Our music teacher in elementary was wired differently than most. Her name was Mrs. Frakes and she had more energy than the entire class combined.
One of our activities was to play musical chairs. In musical chairs, there is one less chair in a circle than there are participants.
Our teacher would play music and when the music stopped, the goal was to sit down in the closest chair.
When the music stopped, one student would be without a chair to sit in and eliminated from the game.
Each round, chairs are reduced until there is only one chair and two students. After that round, the game was over and the student sitting in the final chair is the “winner”.
As we got older and more competitive, the game was eliminated from the curriculum.
One thousand chairs
I thought of this game as I sat in a convention hall in Des Moines with over 1,000 chairs full of participants. The expo featured fabulous speakers and breakout sessions about land ownership and management.
At one point in the day, I looked across the crowd sitting in all those chairs and could not help but think to myself, what it would be like if we played musical chairs in this crowd and the prize for the winner was farmland.
The farmer has something that the rest of the world wants. The world does not want unpredictable weather, uncertain markets or hard work. They do not want outrageous input costs, expensive technology or a difficult labor market. They want the land.
When the music stops, if you do not have a well thought-out plan for the transition of your family land, someone is going to take it from you.
As we listened to the final speaker for the day, my phone blew up with tweets and texts about a group of athletes, led by Cincinnati Bengals quarterback Joe Burrow, purchasing 104 acres of Iowa farmland for “roughly $5 million.”
Those figures would amount to nearly $50,000 per acre. Everything we see on social media is true. Right? By the report, I assume that it was the first of multiple purchases that may accumulate to $5 million.
The point is that people outside of our rural communities want what you have and they want it like an eight-year-old wants that chair to sit in when the music stops.
On my way home from Des Moines, a long-time client who had previously gone through the planning process with our office wanted to review the terms of their farm transition plan for culpability.
He was concerned his current plan would not cash flow for his family to keep the land when his music stopped.
They currently have revocable trusts designed to avoid the probate process. They have a marital trust at the first death designed to defer estate tax, get a second basis step up at the second death and to protect their principal asset (land) from future potential creditors of the surviving spouse (nursing home, probate or second marriage).
They already have two separate land LLC’s for land management. One LLC owns the home farm and buildings that is to go to their farming son.
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The second LLC owns the rest of their land and is to go to all of their children equally with rules for lease and purchase to keep the land in the family to farm and own (until there is no family member who wants to farm or own the land).
We call this the “boomerang plan” because the land ownership, management and stewardship always “comes back” to the family before it goes to the open market.
They have a provision in the trusts that their operating partnership that includes machinery, grain and livestock is to go to their farming son (with any debt associated with the partnership).
Some would say that they have the perfect plan. As good as their plan is, there are two areas for them to update:
A review of the value of operating assets that will go to their son (after debt) and re-confirm that this meets their definition of fair for all the children.
For some families, it does not matter what the operating assets are valued at, they need to go to the farming heir without cost.
For others, the operating assets at death are appraised and a cash payment from the farming heir will go to others who inherit their respective portion.
The second issue to review is the terms of the family land LLC that is to go to all four of their children.
The LLC would require an 80% vote to change in the future effectively protecting all four of their children (25% each) and their options in the LLC for the family to lease the land at the Iowa State Extension average.
More families are using a flex lease formula for family land rent rates. This can reduce the tension of a lower price for the base rental rate if there is a process in place for a bonus in a year that would warrant a bonus while still making a profit for the farm heir.
This LLC will also protect the family’s option to buy the LLC units if sold in the future. If a buyout happened currently, their LLC calls for a 30% discount off the land appraisal with a 15% down payment to be paid over a 20-year contract.
This would seem to be very favorable for the buyer. However if land value appraisals were at $15,000 per acre as an example, a 30% discount would bring the family value down to $10,500/acre.
A 15% down payment would require more than $1,500 per acre as a cash down payment. Financing $9,000 per acre on 20-year contract at the current 4% AFR interest rate would require an annual payment of $650 an acre for 20 years.
These numbers will not cash flow for the buyer without subsidization. This illustrates how far upside down we are in agriculture that a 30% discounted price at a low interest rate is still not affordable.
They are considering valuing their land at special use valuation instead for a family buyout. This is a formula of five-year average rent income minus property tax, divided by interest rate. The formula is set up under our government’s section 2032a for valuing family farmland to stay in the family (based on cash flow).
Special Use Value (approximately $7,000 per acre) would require a payment of approximately $400 an acre if amortized over 30 years.
The next generation in your family will either be a buyer, a holder or a seller of their inherited land.
We need to position those in the family who are holders and buyers to have an opportunity without impossible competition from a group of professional athletes who can price them out of the marketplace.
Now more than ever, we need to review your current plan for cash flow culpability.
My hope is that when your music stops, there will be plenty of chairs for your family to sit at the land ownership table without outsiders pulling their chair out from under them.
For 30 years, Steve Bohr has been a partner in the farm continuation firm of Farm Financial Strategies, Inc. For additional information on farm continuation issues or if you have a question please contact Steve via email at Bohr@FarmEstate.com or by phone at 1-800-375-4180.