Mark Hanna has peace of mind because he has a plan. The north-central Iowa farmer is on track to retire in four years, transitioning his farm to his two sons, Andrew and Philip.
While the plan sounds simple, it is the result of a three-way commitment to a common goal: grow the operation for the future.
“I spent a lot of time in the combine thinking about the transition and how to make it easier,” Hanna says. “The common goal is agreed on, so we just need to fine-tune it.”
Andrew joined the row-crop farm in 2002 and Philip in 2008. Both boys have built their own niche and equity. For instance, Philip started a wean-to-finish hog operation. As they look forward, the Hannas will take their three individual businesses and create a unified one.
The Hannas are using a limited liability company (LLC) to transfer assets. Equipment and land go into the LLC, which is owned by the three Hannas. As the sons pay rent for the land, their share in ownership of the LLC increases. Slowly, control of assets shifts from Hanna and his wife, Belinda, to their sons.
“I want them to take over a little more each year, so their liability isn’t all at one time,” Hanna says. “I always hear farmers say they can’t retire because their kids can’t afford to buy the farm. Well, of course not. That’s not my intention; we’ll have a gradual transition.”
Limited liability entities (LLE) are powerful and flexible tools to transfer farm assets, says Paul Neiffer, principal and CPA with CLA. He says entities provide these benefits:
- Reduce liability exposure.
- Provide payroll and income tax savings.
- Take advantage of tax-free fringe benefits (if paid by a C corporation) and entity valuation discounts.
Essentially, LLEs allow the senior generation to maintain some control over the farm, while gradually shifting ownership to the next generation. Instead of each stakeholder holding a mishmash of land deeds, equipment and other assets, they each own shares of the LLE.
“A LLE can also provide more business formality, which is helpful,” Neiffer says. “Also, an entity’s operating agreement will explain the process if disputes arise between members.”
How To Create a LLE
The process for creating an LLE includes legal document drafting and planning (with appropriate fees), as well as setting up federal/state business identification numbers, Neiffer says. You also must set up a bank account and payroll for the LLE. Then you appraise assets and transfer them into the entity.
When creating an LLE, Neiffer, provides a tip: Require each child to invest cash at the formation of the entity. This forces them to have legal and emotional buy-in to the operating agreement.
“Take care to review how FSA payment limits may apply to the LLE before finalizing any documents,” Neiffer adds. He always recommends reviewing your proposed structure with the local FSA.
Slow and Steady
At Soaring Eagle Dairy in Newtown, Wis., Jim and Sandie Fitzgerald are transitioning their operation to their children.
“I have four daughters and a son,” Fitzgerald says. “Three of my daughters, Kelly, Julie and Stacy, are back on the farm full-time along with their brother, Nick.”
At the onset of the oldest daughter joining the farm, the Fitzgeralds focused on business and organizational structure and created a limited liability partnership.
“A consultant told us the most important thing in a partnership is not how you put the partnership together, but how you are able to take it apart,” Fitzgerald says. “If somebody decides they want out at some point, you need to have a strong buy-sell agreement.”
A buy-sell agreement is a legally binding document between co-owners of a business that spells out how it should be transferred if a co-owner leaves the business willingly or is terminated. When creating an LLE, include a buy-sell agreement with your operating agreement, advises Polly Dobbs, owner of Dobbs Legal Group.
“Upon certain triggers, an owner may be contractually obligated to sell his or her interests to the company or other owners,” she says.
A farm owned by an entity will need two values:
- Appraisal of the farmland, improvements, equipment and other farm assets.
- A business valuation of an interest in the entity with appropriate discounts.
The purchase price can be set by an agreement of the owners, a formula or an appraisal, Dobbs says.
The End Goal
Details matter in succession planning. Don’t become overwhelmed, instead focus on your ultimate goal.
“You need to look at the farm as a business to keep moving forward,” says Julie Mauer, the Fitzgeralds’ daughter. “When you have a business, you’re proud of and have put so much work, time and effort into, you hate to see it cut into a pie and sliced up.
The business should be viewed as its own entity you are afforded the opportunity to carry forward.”
That focus on the future is what keeps the Hannas in Iowa dedicated to the legacy planning process. Hanna is hopeful the farm’s future could include the children of Andrew and his wife, Alyssa: Nora, 7; Ellery, 5; and Bria, 9 months.
“I got help from my father,” Hanna says. “I exchanged a lot of labor for machinery. Hopefully in four years my sons will let me help them or drive a tractor if I want to.”
3 Important Planning Steps
Attorney Polly Dobbs says farmers avoid succession planning because they don’t want to hurt anyone’s feelings. Overcome that fear and have honest communication. Take these steps.
1.Openly discuss your plan; secrecy is a bad idea. Entitlement might be brewing in the next generation.
2.Take a poll, not a vote, of your children about what they’d like to see for the future of the farm.
3.Once you decide what’s fair, tell everyone to avoid surprises. Remember, fair does not necessarily mean equal ownership of all assets among children.
