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Owning Farmland Is an Attractive Strategy for Investors
Ruth Rabinowitz recalls her first visit to the Iowa State Fair with her father and sister when she was about 12 years old. Her family wasn’t among the generations of Iowans who arrived there to accept Century Farm Awards. But her dad, David, bought his first Iowa farm 41 years ago and passed it on to her when he died in 2017.
“We’re not really new to the scene here,” says Rabinowitz, who lives in northern California.
Neither is leasing. It’s a dominant thread connecting the landscape, as retired farmers and their off-farm heirs retain ties to the land, and producers pursue economies of scale while building equity as tenants.
Investors increasingly find owning farmland an attractive investment strategy. In Iowa, 53% of farmland is rented to nonowner operators, and a recent survey by Iowa State University shows 41% of cash rent leases and 68% of crop share leases have endured for more than a decade.
This growing season’s volatile grain markets, stalled trade agreements, fallout from flooding and prevented planting, lower ethanol demand, and sagging exports are muddying the lease conversations.
Cash rent leases, the most common type of lease, typically are set too low during a period of rising prices and higher yields, and too high in times like today. The USDA is estimating a $58 loss per acre for corn.
Cost and margin estimates for soybeans following corn show a $99 loss per acre – more than $2 per bushel.
As a result, many lenders and most farm managers are advising farmers and landowners to renegotiate their lease terms.
“There’s not a lot of profit in agriculture,” says Kelvin Leibold, field specialist, Iowa State University Extension & Outreach. “Negotiating a shrinking pie is difficult.”
Lease Rates Stay Steady
Underlying trends support the status quo. “Land values are holding up,” Leibold says.
The 2019 Purdue Farmland Value Survey shows that average-quality land declined 0.9% from June 2018 to June 2019. Indiana cash rent for average-quality land softened to $207 per acre (a $3-per-acre decline).
Iowa’s state average value for all quality of land was $7,264 per acre on November 1, 2018, a decline of only $62 per acre from 2017. Cash rent, on average, fell to $219 an acre, a 1.4% reduction.
Other factors (including a thin land market) and low interest rates are supportive. The Federal Reserve cut rates again on October 30. That is the third time the Fed has cut rates in as many months.
“Lower interest rates mean higher land values,” Leibold says.
Crop share leases involve shared crop yields and often government and crop insurance payments, and a portion of crop expenses. But input costs haven’t declined much, and property tax increases in some states have taken a big bite.
“I hear this reasoning from landowners who won’t come down on rents,” says Allan Vyhnalek, University of Nebraska Extension ag economics educator.
Look at Leasing Options
One solution might be a shift to a different type of lease. A flexible cash lease offers greater risk and reward-sharing, and it reduces the need for annual negotiations. It allows for a downward adjustment during a poor economy but provides a structure for landowners to benefit if prices improve.
“There could be more flex leases, but some feel it’s complicated, and some operators resist,” says Mark Gannon, Gannon Real Estate, Ames, Iowa.
Changes in federal farm programs also may open the door to tenant/landowner conversations.
“Under the Farm Bill, there’s a one-time opportunity this fall to adjust PLC yields,” Gannon says. “It hasn’t received much attention, but it’s critical to get these bumped up. Some tenants are using outdated yields, which lowers their income potential if government payments kick in.”
Leibold agrees. “It also gives landowners the opportunity to sit down and talk about yield data with tenants,” he says.
Multiyear leases offer incentives to invest in long-term improvements to land and maintain soil fertility. Rabinowitz has a two-year lease on one Iowa farm. “I’d like to use it on all our farms,” she says. She’s written minimum-till into the agreement and applied for an NRCS cover crop grant with her tenant. “The farm was soil-tested, and we discussed potash when we signed the lease,” she says.
Rabinowitz schedules regular face-to-face visits. “Longer-term leases, along with regular communication, build relationships,” she says.
With recent wetter springs and flooding, drainage is emerging as a significant factor. In some cases, land has been damaged by cutouts, debris, or silt, and sand deposits. Reduced income and greater production risks may impact long-term land values and rental rates.
“On a micro level, by neighborhood, there’s probably been an impact in Nebraska, where there’s been bad damage to land,” Vyhnalek says. “On the large scale, it’s probably had minimal impact on leases.”
In localized areas, higher land values and rents can be traced to demand for land for manure contracts, Leibold says. Extras (tile, snow removal, mowing, etc.) done by the tenant also enter into the mix.
What’s the Outlook?
As a rule of thumb, cash rent usually is about 3% of average statewide cropland value. Ultimately, supply and demand set the rates.
However, looming uncertainties overhang the ag horizon. “At some point, tariffs will go away, but we’ll have to buy our way back into the marketplace the same way we always do – with lower prices,” Leibold says.
Although September 1 is the termination deadline, farmers and landowners can agree to fine-tune leases before March 1. (Custom farming contracts don’t have a September 1 deadline.)
“Some will agree to put the terms on hold until they see more certainty in 2019 crop yields and prices,” Leibold says.
Assembling information – updated balance sheets, yield data, and marketing plans – is key to preparing for rental negotiations, but human psychology enters into every negotiation.
“People are risk-averse when gains are possible and loss-averse when losses are possible,” says Ryan Drollette, farm management field specialist, Iowa State University.
“Landowners are reluctant to reduce rents, because they view the current rent as an endowment,” he says. “Although rental rates are falling, landowners don’t think it’s fair to lower their rents. Their reference point is their existing rent – not the going rent.”
One negotiating strategy is moving away from the landowner’s anchor position and reframing the situation. “Try introducing other reference points that create value, like contract terms, timing of payments, road repair, fence management, or hunting rights,” he says.
“Suggesting a variable-rate lease might offer some hope of not being on the losing end, since in good years, landowners see rewards; in bad years, farmers are protected.”
Other points to keep in mind:
• Small agreements create rapport.
• Use “I” statements; limit use of “you.”
• If the conversation gets heated, reaffirm that you’re listening.