Klinefelter: By the Numbers

By Danny Klinefelter
DTN Farm Business Adviser

I attended a meeting a few weeks ago where there was a roundtable discussion on helping young and beginning farmers get started. One of the main things discussed was that with the capital intensity of agriculture, it doesn’t make sense to help someone start out as a stand-alone operation. The best bet would be to help young farmers get started with an established farmer whether it was a child with a parent or an unrelated party with a farmer without a successor.

We discussed several scenarios. (1) Someone who started out with a non-farm job and had managed to buy some land, but not enough for it to support them; (2) The situation where a young man, his wife or both had inherited land, but, not enough to farm full-time; (3) Where the young person had a strong desire to farm, but who owned no land.

In all three instances, their best option would be to enter into a collaborative arrangement with an established farmer who was willing to and interested in working with someone just starting out. This is essentially what the FarmLink program in several states works on to match up parties with similar interests. Landowners without heirs could also structure a deal on their own: One landless farm operator I know started as a farm manager out of college a decade ago working for two elderly landowners; he’s now buying out their widows and farming 10,000 acres.

One of the options brought up was to create an operating entity separate from the land-owning entities. The young farmer would initially go to work for the operating entity as an employee. After working for a pre-determined time necessary to prove themselves and the compatibility of the two parties, the young person would be able to start buying into the operating entity on a fractional basis at less cost than they could buy into the full operation for the established farmer. The young person could also rent any land they owned to the operating entity. Depending on the arrangement, the young farmer could rent land on their own and have it custom farmed by the operating entity or simply work to build the size and profitability of the operating entity, which they would share in.

As another option, they could start buying land using an FSA beginning farmer loan which would provide them a lower interest rate and a longer repayment period better matched to their ability to service the debt. Some of these loans also provide them options to pay interest only in poor years. The Farm Service Agency and some Farm Credit Associations also offer lower interest rates with direct or guaranteed operating loans to beginning farmers. These would be more feasible if they beginning farmer could use the equipment owned by the operating entity where they didn’t have to bear the burden needed to finance a full line of equipment.

In these cases, they could use their earnings off their own land and/or the profit-sharing arrangement to buy additional share of the operating entity.

At the time the established farmer decided to retire or cut back, he could then sell the remaining portion of the operating entity on an installment loan or use a financial lease to spread out the repayment period with a predetermined buy-out at the end of the lease. This would reduce the tax consequences to the established operator and make the purchase more workable for the young farmer. At that time, the established farmer could also continue to lease his land to the operating entity to preserve his ownership while maintaining a land base necessary to make the situation workable for the younger producer. Since most farmers often don’t like to quit totally, they could convert to extremely well qualified part-time employees of the operating entity, working fewer hours year round or full-time during planting and harvest with longer periods of time away from the business.

The success of these arrangements usually depends upon the arrangement getting started soon enough to give the beginning farmer time to building equity and to learn under the mentorship of an established farmer.

Because of the uncertainties involved, it is essential to have a buy-sell arrangement and an operating agreement between the two parties, for the established farmer to have a well-designed estate plan that included the arrangement with the beginning farmer and the establishment of a leasing arrangement to allow the younger farmer time to adjust if his partner died unexpectedly or his heirs decided to sell the land. It could also provide the younger farmer with a right of first refusal on all or a designated portion of the land if it were to sell. A first-to-die life insurance policy purchased by the operating entity could also provide liquidity in the event of a premature death of either party as the result of natural causes or an accident.

EDITOR’S NOTE: Danny Klinefelter is a professor and extension economist with Texas AgriLIFE Extension and Texas A&M University where he teaches a beginning farmer program. He is also the founder of a mid-career management course for executive farmers called TEPAP. Hear Klinefelter and other finance experts coach farm beginners at a special DTN University course in Chicago Dec. 7, "Risk Management for Rookies." Go to www.dtnagsummit for details.

(SK)