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Land rental ethics
The tremendous volatility in grain prices, input costs, and land values over the past five years has created lots of turmoil in the farmland rental market. Stress was palpable again this winter as landowners and tenants hammered out cash rental agreements.
“Problems with lease arrangements seem to be more common in the current environment,” says Kansas State University ag economist Kevin Dhuyvetter. Even long-term relationships between landowners and tenants are being strained. And there is no end in sight, except perhaps for parties who have switched from cash rent to crop share or flexible cash rent agreements.
Good communication between tenants and landowners is one key to forging harmonious rental relationships. But there is another key that is not discussed nearly as much – ethics.
As Mark Twain said, “Do the right thing. It will gratify some people and astonish the rest.”
However, the definition of ethics and “doing the right thing” varies dramatically from one person to the next. What seems black and white to one person is varying shades of gray to another. If you want evidence of that, simply go to any of the ag discussion groups online and read the threads about renting land, especially the threads about farmers competing among themselves for land to rent.
While the online debates often get heated and even hostile, the subject of land rental ethics is sometimes danced around at meetings. But for the past few years, Dhuyvetter has been tackling the topic head-on by incorporating it into his farmland rental meetings.
He and Kansas State professor emeritus Terry Kastens (now back on the family farm in western Kansas) wrote a paper on the topic five years ago based on their experiences in Kansas. “The stories and situations that led us to write the paper seem to be occurring with increasing frequency in recent years,” Dhuyvetter says.
“As economists, we have a distinct preference for working with numbers,” Kastens and Dhuyvetter wrote. “Yet, we regularly spend as much or more time assisting with the psychology, emotion, and ethics associated with land rental arrangements. Intrinsically, the field of ethics is much more subjective than objective. Yet, since we deal with this area so much, we believe that noting a few of our observations could be worthwhile to landowners and tenants.”
During his presentations on the ethics of leasing, Dhuyvetter posed questions to the attendees, usually a mix of tenants and landowners. Their electronic responses to some of these questions were flashed on a screen to stimulate discussion. You can take the quiz yourself, albeit with an old-fashioned pen or pencil, as you read this article.
Question 1: How do you view the other party in a lease?
- A competitor
- A partner
- Neither a competitor nor a partner
In meetings across Kansas this winter, 84% of the respondents said they viewed the other party in a lease as a partner; 12% said neither a competitor nor a partner; and 4% said they viewed the other party as a competitor.
Dhuyvetter used that as a springboard to a discussion of how parties actually treat each other in a lease. “I'll challenge you from time to time,” he told a group in Manhattan. “Are you really treating the other party like a partner? You'll realize after this ethics session that I can get a little preachy.” The Manhattan audience responded to that with laughter, not yet quite sure what they were in for.
Question 2: Who has more power in negotiating the terms of a lease?
- The landowner
- The tenant
- Neither (meaning they are roughly equal)
It's been Dhuyvetter's experience that the vast majority of both tenants and landowners think landowners hold the power because they own the land. (Remember the twisted version of the golden rule that says, “He who has the gold makes the rules.”)
At the winter meetings, 67% of the attendees said landowners had the power, and only 6% said tenants had the power. But Dhuyvetter disagrees.
“Information is power,” he says. “And the tenant often has most of the information when negotiating a rental arrangement. Most of the time it is tenants taking advantage of having the information and power as opposed to the other way. Only occasionally do we see it going the other way. Things could be considerably different in areas where cash rent auctions are the norm. That is a method of leveling the playing field with regard to information. Landowners may not have the information, but by putting the land up for auction, they are basically forcing the tenants to show their hands.”
Dhuyvetter thinks information and power between tenants and landowners are often out of balance. “Based on my experiences, the typical landowner in Kansas is a landowner by inheritance. If you are a landowner by inheritance, as opposed to buying the land as an investment, you can be relatively easy to take advantage of, depending on the situation,” he says.
These are broad statements, but landowners are typically generations and geographically removed, says Dhuyvetter.
“We regularly observe that landowners reside far away from where their land is located,” he adds. “And they often are out of touch with current farming practices since they either have been gone from the farm for decades or otherwise obtained the land through inheritance or marriage. Plus, they are often elderly people.” Some, but certainly not all, elderly people can be taken advantage of.
“Meanwhile,” Dhuyvetter says, “tenants generally are intimately aware of market rents and land values, and they typically recognize the possibilities and limitations of current farming practices.
“So tenants usually have much more relevant information than landowners,” says Dhuyvetter. “With that informational power comes a responsibility to not take advantage of the landowner.”
At one of Dhuyvetter's meetings this winter, a young producer told the group, “My family has been farming land from the same family for multiple generations, and they have complete trust in us. Thus, it is my job to not take advantage of that trust.” Dhuyvetter says, “If everyone had that attitude, we probably wouldn't be discussing this.”
Question 3: Whose responsibility is it to see that a landowner's cash rental rate is equitable considering the current conditions?
- The landowner
- The tenant
Dhuyvetter says some people say the question doesn't provide the answer they want, which is Both.
“I don't include it because everybody would answer that way,” he says. “In my opinion, the correct answer is Mine. Whether you are a farmer or a landowner, it is your job to make sure the landowner knows what is going on. If you are a landowner, you need to know what your land would be worth to rent. If you are a tenant, your landowner needs to know what the land is worth, and it is your job to make sure they know.
“A lot of people don't necessarily believe that,” says Dhuyvetter. “They say, ‘Well, it is their land, they can figure it out.’ I'm saying you should help them.
“Even though cash rents have been steadily increasing over time, we routinely get calls from landowners or heirs of landowners who reveal that their rental rates have not changed for years and sometimes decades,” says Dhuyvetter. “Their typical explanation is, ‘We didn't know.’ The tenant's typical response is, ‘The landowner never asked for more rent’ or, ‘But I do a lot to keep up the land, so I don't consider the arrangement to be unfair.’
“We believe such situations are more often the fault of the tenant than of the landowner, since the tenant holds the informational power and should have the responsibility to keep the landowner informed,” says Dhuyvetter. “While we recognize landowners have a responsibility to know what current rents are, we believe tenants should help make this information readily available.”
Terry Kastens regularly advises tenants. “Seek to operate in a way that your landowner should never once have to come to you and ask for more rent,” he says. “If the conditions are such that rent should be going up, you should be the first one to say something so your landlord never has to ask. That way, your landowner won't sell the land out from underneath you.”
And that happens, says Dhuyvetter. “I have worked with landowners who say they are thinking of selling their land. When you ask them why, some of them say, ‘I know I am not getting paid what I should get paid.’ They don't want to sell the land, but they also don't want to confront their tenant. So the best way to get market value for the land is to sell it. The tenant should never let that happen.”
Dhuyvetter says tenants often say they don't want to raise the rent because if they do it will never come down. “Rents actually go down year to year about one fourth of the time in Kansas,” he says. “Rents go up and down, but on average across all years, they do go up about 2% to 2.5% per year, even through the bad years. Thus, it should be unusual to see a three-year contract rate that shouldn't be higher than the previous contract.”
Question 4: When thinking about rental rates, who typically needs the income from the land the most?
- The landowner
- The tenant
- It does not matter
Across all the meetings Dhuyvetter had this winter, 46% said the tenant; 12% said the landowner; and 42% said it does not matter. Dhuyvetter sides with the 42% and says, “When you negotiate rental rates, it is completely irrelevant!”
Nevertheless, he says tenants sometimes make the argument that the landowner doesn't need the money. And, he adds, landowners sometimes foster this perception because they offer to help out when times are tough.
“While I think people caring about each other is one of the great things about agriculture, this can lead to longer term negative consequences when people start having unrealistic economic expectations,” he says.
Question 5: Is it ethical for a potential tenant to offer much more than the market rental rate?
This question gets complicated because it touches on competition among farmers when renting land in addition to agreements between a tenant and a landowner.
Dhuyvetter says some tenants pay higher rent because they think operating more land will make them more profitable.
“Some tenants pay more because they are already profitable and recognize the potential benefits to farm growth,” he says. “They expect, because of their management abilities and the economies of size in farming, that they will always be able to pay above-the-market rental rates as their farms grow into the future. Certainly, such tenants are considered ethically appropriate in our book.
“But,” says Dhuyvetter, “others pay more than the market to get their foot in the door, with little thought about whether they will actually be able to continue to pay above the market in the future.
“Unintentionally – and sometimes intentionally – such tenants are the ones who fail to increase rents to their landowner over time, so that paying above the market turns into paying below the market.
“Worse yet,” he adds, “some tenants very quickly complain to the landowner that they cannot be profitable, and so they negotiate for lower rents in the future. Such tenants know that landowners often are slow to change tenants, and they wish to take advantage of that fact.
“Not surprisingly,” says Dhuyvetter, “we do not consider such tenants to be ethical.”
Question 6: If a government payment is tied to the tenant's management, should the tenant get 100% of the payment?
- Strongly agree
- Not sure
- Strongly disagree
Most of the respondents (62%) either agreed or strongly agreed and only 17% disagreed with this question. Dhuyvetter isn't sure if that reflects what people really believe or if it's due to a lack of understanding of complicated programs.
Some government payments, such as direct payments, are tied to the farm while others are tied more to the producer's management, says Dhuyvetter. He uses conservation stewardship program (CSP) payments as an example of the latter.
Dhuyvetter believes the typical tenant rationalization says, “It's my management practices that make us eligible for this payment.” But he thinks the landowner could counter with the argument and say, “It's my land on which you operate and you've been doing these things anyway.”
Dhuyvetter says, “For a tenant, the guiding principle should be his answer to the question, ‘What is my cost associated with receiving this payment?’ If the answer is ‘Nothing,’ he says the money should be offered to the landowner. If the answer is ‘10% of the amount,’ then 90% should be offered to the landowner. At the very least,” he says, “these payments should be discussed and likely shared.
“I am not for a minute saying that tenants who have signed up for CSP should not get reimbursed for all of their time, effort, and expenses,” says Dhuyvetter. “I'm saying that above and beyond that, they should share payments with the landowner.”
Producers are providing management. “But,” says Dhuyvetter, “the landowner has something to offer here, too – the land. That is what makes it eligible for the program.”
Question 7: Is paying rent way below the market unethical or just being a good businessman?
“The answer to this question depends on the motives,” says Dhuyvetter. “The more the tenant can answer that he strives to keep the landowner informed of current rental rates, the more it looks like he's doing the right thing. On the other hand, the more the tenant's response is, ‘The landowner has never asked for more,’ the more it looks like unethical behavior.”
- Being a good businessman
Most of the land rental meetings Dhuyvetter conducts throughout Kansas each year attract landowners as well as tenants. Consequently, he also presents examples of situations where he believes landowners aren't behaving ethically.
No. 1: Landowners may use their land for non-ag purposes and yet expect the same rent as others in the area are receiving.
There's a lot of oil exploration going on in Kansas and some other states right now. The oil income flows to whoever holds the mineral rights, not the tenants. But drilling for oil affects the rental value of the property.
“If I am a landowner and I have numerous oil pumps on my land, that decreases the value of my land in a big way from a farming perspective,” says Dhuyvetter. “The market will say the land is worth less from an agricultural productivity perspective. If it costs a lot more to farm around a bunch of oil wells, utility poles, or wind turbines, it will be worth less to the person farming the land.”
There is another issue in play here: damages associated with exploration for oil.
“If the land is cash-rented, all the damages should go to the tenant,” says Dhuyvetter.
Crop-share leases are more complicated with regard to damages. If a damaged crop was going to be split 67/33, which is common in Kansas, those damages should be split the same way, says Dhuyvetter. But that doesn't necessarily hold if there is damage to the field in addition to the crop. In that case, the tenant should probably get a bigger share to compensate for repairing the field, says Dhuyvetter.
Here's another example from Dhuyvetter. “If I rent my land to you, you have all the rights to hunt on it. I, as the landowner, don't have a right to hunt on it or rent it to other people for hunting unless we put that in writing. If I, as the landowner, retain the hunting rights, that is perfectly fine, but I also might have to take a lower rent.” ●
No. 2: Landowners think if they paid too much for land it should bring a higher rent.
“This is completely irrelevant!” says Dhuyvetter. “The argument about who needs the money worse works both ways. A landowner who has paid too much for land should not assume that his higher land price should imply a higher rent.”
No. 3: Landowners might demand certain farming practices yet expect the same rent as other landowners are receiving.
As a landowner, you have the right to demand anything you want; it's your land. But don't expect to get the same rent as everyone else if you are demanding unusual farming practices.
“If you want someone to farm without fertilizer or pesticides, you can demand that,” says Dhuyvetter. “But there probably will be fewer tenants interested in your land unless they can rent it at a lower rate.”
No. 4: Landowners make demands on current tenants to “fix” problems of past tenants.
“Landowners are especially prone to fixing problems associated with past tenants by making unnecessary demands on current tenants,” says Dhuyvetter. “It's human nature to do that if your last tenant took advantage of you. But you've got to try and start off with a clean slate.”
A final point has more to do with what landowners say than what they do. “Some landowners, believing in the relevance of the idea that ‘they're not making any more land,’ play the trump card and say to the tenant, ‘I can always find another tenant.’ Obviously, such statements are quite offensive to tenants. And just like the tenant who fails to share information with landowners, we consider this to be unethical.”
Dhuyvetter closed his land ethics presentation in Manhattan by saying, “Do it because it is the right thing to do, not because you have some profit motive. I do believe the right thing is the most profitable thing in the long run.”