Whether or not cheap agricultural credit is a thing of the past for 2006 depends on your perspective. Historically, interest rates are expected to remain low. But if you compare the outlook with bargains of the last couple of years, you may be disappointed. Finance experts say the answer may be to find a credible lender willing to help weigh the risks in a rising interest rate environment, and to consider locking in fixed-rate financing.
“Being financed with variable rates worked well for producers for most of the 1990s and so far this decade,” says John Blanchfield, director of the Center for Agricultural and Rural Banking, American Bankers Association (ABA), Washington, D.C. “But now is the time for farmers and ranchers to look at fixed-rate financing, especially for real estate debt.”
Craig Infanger, University of Kentucky agricultural economist, agrees that the general era of historic low interest rates is over for now. “Increasing interest rates and higher input costs may put the squeeze on net income in 2006 that otherwise looks to remain strong,” he says. “With a higher cost of borrowing and generous government payments potentially coming to an end with a new farm bill, farmers must prepare to manage the changes.”
Farmers considering real estate purchases definitely need to monitor interest rates, adds Colby Blair, Farm Credit Services of Mid-America financial services officer, Shelbyville, KY. But, he stresses, “Interest rates are not going up to the extent people thought they would and not at the pace expected. Short-term rates have been rising more rapidly than long-term rates. As such, fixed rates may offer more of a bonus than a few years ago because the spread between short- and long-term rates is minimal.”
Neil Olsen, executive vice president, Farm Credit Services of America, Omaha, NE, also encourages producers to see the glass as half full. Credit availability is very high, and he says more lending capacity exists than demand for loans. “That's good news for customers. The outlook is still favorable with fixed rates of 6-7%,” he says. “Our business plan outlook includes one or two more prime rate moves higher in 2006, and then we believe it will level out. We don't see any eminent declines in interest rates.”
Olsen reminds producers that even operating loan rates can be fixed for a year for those worried about lines of credit tied to movements in the prime rate. He also advises producers to ask lenders about any special rates for operating or long-term loans.
ABA joined forces with the Federal Agricultural Mortgage Corporation (Farmer Mac) in 2005 to make more fixed-rate real estate financing available to farmers and ranchers.
“With our new alliance, ABA member banks get improved access, preferred pricing and special assistance in preparing loans for Farmer Mac to purchase,” says Blanchfield. “The benefit to producers is that they'll get fixed-rate financing (up to 15 years) from their local bank at very competitive rates with no prepayment penalty.”
Blanchfield explains that local banks originate the loans and then sell them into the secondary market. The banks continue to service the loans in most cases so producers maintain relationships with their bankers. Funds from loan sales are returned to originating banks, so funds are available for additional loans.
“Since November 2005, we've had more than 60 inquiries from banks about the program, so we know it's a workable option,” he says. “Producers need to meet with lenders before they get busy this spring and do a financial checkup. With low commodity prices, producers need to be prepared to adjust financing and discuss fixed-rate options.”
Producers should also be prepared to do their homework on lenders. “A wide range of folks want to lend money in agriculture, and I get concerned when farmers split credit among too many sources,” says Blanchfield. “Offers of 0% interest are attractive and can work if they are managed well. But farmers should keep their credit bundled with no more than two creditors, or timing and payback schedules can be issues.”
Blair also cautions producers to only compare “apples to apples” when exploring loan options — don't compare rates on interest-only loans with fully amortized rates. “Also, ask yourself if you are shopping rates because credit is cheap or because you legitimately need to expand your operation. Ask your lender for help,” he says. “I also caution customers to avoid interest-only loans. At the end of the term, you haven't paid any principal, and you are solely relying on appreciation for earnings. It can be risky.”
9 Ways To Manage For Interest Rate Rises
ABA's Center for Agricultural and Rural Banking recommends managing interest rate risk by making adjustments to personal and business finances:
Plan for increasing interest rates. With rising costs and shrinking margins, have a budget and the discipline to adhere to it. Interest is only one of your variable costs.
Eliminate debt. Nothing reduces interest rate exposure like paying off debt. Look for opportunities to reduce debt by selling non-productive or non-essential assets.
Examine how your debt is structured. If you have an abundance of short-term, non-real estate secured debt, chances are the interest rate on the loans could rise. Because interest rates have been low for so long, you may need to review your loan agreements.
- Beware of Internet mortgage scams. If you receive unsolicited e-mails with unbelievable refinancing rates, unbelievable sums of money and immediate approval, beware. Many of these e-mails are designed to steal your identity.
Carefully manage quick credit. Credit cards and other quick credit sources are essential business tools. But convenience comes at a cost, and this is not designed as permanent working capital. Don't overlook prompt payment discounts offered.
Consider fixed-rate financing. Opportunities exist to secure fixed-rate financing, including a real estate secured mortgage that locks in your rate for five or more years.
If it seems too good to be true, it likely is. Be suspicious of companies and/or individuals that promise lower interest rates or better loan terms from lenders for an upfront fee. Don't pay for services your local banker provides for free.
Weigh additional fees carefully. You shouldn't have to pay additional fees to get the financing package you want. Some lenders require you buy stock or pay fees before you can borrow money from them. Make sure real, measurable benefits are attached to any requirements before you open your wallet.
Meet with your banker. Work with your banker to secure your financial future through a wide range of products that can help you weather an interest rate storm. Your banker can review your farm finances and make recommendations.