Farm Asset Division: A 21st-Century Conundrum

The best way to divide farm assets is a challenge that farm families face with each generation of owners. As a parent, we strive to treat and love our children equally, and we want them to know that we love them all the same.  When our children perceive their inheritance as a direct indicator of how much we loved them, it makes dividing farm assets a daunting task. The fear of upsetting one’s children often causes parents to divide farm and family assets equally among all heirs. However, it can be beneficial to look at farm and family assets separately when dividing the estate. Long-term viability for the farm, financial security for the founding generation, and continued family ownership of the farm are documented goals of many farmers1. Research from the Farm Business Institute indicated that family-owned and operated businesses have roughly a 30% success rate in transferring the assets and control from the founding generation to the second generation2. Failure to transfer the business is often caused by a lack or avoidance of planning from the owner generation. This results in the implementation of the state’s succession plan which divides the assets equally among the heirs. Oklahoma State University has created a statistical model that compares various transition strategies and their probabilities of success. The results demonstrate that the most common farm succession strategy of dividing the assets equally among all heirs has the lowest success rate. Farms employing this strategy normally do not continue to the next generation3. Distributive Justice Principles When the owner generation makes decisions concerning farm succession, they are subconsciously considering three principles4: (see What is the biggest threat article for further information) Equality principle: assets are divided equally among heirs regardless of their contributions Proportional equity principle: distribution of assets is in proportion to the heir’s contribution in maintaining or growing the asset Needs-based principle: the heirs’ needs are given primary consideration   Research has shown us that the equality principle does not help us reach our goal of transferring the assets and control to the second generation. Therefore, let us delve deeper into the proportional equity principle and needs-based principle3. Proportional Equity Principle of Distribution Proportional equity distribution relies on an accurate accounting of the heirs’ contributions. Contributions can be defined as money, labor, management, providing care and maintenance on the home and facilities, mechanical repairs, or being a caregiver that allows the aging parents to stay in their home, etc. There are several questions to consider when dividing farm assets based on proportional equity. When do the contributions start? Does it begin when the heir becomes an adult and makes a conscious choice to continue providing labor? Or is childhood labor also considered? Are the on-farm heirs compensated at a fair market price for their labor? Or are they receiving below-market wages with a promise of “making things right” with inheritance? Is this arrangement documented? Are the on-farm heirs adding value to the farm with their labor and management? Is the owner generation growing the business because they know they have consistent labor and additional management? Would this growth happen without the on-farm heirs, and should they be given credit in some way for this increase in wealth? Are the on-farm heirs helping preserve the farm’s wealth by maintaining the asset base?  If they weren’t there, would the owner generation keep the business operating at the same level? Are the on-farm heirs helping their parents age in place? Are they providing services to the owner generation that would otherwise be an out-of-pocket expense and deplete the asset base?   To help us visualize equality vs proportional equity distribution, let’s look at an example from John Baker, Iowa State University and Dave Goeller from the University of Nebraska. In this example, we will use an example farm that has one person in the owner generation and three heirs. Two of the heirs are off-farm and do not contribute to the farm.  The on-farm heir joined the farm in 2000, and we are crediting 50% of the farm’s growth in net worth to the labor and management contributions of this heir. For this example: The farm’s net worth in 2000 is $600,000 The farm’s net worth in 2020 is $3,600,000 What will the distribution of the farm net worth look like using the equality principle? Using the equality principle, each heir would receive ⅓ of the farm’s 2020 net worth.  $3,600,000 divided three ways leaves $1,200,000 for each heir regardless of their contributions to the farm. What will the distribution of the farm net worth look like using the proportional equity principle? Using the proportional equity principle, we would divide the original 2000 net worth equally among the three heirs. The net worth at this time is solely due to the contributions of the owner generation. This gives us a distribution of $200,000 per heir. We would then consider the change in net worth from 2000-2020 and determine how much of the change was due to the on-farm heir. The change in net worth is $3,000,000 with the on-farm heir being responsible for 50% of that growth, or $1,500,000. The owner generation’s portion of the net worth is divided equally amongst the three heirs. This $500,000 is added to the $200,000 from the 2020 net worth resulting in each off-farm heir receiving $700,000. The on-farm heir received $700,000 plus the $1,500,000 for a total of $2,200,000. While this division is not equal, it is equitable and provides the on-farm heir with compensation for their contributions and increases the likelihood of keeping the farm business viable and in the family. Each farm will value the contributions of the on farm heir differently. The questions posed above can help you determine what this will look like for your farm. We recognize that this was a simplified example but hope it helps give you a place to start thinking about what proportional equity may look like on your farm. Remember, you may need to treat each

Control of Farm Management Decisions

Earlier we discussed the importance of transferring management to the successor generation. However, we did not delve into the details of making this transfer successful. To help with this process the University of Wisconsin – Madison Division of Extension Farm Succession educators developed the Control of Farm Management Decisions Worksheet. This worksheet allows the farm owner and successor to rank how important the following are to them: To be involved in the daily operation of the farm business? To be involved in the production decisions for the farm business? To be involved in the marketing decisions for the farm business? To maintain some financial control of the farm business? Once each generation has identified how important the above items are to them today, they are asked to think about how important they may be in 3 years and in 5 years. Once the ranking has been established it is time to talk about what is most important to the owner and most important to the successor. The owner and successor can then utilize the rankings they provided to work on the “Planning Transfer Control” page of the worksheet. If marketing the farm’s soybeans is not very important to the owner generation but it is to the successor then this should be listed as a management decision that will be transferred immediately to the successor. Working on each management decision by order of importance gives the two generations the ability to develop a transfer plan that allows each to hold on to what they feel is the most important, and to make compromises about others. When working through developing a plan to transfer management decisions it is important to realize that management decisions should be transferred incrementally. In the worksheet the owner and successor can select what will be transferred in a year, in two years, and in three years. Having a framework of when management decisions will be transferred will give both the owner and the successor generations peace of mind. Through the incremental transfer of management, the owner generation can gain confidence in the successor generations ability to make decisions that will result in the continuation of the farm the business and their legacy. The successor generation gains confidence in their farm management decision making while utilizing the safety net of the owner generation. At the end of the transition period, the successor should feel confident in their ability to make management decisions in all aspects of the farm business. Additional Resources: “Cultivating Your Farm’s Future” workbook and companion guide. This workbook contains invaluable tools to help with your farm’s succession planning. Authors

The Invasives Creep Up on Us

Every time I glanced at my flower bed; I saw them. Yet others didn’t. An invasive flowering plant had gotten away from me. Very early in the season I pulled some out, but I was in a hurry and didn’t get them all. Short on time I let it go. I knew I should address the issue by setting time aside to free my flower garden of them, but I didn’t. This morning as I was finally removing the invasive flower, I realized I had a very pretty lily that was almost snuffed out by the invasive. Thankfully it still has a few small blooms and was uncovered in time for the plant to regain its strength. As I was pulling weeds and the overgrown invasive the wise words of a renowned farm succession expert rang in my head. Attorney John Baker of Iowa State Beginning Farmer Center, often remarked, “You have what you put up with.” A simply yet profound statement of truth. Farm Invasives Not all of the invasives are in farm fields, hedgerows, or forests. They can be found in the financials, equipment, structures, employees, working relationships, family members and family dynamics, to name a few. They are items that we “put up with,” avoid addressing or ignore. However, as with all invasives the issues grow bigger and out of control if left go. Examples include: 1. Financials It often starts unintentionally when savings or personal funds are tapped to pay the bills. Thinking next year, we’ll catch up and get back on track. Debt increases and the conversations around farm financials are tense. It could be financials have never been a strong point but we’re too proud to ask for help. 2. Equipment Farm equipment can present safety hazards. Unaddressed safety hazards are accidents waiting to happen. Accidents harm people, livestock, equipment and result in potential for legal action. Time and dollars spent fixing farm equipment prevent down time when you most need the equipment, time spent in court or heaven forbid lifetime regret of loss of life. If the hazard cannot be fixed, it may be time to develop a plan to replace the equipment. 3. Structures Farms often have a wide array of structures from historic to newer and the challenges are as varied as the buildings. It’s easy to let building issues go because they are lower on the project list. Be careful the issues don’t become safety hazards or prevent the building from functioning as it should to safely hold livestock, feed stuffs, or equipment. 4. People Issues The messiest invasive of all are people issues. There may be communication challenges including personality struggles or conflict resolution issues. It may be a learned defensiveness or wall that’s been put up as the result of an abusive professional or personal relationship. There may be a toxic relationship among family members or employees that has gone unaddressed. Remember you have what you put up with and it’s time to deal with the issues and set boundaries. Bad behavior is unacceptable behavior. Removing the Invasives The first step is acknowledging the issue(s) we have to admit there is a problem in order to deal with it. Working together with others on the farm to address financials, equipment and structure problems will spread the burden and creative thinking among many people and often results in the best potential solutions. The best option for the farm may be the hardest to accept. The best option may require transitioning farm enterprises to a more financially feasible enterprise for the farm. A piece of grandpa’s farm equipment may need to be replaced because it’s too dangerous and someone is going to get hurt. A farm building from the 1930’s may have outlived the remodels and need replaced. Working together the farm team can determine the best options for the farm. The Root of the Problem If people issues are the root of the problem, they need dealt with first. If inappropriate actions have been accepted in the past it will take time and patience to change. Addressing issues one on one may be the best place to start. We may uncover someone dealing with personal issues/crises and the frustration from those are spilling over on the farm or vice versa. The person may not realize their words or actions are negatively impacting others and the farm. Things may also be addressed in the group setting of a farm meeting. The best way to ensure all know behavior expectations is to provide meeting guidelines and follow them. Reminders may be required throughout the meeting until everyone gets used to the new protocol. A prop may be used to ensure everyone is heard during the meeting. For example, if one person tends to dominate the meeting, pass around a small stress ball or other object and the person in possession of the item has the floor and the rest of us listen. Once they are done speaking the object is passed on to the next person. This also gives a voice to those who normally don’t speak up. Everyone listens to learn while others are speaking. The meeting facilitator or leader should remind people there are not any wrong answers and we should use our listening skills to learn other points of view. It will require practice to adjust but the method works. The Beauty of an Invasive Free Farm The best results occur when invasives are removed root and all. It’s also the most challenging method. Don’t get overwhelmed by the immensity of the issues. Set aside time to focus on one invasive at a time. As everyone’s voices are heard and positive results seen we will be motivated to continue the process to address other farm challenges. One step at a time we can get rid of invasives and renew farm vigor.