Contributed by Simmons Bank
We’ve gathered a roundup of seasoned ag professionals, including an investment advisor and Certified Financial Planner (CFP), and a CPA to answer common questions about financial farm management.
Chad Carlson is a financial advisor and CFP for Simmons First Investment Group, Inc, member FINRA & SIPC. He joined Simmons in 2014.
Mike Gillis is a seasoned banker with 42 years of experience; he has been with Simmons Bank for 13 years as a lender.
Mary Ellen Greenway is a CPA and partner at McQueen & Co., Ltd.
What do you consider the top three financial planning priorities that most farm owners should consider?
Carlson: “First of all, all farm operators should have a risk management plan. Aside from weather risks and pests… What happens if you lose your key employee? What if you get sick? What if there is a hunting accident on your land?
“Incorporating a risk management strategy into your business plan will help you manage and capitalize on these ‘What if’ scenarios.
“Second, the best operators have a cash reserve strategy. A contingency fund allows producers to think clearly in emergency situations, remain solvent in lean years and avoid trying to solve problems at the last minute.
“Finally, meet regularly with your banker and tax advisor to develop a financial plan to help you better manage your capital assets, whether you’ve acquired them by purchase, lease or custom hire.
“Land and equipment often constitute a large percentage of a farmer’s net worth, and monitoring how efficiently you are using these resources can help you better manage cash flow and see returns on your equity.
“It’s important to remember that a good financial plan allows you to fund your retirement. With proper planning, you can create a retirement plan for yourself and retirement benefits for your employees that aren’t dependent on the farm. This is accomplished by making consistent contributions to a plan over a 25- to 50-year career.”
If I have a crop loan carryover, what are my options?
Gillis: “When a carryover occurs, a forensic review of the crop cycle needs to be performed. Were there outstanding bills incurred in a prior crop cycle and paid from this season’s loan? Were yields significantly off, expenses unexpectedly higher or prices lower than projected? Did an expansion devour more capital than anticipated, or did a newly rented parcel turn out to be less profitable than expected? Are rental rates higher than most in the area or too high for quality of the land?
“If a carryover appears to be an easily identified problem or a rare occurrence created by a weak economy, the solution is usually to secure the debt with equipment, land or other assets and term it out. Both you and your lender should feel comfortable that your operation can successfully cash flow your normal expenses, existing term debts and this new debt. Cash flow is critical, and being overly optimistic towards yields, prices or lower expenses will normally lead to disappointment.
“Harder decisions sometimes have to be made relating to highly leveraged operations or unproductive land. Too much debt on land or equipment may dictate selling some assets not essential to the operation’s survival. Lesser productive land or high risk land might need to be jettisoned, and a reduction in size of the operation if more productive land is not readily available. The use of FSA loans and guarantees can be a viable alternative for both the customer and lender when equity is marginal and cash flow is slim.”
I need an additional tractor next year. Should I buy one or lease one? What about depreciation? Tax benefits?
Greenway: “The answer is almost always, ‘it depends.’ Equipment manufacturers and dealers use leasing and other forms of alternative financing to help them move their equipment. These programs are constantly changing. Each proposed deal needs to be looked at considering your farm’s current financial situation.
“For these reasons it is important to continually evaluate whether a lease or purchase is better for your individual situation. Leases fit for some farmers and not for others – and for some particular situations and not for others. Just because leasing was a good idea last year, doesn’t mean it’s the best choice for this year.
“With a purchase, you will receive the flexibility of choosing the amount of first-year depreciation that fits your tax plan and hopefully build some equity. For instance the purchase of a $300,000 tractor would allow you the ability to write off, or depreciate, the entire amount of the purchase price. This write-off is available to taxpayers regardless of the amount of the down payment that was placed on the equipment purchase. The equipment simply has to be owned by the taxpayer and placed in service by the end of the year.
“However, if the money for a down payment isn’t available today, but the purchase is really urgent and important, then the lease may be the better choice. An example would be if you just need the tractor to get you through planting season because of increased soybean acreage.
“Please keep in mind that the label at the top of the document isn’t going to govern for tax purposes. The paper may say lease, but the terms are clearly nothing more than a financed purchase. It’s usually best to recognize the reality, treat the asset as a purchase, and take advantage of today’s depreciation rules.
“You should be careful if you are trading in a piece of equipment on a true operating lease. In many cases, the farmer will trade in equipment in return for not having to pay any of the operating lease payments or make a large front-end payment on the lease. lf the traded-in equipment was for a capital lease or a purchase, and the farmer received no cash, then in most cases, there would be no gain to report. However, when the trade is for an operating lease, the farmer will have gain equal to the amount of trade-in value credited to the new lease, less the basis, just as if the equipment had been sold.
“Keep in mind that purchasing versus leasing is as much a financial decision as a tax decision. You should go with the best deal for you at the particular time and consult your tax advisor.”