Pros and cons of forming LLC

My brother and I farm together and split the net profit. We don’t have a corporation or partnership. My uncle suggests my brother and I form an LLC to provide liability protection in the event of an accident. What about LLCs — the pros and cons? What do we need to know about running a limited liability company?

Stout: Pros to forming an LLC are that you do have liability protection with less paperwork and forms than required by either an S-corporation or a C-corporation. The income flows through an LLC to the two of you, most likely as a partnership. You do still have to file with the secretary of state and pay a filing fee. The documents you need to run an LLC are fairly minimal. If you plan on farming together for a long time, you might want to consider forming a corporation, as there are several tax benefits. You should consult with your attorney and tax preparer before forming any new legal entity between you and your brother.

Edwards: The time, effort and cost to convert your partnership to an LLC are not high, especially if only two people are involved. The limited liability feature is something you hope you will not need, but it can be very important if something unforeseen occurs. Tax consequences and operating procedures would not change much, but you would have a written record of ownership of assets, division of income and other business events that could be very valuable in the future when you decide to either expand or dissolve the joint venture.

Gassett: A benefit of forming an LLC is that an individual may protect themselves from personal liability in the event of an uncontrolled incident. An LLC has fewer corporate formalities. With an LLC, there can be advantages with taxes and succession planning. Units of an LLC can be gifted or sold to the next generation. It may be easier to dissolve an LLC than a corporation. A disadvantage is that by having several parties in one entity, it may reduce the limits available for farm programs. The value of individual units may be discounted in value because there may be a limited market for those units and there may be requirements that units be sold to existing unit holders. Also, additional accounting expenses exist. Most lenders will not loan to an LLC without personal guarantees.

Paying for tile on rented land

I’m a huge believer in grid-tiling fields. I’ve already tiled all the land I own. Now, I’d like to start on the rented ground. What’s a fair deal for myself and the landowner? We both stand to reap the benefits. What type of agreement might a landlord and tenant work out?

Stout: Tiling is a long-term investment, so that needs to be taken into consideration on rented land. If the landlord pays for the tile, then they would expect to get their money back in increased rent or profits in about a 10-year period. If you are paying for the tile, you would want to be assured of farming the land with a reduced rental rate, while you are recouping your investment from higher yields you should expect from better drainage. If you have already grid-tiled your own land, you should have a good idea what to expect in increased yields, so put a pencil to it to estimate the time to return your investment. In the long run, the landlord has land that is much more valuable.

Edwards: The most important consideration is whether you will benefit from the investment in tiling long enough to justify it. Estimate how many years it will take for the increase in yields to pay for your investment, and either negotiate a lease for this period, or develop an agreement under which you will be reimbursed by the landowner for the undepreciated portion of your investment when the lease ends. If the owner shared in the cost of tile, the owner would be justified in increasing the cash rent enough to repay his or her share of the initial investment.

Gassett: In many landlord-tenant agreements, the tenant makes the tile investment on the landlord’s farm. Because the landlord makes none of the investment, the cash rental rate does not increase. The additional net returns go to the tenant as compensation for the tiling investment. Many tile-lease agreements are for 10 years. The landlord and tenant enter into a long-term lease. In Iowa, a lease of more than five years in length must be recorded. Many tile-lease agreements provide for the tenant to rent the land for 10 years at the beginning rental rate. If the tenant no longer farms the land, the tenant will receive a pro-rata buyout of the tiling investment.

The landlord does not benefit from rising rental rates during the life of the contract. However, at the end of the contract, the landlord has an improved farm without having made the capital investment and is free to rent the farm to a tenant at market rate. There are as many agreements as there are landlords and tenets and two alternative provisions have been implemented with the advent of volatile commodity prices. Some agreements are for as short as seven years, and some agreements have a provision to review the base rent after five years.

This article published in the May, 2012 edition of WALLACES FARMER.

All rights reserved. Copyright Farm Progress Cos. 2012.