Farmers and ranchers work hard to build their business, purchase land and assets and become financially independent. This process takes many years, and many times there are several generations who work on the family operation.
One of the biggest challenges these farmers and ranchers face is estate planning.
By definition, estate planning is the process of arranging for the future of an estate. The goal of estate planning is to create a plan that will successfully pass on the estate, while reducing taxes and other expenses.
“Successful farm transitions do not typically occur without thought and preparation. They happen because someone cares enough about their land, their family and their community to make the effort,” said Dave Goeller, University of Nebraska Transition Specialist.
This process can be approached several ways, but no matter how it is approached, it is an essential part to keeping the farm or ranch in the family. “Your imperfect plan is better than the government’s plan,” said Tassma Powers, estate planning attorney with the Legacy Planning Group of Schwartz, Bon, Walker and Studer, LLC in Casper, Wyo.
Currently, 50 percent of farms are 55-years-old or older, and the average age of an agricultural operator is 55.3, according to the 2002 Census of Agriculture.
According to the USDA, 98 percent of all farms in the U.S. are family farms, and they account for 85 percent of the national agricultural output. It is estimated that nearly 70 percent of the farmland owned by these families will be passed on in the next two decades. The USDA estimates that 89 percent of these families do not have a succession plan.
This lack of planning can cause huge problems for families in agriculture. In 2001, the current federal estate tax law was put into place by former President George W. Bush, and it was extended by President Obama in 2010. However, if nothing is done, those laws will expire at the end of 2012.
The current structure allows people to have up to $5 million in their estate that can be passed on without taxation. Anything over $5 million is taxed at 35 percent. If the laws are allowed to expire, that exemption will fall to just $1 million, and assets above that rate will be taxed at 55 percent.
Many farmers and ranchers have assets totaling well above $1 million. The value of farmland has risen sharply over the last few years, and the average size of the farm has as well. According to the USDA, in 1900 the average size of a farm was 147 acres. Today that number stands at 441 acres.
The estate tax takes into account all assets that are owned, including but not limited to land, equipment and livestock. If a person owns more than the exemption at the time of death, the rest of family must pay that estate tax.
With no succession plan in place, this tax can cause families to sell part of the farm just to pay the tax, and can cause a farm to be broken up to meet the financial obligations.
A will is not enough to keep a family out of this tax.
“A will is not a living document. A will only is not sufficient for estate planning,” said Powers. “A trust is a legal document that is a special kind of contract, designed to control property management and distribution.”
A trust is one way that a family can pass on the family business. A living trust is created to hold assets. While living, the trust holder has complete control over the assets. Upon death, the successor trustee will then distribute the assets to the named beneficiaries, without having to go through probate.
Probate is the first step after the death of a person to distribute an estate when a will is used. This process validates the will. However, avoiding probate is advisable if possible for two reasons.
The first is that probate can tie up assets for months, and in big estates, it can be for more than a year. The second reason is that it is expensive, and the fees associated with probate can add up quickly.
A trust avoids this process, and can help minimize estate taxes. Most trusts are structured as A-B trusts. When one spouse dies, the trust is then split into two separate trusts. This could bump up the exemption to twice the normal exemption.
Another avenue to help avoid estate taxes is through how the business is set up. Partnerships and limited liability companies offer asset protection as well.
In a partnership, two or more individuals are personally liable for the business. One advantage is that there are few legal requirements to form the business. There is no double taxation, and the profits or losses are divided among the business partners. If one of the partners dies, the other partner can take ownership of the estate.
A limited liability company is much like a partnership in terms of structure, but is more like a corporation for tax purposes. The main advantage is that the partners are not personally liable, and there is no double taxation. The main disadvantage is that the treatment of LLCs across states differs.
In the LLC setup, family members can be added to the LLC, and when one of the family members dies, the other family member can continue on with the business. Usually parents are the main wealth holders in the beginning and gift their estate over time to the children. The parents remain control as the managers until death, at which point the children would become the managers.
Federal tax laws allow an individual to gift up to $13,000 per year, so a married couple could transfer up to $26,000 per year to the children without a tax obligation. A limited family partnership is very similar to a LLC in terms of estate transfer, but different in terms of tax structure.
When considering what type of estate planning methods are best, farmers and ranchers should make sure to consult an estate planning specialist. This will help ensure that the family receives the most benefits that they can, and pay the least amount of taxes.
Failing to have an estate plan in place can cause a family to lose a farm or ranch just to meet the taxes, and take away family operations. Having a plan in place is the best insurance a farmer or rancher can have to know that he or she can continue the family legacy.
An online estate planning guide is available at www.AgTransitions.UMN.edu. To learn more about estate planning, please visit www.NationalAgLawCenter.org/ReadingRooms/EstatePlanning. ❖
“Successful farm transitions do not typically occur without thought and preparation. They happen because someone cares enough about their land, their family and their community to make the effort.”
~ Dave Goeller,
University of Nebraska