? I’m assuming you would concur that would not cash flow and not be good, especially for the next 30 years.
I have seen all too many farm families over the years with plans, before they did the math, willing to just follow someone’s advice to put a 20% discount on their land thinking they were being generous. Today, that formula would be a train wreck. Just like when you do your Christmas shopping the reality sets in that regardless of the discount, you still have to have to pay for the balance, even if the discount sounds good.
To me, these aren’t problems for farm families that should be fixed “whenever you get around to it.” This is like shopping the day before Christmas knowing you should get that taken care of right now.
Myron Friesen is the co-owner of Farm Financial Strategies Inc. in Osage, Iowa. He can be contacted at 866-524-3636 or firstname.lastname@example.org.