Farm Horizons, October 2014
What should farm rent be for 2015?
By Myron Oftedahl
I have been getting this question a lot in the past few weeks. It is always a difficult question to answer; the landlord wants as much as possible, the renter wants it as low as possible, and both parties want it to be fair.
There are a number of ways to write a rental agreement. The most common in recent years is to agree on a dollar amount, and then write a multiple-year contract, usually with an increase for each year written into the contract. All of the risk is on the renter.
Many years ago, the most common rental agreement was a crop share agreement. This was often with the landlord receiving 30 to 40 percent of the crop as rent. It was up to the landlord to decide how this portion of the crop was to be marketed.
In some cases, the landlord would share other expenses and receive a larger share. This rental arrangement is still common in some areas of the US. This shared arrangement means that both the landlord and the renter carry some risk.
Recently, there have been several articles describing flex rents. A flex rental agreement is a blend of the cash rent and a share rent. Basically, a base number is agreed upon and then if the yield is higher than the target, the landlord receives more rent. Some are written with total revenue being the deciding points. All flex rental agreements require the landlord and the renter to share the risk.
What is a fair rental amount? Again, this can vary greatly depending on the type of land, the crop grown, if it is a family situation, and many more factors.
I wrote an article earlier in the year, describing the three classes of landlords and the relationship that the renter has with the landlord.
Does the renter stop and visit with the landlord, share freely how the crop looks, keep the landlord informed about the market prices, pay a bonus if it was a good year, or repair the tile without expecting the landlord to pay for repairs?
Does the landlord install new tile to improve the productivity of their land, or do little extras to help keep the farm looking good?
There are probably another 100 questions that could be asked, but let’s dive into that evasive number of rent charges.
A common management rule is that rent should be 4 to 6 percent of the land value, plus the real estate taxes. So, on land valued at $5,000, the rent would be $200 to $300, plus taxes.
Another management rule is that rent should be 28 percent of the total revenue per acre. In this case, 175 bushels of corn valued at $4 per bushel would equal a total revenue of $700 per acre, so the rental value would be $196 per acre (28 percent of $700). A soybean yield of 48 bushels times $10.50 would give the total revenue of $504 per acre. This would give a rental rate of $141 per acre.
Over the years, the value of the FSA payment would increase the value of the farm rent. This is true today, also.
I have seen some estimates showing that a new farm bill could pay $70 to $80 per acre, depending on yields, prices, and base acre allocations.
There will be a number of decisions that will need to be made with this new farm bill. These decisions will need to be done with your landlord, as the choices that you and the landlord make will be tied to that farm for the five years of the farm bill. This is true no matter if the land is sold or rented to someone else; the decision stays with the farm.
So, what is that number? Total revenue has changed drastically, especially for corn. We are looking at prices being half of what they were a year ago. The farmers that have forward-priced some of the grain will be in a much better position than one who has done no marketing.
I think that we all know that rent will need to come down; it is a question of how much. The landlord will be resistant, because this is often the main source of income for them.
The reality of the rental situation is that looking at crop budgets right now, farmers will be planting corn in 2015 knowing that they will be losing money at the current prices. Farmers cannot afford to do this, because it means using up whatever working capital that is left.
The reduction of grain prices in 2013, and now again in 2014, has meant a huge reduction in working capital for most farms. Working capital is the cushion that the farmer has in a tough year. Working capital is sometimes referred to as the rainy day fund. Having sufficient working capital could mean the difference between farming another year or not.
There needs to be a frank discussion when determining this next year’s rental rates. Create a crop budget and share with the landlord. Take the yield maps, and show them where the farm would benefit if additional tile were installed. Be honest about how much of the field drowned out the last five years.
Use the management rules as guidelines, all the while both parties must be fair. Both parties need to recognize that some land is not as productive as others. Iowa uses a Corn Suitability Rating on all land. This is an indicator of how productive the farm is. I had a professor tell the class that a productive soil is always fertile, but a fertile soil is not always productive.
So, what is that elusive rental number? A lot of factors can go into determining the value. The key is for both the landlord and the renter to be honest and fair when determining it. Look at a flex rental agreement, where both parties take some risk, and both parties share the good yields and revenues. This year will require more contact and discussions than probably any other year, because of the decisions that need to be made.
For more information, contact a farm business management instructor.
Have a profitable day.