By TERESA OPHEIM
Check with many farmers, and you will find both farming and non-farming heirs. Perhaps more than any other issue, how to treat these heirs at farm transfer time is the most challenging. What is fair?
Dividing the farming business financially equally among farming and non-farming heirs may not be fair to the farming offspring who have invested a lot of labor, time and resources to the business, points out Nebraska farm transfer specialist David Goeller. It also may mean the farming offspring won’t be able to make a living operating the family farm once assets are divided among the heirs, especially at the land prices we have now.
“Treating unequals equally, may be the most unfair thing you can do,” says Goeller. “The challenge is to make sure contributions by heirs are fairly compensated, either by wages, sweetheart arrangements or, finally, the estate plan.”
On the other hand, giving the farming child all farm assets might not be fair either.
“Take the case of a mother and father whose wealth is in diamonds, gold, art masterpieces, money or other assets not linked to a location,” farmland owner Helen Gunderson points out.
“They value their children’s growth into whole human beings following their unique passions and gifts. Wouldn’t the parents want to pass on their assets somewhat equally to all of the offspring? Why is it different for people who are focused on a place and farming it? Yes, I think there should be consideration given to the offspring who stay and farm. But just because they do so does not mean they should be seen as extra virtuous and receive all of the family assets.”
Who was asked to farm?
Further complicating these issues: Who was asked to stay and farm in the first place? Often, daughters were not asked to farm, even if they had the desire and inclination. Women have definitely shown they have that desire. At least 35% of the beginning farmers in Practical Farmers of Iowa’s network are female.
“Being a daughter, I was told the family farm couldn’t support me in addition to my brother, and that I should find another career. I didn’t leave willingly, I left out of necessity,” says one PFI member.
Various experts have used the idea of “sweat equity” to put a number to the farming child’s contribution to the farm business. Did the farming child actively contribute over the years, increasing the farm’s value? If so, by how much?
David Goeller has come up with an example, modified and included here.
Put a value on ‘sweat equity’
The farming offspring (Jo) joined the family business in 1990, when the value of the farm business was $600,000. Today’s net worth for the business is $1.5 million.
The parents decided that Jo had contributed a sizable amount of sweat equity to increase the farm business’s value (including adding a cow-calf herd, renting and farming additional land, etc.) since 1990. They valued that contribution at 50% of the farm business value’s increase since 1990.
The parents plan to divide the 1990 value of the farm business equally among their three children: $200,000; $200,000; $200,000.
The increase in the farm business value since 1990 is $900,000 ($1.5 million minus $600,000). They decided Jo was responsible for 50% of that increase ($450,000).
In the estate, Jo’s portion will be: $450,000 (sweat equity, increase in value since 1990) plus $200,000 (her portion of the 1990 value) plus $150,000 (one-third of parents’ portion of the increase in value since 1990) equals $800,000.
Jo’s sibling Jim will get: $200,000 (his portion of the 1990 value) plus $150,000 (one-third of parents’ portion of the increase in value since 1990) equals $350,000. Jo’s other sibling Jane will get $350,000, likewise.
“Each family situation will be different,” notes Goeller. “The next family may decide their successor had contributed to only 10% or maybe 80% or 90% of the growth. The question is how much has the ‘sweat equity’ contributed to the growth of the farm?”
Were they treated fairly?
Jerry Peckumn, who farms near Jefferson with his son, wonders if the siblings in this example would believe they were treated fairly. He also wants to know: Who owned the cows? By the time the parents were gone, who had paid for the machinery? How were expenses and income split?
“In our family’s situation, Mom and Dad should have had a written agreement with my brother, Bill, who slowly took over the family farm,” says Jerry. “It would have been clear what his contribution was and what each expected. With the passing of my mom, it has worked out fine in our family because all the siblings care about each other. But because so little was in writing, Bill was at great risk of losing the opportunity to farm if the siblings had started to fight. I believe it’s very important to talk about estate plans when you are in good health and with time for heirs to adjust and understand your intentions.”
New Hampton farmer Tom Frantzen agrees that making arrangements after the fact can be a problem. “When the sibling joined the operation, the entire family should have been informed on the plan for the sweat equity to be a part of the long-term strategy. This one turned out well since the valuation rose, but it could have been different and that risk is the trade for the equity.”
In the Frantzens’ estate planning, their daughters will receive a set guaranteed amount and their son accepts the risk that the value of the feed business he will inherit may rise or fall. Frantzen says it’s a good feeling that all three offspring are aware of and at peace with the estate plan their parents have set up.
Farm real estate (land and structures) is the major asset on the farm sector balance sheet, accounting for 84% of the total value of U.S. farm assets in 2009, according to USDA’s Economic Research Service. With real estate being this dominant, one of the following goals may need to trump the others when you have farming and nonfarming heirs:
• Give all heirs an inheritance of equal economic value.
• Provide land for farming heir to farm.
• Keep the farmland together.
A question for you: Which of these goals is most important?
Opheim is executive director of Practical Farmers of Iowa. Contact her at Teresa@practicalfarmers.org.
Here are some methods used to transfer assets to farming and nonfarming heirs.
• Buy/sell agreements with farming heirs. Parents commit to exact sale prices, terms and timing of payments on farm properties. The agreements provide the farm heirs a guarantee of property purchase at an acceptable pace and price, and are binding on nonfarm heirs.
• Life insurance. Parents purchase life insurance on themselves and list the off-farm heirs as the beneficiaries and give farm heirs the farm assets.
• A testamentary trust (through a complex will or revocable living trust). This trust states the farm heirs have the right to purchase farm assets from the trust at predetermined prices, terms and conditions over a number of years. This guarantees the non-farm heirs their percentage of the estate over time.
• The will. Nonfarm heirs may be given an inheritance of cash, nonfarm assets or remote land holdings. Farm assets are transferred to the farming heirs. If the farming heirs or any heir has received earlier compensation, the will may spell out that they now get less than other heirs.
Source: Gary Hachfeld, David Bau and Robert Holcomb, “Treatment of Heirs in the Transfer Process,” University of Minnesota Extension
Resources to check out
For more information on transferring the farm to the next generation, go online to these sites:
• “Putting a Value on Sweat Equity,” by David Goeller, University of Nebraska-Lincoln, swroc.cfans.umn.edu/prod/groups/cfans/@pub/@cfans/@swroc/documents/asset/cfans_asset_366292.pdf
• “Treatment of Heirs in the Transfer Process,” by Gary Hachfeld, David Bau and Robert Holcomb, University of Minnesota Extension, extension.umn.edu/agriculture/business/farm-transfer-estate-planning/docs/treatment-of-heirs-2014.pdf
• “Farm Transition Issues: Farming Children and Non-Farming Children,” Kate Kohorst, attorney at Harlan, Iowa, practicalfarmers.org/farm-transitions
This article published in the May, 2015 edition of WALLACES FARMER.
All rights reserved. Copyright Farm Progress Cos. 2015.