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Who Will Own Your Farm?

February 24, 2017

Overview

Succession planning is one of the issues top of mind for Oregon dairy farmers, many of whom are in their 60s and 70s, still working hard to keep their businesses thriving into the future.

Unfortunately, many farmers do not have plans in place outlining what will happen to their farms once they retire or pass away, and others do not have family members who wish to serve as the second, third or fourth generation carrying on the farming tradition.

So what can you do to get ready for the future?

During a panel at the Oregon Dairy Farmers Association’s annual convention, entitled “Business Succession Planning With Real-World Examples,” Jeff Patterson, estate planning lawyer with Schwabe, Williamson & Wyatt, talked with some local producers about their plans and advice for fellow farmers.

Following is a summary of the discussion:

Closely held businesses have an extraordinary failure rate, according to Harvard Business Review: 70 percent do not survive to the second generation, 85 percent do not survive to the third generation, and the average family-owned business lasts only 24 years. Furthermore, a 2007 study from the Oregon State University Austin Family Business program showed that 60 percent of Oregon’s farm operators were 55 years or older.

Why do so many businesses fail after the first generation? Failure to develop a comprehensive strategic vision around ownership, control and management, and failure to address basic issues of ownership, succession planning and estate planning, according to Patterson.

As a general rule, it is important to remember that anytime something transfers to someone else, there’s a good chance there’s a tax issue, whether it’s a gift, a sale or someone passing away and a transfer down to kin.  A few exceptions exist, such as marital transfers (which are unlimited), annual gifts, tuition or medical expenses, charitable gifts, the Oregon estate tax exemption, and the federal estate and gift tax unified credit (or “lifetime exemption”).

Many people see that the federal amount that can be transferred free of estate tax is $5.49 million, so they assume they will never reach this cap and it will never affect them, Patterson said. The Oregon exemption amount is only $1 million, however, inclusive of all real estate, business interests, IRAs, and anything to which your name is attached, which can add up quickly.

Four Techniques for Business Succession Planning

There are four general techniques for business succession planning, according to Patterson.

  • Buy/sell agreements: These are contracts put in place between shareholders of a corporation or members of an LLC that say, “If I become disabled or pass away, here is how the other owners will buy out my interest.”
  • Family limited partnerships and family limited liability companies: These are entities that can structure the control, ownership, how distributions are handled, etc. They are closely held between family members.
  • S-corp recapitalizations and grantor trusts: These are other more complex structures that can assist in structuring control and transfers to the next generation of farm owners.

All of the panelists at the dairy farmers convention formed LLCs for their protection.

Paul Hesse has been farming in Oregon since 1972. His oldest son did not want to continue on the business, but his second son did. He also has two other children.

He formed the LLC around 1997 and a couple of years ago, he and his wife formed a trust so if they die, the two children who stayed on the dairy will own it. Life insurance will provide for the other two children, although Paul has outlived the term of his policy.

At the Hesse farm in Jefferson, everyone gets a vote. Two children have 30 percent each and the two parents have 20 percent each. Technically, the children could out-vote the parents, but Hesse said they have an untraditional way of doing things and always talk about business.

Dan and Carol Leuthold’s family have been milking cows for a century.

They strongly emphasized the importance of communication. They hold family meetings every month, including in-laws, so that everyone is on the same page.

“You need to be honest and make sure you are all on this venture together,” Carol Leuthold said. “This is family heritage. There is nothing more important than that.” Even if not every family member wants to be part of the discussion, Carol recommended involving as many as you can.

The Leutholds also have LLCs and trusts, but their primary LLC is managed by Dan so that the votes cannot result in a split of two against two.

The working LLC consists of equipment and cattle, and the next generation owns a percentage of that. At the advice of their lawyers and accountants, the land and the buildings remain in their name on the home farm to provide them with an income for the rest of their lives.

They are also trying to convince their children to execute estate planning documents so that their grandchildren are protected.

Carol Leuthold stressed that “fair” is not necessarily “equal.” One of their sons came back to the farm after a few years serving in the Air Force, bringing a wife who wanted to work on the farm with him. That was 25 years ago, so they have made a big investment in the farm. Carol and Dan have daughters who chose not to take this step and they are OK with knowing that they will not get an interest in the farm. They do have some investments and life insurance policies for their daughters, but it won’t be near the value of the farm passing to their son.

Also remember that life, the law and the businesses are constantly changing. Even if you have taken the steps to put an estate plan in place, purchase life insurance, form an LLC or take other actions for succession planning, this is not a “one and done” exercise. Review these plans regularly with your family and make adjustments as necessary based on unexpected circumstances, changes in perspective or mistakes made along the way.

If you have questions on succession planning for your farm, contact Jeff Patterson at jpatterson@schwabe.com or (541) 749-4073.

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