Buyout by farm employee can be a win-win

Buyout by farm employee can be a win-win

Highlights

  • Transitioning the farm to an employee may be an option for farmers who have no one to take over
  • New farmers assuming primary responsibility gradually can make farming more affordable and prove to their lenders that they are capable
  • Transitioning helps to ease the young farmer into operating a farm and the ease farm owner into retirement.

In this second of our fictional case studies with BDO Canada, we take a look at a beef feedlot farming couple, Duncan and Irene, who are nearing the end of their farming careers and considering options. Check out the first article in this series Good farm succession plans allow for change.

The Setup

Duncan and Irene could just sell it all … the livestock, equipment and the land. After all, they had no children to pass the farm to. Both in their mid-60s and in excellent health, they still enjoyed their work, but it was time to consider a life after raising beef cattle. Although selling out would be the simplest approach, they worried about such an abrupt change to their lifestyle after farming for over 40 years. They also had a young employee, Adam, who wanted desperately to buy into the business and build on Duncan and Irene’s vision.

“For Duncan, it was never about building the farm for the next generation, because there were no children.”

Adam was not from a farm and just went along with some school buddies in joining the 4-H beef club when he was a youngster. It was fate – from the first moment, Adam was hooked. Duncan heard about how keen the kid was and hired him to help on the farm after school and in the summers. Aside from a two-year hiatus to attend ag college, Adam never left. Now a young man in his mid-20s, he dreams of having his own farm. As he took on more and more responsibility, he began to think maybe there was a way to gradually buy into Duncan and Irene’s operation through sweat equity.

For Duncan, it was never about building the farm for the next generation, because there were no children. Two neighbours were already showing interest in buying him out, but that didn’t sit right with Duncan and Irene. Duncan knew how passionate Adam was about farming and he had been a very positive and energized employee for the past 10 years. He had come a long way, learning how Duncan ran things and bringing his own ideas to the table as he learned the ropes. Duncan also knew that if he sold to a neighbour or stranger, his farming career would end overnight.

The time was right to sit down and talk. 

The wrench

Adam had saved some money. However, he was in no position to buy or borrow all the capital required to purchase the 400-acre operation as well as the livestock and equipment. He was also engaged to be married to Jenna, who had just started her nursing career at the local hospital.

For Duncan and Irene, it was time to be free of daily chores and the physical tasks that may become difficult as they age. The farm had been an all-consuming endeavour for them and, although they loved it, they talked about being able to travel and explore other interests before they were too old.

So how to set up an arrangement that respected the value of what Duncan and Irene had built that’s also structured to work within Adam’s financial realities?

Sharing responsibilities

Both couples met with their accountants, lawyers and financial planners. A plan started to emerge that would see the young couple acquire the operation over time, starting with the livestock and equipment and eventually including the real estate.

To minimize the income tax implications, Duncan and Irene would downsize from their current 500-head feedlot. Next fall, they would purchase only 300 head and Adam would purchase the other 200. Adam would assume responsibility for the costs to raise Duncan’s cattle and bill Duncan monthly for his share of feed, vet and other costs.

In exchange for his cattle being housed in Duncan and Irene’s facility, Adam would assume primary responsibility for the care of the livestock, with Duncan assisting only when needed. After three years, Adam would own all the cattle. Adam and Jenna’s lender was in favour of this arrangement and approved an operating loan that would be increased over time once they had proven their ability. Jenna’s off-farm income would provide for their living expenses while they saved the profits from the cattle to reinvest in a larger herd each fall.

During this phase-in period, Duncan and Irene would retain ownership of the land and equipment. Adam would rent 250 acres from them for feed, and Duncan and Irene would continue to crop the other 150 acres, with Adam’s assistance.

During this transition period, both parties would have time to assess the situation. Adam and Jenna would have a chance to confirm their desire to commit to farming. Duncan and Irene would continue to pay down the debt outstanding from the recent purchase of a 100-acre parcel, and begin plans to build a new home on it.

If all proceeded as planned, Adam and Jenna would purchase 300 acres, including the barns and house, and rent the remaining 100 acres. Their lender was prepared to advance 50 per cent of the purchase price, and Duncan and Irene would take back a mortgage for the remainder. 

The lesson

Transitioning the farm to Adam and Jenna forgoes the lump sum payout that Duncan and Irene would receive if they simply sold everything. But the transition plan would allow them to build a new home, pay off any remaining debt and have enough money coming in initially to start enjoying retirement. Deferring payments for the land over time generates some tax advantages and the ongoing loan payments would provide a steady source of income in the coming years.

For Adam and Jenna, the opportunity to buy into the livestock first and equipment and real estate later gave them time to prove to their lender, and themselves, that this was a viable option. 

A farm transfer is an exciting time in any farmer’s career. If you’re looking to build or expand your operation or transfer farm assets to the next generation, the FCC Transition Loan and our team of experts can make the process go smoothly.

From an AgriSuccess article (June 2017)

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