Yes, incorporation is a powerful business planning tool — but don’t make the mistake of assuming it will be a permanent, painless solution to your farm transfer questions
It’s no secret to anyone, says University of Saskatchewan economist Bill Brown. The past two generations have produced an enormous shift in the structure and nature of farms in Canada.
Long gone are the section-sized Prairie grain operations and the 100-acre family farms in the East. They’ve been swallowed up by bigger and bigger operations, so today a 10,000-acre farm in the West barely raises an eyebrow, and everywhere across the country, if you aren’t expanding the amount of ground you’re covering every few years, people begin wondering aloud if you’ve given up on being a “real” farmer.
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The trend is hitting every farm sector, leading to bigger production units and higher capital requirements and, inevitably, it is creating ever-bigger barriers for new entrants.
The challenge of putting together a great pile of money before you can even think of going farming may be the defining issue of today’s agriculture, and it is forcing a lot of farmers to rethink just how they structure their businesses.
Maybe we all grew up to think of the farmer as a sole proprietor owner-operator, but there’s growing interest in alternative business structures.
Brown recently spoke to Country Guide about this issue from Dublin, Ireland, where he’s working on a number of projects during his sabbatical year.
What does he think? Brown says incorporation is the most obvious alternative structure, but there’s no way it’s as neat and easy as heading down to the lawyer’s office to fill out a few forms.
In other words, getting the details right when you set up the corporation could prove one of the most important jobs you ever take on.
Country Guide: Anecdotally we’re always hearing that farm business structures are changing, but what can you tell us about the actual numbers?
Bill Brown: Off the top of my head, the last numbers I saw from Statistics Canada were from the last census, and about 12 per cent of Canadian farms were incorporated. That’s a change from the previous census, when about nine per cent were.
As a percentage, that’s a huge increase, but as a portion of the overall total of farms in Canada, it still remains quite small. I do expect it to continue to increase as the average family farm continues to grow in size.
There were also a few partnerships, but they’re a very small proportion of the total number of farms — maybe three or four per cent. It’s a business structure that has some issues. For example you have to take responsibility for all your partner’s debts.
CG: My sense is that larger farm size and the accompanying capital requirements are the forces that are driving this trend. Is that what you see, or is it an oversimplification?
BB: It certainly plays an important role.
The average farm in Saskatchewan has about $700,000 in equity and $200,000 in debt, for a total of $900,000 in assets — and that might actually be a bit smaller than the average across the country.
But the bottom line is, a lot of assets and equity don’t produce a lot of cash. There are periods of course where farms do quite well, but over the course of many years, there will be long periods where they don’t make a lot of returns or have a lot of cash.
The increase in the value of those assets over many years contributes to farmers’ overall wealth and it funds their retirement.
But it also means there’s a very high cost of entry.
CG: That makes the questions of generational transfer, farm succession and inheritance for farming and non-farming children even more important. What are your thoughts on that?
BB: The issue of fairness to non-farming children is certainly an issue, but how the farm is structured is going to be very important for its future success.
More and more you see non-farming children who want to inherit land, usually with the understanding they’ll rent it to the farming family member. But they may then decide they want to sell it out from under their sibling, and frequently the young family member who has taken over the farm won’t have the money to buy it, so the land gets sold to someone else in the area.
The example I always give is a family member who lives and works in Calgary who inherits land but who also has a $300,000 or $400,000 mortgage that they’re paying six or eight per cent on. They may decide that it makes more sense to sell the land, which is only returning three or four per cent to them, and pay off their mortgage.
BB: You can do a few things with share structure. For example, you can create voting shares for farming members of the family and non-voting shares for non-farming members, and so on.
You can also set up rules that you can’t sell shares outside of the family, but that’s not perfect either. For example, the farming family member might not want to buy, or might not have the money to buy, when the non-farming member wants to sell.
Still, over the short term, at least, you can ensure that the farm can continue as a viable business entity that is owned and controlled by the family. However, that gives a lot of power to the farming family members — maybe too much.
The non-farming members can’t sell their land or interest in land, and the farming members manage the operation and make a lot of business decisions from day to day that can have a major impact on the interests of the non-farming members. For example they may decide that the farm needs to buy a brand new $60,000 pickup truck for the use of the farm manager — them — and that would be money that would come right off the top of the farm’s income through the Capital Cost Allowance deduction and be unavailable to be distributed for shareholders.
So over the short term incorporation can keep the farm viable, but a generation or two down the road you can find you have a whole different set of problems emerge.
CG: And what about the risks to farming members of the family if you don’t include some of these restrictions on shares? I can see situations emerging where farmers might find themselves falling victim to a palace coup of sorts and they’ll be told they can either stay as an employee or find something else to do, but the other shareholders are hiring a farm manager to run things.
BB: That can happen. It can happen on farms that are held in family-owned corporations and it can also happen in much larger family owned businesses. Dan Morgan’s book Merchants of Grain talks about how the McMillans took over Cargill after one of the daughters married a McMillan. He was a manager, and he basically took over the company, even though he never directly controlled more than 10 or 12 per cent of it. Today there are lots of Cargills that own shares in the company, and get returns from it, but they’re not really involved in the management of the company.
It’s something you can see at a farm level too, and it would be a mistake to say that it’s always for some sort of sinister reason. In a lot of cases it can happen because it needs to happen.
The other family members might look at the operation and at how Joe is running it and realize that Joe’s an alcoholic, he’s making terrible business decisions, and that his performance is hurting everyone. In order to protect everyone’s assets and interests — including Joe’s — a change needs to be made.
CG: Would it be fair to say, then, that incorporation is a business structure that will give you some tools, but it isn’t a silver bullet?
BB: It isn’t a panacea that will solve everything. It can address certain issues right now, and it can even ensure some continuity for a period of time — say a generation or two.
But long-term success or failure can’t be determined or guaranteed today. It’s going to depend a lot on the individuals who are involved then, rather than the people setting it up now.
I think it’s important to note that if the family as a whole wants to see the farm carry on, it will happen. If the family doesn’t, it won’t. No business structure can change that. CG
