legal issues affecting farm transitions ifmaps in-service training - april 26, 2013

Legal Issues Affecting Farm TransitionsIFMAPS In-service training - April 26, 2013

Dr. Shannon Ferrell Dr. Rodney Jones

Oklahoma State UniversityDepartment of Agricultural EconomicsAssistant Professor, Agricultural Law

OK Cooperative Extension Service Area Extension Agricultural Economics Specialist

Outline• Elements

• Tools

• Barriers

• Conclusions

Why should I care?

Founding GenerationSecond Generation

Third Generation

Fourth Generation

30%12%

3%

Iowa Farmland Ownership by AgeSource: Iowa State University Extension (Duffy and Smith, 2008)

1982 1992 2002 20070%

10%20%30%40%50%60%70%80%90%

100%

26

15

22

27

28

>74 years65-7455-64 years45-54 years35-44 years25-34 years<25 years

• 55%

Challenges for the Aging Farm Owner

Perspectives for the closely-held farm business

Family

LegacyBusiness

Assets

Female:80.3%

Male: 19.7%

Widowed Persons by Gender (AARP, 2001)

Why should I care?

Why should I care?

3x to 4xPoverty rate of widows compared to same-age married women

Why should I care?

55%Percentage of U.S. adults with

no estate plan in place

Elements of Transition

Founder

Successor

Elements of Transition

Founder

On-farm heir

Off-farm heir

Unrelated Successor

Liquidation / Dissolution

OwnershipControl

Participation

Separate Entity

Elements of Transition

Founder

On-farm heir

Off-farm heir

Unrelated Successor

Liquidation / Dissolution

OwnershipControl

Participation

Separate Entity

Elements of Transition

Founder

On-farm heir

Off-farm heir

Unrelated Successor

Liquidation / Dissolution

OwnershipControl

Participation

Separate Entity

Tool What it does Consequences

Intestate Succession

Default plan; allocates and transfers property at death

•Zero up –front cost•Excludes all outside family•No decedent control

Will Instructions for disposition of property at death

•Property held until death•Probate issues•Does its job, then quits

Trust Legal entity that holds and manages property

•Highly flexible•Requires trustee•Irrevocable/rigid at death

Estate Tools

Tool What it does Consequences

Life Insurance

Financial instrument paying amount on death

•Can add liquidity and/or enhance estate•Question of taxability•Cost : benefit?•Planning horizon?

Transfer on Death deed

Conveyance triggered by death of grantor

•Property held til death•Avoids probate•Not universally adopted or understood

Estate Tools - Others

Tool What it does Consequences

Joint Tenancy w/ Right of Survivorship(JTWROS)

Cotenancy that redistributes ownership interest of decedent among survivors

•Avoids probate•Reduces flexibility during life•Unintended consequences

Life Estate

Present interest to holder, remainder interest to successor at death

•Avoids probate•Reduces flexibility during life•Requires cooperation

Ownership Tools

Tool What it does Consequences

Sole proprietorship / general partnership

“Organic” form of business; no separate existence from owner

•Business as entity ceases upon ANY change to owners•Unlimited liability that is personal, joint, and several

Limited Partnership (L.P.)

Separate entity consisting of general partner(s) and limited partner(s)

•Limited liability for limited partner (rule evolving)•Limited management participation by limited partner (rule evolving)•Questions re: liability/participation of partners

Business Entities

Tool What it does Consequences

Corporation (Inc.)

Separate legal entity with limited liability for all owners

•Did we say limited liability?•Well-recognized rules governing control•Allows flexibility in transfers•S/C Corp. taxation•Must follow formalities

Limited Liability Company (L.L.C.)

Separate legal entity with limited liability for all owners

•All advantages of corporations w/ more flexibility•Flexibility of tax treatment•More than enough rope to hang yourself

Business Entities

Tool What it does Consequences

Installment Sale

Purchase of property by successor with payments over time

•Allows seller to recognize income from sale over time•Remove property from estate•Seller may retain security interest•Buyer may lose step-up in basis•What if default occurs?

Long-term lease

Transfer of property possession and control to lessee w/ retention of ownership by lessor

•May be structured in number of ways to allow more/less participation by lessor•Does not remove property from estate•Structure of lease dictates tax treatement

Transactional Tools

Barriers – Tax Policy

The State of the Federal Estate Tax

• 2013 estate tax credit:–$5,250,000 per individual with

annual inflation adjustment–$10,500,000 effective credit per

couple–40% maximum rate

“Spousal Portability”• Surviving spouse gets unused portion of

first decedent’s credit

• Carter and Barbara: husband and wife

• Carter dies, uses $3 million of his credit

• Barbara’s estate can pass $7.5 million (her

$5.25 million credit + Carter’s unused

$2.25 million credit) estate tax-free.

Barriers to Implementation• Communication• Equitable considerations

– Farm kid / city kid– Sweat equity

• Willingness to transfer

Perspectives for the closely-held farm business

Family

LegacyBusiness

Assets

Conclusions

• Producers, we can transfer it. We have the

technology.

• Do producers and professionals

understand the tools and their impacts?

• Are producers willing to engage in true

transitions?

THANKS!

Dr. Shannon L. FerrellOSU Department of Agricultural Economics

shannon.l.ferrell@okstate.edu