Farming is not for the faint hearted. The title of this article is premised on a joke that most farmers have heard, being how do you make a small fortune in farming? Start with a BIG fortune!!!
Farming is in my view a labour of love but passion aside one that comes with major investment and cash flow needs.
The business of farming is very distinct from other business in that carrying on a farming enterprise is fraught with numerous factors that cannot neatly be specified in a business plan such as:
- The weather.
- Too little rain, too much rain…
- Pestilence and disease to crops and livestock.
- Supply and demand challenges and variables.
- Foreign market bans, exchange control fluctuations, tariffs or pro or anti- dumping protocols etc.
- Political factors and expropriation.
- Input Costs.
- The list goes on…
Farmers we salute you as either very brave or insane but thank you for providing us with food security.
The objective of this article is to highlight a number of glaring issues that Farmers face and how they can very simply address them.
There are variables and vagaries that a Farmer cannot control but there are actions that a Farmer can take to make the journey less stressful and to ensure that the fruit of their labours can be passed on to future generations seamlessly and tax efficiently.
At the outset a Farmer MUST consider asset protection. Simply no farm no farming!!! The Famer goes from having a large fortune to NO fortune. Naturally there is equipment, vehicles, irrigation, pumps, fixtures and fittings etc. that are required to farm but the main asset is the farmland.
In our experience the farm being the immovable property is often owned in the Farmer’s personal name or in a Company that the Farmer owns the shares in. In a number of instances the farmland may be owned in a Trust but this can be tax inefficient. The mode of ownership is generally attributable to inheritance, the land being passed through generations in a similar manner. Unfortunately, personal ownership (personal ownership or via shareholding) places the most valuable farming asset at risk. In the event of bad season/s, or any other claim which may befall upon a farmer, will result in the farmland being attached and sold on auction for cents in the rand.
No Farm no farming…
It is critical that the farm must be secured in a structure to protect the farm from the operations of farming where the risk lies. If the farming operation is separate from the farmland then the farm land will be safe but most Farmer’s do not take action due to the perceived high costs of transferring the farmland. Enter the solution…
The law allows for the transfer of an immovable property from the Farmer to a structure without triggering any capital gains taxes (maximum 18%) or VAT (15%) or transfer duty (13% on land over R12 million). Essentially the farmland can be transferred a ZERO tax or transfer duty is triggered.
Once the obstacle of capital gains taxes and transfer duty are taken out of the equation it is inexpensive to transfer the farm. The farm will be secure resulting in peace of mind.
Now that the farm is secured, we turn out attention to the farming operations. Many Farmers operate as a sole proprietor or in certain cases in a partnership or joint venture.
This is a default option as not much thought is given to taxation. Many Farmers operate on a consistent loss basis due to the tax relief and other benefits afforded in terms of the First Schedule of the Income Tax Act.
If a Farmer makes no profit then tax is not an issue but we note that many Farmers are accumulating assets in the process. While there may not be income tax in the current year or years the chickens will come home to roost on the event of the death of the Farmer.
The non-profit issue aside many Farmers do make a profit and operating in their personal names as sole proprietor’s results in a Farmer being liable for tax a rate from 18% to a maximum of 45%.
In order to continue to enjoy the benefits of the First Schedule of the Income Tax Act and avoiding massive tax consequences on death and to ensure that a profitable Farmer pays only the tax that the law can legally demand a structure must set up wherein the farming is conducted separately from where the assets, the farm and the infrastructure is owned.
Lastly, we come to the Grim Reaper…
Death is not the ideal dinner topic but everyone will die eventually… Including Farmers.
The inevitable aside, many Farmers are not aware of the consequences that follow on the event of their death. We set out a number of very scary issues, namely:
- The farming operations will be frozen and in essence the business is paralysed due to limited liquidity, restricted access to banking facilities and calling up off sureties. The staff will not be paid, receiving payments will a major challenge until the Executor is appointed, the list goes on but you get the picture.
- The value of the farming operation, land etc will be valued and the deceased estate will be subject to capital gains tax. The rate will generally be the maximum rate of 18% (death exclusion of R300k is minimal).
- An Executor is a party that is nominated to wind up the deceased Farmer’s estate (assuming a Will has been executed which often is not the case). The Executor is legally entitled to levy a fee of 3.5% (plus VAT if applicable, resulting in a 4.025%) charge on the estate. The fee is calculated on the GROSS value. E.g If the Farmer is worth R11 million and has R1 million worth of debt and liabilities. The Executor’s fee is calculated on R11 million and not R1 million. Further the Executor is entitled to charge a 6% fee on any revenue that flows into the estate.
- Lastly and to rub salt into the proverbial wound if estate duty. Any net estate in excess of R3.5 million up to R30 million will attract duty at 20% and any estate in excess of R30 million will attract duty at a rate of 25%.
- There will also be costs to dispose of assets, e.g. auctioneers costs (generally 10%), agents commissions, conveyancing fees etc.
The above is a bleak scenario.
The common solution that is proposed to the above problem is to leave everything to the Spouse, nice try but the Spouse will also eventually pass on and the problem has not been solved. Further, the Spouse may pre-decease the Farmer. The Farmer may wish to leave the farm to a specific child so the old spousal solution is anything but…
Onto the next usual solution.
Life Insurance…This is a possible solution but it can be very costly and how much is life cover enough? Another challenge is the constantly increasing cost of the premium on the policy that often becomes unaffordable resulting in a cancellation of the policy.
The farm and the Farmer’s estate keep increasing in value and the challenges listed above will only be compounded and the major challenge is whether the Farmer can continue to increase the cover required as they get older?
A closing point on insurance is that the policy will be dutiable (excluding the spousal exemption). This can be 20% to 25% of the value of the policy.
If the situation is not sorted out a Farmer and their dependent families can lose everything. A recent death of a Farmer resulted in the farm having to be sold to pay costs and SARS (SARS does not accept IOU’s or instalment plans). Four families are now homeless and jobless. This can be avoided.
The solution is for the Farmer to own nothing ZERO.
Once a Farmer does not own anything the Farmer has nothing to lose during the course of their life!!!
If correctly structured the Farmer can minimise the tax breaks and if they are profitable ensure tax efficiencies.
Lastly and very importantly the Farmers we know generally have a succession plan and their wish is to have the farm continue as a legacy for future generations. In order to ensure that the farm is not attached by creditors and lost or forcibly sold to pay the taxman the farm must be held in the correct structure to ensure that no capital gains tax, executors fees or estate duties levied on the farm.
The solution is simple. Farm smart now and for generations to come by having the correct structures in place.