Succeeding In Succession Merle Good GRS Consulting

Transcription

1 -the Impossible Dream? Succeeding In Succession Merle Good GRS Consulting

2 Tax Rules

3 Rollover Rules Parents can transfer farm property at tax cost to children during lifetime or upon death Land, farm partnership, farm corporation, depreciable farm property Child receiving property does not have to be farming at time of transfer Land must be used principally in farming at time of transfer by owner or spouse or child Child and parent must be residents of Canada

4 Tax Tips & Traps Rollover Trap Example: Rollover of land to a child Child sells land within 3 years Capital Gains incurred deemed transferred back to parent What does this mean?? Capital Gains attributes back to parent Deems original transfer by parent to child at FMV in year transferred to child

5 Capital Gains Deduction Qualifying Criteria Great Grandparent Person Selling Land Great Grandchild Any person in the lineal family chain that met the gross revenue test for 24 months, qualifies it to the seller (even if the seller has never farmed it) Gross Revenue Test = gross revenue from farming exceeds net revenue from all other sources Non-farming children, grandchildren and greatgrandchildren can still qualify for capital gains deduction on sale of land even if they have never farmed

6 Capital Gains and Rollover Rules Corp / Partnership family farm corporation 90% or more of the fair market value of assets must be farm assets. Issue: accumulated cash or investments are generally not considered active business assets assets used principally in farming business (more than 50% use and TIME) for the rollover rules to apply. Certain people must have been actively engaged Taxpayer, spouse, child or parent

7 Succession Planning Process Implement Plan Estate Toolkit (Will, EPA, PD) Develop Plan family busin ess Explore Options Set Goals

8 Fairness entirely subjective fair does not always mean equal Consider: Contribution of time & effort to the farm business Off-farm careers Transformational wealth vrs asset wealth

9 Can We Afford a Multi-Family Farm? Income is important but sometimes it is overshadowed by the need for long-term financial security Will the farming business be able to provide a living and housing for each of the families?? How long do I have to live in the mobile home? Do the parents need to move out for the next generation? Does the next generation even want the old house? Does the next generation OWN the land their house is on??? Can the farm Survive and provide a retirement pension?

10 ROLES and RESPONSIBILITES Business culture and business rules are essential 1. Work per hour is determined 2. Different roles receive different pay (ie $45 per hr. for mechanical work vrs general labor) 3. Lead an area (mktg) may be $x dollars not tied to hours. Business RULE.. You get compensated for what Value you bring to the business. Remember VALUE equals CASH plus Cash Equivalents PLUS Equity. Remember Farming is an equity game not a cash game!

11 CLARITY FOSTERS RESPOSIBILITY. Responsibility fosters Management which transforms into Leadership WHO DOES WHAT?? Lead an area.. you ask for advice Manage an area you receive advice Communication is still critical but boundaries need to be established. Determine your sweet 16 areas!!

12 CLARITY FOSTERS RESPOSIBILITY Cont d Lead Business Responsibility Manage Regular Employee Employee Area Responsibility Responsibility Increases Takes Direction Four Pillars of Business Production Marketing Human Resources Finances Sweet 16

13 FAMILY FARM SUCCESSION GOOD NEWS.. YOUR CHILDREN WANT TO BUY THE FARM FROM YOU BAD NEWS THEY WANT TO DO IT WITH YOUR MONEY!!

14 I WANT THE FARM & I WANT IT NOW!!

15 Succession Concepts 1. Earned Equity Value equals cash plus equity V=C+EQ Does the next generation have any off balance sheet equity owing? 2. Redemption of Equity Parents, are you really worth your salary?

16 Income Allocation Salary Management fees Return on investment Redemption of equity Rent on personally owned assets NOTE: Allocate each year in a journal!

17 Income is earned by: Dad Example Farm Child Management $10,000 $ 5,000 Labour 10,000 40,000 Land lease 25,000 5,000 Capital redemption 25,000 Nil Total $70,000 $50,00

18 The Family Farm - A Real Puzzle 1) Succession Planning Operating Assets - cattle - equipment - inventory - operating debt Land Personal Wealth + Salary, dividends, management, return on equity, capital replacement + + Rent Inflation/deflation Off-farm Assets + - Insurance - RRSP - Investments - Return on assets 2) Estate Planning

19 Corporation Share Redemption Section 86 Re-organization P/S $1.7 million C/S Parents $0 Son $0 Assets $2.0 million Debt ($0.3 million) EQ $1.7 million ***Parents: Convert their draw to redemption of equity under a 20 year buyout. The child now sees his parents redeeming their equity against the corporation.

20 Critical Question If you have a two generation family farm with an active child farming with you, under your WILL is any of your farm land going to a non-farming child? Yes No

21 Lease Land to the Business Will states that prior to transferring the land to a non-farming child, the Executor is to enter into a lease with the farming child o o o Specific number of years May contain a right of renewal Caveat filed against title to protect farming child from sale of land Provides Farming Child with: o A time frame for planning to replace the land if nonfarming child decides to sell

22 Transferring Land While Alive New Trend cannot transfer land because of control issues Capital gains deduction does not cover enough land through mortgage take back Farm children very frustrated as no freeze in value and land value keeps exploding No rollover between siblings or nephews or nieces

23 Transferring Land While Alive Cont d Structuring the transfer of land by way of a sale provides parents with planning flexibility and security A sale at FMV with first charge security provides parents with the highest level of security Captures parent s current equity in the land and allows future growth to accrue to the child -- works as a freeze of the parent s interest Parents exchange land asset for security asset (promissory note & mortgage) Payments TAX FREE Affordability take FMV x.75% over 20 years at no interest equals 1.5 to 2.0 times cash rent!!

24 Repurchase Options: Brand new idea Remember a sale burns up the capital gains exemption. Do not use unless receiving REAL MONEY! How about a repurchase option at the same price as sold? Separate Agreement: Repurchase if ever sold or a legal action like a divorce ensues. Child keeps the equity on the repayment of the loan and land value increases but not the deceased's land value gift! Recommendation: set time period only!

25 Example: Repurchase Options on LAND Sale of NW17 (FMV) $400,000 Adjusted Cost Base $100,000 REAL MONEY OWED or Borrowed from Bank.$250,000 Repurchase Option $250,000 What happens? Parents: Pay same price as sold for $250,000 Child: Assuming the child has paid $50,000 back by now to the bank...pays the bank the remaining $200,000 Recommendation set time period only!!

26 Business Structure. Without it, CHAOS! SUCCESSION CONCEPTS 1. Square up the books 1. VALUE = CASH plus EQUITY 2. Parents will not charge a rate of return on equity! 3. OPCO equity is to create a pension. 4. Pensions are not transferable (i.e., can t buy a tractor twice).

27 SUCCESSION CONCEPTS Cont d 5. Operating company. No inactive siblings as owners. 6. Land to non-farm children will have a LEASE APPLIED. 7. Consider options if offered for sale at appraised value during lease period. 8. Parents WILL DIE with LAND!

28 Sell Land To Your Company WHY NOT SELL LAND TO YOUR COMPANY? Create Shareholder loan Uses capital gains exemption while alive As Parents you control the company The OPCO is willed to active farm child Second generation has equity increase in common shares.

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30 Traditional Business Model One Profit Centre Farm Co. NO CASH RENT NO CASH RENT Land Rented Land Parents Land Child Factors: One profit centre Pooled risk and marketing Economies of scale Need clear income withdrawal rules! Who buys land? How does one buy land?

31 Structural Options All income/expenses run through one account. All equipment owned by single corporation Returns allocated through salary, management fees, land rent on personal land, redemption of equity through repurchase of shares or repayment of shareholder loans All third party rented land to single corporation One small business deduction limit Great, except no one wants to be all for one and one for all!

32 Traditional Business Model Independent One Child Labour + Parents Child Rental Land! Equip.Use Factors: Exchange of value is labour equal to equipment use? Separate harvest production and marketing Usually, no formal shared management Can create false economics and false independence!

33 Curse of the Bermuda Triangle

34 Actual family example Family farms 6000 acres. Son 1 farms 1800, Son 2 farms 600 (cattle guy), and Dad owns and farms his 3600 Dad owns 75%, Son 1 owns 18%, and Son 2 owns 7% of the equipment by value. No one, over the years, seems to pay Dad for the use of his equipment. But now, the false economies of swapping equipment for labor is front and center; plus, the brothers are not paying each other! RESULT: NOT A HAPPY FARM FAMILY AT ALL!

35 Actual family example cont d Dad wants to reduce acres and his share of the farm business. Dad wants his equity out of the equipment as he reduces acres. Son 1 and Son 2 want total separate operating businesses. Issues >> Land use transfers... should it be 50-50% or bring Son 2 up to 1800 acres first?! Estate plan on land vrs Operational Plan..

36 Structural Options SHARE EQUIPMENT MODEL Create a formal equipment partnership t or joint venture. Each business or company owns a percentage of the partnership or equipment as shared ownership. NO crops or inputs are pooled. Independent crop marketing. A formal charging rate for equipment use, fuel, repairs, and purchases in the equipment ownership plan.

37 Equipment PARTNERSHIP. Opco1 Opco 2 Opco #3 Equipment Partnership

38 Options A per dollar acre charge is required to be deposited into this partnership or J/V accountas an equipment rental and access fee. Fee is based on custom work rates. Remember, custom rates include labor. Allow sons/daughters to increase equipment ownership, but require them to pay for the darn stuff... eliminate part of the false economy syndrome.

39 THE TIME HAS COME Churchill it is the beginning of the end!!! NEW CONCEPT: Retirement is retiring into your farming child s company! WHY...(84.1) no capital gains deduction on share sale. Options: 1. Call Ritchie Brothers and have a farm sale. 2. Sell equipment and grain inventory as a sale from parent s company to sons company. 3. Transfer a portion of the equipment and inventory to the son's company for shares in the son s company and sell the rest. 4. Transfer all of operating assets into to the son s company.

40 WHAT S THE PLAN?

41 1. Move parent s inventory and equipment into Son s Co: Redeem shares over time (pension for parents) Mom Dad Thoughts: 1. Loss of one SBD on sale of parent s inventory (use to get two) 2. Association issues with Parent Co 3. Redemptions = new 55(2) rules Son Son s Co Parent s Co Preferred shares Options

42 Options 3. Consider promissory notes; Steps: 1.Parent Co transfers inventory and equipment to Son 1 Co and Son 2 Co. Takes back preferred shares 2.Preferred shares are redeemed in exchange for a promissory note Mom Dad Parent Co Son 1 Son 2 Son 1 Co Son 2 Co

43 Options 4. What about personal land? Parents have clean company could consider selling land to company and utilizing CGD creating shareholder loan Is this beneficial? What about; Active vs. Inactive rates Benefit of shareholder loan Association rules

44 New structure post reorganization Million Dad Shareholder Loan 1.2 Mom Child $600k tax paid loan Sell N ½ 14 NewCo $600k tax paid loan Sell N ½ 14 Loan Owing to Newco $3,000,000 Farms Inc. 100% Move equity in preferred shares to Newco.. Secure Loan (possibly just partial) Parents transfer Farms Inc. shares to Newco Newco s shares redeemed in Farms Inc. to create a Loan to Newco (secure it!)

45 STRATEGY FOUR Do you wish that all of your land was not corporately owned? Is there one quarter that you wished you could exchange (i.e., take out the Robert quarter and put it in the Blain quarter?) In your will, does leaving shares to non-farm children give you nightmares? Is there any solution? Trapped Land in Corporations

46 Trapped Corporate Land Strategy 4 1. Land can be exchanged tax free under replacement property rules. This includes corporate and individual land. 2. Land can be transferred under Section 55(3)(a) to new companies tax free. Note: Parents have to control all the corporations! 3. No asset sale for 36 months

47 Corporate Farm Sister Co. FARM OPCO some land Sister Co. Land Co. 55(3a) Land Co. P/S Dad 50% Mom 50% C/S Dad & Mom 90% Daughter 10%???? P/S Dad 50% Mom 50% C/S Dad & Mom 90% Son 10%????

48 Farm Health Check Top Four Ratios 1)Liquidity Ratio <25% owing against next yrs. revenue.. 2) < 55% Gross Revenue (averaged over past four years) **40% = OUTSTANDING 3) Debt and Lease Payments less than 15% of Gross 4) Land Payments+Rent+50% living Not > 1.2* cash rent!