In southern Manitoba, a couple we’ll call Hank and Susie, both in their mid-50s, farm 1,200 acres of grain and run a hog finishing operation that feeds 1,200 pigs to market weight about two and a third times per year for a total production of 2,800 per year. They grow most of their own feed. The farming and pig operations and 280 acres of land were incorporated 16 years ago, building $2.4 million of net worth.
That business, really their life’s work, is now in jeopardy. Low hog prices in 2008 and 2009 have put the operation at risk. They want to retire in three to five years while still helping their three children ages 27, 24 and 22. The two elder children are interested in taking over the farm. The youngest is still in university.
Farm Financial Planner asked financial expert Don Forbes, head of Don Forbes & Associates/ Armstrong & Quaile Associates Inc., in Carberry, Man., to work with Hank and Susie to examine the feasibility of their plans. “This is really a question of whether the next generation will have the acumen and discipline the parents used to build a financially successful farm,” Forbes explains.
“The sons have been involved in the farm part-time and they help out at harvest time, but they have not been managers. If and when they take over the farm, their commitment and their capacity to manage will be tested.”
“We assume that Hank and Susie will need $5,000 per month after tax. That will cover $3,000 per month for living expenses, $1,000 per month for travel and a new vehicle every five years, and $1,000 per month for goods and services presently provided by the farm.
That $5,000 after tax budget, which would be about $7,000 per month before tax, will have to come from their entitlements to Canada Pension Plan and, after age 65, Old Age Security benefits and Susie’s pension from teaching. That will work out to $570 per month for Hank’s CPP, Susie’s teacher’s pension of $1,610 per month at age 55, two years from now, Old Age Security of $517 per month per person from age 65, Hank’s RRIF income of about $800 per month, Susie’s RRIF income of $500 per month, and $1,000 per month in goods and services from the family farm. Add it up and, there will be a shortfall of $1,490 per month if Hank and Susie begin to retire in five years when he reaches age
60, Forbes predicts. Hank and Susie can deal with the shortfall by cutting
expenses by $1,490 per month or by dipping
more aggressively into their RRSPs
over the next 10 years rather than by taking
just the minimum from RRIFs each year. They could also sell 160 acres of their personal property as time goes on. If they sell in a decade, the land, now worth $240,000 per quarter, should rise to $322,000 and then to $443,000, in 10 and 20 years, respectively, just from a three per cent average annual rise in inflation.
CANTHEFA RM REMAIN VIABLE?
Yes, Forbes says, because their costs are low. Hank and Susie grow their feed, return manure to the land, use legumes to fix nitrogen in the soil, and then feed the resulting grain back to the hogs. As well, Hank and Susie buy older but high capacity farm equipment, maintain it well, and do not buy machinery or land unless they have sufficient cash flow to pay off the purchase in five to 10 years. This gives them the ability to weather tough years like 2008 and 2009. Even after this past disastrous year, they still plan to have all their debts paid within 18 months, Forbes notes. All in all, Hank and Susie have a viable hog operation, though they remain
The parents need to build up $1 million in equity including $200,000 in cash within the farming corporation to assist the sons to get started in taking over the farm.
hostage to market prices for their animals and, to a lesser degree, to input costs.
“Hog finishing has been a good business in the past, but the future is hard to predict,” Hank says. “If that does not go well, we could still farm the land. We could do mixed use with grain and vegetables on our land, which has excellent topsoil. But we would not raise any animals other than hogs. We’ll make a decision in a year or two when we see if swine become profitable again.”
That would work, Forbes says, because their land supports a grain operation. But the cost of their land would be hard to recoup from barley at $3 a bushel or wheat at $8 a bushel. In other words, moving to a grain operation would support the parents but not the children. “Hog prices will rise again. There is a price cycle and, from my point of view, prices are already rising,” he notes. “Add to that the federal government’s sow reduction program and the foundation for a return to viable hog prices is
already moving ahead.”
THE NEXT GENERATION
The parents need to build up $1 million in equity including $200,000 in cash within the farming corporation to assist the sons to get started in taking over the farm. The eldest son likes working with swine. To assist him and the middle old son as well, the farming corporation could buy land for each, providing a 25 per cent down payment and guaranteeing the first mortgage. The sons would pay the mortgage from their own resources, but the farming corporation would cover any shortfall. The corporation could have a second mortgage placed on the respective titles to protect its interests, Forbes says. Moreover, the farming corporation could pay for and own a $300,000 “term to 100” joint and last to die life insurance policy on the parents’ lives. The policy would provide liquidity and tax savings.
“These all seem like good recommendations,” Hank says. “They make it clear that we can continue to live well, even a little better than we have lived in the past. So selling off some land over time to our boys would be OK. We could guarantee the mortgages the boys would take, but on the second mortgage, we would accept a relatively modest interest rate.” Forbes notes that the second mortgage must have a meaningful interest rate at least equal to the so-called prescribed rate set by the Canada Revenue Agency. Currently, it is at one per cent per year. And that rate, applied to any loan, does not have to rise even if market interest rates rise. This is a moment in history in which interest rates favour borrowers and it is a good time for Hank and Susie to evaluate their generational transfer plans and perhaps to undertake them, Forbes adds.
“Our own plans are to remain where we are,” Hank explains. “That means we would stay in our house on the farm. Our boys live nearby, so there would be no need for them to relocate. This works out to an ideal situation. They get the farming interest, we work out our financial interests and everybody in the family is both satisfied and protected. We will take care of our youngest son’s financial interests in our will.
Andrew Allentuck is author of When Can I Retire: Planning Your Financial Life After Work, published in 2009 by Viking Canada
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Thanks Don Forbes of Carberry, Man., for his help with this report. You can contact Don at 204-834-3155 or [email protected]