Financing Your Farm Business or Enterprise

By Robert E. Mikesell and Lynn Kime

There are several ways to finance your farm business or enterprise. Securing funding from a lender takes time and research.Before applying for any loan be sure to check your credit score. This includes checking your credit history with all three of the major credit-reporting agencies--Experian, Equifax and TransUnion. Credit score information can be accessed from each agency one time annually free of charge, but this service will not include an actual credit score, so check one every four months to catch inaccuracies as soon as possible. Keep in mind that scores "purchased" online do not always accurately reflect what the bank sees when it pulls your credit history. Contact the credit reporting agencies immediately about anything on the report that you do not agree with.

The type of financing you apply for will depend on the type of farm you are going to buy or enterprise you are considering, as well as your specific needs and circumstances. If you are considering a new business, you will require business financing and at least a rudimentary business plan, which should include:

• A brief narrative that describes your farm business plan and your experience to carry it off.
• Projected income from each enterprise. For example, stall rent (X number of horses at Y dollars a month each), land or barn rental, or crop income (X acres of corn at Y bushels per acre at Z price), etc.
• A thorough expense sheet for each enterprise.
• Any existing business or "projected income" that will remain (it helps to have obtained the seller's tax return to validate actual revenue history).

A thorough business plan that shows income to offset the expenses will strengthen the loan application. Providing as much detail as possible will only strengthen your application so be sure to include both income and expenses well as potential profit, or lack of profit for the first year, is something the lender will need to see. Most agricultural lenders know that a farm business or enterprise may not be profitable the first year, so having three years of projections will tell the lender when they may expect to see income that will support the loan payments. Any off-farm household income that can support loan payments also needs to be included and proven by recent tax returns. You will be required to submit a balance sheet showing all assets and liabilities as a portion of your application.

Different types of farm loans are set up for different types of farming operations. Be sure to match the loan type and repayment structure to the use of the funds.

• Operating loans usually provide a line of credit to be paid back (typically at Prime rate) once the farmer receives revenue--such as for a crop. These loans are designed to be used on crop or livestock production expenses and repaid each year. You may need to obtain annual operating loans, but this will strengthen your credit and relationship with the lender. An operating loan would typically be used to begin a new enterprise.
• Term loans for infrastructure and building improvements. Most banks match the length of the loan to the projected depreciation value or life expectancy of the purchase. For example, a loan for a tractor may have a seven-year term while real estate may have a twenty to thirty-year repayment schedule.

Residential loans usually have a lower interest rate and are easier to obtain than business loans and may be the way to go if the farm is being purchased primarily for residential purposes with farming as a sideline. If the farm is residential, but also commercial--e.g., the loan will be paid back from farm-operation revenue--then the loan is considered commercial. The required down payment for these types of loans is generally 20 percent, but other lending sources may provide funding for the initial down payment.

A good rule of thumb for figuring how much a loan will cost a borrower in the long run is to consider that a 20-year loan will roughly double the initial cost of that loan--in other words an initial $100,000 loan will ultimately cost the borrower about $200,000--while a 30-year payback will approximately triple the initial loan amount. While the actual repayment time and cost will fluctuate with interest rates, the above gives a pretty good example of the differences in actual costs associated with typical mortgage loan life spans. You may consider starting with a longer-term loan to keep payments low during the start-up period then refinance when a more predictable and steady income is achieved.

When it comes to loans for farming operations, many choices exist with an even greater number of possibilities. The larger your initial down payment at the time of establishing the loan, the lower your repayment and interest rate will be. The more “skin you have in the game” the less risk the lender is assuming.

Conventional Financing

Beginning farmers who have some equity may qualify for financing from traditional lenders. Undoubtedly, conventional financing through local commercial banks or through the Farm Credit system is the simplest, most straight-forward route. These institutions carry a variety of financial products, but often will not finance more than 80% of a farming venture's start-up cost. There are several options for the remainder of the down payment.

US Department of Agriculture (USDA) Financing

The Federal government has noted the ageing demographics of our agricultural producers and offers a variety of affordable financing options to help new producers get started. Farm Service Agency (FSA), the branch of USDA that distributes and services farm loans,has a very good website that provides a step-by-step approach and resources to plan and finance a farming career. They offer many services to farmers above the loan programs and should be a stop on your farm financing journey.

FSA can provide both farm ownership and operating loans for both new and established producers. Additionally, FSA can co-fund with, or guarantee loans from, conventional lenders. As with any government program, the application process for farm ownership and large operating loans can be a bit cumbersome. FSA also offers a Microloan program--$50,000 limit--for farm ownership or operating expenses. Microloans have a streamlined application process and can be a nice fit for many producers. You can now apply for two microloans, (for a total of $100,000) one for land and one for equipment or operating expenses. Another benefit of the Microloan program is that the item being purchased with the loan may be used as collateral.

Other Financing Options

Sometimes new farmers can align themselves with a retiring farmer who agrees to finance the operation until the new farm gets on solid financial footing. PA Farm Link is one such organization that helps align established farmers with new ones.

Finally, many times loans can and will be combined with funding from various small business administrations, economic development organizations, and funding agencies. Most loan officers should be able to steer you in the right direction for these opportunities.

Conclusion

Navigating the financing challenges is just one hurdle for new and beginning farmers, but it is among the more important. There are lots of resources out there but accessing them and determining which ones are applicable in each situation requires some study. Just be careful to work with someone who understands what you are planning. Agriculture is a unique industry and requires some understanding of production cycles and potential hazards. When drafting your business plan be sure to include a risk management plan to show the lender you have considered that something may not go as planned. This will demonstrate that you have conducted your research and understand the industry.

Cash is king, but not always practical. You will need to be sure you have funding for several years as most businesses fail due to the lack of capital funding. Borrowing funds is never easy but is almost always necessary. It will not happen overnight so begin the process several months before you anticipate needing the funds. Planning in farming is always key!