How to pass on and preserve the family farm and generate retirement income

A couple puts an equitable plan in place for their children, only one of whom will continue to farm

How to pass on and preserve the family farm and generate retirement income

A couple we’ll call Harry, 53, and Martha, 50, farm 5,500 acres in Manitoba’s Interlake region. They have three children ages 19, 20 and 24. Only the eldest, who we’ll call Bruce, is interested in taking over the farm one day. The other two see their destinies in what could be called town jobs. The problem for Harry and Martha is to create a plan that will be fair to all three children, preserve the farm and generate retirement income.

Colin Sabourin, a certified agricultural farm advisor with Harbourfront Wealth in Winnipeg, worked with Harry and Martha to develop a plan that would accomplish their goals.

The farm assets and related financial structures are substantial. Their farming corporation has an estimated net worth of $2.785 million. There is also land personally owned with a value of $4 million, a house and share of a cottage with a combined value of $457,000, RRSPs with an estimated value of $320,000, a small Tax-Free Savings Account, and a life insurance policy of $1.55 million. At the death of the second partner, assuming that underlying values have not changed, they could have an estate of about $9 million.

Partition and fairness to the three children is the issue. If Harry and Martha were to die in the near future, their eldest child, who wants to take over the farm, would get it and there would be nothing for the other two children.

The present plan is for the eldest child to buy out the parents over the years, but it does not help make it fair today were mom and dad to pass away, Sabourin notes. From a tax perspective, the Qualified Farm Property Lifetime Capital Gains Exemption would provide $1 million each to the parents and allow the farm home and an acre to be tax-free.

The adjusted cost base of the farm could also be enhanced by use of the parents’ remaining personal lifetime gains exemption. Mom and Dad could choose any disposition value between their cost and present estimated market price. The best deal for the children would be to use market price so that the farming son and even the other children’s cost base would be higher and their future capital gains tax exposure less, Sabourin explains.

Harry and Martha have a half interest in a family cottage. Their interest is worth $165,000. Martha and Harry paid $82,500 and the other couple paid $82,500. The total cottage value, $165,000, is about the present estimated market price, so were the parents to pass away in the near future, the cottage would incur no capital gains tax.

The couple’s RRSPs present a tax issue, Sabourin notes. At the death of the first partner, his or her RRSP value rolls to the survivor with no tax. At the death of the second, the entire RRSP is deemed sold and taxed. There could be a 45 per cent tax on that sum and the deemed disposition on the second spouse’s final return would probably trigger the Old Age Security clawback that would retroactively take all OAS from the estate in the decedent’s final year.

Harry and Martha have $1.55 million of life insurance to cover tax for both the corporation and the parents. In the end, the life insurance would prevent a crippling tax bill. But the problem of keeping the farm intact would remain.

If the farm were partitioned into thirds and then two thirds of the farm sold for cash for the non-farming children, the remainder would be a different operation in scale and even in the ratios of tilled land to pasture that it could support.

If the farming son were to borrow $6 million using the total farm as collateral, the non-farming children could have $3 million each. That is a fair way to divide the estate, but it is not necessarily fair — for while it accounts for fixed assets and distributes them evenly, it does not evaluate the future labour the eldest child will invest in the farm. Worse, it handcuffs the child who takes over the farm and forces him to borrow and then service the loan out of farm revenue.

The principal residence and a yard, as long as it is appropriate for the use and enjoyment of the home, can be sold free of tax. The cottage has not appreciated but selling half a cottage would be difficult. Best to keep it in the family, Sabourin suggests.

There is another solution — the life insurance alternative. The hefty $1.55 million of life coverage payable on the death of the second parent provides money for the non-farming children. However, Harry and Martha can get a better deal on their insurance.

Part of their insurance package is an $800,000 term policy which protects a lender, the mortgage creditor in this case. It covers the declining principal balance, leaves nothing for anyone else, and costs $4,400 per year. An alternative policy for a 10-year-level term with an $800,000 death benefit can be had for $1,800 a year. That’s a $2,600 saving. The insurance can be used to provide for the interests of the non-farming children and to pay income taxes that will be assessed on the final return.

The suggested solution, which, in a nutshell, is to keep the farm intact and use life insurance to provide benefits for non-farming children will be tax-efficient except for the final year tax return of the second parent to die, when money remaining in the RRSPs will be deemed paid and taxed and all capital gains in taxable accounts will be deemed realized and taxed. The only saving grace is that the Alternative Minimum Tax, which pushes up the rates on taxed for a given year against future taxes due — a sort of forward credit — is not charged.

The suggested solution is family-friendly, friendly to a family farm that took decades to build and grow, and has tax consequences that are anticipated and contained.

In retirement, as the farm is transferred to their son, the parents will have $80,000 per year from the farm operated by the single child who wants to take it over, two Old Age Security benefits of $7,362 each at 2020 rates, an estimated $14,000 total combined Canada Pension Plan benefits, and $6,000 income from their RRSPs balanced in equal amounts starting for each at age 71 rising as prescribed minimums grow.

The sum, $114,724, split and taxed at an average Manitoba and federal combined rate of 18 per cent would leave them with about $7,800 per month. That’s about $94,100 per year for expenses after tax, a sum far above their average home spending of $70,000 per year based on their fully paid for assets such as their leisure car and the home itself, modest travel within Canada, gifts and donations to good causes. Sums not spent can go to the couple’s TFSAs for future spending or continued saving.

“This plan supports the couple’s retirement needs and works with reasonable earnings and feasible expenses,” Sabourin says. “It is a supportable and tax-efficient solution for their concerns.”

About the author


Andrew Allentuck’s book, “Cherished Fortune: Build Your Portfolio Like Your Own Business,” written with co-author Benoit Poliquin, was recently published by Dundurn Press.



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