(Farm Progress) - Imagine that you are a farmer in your 60s wanting to discuss the transition plan for your operation.
However, when you were to inherit the farm, no succession plan was in place, and your father, who is in his 90s, still runs the farm. It is now time that your son wants to start the transition plan, but you do not know where to start.
One day your father passes away, and the will says to have the farm split among all eight children. All that hard work and effort that you put into the farm was not acknowledged in the planning, and now you are stuck with no savings, no retirement and no home once all the assets are dispersed.
This was a real-life example that David Goeller, retired deputy director of the North Central Risk Management Education Center at the University of Nebraska, encountered. Although this might be a more extreme scenario, it is important to consider and take heed when planning to secure the owner’s and the heir’s futures.
Jenn Krultz Sather, a Master of Agribusiness graduate from Kansas State University, presented her thesis on sweat equity at a Center for Agricultural Profitability webinar.
“I feel as though there needs to be more research into sweat equity. I have identified the problem, and my research will hopefully become a drop in the bucket in sweat equity research,” Krultz Sather said.
What is a succession plan?
According to research that Krultz Sather found, 30% of farmers currently have an estate plan, which leaves 70% of farmers without a concrete plan of inheritance.
It is important to first understand the difference between estate and succession planning. Krultz Sather defines estate planning as the transition of asset ownership, whereas succession planning is the transition of management. Both aspects are crucial to passing the farm or ranch down to the next generation.
Krultz Sather’s entire thesis revolved around two goals for a successful transition. The first is to secure the farm’s financial viability. The next goal is to transition the farm in a way that makes all the stakeholders happy. This includes the on-farm and off-farm heirs.
“As time goes on, it is not as easy as it was to simply sign over the farm as it was in prior years,” Krultz Sather said.
One important aspect of the farm or ranch transition that gets lost in the process is taking sweat equity into consideration. Sweat equity is where an on-farm heir received payment at a below-market rate, and the farm business grows due to an on-farm heir’s below-market labors, Krultz Sather said.
Not a “one-size-fits-all” process
Every farm is different in terms of structure and how the operation is run. This makes it difficult to have a succession plan that fits all farms. In hopes to cover different scenarios that the farm or ranch might have, Krultz Sather had three different simulations of a dairy, row crop and cow/calf operation to look at unique scenarios.
“The goal is to see how different financials appropriately divvy up between each generation on the farm based on what scenario they are using,” Krultz Sather said.
Each operation had three types of arrangements for sweat equity. Those were a percentage arrangement, salary arrangement and hourly arrangement.
Percent arrangement. In a percent arrangement, the net income is split between the owner and the heir. This is a small percentage for the heir at first and will grow over time. This will allow the heir to learn and gain more responsibility. “The challenges of this arrangement are deciding what percentage to allocate and what assets are owned through this process,” Krultz Sather said.
Salary arrangement. In this second arrangement, the heir leaves full-time work off the farm. In this situation, there might not be liquid cash available for compensation, so non-cash compensation might be used. The challenges with this situation are that the heir must be committed to this career and continuing the farm or ranch.
Hourly arrangement. The last arrangement option is hourly payment. This is where the owner pays for hours spent on the farm. In this situation, the heir will start part time with an off-farm job to help with living expenses. Over time, their role will transition to a full-time position. The biggest challenge with this arrangement is determining a fair wage and fulfilling the promise of inheriting assets.
The best results
In this simulation, all operations had the same financial setup. Once the farm expenses were paid and all the employees were paid, 20% of the income remaining was invested back into the farm, and the rest of the money was put into savings.
The results of this research showed that the most successful distribution of money for the row crop and the cow/calf operations was a percentage arrangement. For the dairy operation, a salary arrangement proved to be the most successful.
Krultz Sather recognized that even different cattle operations are set up differently. It is important to think about your operation’s structure before choosing one of these sweat equity arrangements. In addition to compensating the on-farm heir adequately, ensuring that all stakeholders are happy is key to a successful transition of assets and ownership.
Learn more at the UNL Center for Agricultural Profitability website at cap.unl.edu.
By Elizabeth Hodges, Staff Writer
January 13, 2025
