Farming is one of the most capital intensive professions on the planet.
Farming with debt, or as the old-timers put it “running a blistered farm,” is standard practice.
Recently, after securing financing for a client, the banker told me that “it’ll be the cheapest money the farmer ever borrowed.” With interest rates at record lows, this is the reality and for this reason you should review your farm loans and mortgages to ensure that you are maximizing the value of your farm debt repayments.
- What rate are you paying?
Read Also
Agriculture needs to prepare for government spending cuts
As government makes necessary cuts to spending, what can be reduced or restructured in the budgets for agriculture?
The first step in evaluating your farm debt repayments is to determine your cost of borrowing. On each of your farm loans or mortgages you are required to pay either a fixed or floating interest rate, which is the borrowing rate you had previously agreed to.
An increasing number of prairie farm managers are keeping their farm loan and mortgage information together in one file. This file would hold the initial documents, lending covenants and loan or mortgage repayment schedules.
By keeping this information in one place, you will be able to track the effect of your principal and interest repayments, identify any covenant violations, upcoming mortgage renewal dates and which high cost debt should be paid first.
- The benefits of consolidation
Replacing higher-cost debt with one lower-rate loan or mortgage will typically save you more than you think.
To illustrate, let’s assume you had three five-year $100,000 loans on which you had borrowed at rates of 7.5 percent, 8.25 percent and 6.25 percent. You have the opportunity to consolidate this farm debt into one loan at a much lower rate of 5.25 percent. While you know it’s worth doing, what is the actual benefit?
I’ve computed the savings generated by consolidating these loans to the lower 5.25 percent borrowing rate.
Over the five years of the loan, at 7.5 percent you would pay interest totalling about $21,761. You’d pay $24,061 on the 8.25 percent interest rate loan and $17,976 on the 6.25 percent loan. In total, you’d pay $63,799 in interest over five years.
If you could consolidate that into one loan with 5.25 percent interest, the interest would total only $44,993, a saving of $18,806.
* Benefits of a corporation
- Benefits of a corporation
Farm debt within a corporation will be paid back much faster than if it were held personally. If you have a corporation, you should be borrowing there first.
To illustrate this, let’s assume that we have $40,825 of annual income, which our non-incorporated and incorporated farmers will be applying net of tax to their farming debt.
For the non-incorporated farmer in the middle bracket, he will pay about $14,289 of income taxes on this income, leaving him with $26,536 to be applied to his farm principal and interest payments.
In the accompanying table, we see that after 14 payments the debt is extinguished.
For the incorporated farmer applying the same $40,825 of annual income net of tax to his farming debt, he is able to get the loan paid faster. At the bottom of the accompanying table we see that after 10 payments the debt is extinguished.
Take a closer look at your farm debt or visit your lender. Who knows, you might be able to stretch your farm debt repayments a little further and get the farm un-blistered faster.
Allyn Tastad, certified general accountant, is a partner in the accounting firm of Hounjet Tastad Harpham in Saskatoon, at 306-653-5100. He is also involved in the family farm near Loreburn, Sask.
