What lending options work best for the farm Part 4

Considerations for the farm business after prevent plant and delayed planting.

A farmer standing in grass.

The severe weather this year has put a tremendous amount of pressure on Michigan farms. From delays in planting to spraying timely for weeds or diseases, each farm has felt the impact of these conditions. https://www.canr.msu.edu/agriculture/delayed-planting-resources/ The common thought is that because conditions across the state were similar that the impacts to farms would be, too. The reality is that each farm is a very different situation.

At the end of the season, what does your farm’s situation mean when it comes to profitability and cash flow?  In this segment, MSU Extension recommends the following considerations:

Understand the lending options available and what works best for the farm

Qualified Agricultural Loan Origination Program (State of Michigan)

On July 8th, 2019 the State of Michigan authorized $15 million towards the Qualified Agricultural Loan Origination Program. This is a program of significant interest to producers as they look to alleviate the financial distress caused by the severe weather. It is important that each producer understand the requirements of the program in determining if it is a possible solution to their operation’s situation.

While some details have been released, the expectation is that the requirements will be similar to Public Act 111 of 2018 of the same name (http://legislature.mi.gov/doc.aspx?mcl-Act-111-of-2018). These include: The State will pay loan origination fees for administrative costs; Interest rates will be set at a rate of 1.0% or the five-year United States Treasury note plus 0.25%; and terms of a loan may not exceed more than five years.

The first principal payment shall not occur before 24 months. It is important to understand that the first few years of a loan payment are typically higher in interest than in principal. While producers would see lower payments in the first two years, there will be payments made in all five years of the loan. The payments in the last three years would simply be much higher. Consider how this could potentially impact the farm’s cash flow now and in the future.  Does that payment structure work for your farm business?

The loan shall be equal to not more than the value of the crop loss. Producers will need to provide certification demonstrating an accurate and valid description of the lost production. The loan shall not exceed the lesser of $400,000 or the value of the crop loss minus insurance proceeds received on the same loss. Well-kept, accurate production records are very important to obtaining a loan through this program.  As well as understanding the amount of anticipated income from crop insurance.  How much of a loan would you be eligible for based on your production records and expected indemnity payments?

If crop insurance was available for a particular crop and the producer did not purchase the insurance, the amount of the loan will be reduced by 30% or $100,000; whichever is less. This reduction in the loan amount is important for producers without crop insurance to be aware of as they consider the financial needs of their operation.  Does the loan provide enough financial support to your operation?

Emergency Loan Program (USDA)

The United States Department of Agriculture (USDA) offers a low interest Emergency Loan program made available in cases of natural disasters (https://www.fsa.usda.gov/programs-and-services/farm-loan-programs/emergency-farm-loans/index). The USDA defines the purpose of these loans as “to help producers who suffer qualifying farm related losses directly caused by the disaster in a county declared or designated as a primary disaster or quarantine area.”

The term of these loans is one (1) to seven (7) years with special circumstances making 20, 30, and possibly 40-year terms available. The interest rate for these loans as of July 1, 2019 is 3.75%. 

In order for this program to become available, the farm must be in a county declared by the President or designated by the Secretary of Agriculture as a primary disaster area.  All counties contiguous to the declared or designated primary counties also are eligible for emergency loans. On June 19, 2019, Governor Gretchen Whitmer submitted a letter to Secretary of Agriculture Sonny Perdue, requesting that a disaster designation be granted for the entire state of Michigan in order to make this program available to producers. As of the date of this article, a disaster designation is still pending.

Keep in mind that USDA loan requirements may also be different from a commercial lender. Some of these include: Borrowers must be unable to receive credit from commercial sources; keep acceptable farm records; operate in accordance with a farm plan they develop and agree to with local FSA staff; and may be required to participate in a financial management training program and obtain crop insurance.

Servicing of Existing Loans

Looking to add to existing debt is just one option available when meeting with your lender. There are tools available to assist with the debt that already exists. Understanding these tools and how they might help your farm’s cash flow is an important part of the lender discussion. 

Interest Only 

This allows farms to continue making payments against accrued interest, but frees up additional cash flow to the operation that would have gone towards reducing principal. The expectation is that this tool would provide a short-term relief until the business’ cash flow returns to normal levels. This is a popular option for many commercial lenders and often the first tool they look to use. 

Deferral

If a farm’s cash flow projection is unable to show debt repayment through Rescheduling and Consolidation, a lender may be willing to postpone payments for a short period on one or more loans. Depending on the lender and the farm’s situation, postponed payments would last for at least one year and no more than five years. 

Rescheduling

This tool takes your existing loans and rewrites them into a new loan with a new set of terms and interest rate. This will result in a lower annual loan payment, but it also means that it will now take longer for the original debt to be repaid.  Lenders will also “capitalize” any existing interest and add it on as additional principal to the total amount of the new loan. The same collateral is often used, but some lenders may take a security interest in additional assets. 

Consolidation

Similar to Rescheduling, this tool takes multiple loans and re-writes them into a single, new loan. There is often a higher amount of “capitalized interest” from multiple loans and interest rates are typically higher than many of the original loans. Loan terms are often longer than rescheduled loans, which results in lenders requiring real estate assets as collateral.  

Note: When interest is capitalized, it is important to keep track of the interest rolled into principal as that is tax deductible when paid.  Lenders Interest 1099’s will not list this capitalized interest.  A portion of the principal payments will be interest and can be claimed as such each year as the principal is paid.

Regardless of the loan or servicing tool, it is important that the lender can be part of the process to finding a solution for your farm. They are a resource and can provide guidance as you work through possible strategies and discuss alternatives to consider. Ultimately, you need to be objective as a farm manager and decide if the loan or servicing is worth pursuing or if you should walk away.  Sometimes not getting a loan can be the best decision you make for your farm’s future.

Did you find this article useful?