Each time I drive over a bridge, it reminds me of something my business mentors used to say: “How fast would you drive on a bridge if there were no guardrails?”
We would all slow down on a bridge without guardrails because psychologically we feel there is a possibility of going over the edge.
He would then say, “Have you ever been a guardrail before?”
The Fair vs. Equal discussion about pricing farmland and rent values between family members can work the same way. Many families are so concerned with “going off the edge of the bridge” that they are petrified in a lack of action.
This leads to a lack of confidence, a lack of communication, a lack of a plan, and possibly an auction that they wanted to avoid in the first place.
An auction is the most efficient way of finding out what something is worth in the open market at that particular time. An auction best fits the definition of fair market value (the price at which the property will change hands between a willing buyer and a willing buyer, without being under any compulsion to buy or sell and both having reasonable knowledge of the relevant facts).
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This may or may not be what you want for your family land, but at a minimum, we must understand the forces that could influence someone’s decision to auction their land.
This morning, I studied a compilation of all land sales results in the state of Iowa from March 1 to March 31. There were 87 sales on the list totaling more than 8,300 acres of land. The low was $ 1,850 / acre in Monona County and the high was in Linn County at $ 26,250 / acre. The average of 81 sales was just over $ 13,000 / acre (six did not disclose price).
Of the 81 sales reported, 30 of them (37%) were under $ 10,000 / acre. Five out of the 81 sales (6%) were over $ 20,000 / acre. The remaining 46 out of 81 sales (57%) were between $ 10,000 and $ 19,900 / acre.
The CSR2 ranks from a low of 36 to a high of 96 (un-weighted average of 75). The unweighted average was $ 172 / CSR2 point.
There have been three reported rent auctions this year in Iowa (much less prevalent than auctions to sell the land). This was over a total of approximately 315 acres. The unweighted average was about $ 428 / acre cash rent between those three rent auctions.
At every speaking engagement this winter, I made a statement that there are 30.6 million acres in Iowa, and the Iowa State University Extension estimates an average price of $ 9,751 / acre, which will be undoubtedly rising this year.
This is a total estimated market capitalization of $ 298 billion.
I routinely tell the audience that the only two times that open market valuation is your land matters if you die (and the land is valuable to your estate) or if you sell it. The audience always agrees that no one has a goal to die or sell their land.
If an auction sets the open marketplace price, and the landowner has no intention to auction his or her land, then why would we choose the marketplace set for the price that the land is to stay in the family?
So what’s the value of your land and what’s the fair for a family transition valuation of your land?
This is the concept of fairness and the cross that we each need to bear if we want to see the legacy of our family farms continue without strife, argument or financial uncertainty.
Three options for valuation
The first and most commonly used method of valuing land within the family is an appraisal. This is a culmination of comparable sales in the area like property. This is the open market valuation.
The second option is a discount off the appraisal. This has been used historically in the family within the family. The discount typically puts the sellers on the defensive, as it monetizes what they are not going to get. The purpose is to make the price affordable. There have been times throughout history when a discount is too much (not needed) and there are times when the discount was not enough to make the land affordable.
The third option is the value of the land for cash flow purposes called Special Use Value. It is a formula set by the government to value family land solely based on cash flows. This formula is a five year average rent minus property tax, divided by interest rate. This is the purest valuation for those seeking a family price, as it is exactly what the land is worth based on the ability of the land to pay for itself.
The most common rent is a cash rent. This can be difficult as there is always a winner and always a loser in the rent negotiation, and we do not know which side wins until the end of the year. The landowner has the advantage of negotiating a cash rent as the landowner can often find some who will pay more.
The second option is crop share. This is probably the fairest form of rent, as it requires both risk and expense of the owner and the tenant (marketing, inputs and insurance). Effectively, both share in the profits and losses of the land.
The third option is a flex lease that combines the characteristics of a cash rent (base) with the profit of sharing at the end of the year and the yields are known (bonus). This option is probably the most complete option but can also be the most complex to understand and negotiate.
For most families what their land is worth and what it would sell for is different. The same is true for rental rates.
Determining the difference between open market and family value is what each of us wants to discuss about fair. equal. This can be tricky given the fact that each of us has a different gauge of what should be fair and equal.
Fair to me means that everyone gets what he or she needs or deserves, while equal means that everyone gets the same regardless of need.
There is a land auction tomorrow in our area that I think will be close to an affordable cash flow range. One of my clients will surely call and ask, “Do you believe that the farm brought that much?”
It has not happened yet and I already believe it. Once the sale goes beyond a rational price (what will make cash flow value to a living that farm) it is a matter of who can go deep in their pocket to subsidize that irrational price. This is a dangerous place to be as there will always be someone with a deep pocket.
My sincere hope is that we can all find a balance between open market values and a cash flow value to keep your land in the family. I believe that the future of our communities depends on it.
For 29 years, Steve Bohr has been a partner in the farm continuation firm of Farm Financial Strategies, Inc. For additional information on farm continuation issues or if you have any questions please contact Steve via email at Bohr@FarmEstate.com or by phone at 1-800-375-4180.
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