This article provides information on rules of thumb for farm business succession planning and also outlines some important implications for the payment of Pensions.
Rules of Thumb for Succession Planning
- Be proactive rather than reactive
Farmers should be encouraged not to sit back and wait until problems arise.
- The need to weigh up the pros and cons before taking action
Farmers, their solicitors and advisers should all sit down and make a list of the pros and cons of the proposed reorganisation taking into account the following:
- Fairness rather than equality should be a key issue. Unless you are Kerry Packer you won't be able to treat all children equally.
- Tax savings - not the be all and end all
- Family issues such as divorce
- Security for all parties
- Be realistic - road test your proposal using today's facts and figures.
- Don't be penny wise pond foolish
The key is that all people in the business should communicate.
- Fairness not equality
Often farmers when they consider a succession plan wish to treat all their children equally. It must be pointed out that by attempting to treat everyone equally some family members will be treated unfairly, especially those who have been operating the family farm.
- Tax savings - not the be all and end all
Too often in the past farmers have made their decisions on the basis of saving tax which is often the result of the short term advantages and long term disadvantages.
If a farming family owned farmlands through a company or trust then they need to weigh up the pros and cons of the following:
- Transferring the farmlands from the trust or company to individuals taking into account stamp duty exemptions.
- The advantages of simplifying the ownership and trading operations.
- Family issues including divorce
Farmers are concerned that according to statistics one in four marriages are ending in divorce. Farmers will often not transfer lands to the next generation because they are concerned that their family could lose the lands in a property dispute.
Farmers should consult their advisers to examine alternatives available to minimise the extent of the property dispute.
- Security for all parties
Farmers, solicitors and their advisers must balance the following:
- The advantage of transferring farmlands to the next generation.
- The need to ensure that the older generation has financial security.
The issues to be considered include the following:
- How will the older generation support themselves?
- Will the older generation have sufficient assets and/or income to enable them to enjoy their retirement, to purchase a new motor vehicle when required, etc.
- Be realistic, road test
When reviewing a will or considering the transfer of a farm the following question should be asked: "If I died tomorrow, how would be proposed transfer in the will effect my family and more particularly those people operating the farm?"
When road testing a will or a transfer a farmer with their advisers should examine the worst case situation regarding issue such as debt, divorce, a family dispute, etc.
The question that must be asked is whether the farm will be viable?
The University of Western Sydney (Hawkesbury Research) has discovered that farming families are not communicating. A survey of two farming communities showed that 42 per cent of parents do not discuss between themselves their wills and retirement issues and 62 per cent of parents have not discussed these issues with the child operating the farm and 84 per cent have not discussed these issues with their child's spouse (in-law/out-law).
All people involved in the farming business should be consulted.
The farmers in conjunction with their solicitors and advisers can improve their business structure by organising some or all of the following:
- Arranging for a regular meeting, with a set agenda, of all people involved in the business. For example a monthly meeting where the following occurs;
(a) The person in charge of the financial records produces the cash flows comparing actuals to budget and summarises the debt situation
(b) Those people in charge of the different enterprises such as crop production and grazing report on what is happening.
- Issues concerning drawings and issues in dispute can be discussed.
Pension Implications for Succession Planning
Issues to consider if the farmer has more than a living area:
- Security for older and younger generation - gradual hand over of business and lands
- Off farm investment including Insurance, Superannuation, Real estate etc.
- Motivation - The transfer to the younger generation can result in the following:
a) New technology and ideas
b) A good worker becoming a "bloody good worker"
- Don't just work for an asset you need to enjoy a good quality of life.
The family owned 3,000 acres which easily supported three families. The parents owned 1,900 acres and were in there 50's and son A aged 26 who has a wife and three young children owned 400 acres and son B aged 30 owned 700 acres and had two kids.
The parents planned to make a will with out consulting their children. The problem with this was as follows.
The parents needed to know what their two sons planned to do under their wills. If the younger son with 400 acres died and left the farmlands through to his wife then the wife would not have had a viable farming area and if she sold the farm she could have purchased a house and maybe had a small surplus. The sale of the farm could affect the viability and maybe the family members might not have been able to acquire the property. A major concern was where the widow and her husband's family could have been placed in a conflict situation.
After consultation with the family accountant and insurance agent it was resolved that the business insure each son for $500,000 on the basis that the son would leave their interest in the farming business and the farmlands back to the family members operating the business on the basis that the wife and the children would receive $500,000 insurance. The family also put into place the following:
a) Arrangements were made for the wills to be reviewed every two years.
b) Mum and dad had made arrangements to transfer the farmland over a period of time to the farming members on the basis that off-farm assets would be acquired for themselves.
c) There was one family member off-farm and they would resolve that a um of $40,000 would be paid to the non farmer who would have liked to be a farmer but due to being the youngest he had no option. The family assisted the non farmer when he needed help on the basis that the non farmer was to inherit non farm assets but as the parent were in theiri50s the non farmer could have been waiting quite a long time.
Farmers with just a living area
Farmers with just a living area have to be cautious to ensure that they don't find themselves asset rich, income poor. Often a farm can support two families if both families can work on-farm and one family can obtain off-farm income.
A major problem arises as to what happens if one family wants to retire or one family member can no longer work? The issues to consider include the following:
- The social security five year rule states that a gift today of the farm to a child is not classed as an asset under the assets in five years time.
- The assets of a farmer can be reduced if farmlands are transferred to the person or persons operating the farm taking into account foregone wage.
- The assets can also be reduced if the farmlands are transferred subject to the parents right to live on the farm (granny provision rights).
People who have just a living area should give consideration to transferring their farmlands at least five years before they reach retirement age. The security of the older and younger generation must be considered.
Below are some examples as to how a person with just a living area can plan for the future.
Case 1: Transferring by way of gift at least five years before retirement age
Parents own a farm which is debt free. Their daughter and son-in-law work the farm and they have one child, a teenager, who would like to be a farmer, The aim of the parents is to stay in the business but to dispose of their major asset, the farm, prior to retirement (see details in Case 1 Table).
The aim of the exercise:
a) The second mortgage gives the parents a nest egg which they can use to purchase a car or carry out improvements at a later date. Importantly the daughter and son-in-law can operate and not borrow further funds without the approval of the second mortgagee.
b) Parents stay in the partnership. The capital accounts need to be monitored.
c) In December 1999, mum and dad will qualify for the pension under the Assets Test.
d) In the good years the farming business could distribute income to mum and dad and their pension would be reduced and possibly cancelled. In the bad years mum and dad could get a pension under the Assets Test.
Case 2: Transfer of farm taking into account foregone wages
I was involved in matter where there were the parent and two sons farming the farm. The parent owned farmlands valued at $400,000 and the sons owned small blocks. The parent were disqualified from obtaining a pension under the Assets Test and it looked like the farmlands would have to be sold which would have resulted in the sons and their families having to leave agriculture.
However, the transfer took place on the basis of the following:
1. Value of farm $400,000
2. Less value of foregone wages $200,000
3. Balance parents' assets $200,000
The sons had worked for sheepdog wages (a good feed, a kick in the behind occasionally) and obtained pocket money by working off-farm aged 16-21. Foregone wages are calculated as follows:
1. There must be a legal transfer of the farmlands.
2. The value of the wages at current day rates.
3. Foregone wages can include the value of any improvement carried out and the value of income not received. The Foregone Wage Provisions do not apply form the period the family member is involved in a partnership or share farming arrangements. (Copies of the guidelines for calculating foregone wages can be obtained from any Social Security Office).
The above was a great success story as it enabled mum and dad to retire and get virtually the full pension and insured that the two sons farming could remain viable.
Case 3: Transfer of farm taking into account the Granny Flat Provisions.
Farming couple are aged 70 and the value of their assets prevented them from getting a pension. If the farm is valued at $400,000 then they would be prevented from getting a pension. However under the Granny Flat Provisions they could transfer the farm to persons operating the farm and if they had the right to stay in the house on the farmlands being transferred then the value of this would be $172,996.82 under the Granny Flat Provisions. The value of the Granny Flat Provision is the life expectancy of the youngest member of a couple multiplied by the maximum combined rate of pension.
The transfer would have resulted in the following:
1. Value of farm $400,000
2. Less value of Granny Flat Provision Rights $172,996
3. Net value of farm $227,004
The parents could qualify for a part pension.
A copy of the guidelines in relation to the Granny Flat Provisions can be obtained from any Centrelink office.