Here’s a novel approach when thinking about farm transfer.
When we consider estate planning, we usually think only about visiting a lawyer and writing a will. Bruce Beswick, a farmer and financial planner in eastern Ontario, says an estate plan is much more than that and it always requires a team.
He says his job is to help people divvy up the spoils before they die. After all, in the end you can only leave your money to three outfits: friends and family; charity or the government. He’s never had someone ask him if there is a way to leave more money to the government.
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Unfortunately, in Canada only about 30 percent of people plan for their deaths.
The other 70 percent often find that their money isn’t divvied up the way they imagined.
However, Beswick also says it is a mistake to think traditionally and use only the standard team of a lawyer, accountant and banker. He says financial planners who are knowledgeable about agriculture can legally save farm and ranch families hundreds of thousands of dollars by using novel tools such as insurance policies and loans from insurance companies.
Mr. and Mrs. Crofter, aged 64 and 61, want to hand over a successful farm to their sons, who are 34 and 32. Their daughter is not interested in farming and works in Saskatoon.
Son number one is definitely interested in farming and son number two may be interested.
Their only debt is an equipment loan of $70,000. The farm is worth about $1.2 million.
Here’s what they could do:
Freeze the value of the farm at $1.2 million and tell the children their inheritance will be $400,000 each. Allow the boys to farm. All transfers of ownership and money will take place at the time of death of the last owner: Mr. or Mrs. Crofter
How is this carried out?
Mr. and Mrs. Crofter keep ownership of the farm. An operating agreement is reached with their two sons. The parents get a $400,000 line of credit through an insurance company using the farm as collateral. They also buy two $400,000 life insurance policies, payable after the last parent dies. One pays off the line of credit and the other pays their daughter her inheritance.
All remaining farm debts are paid using the borrowed money and farm income is increased by about $27,000 per year through this debt reduction. The remaining money is invested and contributes to an income of $30,000 per year for the life of Mr. and Mrs. Crofter.
Additional income comes from the Canadian Pension Plan and upcoming Old Age Security, plus their Guaranteed Investment Certificates. Their total income will be about $50,000 per year.
The sons will continue to operate the family farm. They will service the line of credit, paying only the interest, which will be fully tax deductible because the proceeds will be used to buy an investment.
Each situation is different; this point must always be discussed with an accountant.
The sons are also using cash flow from the farm to make the payments for the $400,000 life insurance policies on their parents’ lives.
The sons also enter into a buy-sell agreement with each other and buy a first-to-die $400,000 life insurance policy plus a disability policy to protect their buy-sell agreement and to protect the family farm from possible loss of a partner. This costs approximately $3,300 per year.
The farm produces about $114,000 of cash flow. Annual payments for the line of credit are $1,667 per month. Remember, only the interest is paid. Total life insurance payments per month are $1,274.
If the parents live until age 86, the longest surviving parent will have lived for an additional 300 months, which means the total payments required to service this plan will be approximately $882,300 at $2,941 per month.
Now here’s the interesting part.
Suppose the sons bought the farm the usual way, maybe borrowing $300,000 for a down payment amortized over five years at 5.5 percent.
Even if they bought the farm at a lower price, say $800,000, they would have a $500,000 mortgage for 25 years at six percent interest. This would result in them paying about $1,360,000, which is $477,000 more than they would pay using insurance. And there’s no allowance in that plan for their sister, which may mean they have to come up with another $400,000 for her share when the parents die.
Beswick says when he first outlines a creative plan such as this to lawyers and accountants, they think he’s nuts, but when they think their way through it, they come on board.
If you are going to try this kind of thing, it’s important to get a financial planner who knows agriculture.
Edmonton-based Noel McNaughton speaks at conventions and for corporations on Farming/Ranching at Midlife Ñ Strategies for a Successful Second Age. He can be reached at 780-432-5492, e-mail noel@midlife-men.com or visit www.midlife-men.com.
