Many states are growing new farms and farmers, according to preliminary reports from the latest USDA Agricultural census. Consumer support of local farmers continues to grow. Farmers markets, direct sales and agritourism help make farming a viable occupation in many regions.
In her recent webinar called “Starting a Farm,” Rachel Armstrong of farmcommons.org explained how to establish a new farm business. She covered legal issues of starting a new farm: buying land and equipment, leasing, forming a business, buying insurance and protecting the farm.
Armstrong’s goal is to help farmers build good relationships to ensure good communications. Formalizing business arrangements can help prevent misunderstandings.
Buying a Farm
A new or experienced farmer may purchase existing farm or a portion of its elements: land, buildings, equipment, assets, customer lists, market slots, processor contracts, client relationships and goodwill.
Farm businesses may operate under permits, licenses or variances. If buying a portion (not a whole business), check license and permit status. Ensure that any variances for a hoop house, livestock permits, water rights or other essential farm resources will be transferable. Always verify a clean property and/or equipment title, free of outstanding liens or unpaid bills.
When purchasing an ownership or a percentage interest, investigate liabilities and obligations. Request a copy of the farm's operating agreement, bylaws and shareholder agreement. Review any business contracts and leases. Are they are transferable to a new owner? How secure are any land or water leases and/or customers or value added processor contracts? Include a non-compete clause to protect against retiring farmers starting a similar business.
If a buyer has little cash, they may still be able to earn stock with their labor. This works best when an owner does not need cash right away to retire. Be sure to budget for the IRS income tax due on that stock compensation.
Create a Compensation Agreement describing the type of work, hours, schedule, goals, measurable outcomes, when fully vested and an escape plan. Either party should have the option to be bought out of the deal.
“Know what you are buying. Investigate everything that goes with this venture.” Armstrong urged. Consider a survey to prevent future boundary disputes. Have equipment inspected and valued by an expert.
Create a written asset Purchase Agreement with advice from a lawyer familiar with farm businesses. It should list everything you learned and discussed including a guarantee and any training (if offered). List the price, payment schedule, first payment due date, any liens, encumbrances and/or easements. Have everyone sign the agreement. Use the Due Diligence checklist “Getting into Farming – The Legal Perspective” covering ways to strategize, investigate, memorialize, negotiate and review here.
Gifting a Farm
Some farmers gift a farm to family members as they move into retirement. Anyone can gift cash or assets up to $14,000 per year. Gifts over that value are subject to an federal gift tax. When assets are gifted during the giver’s lifetime, the assets retain their original basis value. In the case of land, this may be a very small amount if held in the family for a long time. New owners can be liable for large capital gains taxes if they later sell that land or asset.
Consult an accountant familiar with farming. Seek referrals from fellow farmers or your state law association, American Agricultural Law Association, the Farmers Union or the Farm Bureau.
Financing a Farm Purchase
Most farmers are not in a position to purchase with cash but make installment payments to landowners or banks like a rent-to-own option. Owners or banks have the land as collateral. If buyers miss payments, they may lose the property, with or without a foreclosure process.
Create a land purchase contract. Be thorough and include a reasonable escape clause for either party. Use suggestions from other farmers’ experiences and issues.
Armstrong recommends a personal mortgage as a good way to get into farm ownership. This works best when the buyer has a good credit rating, low debt and an income stream.
Other options are loans from the Farm Service Agency (FSA), Small Business Administration (SBA), commercial banks, family members or personal loans.
Farm Service Agency
FSA offers farm operating, real estate/building loans and microloans to anyone who files an IRS Schedule F with farm income and expenses. Rates may be better and applications are simpler than through commercial banks. FSA loans are available nationally through local county and state offices. They market to social disadvantaged (female and minority) and beginning farmers with preferential terms and low land requirements. Borrowers need good credit history and reasonable cash flow. FSA staff can help fine tune farmers’ business plans.
Kickstarter.com and others on-line services help small farms and non-profits fundraise. The IRS considers these funds as business capital or Income. New farmers and businesses often offset crowd-sourced or other income with start-up and operating expenses, so little or no income tax may be due.
Securing business loans with personal assets exposes those personal assets. Offering collateral for loans from family members to helps minimize their risk. See sample loan agreements here or here. If there is no expectation of repayment, the IRS will consider amounts over $14,000 subject to gift tax.
Armstrong recommends written leases to minimize future misunderstandings. Leases should describe allowed and prohibited farm or equipment uses, farming practices, work schedule, equipment usage storage, etc. Good leases address water rights and obligations, contingencies and provisions for subleasing of land and/or greenhouse space.
Land with Conservation Easements
Leases for conserved land often involve landowners and land trusts. These long-term leases should describe allowed land uses and restrictions per easements. Be sure to find out whether CSA pick-up, education events or agritourism are allowed. Learn about the requirements and process for any farm plan approval. Consider whether you could expand your operation at that site.
Like all businesses, farmers need liability insurance. The least expensive option is often for beginning farmers leasing land to acquire liability insurance to get getting themselves and their equipment listed as “additional insured” on the landowner’s farm policy (on premises and liability for guests). Beginnings farmers should pay the landlord’s incremental cost rather than have their own stand-alone policy.
If farm operations will include value-added products, agritourism, off-farm CSA drop sites, be sure to purchase the appropriate coverage.
USDA’s Risk Management Agency (RMA) sets rates and private firms sell policies for individual commodity crops, specialty crops or whole farm policies. AGR and AGR Lite policies are available in some areas. AGR applications require five years of farm records so are not available to beginning farmers. These plans insure a portion of lost revenue due to natural disaster, crop disaster, price fluctuations or loss of demand (i.e. the spinach food safety scare when no one bought any spinach for weeks). Learn more in the “Farmers’ guide to disaster assistance” here.
Farm Commons is a nonprofit legal services organization providing farmers with proactive legal counsel to build their resilience. Farm Commons offers legal services and legal education to the farm community.
Learn about farm insurance, crop insurance, selecting a business entity and trade marking a farm names at the recorded “Selling Products to Larger Buyers Webinar” here. Find a link to the webinar, slide show and “Getting into Farming: The Legal Perspective” checklist here.This guide includes a due diligence checklist for purchasing a farm asset, farmland or ownership in an existing business.
See a list of all eight farming legal webinars here. Contact Rachel Armstrong Executive Director and Attorney via email at email@example.com or call (608) 616-5319. Write to Rachel Armstrong at Farm Commons, Inc. PO Box 3050, Madison, WI 53704 or call (608) 616-5319.
A similar story ran in the June 9, 2014 Mid-Atlantic and New England Farm Weekly editions of Country Folks.