Buying the Farm: Farmland Real Estate Investment 101
NOTE: Since the end of WWII farmland in the US has steadily risen in value for every year except four (1983, 1985, 1986, 1987)
Making the case for an investment in farmland:
Buying and owning farmland or rural real estate is easier than most people think. Farmland real estate, as an investment class, is much easier to research and understand than any stock or other kind of financial investment vehicle. The land is real; you can touch it, you can live off it, it can make you money, it’s a hedge against inflation and it can be utilized for just getting “away to the country”.
There are small fractions of pessimism regarding a farmland bubble after the recent housing market bubble and subsequent economic fallout since 2007. Fueling those skeptics are the fact that farmland values appear to have risen sharply over the last couple of years. Farmland real estate is not a bubble. The land values are doing what they do over time, appreciating. In addition, a majority of recent farmland buyers have been farmers who are buying land with cash instead of leverage from a lending institution. Record commodity prices have allowed farm operators to expand in recent years with little assistance from banks which greatly eases tension from would-be bubble effects. The fundamentals for farmland are so very different from the residential or commercial real estate that it’s hard to even compare the classes.
The first step to understanding why buying and owning quality farmland for crop production and recreation is a good investment is to understand some of the fundamentals which drive the market for these assets.
- Growing Population – Currently, farmland production yields food for a population of nearly 7 billion people. Over the next 30 years, the world population is expected to reach 9 billion and counting. The total amount of quality farmland to produce food is finite. As incomes rise, especially in the populous emerging markets, there will be greater demand for a better diet which means more meat. Meat production requires more grain in addition to direct human consumption of grain. Global demand for food is a fundamental variable that keeps the value of farmland rising year-after-year.
- Financial Growth & Diversification – Farmland real estate lends itself to leveraged buying, where a small amount of cash can start the acquisition of a much larger asset typically via a mortgage. Farmland property generally appreciates in value while markets fluctuate, providing owners with some financial stability. Farmland is negatively correlated with most popular asset classes such as stocks and bonds, offering investors portfolio diversification and a hedge against inflation. Farmland ownership offers stability during volatile markets and almost always appreciates over time. In fact, since WWII farmland in the US has steadily risen in value for every year except four (1983, 1985, 1986, and 1987).
- Space/recreation – Between the 1920’s and 1960’s the United States witnessed a mass migration of its population from small rural farms to large urban centers. Many Americans traded in their plows and livestock for desk jobs and McDonalds but that sense of “getting away from it all” still exists. In a 2011 study conducted by the US Fish & Wildlife Service, it was estimated that Americans spent $145 billion (roughly 1 percent of gross domestic product) on hunting, fishing and outdoor recreation. These figures demonstrate a demand class outside of crop or livestock production which contributes to the overall appeal of farmland ownership.
- Tax benefits – In most cases, interest paid for a mortgage against farmland can be deducted for tax purposes. Certain types of farm lease arrangements and associated equipment purchases carry additional tax benefits and depreciation advantages for landowners. Some property improvements qualify for certain depreciation or deduction expenses. Every farm and each owner present unique tax scenarios so consult a tax professional or IRS publication 225 (Farmer’s Tax Guide) for more specific information as it applies to your situation.
WHAT TO LOOK FOR WHEN BUYING QUALITY FARMLAND:
- Engage – Always consult a broker who specializes in buying and selling farmland before making an investment purchase. Hire a buyer’s agent when purchasing and hire a seller’s agent when selling. They can save you time, money and resources
- Despite what many people think, listing agents do not represent a buyer’s interest because they have a fiduciary obligation to the seller.
- Buyers agents can often save you thousands of dollars and are usually paid by the listing side of the transaction
- Purpose – The most important factoring in buying land is purpose; why are you buying? Whether you’re an investor looking for a specific rate or return or a hunter looking to grow and maintain wildlife the property should “fit” your purpose and needs. Having clear ownership goals will help you quickly identify the right property for your needs/wants.
- Budget – know how much you can afford to spend and stick to it. Having a budget will help you narrow your search for quality land and allow you to focus resources in the right direction. Don’t let your emotions get the best of you.
- Location – Understand the area where you are buying land. What are the relative values for property? Who will care for the property? Who are your neighbors? Is the property close enough to where you want to be?
- Price Per Acre (PPA) – Land values can fluctuate significantly from one region to another. PPA is a means to help you analyze the relative value of a property but it won’t always tell you whether you’re getting a good buy or not. Remember, no two properties are created the same. While PPA will help you compare values, it won’t tell you exactly what you should pay for a specific piece of land for sale.
- Soil Composition – Know what kind of crops are typically grown and what limiting factors the soil has. Some soils have been over-used and are essentially dead and some are ready to be cultivated for prosperity.
- Cash Flow – Different types of farms and ranches have different revenue streams including crops, livestock, hunting leases, marketable timber, water rights and mineral rights to name a few. Understanding what revenue streams are available and how the revenue and associated expenses flow can make or break a good investment.
- Conservation Plans – Conservation plans are not only good for the sustainability of the property they can also be financially beneficial especially when converting less productive tillable ground into wildlife habitat and water filtration practices. There are a number of programs offered by the state and federal government which provide cost share and cash flow assistance for conservation practices. It is your duty as a landowner to ensure the land is available for future generations.