No matter where you’re at in your career as a farmer, it is worth taking time once in a while to see if your business structure is the right one for you. As the financial needs of your business evolve over time and the goals for you and your family change, it is important that you assess whether your current structure helps you meet these needs. To help you in determining whether what you have is what’s best for you, and what a change might look like, below is a quick rundown of the pros and cons of the three major organizational structures used for farms in Canada.
“One-man” operations, or sole proprietorships, still represent the majority of farm operations in Canada (51.7%) even though the trend over the past forty years has been away from this type of business structure for farms. While there has been a sharp decline in the number of farms operating as sole proprietorships, this remains the structure of choice for Canadian farmers.
The reason that so many farmers across the country continue to operate as sole proprietorships is likely that it is a very simple and inexpensive way to set up a business. Registration costs are low, the operation is straight forward, and the farm business is viewed by the government as an extension of the sole proprietor, meaning a single, simpler tax return.
However, simple and cheap does not always make for the best business organization. The fact that the government views the business as an extension of the sole proprietor means that all of the debts and liabilities of the corporation attach to the sole proprietor as well. This exposes all of the assets held by the sole proprietor, and they could be seized to satisfy the debts of the farm. A farmer operating a sole proprietorship may also run into problems when it is time to retire and pass the farm on to the next generation. Selling or transferring a farm and its assets under this organization model is more difficult, and so it is not an ideal set up to have when you’re planning to retire.
If you’re in the early years of your farm and you don’t expect to turn much of a profit or you don’t plan to bring in any partners, the sole proprietorship is probably the right choice for you. If, however, your farm is bringing in healthy profits, you want to bring in someone as a partner in the farm, or you’re starting to think about transferring your farm, you may want to consider structuring your farm as partnership or family farm corporation.
With sole proprietorships on the decline among farms in Canada, partnerships are on the rise. Roughly 22.8% of farms now operate as partnerships, but only 5.4% of those have a formal partnership agreement. So, while people are coming together to work farms with two or more partners more often than they used to, only about a quarter of those partnerships have a binding legal agreement governing their relationship to one another.
The benefit of the partnership structure is that it is easy to bring other people into the business, does not require many government filings, and certain tax benefits are available to partnerships that are not available to sole proprietorships. In a family farm where you wish to pass the farm on to the next generation, or just want to bring family members in to help with management, the partnership provides more flexibility than the sole proprietorship.
The drawbacks of a partnership are similar to those of a sole proprietorship. Each partner is liable for the debts and liabilities of the partnership, which means their assets are exposed if the partnership is unable to meet its obligations. There is an added layer of risk in partnerships, where partners are even held accountable for the actions of the other partners. This applies whether or not the innocent partner was involved in the decision, or even aware of it.
If you have a growing farm and want to bring on a couple of people to help run the farm, it could be time to transition to a partnership. This structure provides flexibility in bringing in new partners, and creates an easier transition to a new generation when you’re ready to take a step back from the operation of the farm. The risks of the partnership structure can be mitigated by having a formal partnership agreement, but the partners will still be on the hook for any debts of the farm.
Family Farm Corporation
Many farmers across the country are taking steps to formalize their farm operation as a family farm corporation, and it’s a structure worth considering for anyone with a larger farm, or who is looking to minimize their financial risks. With 22.5% of farmers now operating their farms as family farm corporations, and another 2.7% as non-family corporations, incorporating is becoming an increasingly popular option for Canadian farmers. However, just because it is becoming a more popular structure, does not mean it is necessarily right for you.
Incorporating may seem like a big step to take for a family farm operation, but the benefits can be attractive to farm owners with a healthy operation. Since a corporation is viewed under the law as a distinct entity, the shareholders, which would likely be you and your family, are not held liable for the debts and obligations of the farm. This means if things take a turn and your farm is not able to meet its obligations, the creditor will not be able to seize your personally held assets, just the assets of the corporation. Corporations also allow you to employ yourself and other family members, purchase corporate pension plans, and employee benefit plans. When planning for the future, selling the shares in the corporation to whoever is taking over the farm is much quicker and simpler than the transitions from a sole proprietorship or partnership. Finally, incorporating comes with many tax benefits, including an enhanced capital gains exemption, which an accountant or financial professional can provide more information on.
While incorporating can be very attractive for all of the above reasons, it is also more expensive. The up-front costs of incorporating are much higher than the set-up costs of sole proprietorships or partnerships, and there are ongoing costs involved with keeping corporate records up to date, maintaining separate financial records, and more complex tax returns. These costs can be prohibitive for smaller operations that do not turn as much of a profit, and can be too complicated to keep up with sometimes for single person operations.
If you have a profitable operation, are starting to plan for the future of the farm, or would like to minimize your personal financial risk, incorporating could be right for you. It’s also a good way to set up your farm if you have multiple family members working for the operation and you would like to set up employee benefit or pension plans. If you have a small operation that is turning a smaller profit, it might be best to remain in a sole proprietorship or partnership structure, as these have lower associated costs.
Unfortunately, there is no one-size-fits-all approach to business organization. This is especially true for farms, as we see from the three very different approaches being taken by farmers across the country. Depending on your financial situation, plans for the future, and the number of family members involved in the management and operation of the farm, you will want to structure your farm differently. If you would like to discuss what structure might work best for you, please do not hesitate to contact us and our business law team.
Article written by Bob Bell, Associate – Corporate Group
Disclaimer: This article is provided as an information resource. This article should not be relied upon to make decisions and is not intended to replace advice from a qualified legal professional. In all cases, contact your legal professional for advice on any matter referenced in this document before making decisions. Any use of this document does not constitute a lawyer-client relationship. Please note that this information is current only to the date of posting. The law is constantly changing and always evolving.”