Last month when I increased my farm’s value, I wrote that it was “the easiest $2,500 I’ve ever made.” I just held onto an investment and the market did the rest :0) By the end of April I was so ecstatic to find my net worth has climbed by $5,200 in just one month 😀 Well just when it looked like things couldn’t get any better for me look what I received in the mail last week.
Remember how last year I mentioned I had rented my land out to a farmer? Well hopefully this is the first of many more payments I’ll receive in the years to come 😀 So this must be how it feels to be a landlord haha (*^.^*) I deposited the check into my bank account last week and this money is going directly towards the $25,000 fund to buy my second farm 🙂 My stock investing provided me with dividends which I saved up to buy my first farm, and now I’m using the returns on that farm to buy even more assets which will give me even more income :0) Isn’t investing so much fun? 😉 It doesn’t matter what kind of economic background we come from, we can always create a better future for ourselves by making the right investments today \(^_^)/
I know some of you may want to buy a farm as well but have questions about renting it out. So here are some FAQs that I often get from readers about renting farmland and what to consider.
Q: How do you find a tenant?
A: There are lots of farmers eager to find more land to expand their grain production but a good parcel of land goes for at least $150,000 and many of them can’t afford it. So they choose to rent instead at about $5,000 or $6,000 a year for the same quality land. This gives them a more economically viable way to use the land for one crop cycle and still capitalize on the full extent of their labor. Depending on what they decide to grow, a full harvest can be sold for $30,000 to $60,000 at current commodity prices. After all expenses, including rent, farmers can still expect to make at least $20,000 of profit on the parcel, depending on the scale of their operations. Farming equipment is very costly. A combine alone costs $300,000. So for farmers who already have the necessary equipment to work, they want to maximize their opportunity to farm on as much land as possible. This is the main driver of the rental market in the farmland business.
Since agricultural land is a coveted resource most farmland in Saskatchewan should already have people working on them. This is good news for owners and recent landlords like myself. The farm I bought last year already had a tenant who agreed to continue farming on the same land for another 2 years. So we signed a contract that expires end of next year (2014) Sometimes people who want to sell their land are farming on it themselves. A common situation in this case is the seller will rent back the farm from the buyer because maybe the seller needs $150,000 to buy a new tractor to expand his operations. Another reason could be that a farmer is thinking about retiring in 5 to 10 years. By selling his land he can raise some money for his retirement nest egg, and reduce his financial risk because he’d have less exposure to the fluctuations of farmland prices. It also gives him more flexibility by renting, and doesn’t tie up all his money in one asset.
In a situation where there is currently no one working on the farm you can ask the people whom you’re purchasing the land from for leads. Realtors often know lots of farmers in the area who are looking for available soil to grow their operations. The seller of the land which I’m currently in the middle of buying now told me on the phone that if I can’t find a suitable renter he knows some friends who will be happy to rent from me. Of course you could always post ads in local newspapers, or the rural municipality office, or on sites like Craigslist or Kijiji, or use services like Renterra which helps farm owners and tenants find each other. In most cases, finding a farmer is not difficult, especially with the help of modern technology. I have never met my tenant in person, but we keep in touch through emails and phone calls 🙂
Q: What kind of returns can you expect from rent?
A: For simple cash rent the returns are usually between 3% to 4% of the purchase price. For example, in most cases a $100,000 quarter of land can be rented for $3,000 on the low side, and $4,000 on the high side. In special situations like in very wet areas the rent could be $2,000 or lower. And if the land is fairly close to a grain factory or oil seed crushing plant or near the prospective tenant’s other operations, the rent could be as high as $5,000 per year, so it depends. The returns on farmland from cash rent used to be a more lucrative 5% several years ago. But over the last 3 years the average farmland price in Saskatchewan has increased by almost 50% while the rental rates have not yet caught up. This is good news for landlords because it gives them more power to raise rents in the future to narrow the gap between price vs rent.
The return on my own farm is about 3.4% of my purchase price last year. Which is more like 3% after subtracting the $500 annual property tax. The rent and cash flow for farmland is generally not as profitable as a residential investment like a condo or a house. However farmland owners receive the benefit of less work and stress to maintain their properties. For example, I don’t need to dread getting a call at night to fix the plumbing. Don’t have to worry about costly special assessments, replacing a roof, damage to property or any insurance needs. No worries about natural disasters or burglars either. Crops can be stolen or destroyed by locusts, but it’s usually the tenant’s responsibility to buy insurance for that. Farmland delivers the most passive income of any direct real estate investment that I can think of today. Perfect for lazy investors like myself lol. Rental income on a farm may not be as high as an equally priced residential home, but I think the cost savings over the long run and less hassle make up for it.
Cash rent is the most hands off and least risky way to invest in farmland and that’s what I’m currently doing. But some farm owners may prefer other methods (such as crop sharing or custom farming) which has the potential to make a 10% return or greater on the purchase price. For more info about different ways to profit from a farm check out the second and third paragraphs from my farmland investing page.
Q: What are the risks of being a farm landlord
A: With my limited experience I can say so far the biggest risk appears to be if you can’t find anyone to rent your land and miss out on rental income. But since average Canadian farmland prices appreciated by 19% last year in 2012, and 15% the year before that, most of the financial benefits that owners have been getting over the last several years have been through increased property value. So losing out on rent that represents a 4% return isn’t going to be a deal breaker. But it’s still important to remember that rent is real money in your pockets, while capital appreciation is just paper money, until it’s realized some day. Leaving the land unused for a year or two isn’t going to hurt the farm either. In fact, it could actually be a good thing. More on that later. However, don’t leave your farm dormant for more than a few years as it would be costly to clean it up before it’s ready to be farmed on again 😉 If you are sharing the revenue with the tenant on the grains produced rather than direct cash rent then you may risk having a poor crop year (eg: due to flooding) and not receive much income. Lastly if you bought the farm with a loan, make sure you can make the minimum loan payments even if you didn’t have rental income just in case.
Q: What determines the rental rate?
A: Real estate is all about the location and farmland is no exception. Rates are generally defined by a price per cultivated acre ($/ca) which is negotiated between the landlord and tenant. Many factors can affect this rate like soil quality, access to roads, amount of lakes and ponds, etc. Lower end farms which only have the capacity to grow grass will usually be rented to ranchers for $20/ca. But higher quality farms with better dirt that can produce cereal can be rented to grain farmers for $50/ca or more. That’s why grain farms are often 2 to 3 times more expensive to buy than pasture for grazing.
So how do you know what to charge for rent? The best way is to find out what your neighbors are charging and ask for a similar rate. If you don’t have that information then according to this FCC video, the general rule of thumb appears to be roughly 20% of the gross revenue of farms in that area. For example, if farmers took all the crops they produced in one acre of land and sold them on the market for $200, then the rent they should pay is $40/ca to use that land. This is only a guideline however because every farm and every situation is different.
Q: How is cash rent calculated?
A: Total cash rent is typically calculated as a product of the rental rate and the number of cultivated acres (ca) a farm has. So if a large parcel of land has 1000 ca and goes for $40/ca then the total rent would be $40,000 a year. Farmland units are typically broken up into half mile squares called quarters, because they have the area of 1/4 of a square mile. Each quarter is 160 acres. It would take the average person about 35 minutes to walk around the perimeters of a quarter. It’s the equivalent distance of 2 miles, or 3.2 km.
Unlike residential agreements, farm rent is typically paid out twice a year, at least for grain farms. The first half is due in Spring when the seeds are sown, the other half is paid in the Fall during harvest season. The farm I bought last year is 1 quarter in size or 160 acres as mentioned earlier. Out of 160 acres, about 135 is cultivated, the remaining 25 acres are bushes and ponds which are not suitable for seeding. I wanted $40/ca but the tenant insisted on $35/ca so we compromised at $37.50/ca. Since I’m running my farmland like a business I need to collect GST from him. So the total comes to ($37.50 x 135 x 1.05 = $5315.62.) Half of this amount is $2657.81 hence the amount on the check above. He actually sent me both checks for the year. The other one is dated for Oct 1st, 2013. The checks came with a friendly letter too 😀
Q: Do you need to collect GST or HST?
A: If you are renting the farm personally then you don’t have to add GST on top of the rent. But if you are running the farm as a business then it’s encouraged to charge GST or HST depending on what province you are in. It would be the same cost for the tenant either way. Assuming the rental agreement is a business transaction, the farm tenant will pay you (the landlord) GST on the cash rent. Then the tenant can claim that GST amount back when they file their GST/HST returns every year. This process is how most farmland is rented.
Q: How do you collect the rent?
A: Tenants can either send landlords checks in the mail or use the internet with a service like e-Transfer. It’s really up to the two parties involved since there isn’t really a standard. There are no damage deposits when renting farms. Most tenants do pay on time. But if you have a bad tenant who didn’t pay then feel free to find another farmer. The good news is the land will still be there so the most you can lose is your rent. But if nothing was seeded for the current year then you will be able to increase the rental rate on the land next year because it has been summer fallowed. That just means the land was kept out of production for a full crop cycle to allow more moisture and nutrients to build up in the soil for the next season. Any crops seeded following this event will be more abundant and result in a better harvest. Kind of like charging up for a solar beam. It takes 2 turns, but it’s super effective lol (^_-)
Q: Where can you find rental agreement forms?
A: The Saskatchewan government has a lot of helpful information on their website about what should be included in a farmland rental agreement. I have uploaded some of their forms and lease templates on my blog for reader’s convenience.
- For Cash Rent you can download this Sample Cash Lease Agreement form. It’s the same one I used with my tenant. Just need to fill in the blanks 😀 pretty straight forward.
- For Crop Share you can download this Crop Share Lease Agreement document which has examples of calculations, things to consider, and of course a sample agreement form which anyone may use.
- After the lease expires you can use this Lease Renewal agreement to extend the contract with your tenant if you wish.
Buying residential real estate like condos is a good way to make passive income from rent as well. To save money on renting, check out the many rental rebates available. It’s a good idea to consult with real estate lawyers in your own province or state as each jurisdiction may have different rules and regulations around farmland and residential rental units.