Passing the Farm or Ranch to the Next Generation – Part Two

If parents want the ranch to survive and continue for generations to come, transition planning is crucial – to enable the ranch to remain viable –which can be difficult if there are multiple heirs. Fair isn’t always the same as equal. The sibling who stayed home and worked on the ranch doesn’t want to be ousted by the ones who left and now want their piece of it or want the ranch sold and the money divided.

“With today’s land values, it’s unrealistic to think that if you have several heirs that the one on the ranch would be able to buy out the other siblings. Generally, land values are much higher than the cash flow of the ranch,” said Dana Springer, CPA and partner at Wipfli LLP in Havre, Montana.

Often, not all the children are interested in carrying on the farm business; there may be some, or one, that stayed, and the others are gone doing other things. This can be difficult when trying to decide how to split the inheritance.

“If parents have assets apart from the farm, such as life insurance, this might help provide for the other children while giving the farm to the one who stayed,” said Grant Snell of Crowley-Fleck Attorneys, Kalispell, Montana.

“Usually the value of a ranch is in the land,” said Springer. “There can be family tensions when one child inherits the land and the others don’t, yet the only time that child gains any value from that land is when he sells it. He simply inherits hard work!” As the old saying goes, “Ranchers live poor and die rich.”

“There are several options to mitigate hard feelings when transitions are made. One child could inherit the land and the others inherit whatever cash or investments the parents have. If the land has significantly more value than the cash – which it generally does – a person can build things into the will. For instance, if the land were to be sold within a specified time after your death, a certain amount or percent of the proceeds have to be split with the other siblings. This avoids significant discrepancies,” Springer explained.

One thing Snell has done with clients if they have valuable mineral interests, is suggest that those be severed from the property and put in a trust for the non-farming kids. This can help equalize things while leaving the surface land to the kids doing the farming. This may depend on your state. In some western states the government retained mineral rights when the land was homesteaded. Different states may have different rules.

Using an entity for ownership of the farm, rather than a sole proprietorship, can be beneficial.

“We often use an LLC as an entity that would own the farm, and sometimes we can use multiple entities – one that owns the land and another that runs the operation,” said Snell. “There can be tax benefits to having the operational entity lease the farmland, even though the parents might still be full owners of each entity.”

Besides tax benefits, this can divide management rights from the financial rights. “With an LLC you can have different classes of membership interests, such as non-voting membership interests, that pass to siblings outside the farm, at the parents’ deaths. This would carry with it some economic benefits, but they wouldn’t be able to vote, make decisions and outvote the ones who are running the farm,” he said.

“The operating agreements for the LLC or the trust can have different triggers for buyout. If the kids can agree amongst themselves and the ones on the farm want to buy out their siblings, you can build in some preferential financing obligations. If the kids

running the farm don’t want to get bank financing, this provides a way to purchase their siblings’ interests with seller financing options – with payments over time – that won’t impede their cash flow for ability to run the farm,” Snell further explained.

Sometimes parents sell part of the ranch to a child with a long-term contract, financing the sale. The balance of the loan can be forgiven if it isn’t completely paid off when the parents die, so the child doesn’t have to pay the other heirs.

“Though the child won’t have to pay off the balance, someone still has to pay the tax. It preserves the step-up in basis for the child, and it can work, but may not have as much tax advantage as some of the other options. This option doesn’t help with long-term care expenses because those will take the loan payments,” Springer said.

Another option is for parents to lease the land to the children and receive rent income to finance their retirement. “Many of our rancher clients have not saved funds for retirement because all their money goes back into the operation. They need an income to retire on, so rather than selling land