BALANCING THE FINANCIAL security of the senior partners in a farm transition while leaving the operating farm finances in a healthy situation can be challenging, but necessary.
“The technical, or numbers side, of a farm transition is easier than dealing with the emotional issues that come with such a significant change,” says Mike D’Alessandro, certified financial planner with Park Place Financial. “But figuring out how much mom and dad need for retirement and balancing that with the current finances and long-term financial outlook of the family farm also takes honest, and sometimes tough discussions.”
Farmers may change their pace of work, roles and responsibilities, but it is rare to see a farmer embrace the traditional term of retirement.
“The term retirement isn’t popular with farmers, because they simply don’t retire,” jokes D’Alessandro. “When senior family members start to talk about farm succession, their first concern is often what their lifestyle will look like and how much income they will need.”
Farmers have a tendency to invest in their own farm operations, creating a trend that financial planners and institutions are seeing today, where retiring farmers don’t have a lot of personal savings. That leaves the question — how do senior partners in a farm transition secure enough income for their retirement?
Ontario Grain Farmer sat down with three farm advisors specializing in finances and tax planning to get their advice on managing finances during farm succession. All three agreed, there are no easy answers and every farm and family situation is different, but a healthy farm transition starts with a plan, and finances are one of the most important pieces of every succession plan.
Hugh O’Neill, financial advisor with O’Farrell Financial Services Inc., says the best time to start planning for retirement is right now.
“Don’t put it off, talk to a financial planner or trusted advisor to start crunching numbers so you can work towards a comfortable financial and lifestyle goal,” he says.
One of the keys to succession planning is communication, reminds O’Neill, “so talk to your kids, or whoever is taking over the farm, find out what their financial and lifestyle expectations are, and share your plans with them to eliminate surprises down the road.”
D’Alessandro reminds farmers that succession, and their retirement, must be planned.
“That plan needs to include lifestyle and financial security for mom and dad that will still maintain the family farm livelihood and success of the business for the next generation.”
Senior farm partners need to begin by developing an income plan for retirement, starting with open discussions about what kind of lifestyle they want, where they will live and how, or if they still want to be involved in the farm. From there, a budget should be developed, factoring in income from the transition of the farm and any other income sources available, including pensions, registered savings investments, government pensions like CPP and OAS, and private investments.
“Start by finding the number you need to feel secure in your future lifestyle, then look at your income sources to identify possible gaps,” says O’Neill. “If there are gaps, you need to change your expectations or continue financial discussions with your farm successor.”
A thorough financial review of the farm, including land values, assets, and buildings should be built into every succession plan. Using this financial assessment, both generations can manage transition costs and lifestyle expectations, ultimately landing on a secure financial plan to maintain the farm business and support a retirement plan.
“It takes a lot of work and open, honest discussions to reach a point where everyone is happy with a financially sound transition plan,” says O’Neill. “But it’s worth it. It’s hard work, and you shouldn’t do it alone. Work with a trusted advisor, or team of advisors throughout the succession to make sure all your questions are answered, and everyone’s needs are met.”
TAX PLANNING FOR RETIREES
Tax planning is another financial management consideration for retirement or farm succession. A capital gains exemption is one of the most popular tax management options for farmers, with the current exemption at $1 million per person. Farmers can apply this against capital gains income derived from the sale of farming assets, including land, quota, and shares in qualified farm corporations.
“It’s important to use this tax exemption when it makes the most sense for you,” reminds Tom Blonde, chartered professional accountant and partner with Baker Tilly GWD. “You can use it to offset capital gains from the sale of farm assets either when you are alive or after you pass away on your terminal tax returns.”
Maximizing capital gains exemptions depends on an individual’s situation, and every farm situation is different. Blonde recommends every farmer consult their accountant before considering retirement, succession, or selling farm assets so they can plan ahead to manage tax implications.
Managing tax on the sale of farm assets that don’t qualify for capital gains exemption, including inventory and equipment, also needs to be considered.
“Planning ahead can help a farmer manage these tax implications,” says Blonde. “Avoid building up inventory like livestock and grains in the years leading up to a farm sale or transition if the farm files taxes on a cash basis, like most farms do.”
Blonde explains that farmers can be hit with significant tax liabilities on the sale of these assets, making it important to consider staggering the sale of the farm and assets into different tax years if possible.
TRANSITIONING FARM DEBT
Debt is part of every business, including family farms.
“It’s taken into consideration throughout succession planning, including the evaluation of assets and farm equity, and can be passed to the next generation or farm owner as part of the business transfer,” explains D’Alessandro.
Debt is another financial consideration in succession and farm retirement, impacting the equity of the business and how much compensation the senior farm owner can count on to plan their retirement lifestyle.
The topic of debt should be approached with open, honest conversations about how to handle it and how it may impact lifestyle expectations for all farming generations.
“Everyone around the table will have their own comfort level of debt,” says Blonde, who recommends farm families start by reviewing the balance sheet to find out how much debt the farm has and conduct a cash flow projection to identify how much cash is available to service existing debt and determine how much additional debt the farm can take on.
Depending on the financial evaluations and loan obligations, steps can be taken to free up cash flow by reducing debt.
“Again, planning ahead and talking about finances and farm transition is the best first-step. Senior farm partners can work closely with their successors in the years leading up to their retirement to reduce debt, manage their balance sheet, and plan future farm expansions that fit within the farm’s financial situation,” says Blonde.
It’s a tough conversation to have, but if a farm is carrying a significant amount of debt, it’s still important the senior generation negotiate what they need out of the farm to maintain their expected lifestyle.
“This might mean the farm successor has to scale back the farm operation for a few years or adjust their lifestyle to be able to service the debt load,” suggests Blonde, who recommends families assess debt servicing capacity in all financial and farm transition discussions and consult an accountant or farm advisor for professional advice.
TAX PLANNING MISTAKES TO AVOID
Don’t assume you won’t have to pay taxes – there’s a lot of misinformation about farm finances and taxes, and farmers have to pay taxes too. Farmers need to understand their eligible tax exemptions and allowable expenses.
Don’t procrastinate — don’t wait too late, succession does not start when a farmer is ready to retire. Farm transition, no matter what it looks like, requires long-term planning that accounts for finances, tax planning, and farm management.
Don’t lead with your heart instead of your head — no matter what stage of farm management you are in, you should never make financial decisions based on emotion. A passion for agriculture doesn’t always equal reality on a balance sheet. Carefully manage and evaluate your financial requirements for your business and lifestyle, and don’t sacrifice one for the other.
Don’t forget to talk about it — Open the lines of communication, because a lack of communication between farm family members will lead to trouble. Clearly communicate expectations of lifestyles and plans for the farm business among business partners and family generations. Open communication will eliminate surprises.
Don’t ignore business opportunities — build your best farm business by considering how the structure will affect your tax planning options. Legal corporations offer some flexibility, including the ability for owners to freeze growth while maintaining control during a farm transition. •