Newsletter | Past Issues

February, 2006

In This Issue:

Ohio Farm Custom Rate Survey 2006 - Give Us Your Feedback Online!

Farm Financial Record Keeping Resources

Financial Analysis Available

Lease or Buy a Livestock Building?
CCC Loans and Income Tax
Are Building and Construction Materials Subject to Ohio Sales Tax?

Timing of the Next Farm Bill

Why the 2007 Farm Bill Will Be Different

Farm Program Spending: A Historical Perspective

Accredited Investors

Milk & Dairy Product Production Climbs - What's Down the Road for Milk Prices?

Do you have a question that you would like to ask the Ohio AG Manager Team?  If so, click here to email your question.

Ohio Farm Custom Rate Survey 2006 - Give Us Your Feedback Online!
Barry Ward, Leader Production Business Management, Ohio State University Extension and Ag., Environ., and Dev. Economics

One of the most common ways custom farming providers and consumers arrive at an agreeable custom farming rate is to access University Extension summarized surveys. Ohio Farm Custom Rates have not been updated since 2002 and we think it’s high time to update this research and provide relevant data for custom farming providers and consumers. To carry out this important research we need your help. Whether you are providing custom farming services or you are in the market for custom farming services we would like your feedback on rates and practices that you are charging or being charged. This survey also contains questions on machinery, building, and land rental rates as well as labor rates. Fill out only those sections that pertain to you and your custom farming or rental practices.

The Online Ohio Farm Custom Rate Survey 2006 is at:
http://aede.osu.edu/Programs/FarmManagement/ohio_farm_custom_rate_survey_2006.htm

The survey is also available as a printable pdf at:
http://aede.osu.edu/Programs/FarmManagement/Budgets/Custom%20Rate%20Survey%202005-2006.pdf
that can be filled out and mailed to:
Barry Ward
Leader, Production Business Management
Ohio State University Extension
Department of Agricultural, Environmental and Development Economics
Agricultural Administration Building
2120 Fyffe Road
Columbus, Ohio 43210-1067

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Farm Financial Record Keeping Resources

Barry Ward, Leader Production Business Management, Ohio State University Extension and Ag., Environ., and Dev. Economics

Farm record keeping can be a daunting task whether you choose to keep records with pencil and paper or with a sophisticated computer software package. Choosing the system that is right for you is important to your record keeping success. A system that fits your abilities and provides the output needed are critical. The following links will provide you with a look at Farm Financial Record Keeping packages and what each provides.

Agricultural Software Directory: Financial Record Keeping
http://www1.agric.gov.ab.ca/$department/deptdocs.nsf/all/econ4119?opendocument
This is the most up to date comprehensive list of Farm Record Keeping Software that I have been able to find. This listing contains brief 2-3 paragraph descriptions of each software package along with links to their homepages.

The QuickBooks Farm Accounting Cookbook, Flagship Technologies
http://www.goflagship.com/products/cbkhome.htm
If you have an interest in QuickBooks for record keeping, this may be worthwhile.
Cost of $29.

Using QuickBooks to Manage Your Dairy Farm
http://agebb.missouri.edu/commag/dairy/bailey/dairyqb/index.htm
An online Farm Record Keeping how-to book for QuickBooks. Obviously this one is for Dairies, but may be worth a look for any farm.
Cost: Free on-line publication.

Computerized Farm Record Keeping with Quicken 2005
http://ohioline.osu.edu/b920/
The 2006 version should be available on-line by the end of January at:
http://aede.osu.edu/Programs/FarmManagement/MgtPublications.htm

OSU Department of Agricultural, Environmental and Development Economics Learning Resources
http://aede.osu.edu/resources/learn.php
At this site you will find software, planning tools, and presentations developed by members of the department.

Farm Analysis Solution Tools (F.A.S.T.)
http://www.farmdoc.uiuc.edu/fasttools/index.asp
This University of Illinois site offers computerized decision aids that permit users to perform financial analysis, assess investment decisions and evaluate the economic impacts of various management decisions. The site offers a wide range of decision making and analysis software tools that are free to download.

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Financial Analysis Available

Donald J. Breece Ph.D., Farm Management Specialist, OSU Extension Center at Lima

As income tax records are prepared and balance sheets are updated, it is a great time to have a financial analysis prepared for management information. Any business manager should have profitability measures like rates of return calculated, as well as solvency, liquidity and efficiency indicators. Furthermore, what is the cost of production for both variable and fixed expenses, broken down by commodity? How do these compare or benchmark with other producers?

Both from OSU Extension offices and FBPA programs in local vocational schools this analysis is available. Using the computer program FINPACK, a complete financial analysis of last years farm records can be made by a trained educator. Also, cash flows can be prepared for 2006 and expansion plans tested. Call your local OSU Extension office to find a contact for this service. If you are interested in purchasing FINPACK, it is available for sale from the Center for Farm Financial Management, University of Minnesota, at: www.cffm.umn.edu. For lenders, a new version for analysis of farm loans is also available.

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Lease or Buy a Livestock Building?

Donald J. Breece Ph.D., Farm Management Specialist, OSU Extension Center at Lima

Financing capital investments, such as livestock facilities, are generally funded by one or a combination of three forms: using cash reserves to purchase, leasing, or financing with borrowed money. Each of these have both advantages and disadvantages to be considered by the business manager. After a brief discussion of the pros and cons, several computer programs will be listed at the end of the article that should be most helpful in making an informed decision about the various financing alternatives.

Using cash to purchase a building may seem to be without cost, in that no interest expense is realized by the business. However, it ties up a relatively large amount of capital, perhaps exhausting liquid working capital, or the rainy day fund. For many types of farm businesses, 25% of a years expense ought to be available in this fund. Furthermore, how does interest rates of various lenders compare with the businesses ROE, rate of Return on Equity? If there is little debt and the business is profitable enough, whereby ROE exceeds interest rates for borrowed money, than expanding capital investment through borrowing makes a lot of sense. This is called leveraging and increases overall profitability in the business. As a rule, it is important for businesses to grow 5 to 7% per year, just to keep up with inflation, anyway. In the final analysis, using cash to build a livestock building is not really without cost and alternative financing should still be considered by business managers looking to grow profits.

What about borrowing the money and investing in a livestock facility? The word credit comes form the Latin word credo, meaning "I believe." Somehow there is comfort in knowing that someone else shares in the belief that a purchase is a good investment and worthy credit. However, financial risk limits the amount of borrowed funds a particular business can afford. As a rule, 40% or more equity (60% or less debt) should be manageable from a cash flow perspective and carries a reasonable amount of risk. I generally say that a farmer should own (equity) more than half of his own business and that the lending partners should be less than "majority partners." It is true that many livestock expansions push this debt figure to 60 or 70% of assets, but the goal is always to eventually pay debt down to below half. Of course, there are costs to borrowing funds, (interest, fees, appraisals, closing costs) but, these costs are tax deductible and in the end may be "cheaper" than using cash. One reason is that cash purchases are paid up front, therefore the opportunity cost (or the lost opportunity) to use these funds elsewhere is lost, in total, on day one. Borrowed funds spreads the total purchase price over several years. Therefore, in todays dollar value (net present value), future principle payments are lower than the cash dollars paid up front. What about the comparison of 10, 12, 15 or 20 year loans? The simple trade-off is total interest cost (and maybe different interest rates for each term) vs cash flow considerations. Computers are great tools for these comparisons.

Leasing has been a popular alternative to borrowing for many years. The main reason stated is the immediate income tax deduction of true lease payments. With purchases, depreciation must be taken and this may limit the speed of deducting building costs. This is especially true for businesses facing higher income tax brackets.

In recent years, some of this advantage may have been eliminated in situations where IRC Section 179 Expensing may be used for single purpose livestock facilities. This limit was raised to $100,000 per year, adjusted by inflation, through 2007 (goes back to $25,000). For example, the limit for 2005 was $105,000 ($108,000 in 2006). However, this limit is reduced by the amount by which the cost of property placed in service during the tax year exceeds $420,000. In other words, if $525,000 was spent in 2005 on IRC Section 179 qualifying property, no expensing deduction would be allowed. Not all lease payments are tax deductible according to IRS. There are seven tests that must be passed for a lease agreement to be a true lease, and not a conditional sales contract. Page 22 of the 2005 Farmer's Tax Guide lists these important tests.

How fast can livestock buildings be depreciated? Farm buildings in general have recovery periods of 20 or 25 years. Using 150% declining balance depreciation and 20 year GDS (General Depreciation System) provides the fastest write-off. Using the straight-line method and 25 year ADS (Alterative Depreciation System) is the slowest. In the case of single-purpose livestock facilities, the recovery period is only 10 years under GDS and 15 years under ADS. And remember, ICR Section 179 expensing is also available. Again, see the Farmer's Tax Guide.

OSU Extension has a computer program designed to compare a cash purchase to a lease to borrowing funds for a building or equipment. It may be obtained at you local Extension office or found on the web at:

http://aede.osu.edu/Programs/FarmManagement/Budgets/download.htm#MachFin.

The Center For Dairy Profitability in Wisconsin has a spread sheet for comparing leasing vs borrowed financing at: http://cdp.wisc.edu/Decision%20Making%20Tools.htm.

A spread sheet for comparing capital investments may be found at:

http://www.montana.edu/extensionecon/farmmgt/software/capinv.xls.

The University of Missouri has a Equipment Lease Analysis program for equipment:

http://agebb.missouri.edu/download/university/equipment.exe.

The decision to finance a livestock facility with cash, borrowed funds or a lease is certainly complex. Each farm faces different income tax management challenges, rates of return and business objectives. Hopefully, the listed computer programs will be of some help and comfort.
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CCC Loans and Income Tax
Donald J. Breece Ph.D., Farm Management Specialist, OSU Extension Center at Lima

Commodity Credit Corporation loans have long been a part of a grain farmer's overall crop marketing strategy. The CCC Loan is a nonrecourse loan, with the crop serving as collateral. The loan may be handled for taxes, as any other loan, whereby the income is reported in the year that the grain is forfeited or redeemed and sold. An election may be made, however, under IRC Section 77, to treat the loan proceeds as income in the year received. This election is made by reporting the loan proceeds as income on Schedule F, line 7a for the year the loan is received. A statement must be attached to the return showing the details of the loan.

Once a farmer reports a CCC loan as income in the year received, it becomes an accounting method and all CCC loans from that point forward must all be reported as income when received. Once this Section 77 election is made, it takes consent of the IRS Commissioner to go back to reporting CCC loans as loans. Prior to a recent change, this was no easy deal. It took a required application of a change in accounting method, payment of a user fee and a good non-tax reason for making the change.

Rev. Proc. 2002-9, 2002-3 IRB 3327 changed that and now gives producers automatic consent to revoke an election to report CCC loans as income. It still is necessary to file Form 3115, Application for Change in Accounting Method. However, the change is now automatic. Form 3115 is completed in duplicate, with one copy filed along with the tax return and one copy sent to the national office of the IRS. There is no longer a user fee.

A special thanks to Trenna Grabowski, CPA, an Ohio Income Tax School instructor, for the details of this information. She is editor of the Farm Tax Saver , a Farm Progress publication.

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Are Building and Construction Materials Subject to Ohio Sales Tax?
Donald J Breece Ph.D., Farm Management Specialist, OSU Extension Center at Lima

Are building and construction materials subject to Ohio Sales Tax? Yes, items that become a part of real property are taxable unless the contractee is:

1) the State of Ohio or one of its political subdivisions,
2) the federal government,
3) a house of worship or religious education,
4) a non-profit organization operated for certain charitable purposes as defined in the sales tax law,
5) contracting for the original construction of a sports facility under section 307.696 of the Revised Code,
6) contracting for a hospital facility entitled to exemption under section 140.08 of the Revised Code,
7) contracting for real property located in another state when the materials are not subject to tax in that state,
8) contracting for a horticulture or livestock structure for a person engaged in the business of horticulture or producing livestock.

Also, building and construction materials sold to a construction contractor for incorporation into real property outside this state are not subject to Ohio sales or use tax if such materials would be exempt from tax when sold to the contractor in the other state. The contractee s exemption does not apply to the contractor s tools, equipment, rentals of personal property, form lumber, temporary items such fencing, lighting, etc., and any other purchases of tangible personal property, or taxable services, not incorporated into real property. More information available at:

http://www.tax.ohio.gov/divisions/sales_and_use/index.stm.
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Timing of the Next Farm Bill

Carl Zulauf, Professor, OSU Department of Agr., Environ., and Dev. Economics

The House Committee on Agriculture has announced its first two field hearings on the 2007 Farm Bill. They will be held on February 6, 2006 in Fayetteville, North Carolina and on February 7, 2006 in Auburn, Alabama. However, at the annual meeting of the American Farm Bureau Federation, delegates voted to support an extension of the current farm bill until a new world trade agreement is reached. The current talks on the World Trade Organization agreement will have a major impact on the next Farm Bill. The President’s fast track negotiating authority ends in June 2007, which means the U.S. Senate would have to ratify a new agreement, should one be reached, by then.

To me, three scenarios exist regarding the timeline of the new farm bill: (1) writing of a new farm bill begins on time in 2007, (2) a one-year extension of the 2002 Farm Bill is enacted, meaning that writing of the new farm is delayed to 2008, and (3) a two-year extension with a new farm bill being written in 2009. A one year extension is possible if Congress feels that a new farm bill can not be completed by the time that 2008 spring crops will be planted (on numerous occasions next year’s winter wheat has been planted before Congress completes a new farm bill). A two-year extension is possible if Congress thinks substantive cuts will be have to made and they want to wait until after the Congressional and Presidential election year of 2008 to determine how to implement them. It is also worth noting that writing of the new farm bill can not begin until next year because it is unclear which party will have control of both houses of Congress after 2006 mid-term elections. Last, because it has often taken Congress more than one year to write a farm bill, writing of the new farm bill could begin in 2007 but not be completed until 2008.

The fact that the House Agriculture Committee has started field hearings suggests that they think the writing of the new farm bill will begin in 2007. It is worth noting that the likely outcome of the World Trade Organization agreement will be known by the middle of this year given the amount of time it takes to work out minor details and the text of the agreement. Thus, it is a push to argue that uncertainty surrounding the outcome of the trade talks should delay the next farm bill. Last, I also hear more chatter in the political dialogue that writing will start on schedule. However, a one or even two year extension can not be ruled out should the right set of events emerge. A downside in delaying the farm bill is that the federal budget deficit could become more of an issue, especially as we near the time to permanently extend many of the tax cuts enacted earlier in the Bush presidency. I think this extension will increasingly become the top priority of President Bush. How to pay for the cuts will be a major issue, especially if the budget deficit continues to be $300 billion or more.

In summary, right now I think that the writing of the new farm bill will start on schedule in 2007.
 

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Why the 2007 Farm Bill Will be Different

Carl Zulauf, Professor, OSU Department of Agr., Environ., and Dev. Economics

History suggests that, at this stage in the farm bill debate, the best forecast is that the 2007 Farm Bill will be a slightly modified version of the current (2002) Farm Bill. In my opinion, this forecast is not likely to hold. The reason is the emergence of three largely new principles that will impact this farm bill. Principles are the themes around which policy legislation is organized. The three principles are: (1) inclusion of insurance in the farm bill debate, (2) fairness to landowners, and (3) management of World Trade Organization (WTO) boxes. These principles and their (important) implications are discussed. Link to the entire article in pdf format at:
http://aede.osu.edu/programs/outlook/2005-06outlook/FarmPolicy.pdf

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Farm Program Spending: A Historical Perspective

Carl Zulauf, Professor, OSU Department of Agr., Environ., and Dev. Economics

As debate begins on the next Farm Bill, the cost of farm programs is a major issue. The purpose of this article is to place in historical perspective current federal spending on farm programs. The level, composition, and variability of spending are examined.

The data begin with Fiscal Year (FY) 1961, the first year that consistent data are available. It ends with the current year, FY2005. Spending for a fiscal year is collected OSU AED Economics (AEDE-RP-0049-05 ) from budgets for subsequent fiscal years in order to capture final revisions. For FY2005, spending estimates, not revised final numbers, are currently available. The FY1961 – FY2005 observation period is divided into four periods based on farm policy regime.

The complete article is available at:
http://aede.osu.edu/resources/docs/pdf/67K0WX0Q-GO70-JUMW-E981Q8HGSNDT8UC6.pdf

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Accredited Investors

Tom Sporleder, OSU Farm Income Enhancement Program

Being an accredited investor opens the door for taking advantage of unpublicized private placement offerings. If an individual is an accredited investor, that individual can then take advantage of investment in securities offered in privately-held companies. Start-up companies involved in agricultural value added often use private placement offerings to raise capital. For example, several ethanol plant start-ups have raised equity capital for their venture by offering securities as private placement. Only accredited investors can avail themselves of private placement offerings. The current issue of The Agripreneur newsletter is devoted to the topic of accredited investors and why farmers and other individuals may wish to qualify as an accredited investor. Access The Agripreneur free on the Internet at http://agripreneur.osu.edu

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Milk & Dairy Product Production Climbs - What's Down the Road for Milk Prices?

Cameron Thraen, OSU State Specialist, Dairy Marketing & Policy

As we enter the start of the 2006 calendar year it is time to take stock of where we are milk price-wise and where we are likely to go in the next 12 months. In this column I will review the trends observed in the cash markets for dairy commodities; take a look at the relationship of butter and cheese inventories to high and low milk prices and finally stick my neck out and provide a forecast for 2006. Let’s get to it! Link to the entire article in pdf format at:

http://ohioagmanager.osu.edu/resources/January06_Outlook.pdf

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