This week on Table Talk we are covering the theme of Farm Succession and Transition Planning
The three-part series on succession planning includes:
- Farm Succession Planning: An introduction and useful guides
- Do’s and Don’ts: What do the succession planning experts advise?
- Learning from Others: Succession Planning Case Studies
We often hear of succession planning going wrong, so today we wanted to share with you some successful succession case studies to close out the week.
What if one child had to buy out the other children?
In this case study by Geoff Tually, a property was left to three children and the son was planning to buy out his siblings, which meant that he would go into significant debt. The solution was to:
- Brother and sisters think of growing the business as opposed to the sisters getting a windfall and the son going into debt with the possibility that the viability of the farm business be stressed to breaking point.
- Agreement be formalised so that they reviewed their collective goals at specific time periods and provided a mechanism that a partner could leave without unduly affecting the farm business viability.
- The siblings thought this was an excellent way to go and that no one else had suggested this option to them.
How can the next generation earn ownership of the farm through ‘sweat equity’?
An article by CLA Connect article introduces the concept of profit interest as a planning tool, whereby it lets your children earn ownership of the farm through their sweat equity through a share in the business profits and losses. In this case:
- Frank is Nathan’s and Eric’s father.
- When Nathan and Eric decide to return to the farm and help their dad, Frank gives each son a 20 percent profit interest.
- The farm is valued at $1,200,000 and profits are historical $130,000 per year (assume 3 percent growth in profits per year to keep up with inflation).
- Frank takes distributions, but Nathan and Eric only take out enough to cover their tax liability.
- The children will take on a gradually increasing role in the farm.
- However, the children have a choice each year: They can take a distribution of the profits or opt to keep them in the farm partnership.
- If they opt for a distribution, their ownership percentage does not change (they are pulling out the earned equity).
- If they opt to keep the profits in the farm partnership, they effectively contribute money that increases their ownership percentage.
What if the parents want to exit the business as soon as possible?
In this Farming Ahead case study, the parents want to exit the business, ensure they have a sound retirement income and have a fair plan for their children. The results were as follows:
- Business & Land value- $2.3 m. The agreed transfer price to James and Claire is set @50% – $1.150 m
- Plant & equipment – $300,000
- Stock – $300,000
- Less debt position ($140,000)
- Total transfer price – $1,610,000
- The parents are prepared to vendor finance the transaction with an initial down-payment of 10% and balance of $75,000/year for 20 years.
- Land help by family trust
- Operations through separate entity
- Joseph to become beneficiary and member of a self-managed fund
- Parents to make non-deductible contributions of $10,000 for 15 years
- Nominated for binding death benefit of $150,000
- $5,000/year into education bond for 2 children for 10 years
What if no one wants to return to the farm?
In this case, none of the children were interested in returning. the family made the following decisions:
- Mother will retire from nursing at 60. Father cannot continue to farm without permanent help. The business is not profitable enough to employ full time labour, and continue to partially support parents.
- It was decided to take up the lease offer made by neighbouring family.
- All children will be treated equally parents to make an appointment with their accountant investigating the implications of selling stock and plant, taxation implications of leasing agreement, and potential to establish self managed super fund with proceeds from stock and plant sale
- To undertake a five year lease option in response to offer
- The parents do not wish to move away from the farm at this point
- The family will reconvene at the end of the 5 year lease option
What if the parents are wanting to retire and move off farm? In this GRDC case:
- son is owed by the partnership for half time wages. He will receive block 2 as payment.
- block 1 is to be transferred to the son with a sunset clause: if he sells in the first year each daughter will receive $500,000; in the second year the daughters will receive $450,000 each; in the third year $400,000 etc. By the eleventh year nothing will be paid to the daughters if the son sells the land. An exception to the clause will be if the son becomes disabled or deceased.
- block 3 is to be purchased by the son and daughter-in-law for $300,000 (borrowed), $200,000 to the parents, and $50,000 to each daughter
- the son to join the trading partnership at 25% from the beginning of the financial year, and will take over 100% of the partnership in following year
- daughters 1 and 2 will receive their parents’ investments as inheritance
- parents to purchase a town property
- investigate rolling parents’ investment portfolio into superannuation with their financial planner in order to fund their living expenses.
What if there is conflict increasing between those working on farm and the succession planning process has halted?
In this case, the structure was a family trust, trading as a company (as trustee for the trust). All family members were beneficiaries. Equality was not possible and conflict was increasing. The family did the following:
- To give the farming child 50%, others 25% each
- To transfer blocks 1 and 4 (secured by second mortgage to parents – amount agreed) to son 3
- In the event of land sale by son 3, a loan will be used to establish equity to other sons
- Block 3 also to be transferred to son 3 with a mortgage of two thirds the value to be paid within an agreed time to parents at agreed interest rates
- Block 2 remain with parents and leased to son 3 at 5% of the market value. This land to be distributed in the parents’ wills to son 1 and 2 with all other assets
- To guarantee full market valuation to ensure the best cost base for CGT moving forward
- Son 3 to buy plant and equipment from parents interest free loan to be forgiven in the will.
What if the poor working relationship between the generations?
In this case, there was estrangement and conflict and this was how they resolved the case:
- All agreed to separate the farming operation, splitting the stock and plant equally between the two sons, accepting that they will lose the advantage of scale.
- The amount of the debt owed to son 1 for unpaid wages was agreed upon.
- The land portions were decided: son 1 receives blocks 1 and 2, son 2 receives blocks 3 and 4, block 2 (understanding that it may be sold by its new owner), block 5 to remain in parent’s ownership to be distributed in wills, son 1 is to retain his current home in the town,investment land is to be developed – corner block for son 2, agreed inequities in division of blocks would be offset by debt, water licences remain with the land.
- Sons 1 and 2 to pay an annual figure to the parents: the amount was agreed and payment will be made in cash or in-kind.
- Daughters assistance to buy real estate and to inherit in the wills.
What about when land values are high?
The GRDC presents a case study concerning Dane Sommerville and his farming who farm on land worth $7000/ha for good cropping ground. What did they do to overcome issues with expectations while maintaining the asset base? The report states:
- Dane and his wife Natalie applied to lease 1052ha as a stand-alone business to provide themselves with security, but they were unable to secure a bank loan to finance it.
- They searched for alternative sources of finance and found a private financial backer to support them and another couple who were interested in operating the business with them.
- Each partner established their own trust and each of these was a beneficiary of the joint business trust.
What if you don’t come from a traditional farming background?
- Transfer to an employee: Gildas Guiavarch used to grow vegetables in the French town of Concarneau. At 48, he wanted to quit this physically demanding business. He transferred his farm to a long time employee, Gwénaëlle Le Sant.
- Succession financed by a land co-op: Damien and his wife Danielle Jacquemart manage 30 hectares of dairy cattle and sell dairy and meat directly from the farm. Brother David Jacquemart
keeps cattle, bakes and sells bread plus vegetables and meat. Both brothers are in their fifties. They are buying their rented land with landfund Terre-en-vue before transfer, which uses citizen investment. Citizen funding through Terre-envue makes the farm transferable, which would have been much harder with a bank loan plus interest to buy the land.
These are just some family and context-specific examples.
Disclaimer: We note that there are many farming models at work in Australia and the inter-generational family farming model is just one of them. Although this series concentrates on the family farming model, there are still some important takeaways for all. Stayed tuned for later themes on alternative farming models and pathways into farming.