June 6, 2013
The increase in crop and livestock prices has generated significant profits for many folks in agriculture, which some are using to buy more land. But whether you’re using cash reserves or borrowing for the purpose, use a well-researched financial plan before jumping into the high-priced land market.
In that spirit, the American Bankers Association’s Agricultural and Rural Bankers Committee, which consists of leading U.S. ag bankers, offers these 15 tips for planning your farmland purchase:
What is your business’ financial condition? Consider needed investments, expected expenditures, and crop conditions to determine if buying land is the best use for your cash. Will other opportunities provide a better return?
Have you created a pro-forma cash flow? Research the sales trends and expected revenue of a potential plot of land to determine if the purchase fits your plan. Does the potential return meet your objectives? Talk to your banker.
Given your revenue forecast, are you overpaying? If you’re paying a premium land price, how long until you recoup your investment? After determining how much you can prudently spend, and the revenue needed to justify your purchase, be sure to stay within those targets.
Have you given it long and careful consideration? Never be rushed by a broker, and never confide your best price or financial goals with a party working for the seller. Don’t buy impulsively or make a deal before visiting the property numerous times. Rework the standard broker’s purchase contract with your lawyer, deleting what you don’t like and adding what you want, before presenting the offer.
Does it make more financial sense to rent the land than own it? Rental rates are high, but renting frees up cash. What will be your total land payment per tillable acre owned and how does this compare to cash rents in your area?
Should you go all in with your cash? Talk to your banker about alternatives to using all cash in the transaction. Land is an illiquid asset and purchasing it will impact your farm’s liquidity. Your banker can help structure a loan that will enable you to acquire the land while preserving working capital for necessary expenditures.
How much land are you acquiring? Sounds simple, but many times there is confusion about how much land is actually being purchased. Know exactly what you’re getting before making a bid. See if the land has been surveyed and make sure it matches the details of the offer. If the land hasn’t been surveyed, work with your attorney to determine the acreage based on the legal description, or consider having the land surveyed and determine who will pay for it. Make sure there are no special easements tied to the land. If there are, make sure you spend time studying them and understanding them completely.
What does the land appraise for? Are there some comparable sales in the area? Appraisals are expensive, but they are the best way to establish land value. Even if you don’t get a full appraisal, attempt to find some comparable sales to determine if the purchase price is reasonable.
What is the soils story? What is the capability of the soil you are buying and how does this impact your revenue forecast? Good soil is paramount. Know the type of soil you’re buying and the history of annual crop rotation. Any seller should be more than happy to provide you with a soil’s profile and information about past farming practices.
What is the water source? Is the property irrigated? Do the water rights convey with the property? Adequate water is essential to establishing the value of the property. Account for water cost in your financial plan to ensure this cost doesn’t negatively impact your return. Make sure all water wells are registered with the appropriate authorities. Each state has its own water laws so make sure you are familiar with the state you’re doing business in.
What do you know about the gas, mineral, and wind rights for the property? Do these rights convey to you as the purchaser? Have they been surveyed or severed from the surface rights? Are they currently under lease? If so, under what terms? Have a thorough knowledge of property rights, as mining and drilling can have an impact on surface and water quality, access to the property, and the viability of the farm or ranch.
How is the property zoned? Will your plans for the property conflict with existing zoning restrictions? Are there conservation easements that could restrict use of the property? This factor has a significant impact on your valuation of the property, particularly if your plans conflict with current zoning restrictions. Make sure you understand the assured leases that may go with the property – many western states have a large percentage of their ground that falls under the Bureau of Land Management, U.S. Forest Service, state land, national grassland.
How will you hold deed in the property? Will you own it individually, jointly with a spouse, in a family-owned entity (corp., LLC, LLP) or in a trust? The pros and cons of how you own the land will depend on your long-term goals.
Are there any environmental problems? The last thing you want to buy is a costly environmental problem. Paying for an onsite environmental audit before you buy the land may be worth the cost, and will help ensure you’re not buying into an expensive cleanup.
How long will you actively farm? Make sure your financing plan matches the rest of your intended career as an active producer. Will you fully retire all debt from the acquisition before you retire? Do you have sufficient life and disability insurance?
No one knows more about financial budgeting and cash flow planning than your banker. Talk with your banker about the significance of purchasing land and how it will impact your business.
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