This month’s blog post was written by Aidan Nicholson and Raymond Gallelli, Lawyers at Field Law LLP.
Introduction
Financial institutions and regulatory bodies project that, from 2023 to 2026, a trillion dollars in family wealth will be transferred to the next generation. It is predicted to be the largest generational wealth transfer in Canadian history. As Canadians stand on the brink of this wealth exchange, the next generation of Canadian farmers are particularly ill-prepared to receive such a windfall given that only 12% of farms in Canada have a formal succession plan. The lack of solid planning exposes agriculture families to financial burdens and disputes over property and failed promises, which too often cause the downfall of farms across Canada. In this article, we highlight why it is crucial to hire the right professionals to implement a farm succession plan, helping mitigate potential tax liabilities and litigation risks.
- Foregone Tax Savings
When farm property is disposed of (whether sold, gifted during the owner’s lifetime, or transferred on death), there may be significant capital gains subject to taxation. This is an important reason to engage the right professionals to soften such a tax hit. Thankfully, there are relieving provisions in the Canadian Income Tax Act (the “Act“) designed to alleviate the tax burden on farm families when qualified farm property is transferred or otherwise disposed of. Most notably, the Act allows for tax-deferredintergenerational rollovers and the utilization of the lifetime capital gains exemption to defer, minimize, or eliminate tax burdens onthe transfer.
To illustrate the power of tax planning, consider the following simplified example of the Johnson Ranch, keeping in mind that thecurrent capital gains inclusion rate is one-half (or 50%) and the lifetime capital gains exemption is $1,250,000.[1]
The Johnson Ranch is a family-run commercial cow-calf operation near Olds, Alberta. The Johnson family is comprised of the parents and their three adult children. The parents jointly own the ranch. As the parents age, it has become evident that their three adult children are disinterested in carrying on the operation. As such, the parents are looking to sell their farmland to an arm’s length third party. Assume that the farmland is qualified farm property for tax purposes and that there is a $4,000,000 capital gain on thefarmland when it is sold. If no planning is done and the lifetime capital gains exemption is not claimed by either parent, a capital gain of $2,000,000 will be reported asincome on both parents’ tax returns. As well, because of the inclusion rate, $1,000,000 per parent will be taxed at the applicable tax rates.
Now let’s say the parents claim their lifetime capital gains exemptions through proper tax planning. Because they own the farmland jointly, each parent still has a capital gain of $2,000,000 but both parents can reduce their respective capital gains by$1,250,000 using their capital gains exemptions, resulting instead in a capital gain of $750,000 per parent. Because of the inclusion rate, the taxable capital gain, then, is $375,000 per parent. This lowers the total taxable capital gain on the sale by $1,250,000.
In the above scenarios, the parents wished to sell the farm to an arm’s length third party. Now imagine that one of the adult children is actively involved in the operation and interested in taking over. Under the Act, so long as certain conditions are satisfied, the parents can transfer their interests in the farmland to the farming child without any immediate tax consequences (i.e., a tax-deferred rollover). The farmland is deemed to have been disposed of by the parents for proceeds anywhere in between the fairmarket value and its adjusted cost base, and the child is deemed to have acquired the land at a cost equal to those deemed proceeds. With such a rollover, tax will eventually be paid, but that tax bill can be deferred to strengthen the financial viability of the farm operation, helping achieve the parents’ retirement goals and facilitating a more seamless transition to the next generation.
- Family Breakdowns and Legal Battles
A lot of farm families rely on oral promises and handshake deals. However, a handshake does not mean what it once did, and it can cause a whole host of legal issues and evidentiary problems if things go awry. If there is an outdated Will or none at all, surviving family members may not agree on how the deceased relative wanted their farm property to be distributed and, at that point, there isno way to ascertain the deceased’s actual intentions. Even if there is a Will, promises may have been made to certain familymembers that contradict what the Will says. Likewise, the Will may not be drafted optimally; for example, it may not contemplate who receives certain farm property if the primary beneficiary predeceases the testator.
Where there is no legally valid Will, property distribution is governed by provincial legislation, which generally presumes a particular order of distribution without any reference to the deceased’s wishes or intentions. Accordingly, farm propertydistribution under intestacy may not be equitable in the family’s circumstances or in the business’ best interest.
Between calving, weaning, and processing, field prep, planting, and harvest, and everything in between, life on the farm is busy.We have been there, we get it. But imagine how much busier you will be when you have all those same yearly tasks in your cropseasons and production cycles butwith costly and time-consuming litigation on top of it. Before you know it, family members will resent each other, the farm will belost, and you will have a six-figure legal bill to pay. That is not the legacy you want to leave; we see it in our legal practices, and it is not pretty.
Conclusion
Whether it is soil management, input selection, or simply timing certain decisions in light of factors outside of their control,producers are intimately aware that making bets and taking risks are necessary in farming. Your legacy, however, is not something to gamble with. Although the above examples hardly scratch the surface of possible planning pathways, it should be clear that the benefits of formal succession planning far outweigh the consequences of neglecting such planning. Without proper planning, farmers can find themselves grappling with hefty financial burdens and divisive, contentious legal disputes.
As we are caught in the throes of the largest generational wealth transfer in Canadian history, it is more important now than ever to be proactive. The fate of your farm obviously depends, in part, on your practices and how you run the operation, but it also largely depends on the initiative you take to preserve your life’s work. A farm without a succession plan jeopardizes the farm’s future andcould squander the family legacy that has been built over many years or decades.
Contact the authors for assistance with agricultural succession planning or agricultural disputes.
[1] Every circumstance is unique and will require its own specific analysis and tax considerations. We recommend seeking tax and legal advice for your unique fact pattern.
DISCLAIMER
Terms of Use
By accessing the Wealth Matters – Our Insights page, you agree that you have read, understood and agree to be bound by the website terms of use, in addition to the terms stated below. If you do not agree with this website’s terms of use, please exit from this page, and do not access any other pages on this website.
Cidel Bank & Trust Inc. (including its subsidiaries and affiliates, “Cidel”) reserves the right, at its discretion, to change, modify, add, or remove portions of this page, and the information contained herein, without prior notice.
Information Is Not Legal or other Advice
Wealth Matters – Ours Insights publications are intended to convey general information about legal issues and developments as of the indicated date. It does not constitute legal, tax, accounting, or any other advice and must not be treated or relied upon as such.
Statements made in Wealth Matters – Our Insights publications, including the interpretation of case law, are of a general nature only and in no way represent a warranty of the position or accuracy of the law at the time, nor do they pre-determine any position Cidel may take with respect to a specific fact situation or particular client matter. Furthermore, Cidel does not endorse, guarantee the accuracy of, or accept any responsibility for any content written or contributed by third parties who are featured as guest bloggers on Wealth Matters – Our Insights, nor does Cidel endorse, guarantee the accuracy of, or accept any responsibility for the content of third-party websites or materials that may be linked, quoted or otherwise referenced in these publications. For greater certainty, Cidel does not warrant or guarantee that the information contained on this page is accurate, complete, updated regularly and obtained from reliable sources.