2018 has been quite the challenge due to various trade agreements, corporate tax dilemmas, the tumultuous weather, and most of all – the grain backlog. This has left many producers feeling uneasy about their cash flow and liquidity levels. While new, shiny equipment is pleasing to look at – and some even offer productivity benefits, they are depreciating assets. There are assets in which you and your operation can invest for tremendous growth while also providing some liquidity in case the **** hits the fan!
We brought in Mitch Reynolds to walk you through some of these options.
Mitch Reynolds, MBA, CFP, CLU, RRC, EPC
Advisor and Financial Planner with Sun Life Financial
Mitch: I have been in the financial services industry since 2000 after I finished my MBA from the University of Saskatchewan. I come from a farming family in Saskatchewan, on my Father’s side, and have worked on the family farm. This has given me a passion to help farmers and those in the agricultural community with long-term financial and estate planning, as they have certain issues that are unique from other business owners in Canada.
In my career I have worked with Clarica Financial (now Sun Life Financial), RBC Insurance, ATB Investor Services, as an independent broker, and now back with Sun Life Financial. I have worked both as an advisor/financial planner and in management. My passion and long-term career is now focused on helping business owners and farmers put the right kinds of financial plans in place to reduce taxation, increase wealth, and protect themselves and their families along the way.
AGRALINKS: Mitch, what a year we’ve had! Especially with the grain backlog, many farmers paid ridiculous interest on their debts. And while Bill C-49 passed Senate, there may still be issues with implementation. Should farmers still make preparations?
Mitch: Of course – we should all be prepared for tough times ahead. The fundamentals of good financial planning really don’t change, whether you’re an employee, single, part of a family, a business owner or a farmer. What changes are the circumstances around which we need to plan.
Keep in mind that not all risks are created equal. The grain back-log and whether or not Bill C-49 can solve the railway service issues in getting product to market in a timely manner, are relatively short-term and (hopefully) solvable businesses risks. For most producers these sorts of risks will eat away at their profit margins through increased operating costs and longer delays in making sales, but they won’t sink the business.
It doesn’t matter if your selling grain or making widgets, each industry has it’s own unique risks and we all need to manage those risks effectively. I’m not actually the expert in these business related risks and planning. My focus is on the long-term tax planning and estate planning for the farming business and intergenerational wealth and risk mitigation so that the farm business, and the farm family, gets the most out of wealth they have created.
AGRALINKS: So what you’re saying is to invest in profitability, and more assets that can be liquidated easily if needed. What kind of investments should farmers be making?
Mitch: Firstly, I think farmers should be re-investing back into their business where it makes sense to do so. The key words in my last sentence are “where it makes sense”. There is always a bias among investors to go with what they know. For example, in Calgary, people who work in the oil and gas sector have a large portion of their investments in oil & gas stocks.
So, if the option is to buy more land because it is at a reasonable price and the farmer has the equipment and resources to produce that extra parcel of land efficiently, then go for it. This can add a lot of value to the business. However, when adding to the business would mean needing more expensive equipment, hiring more farm hands to help with the labour, and taking on much more leverage, this seriously increases the business risk, and reduces the profit margins. One must always ask themselves “does it make sense?”
If you want to reduce risk, and increase your wealth, diversification is the #1 tool to produce stable returns with much less risk. This means investing outside of the farm, in other industries not related to agriculture. It means being invested globally, not just in Canada. It means investing in different asset classes, from bonds, to value stocks to growth stock. And it means having an investment portfolio that is highly diversified in all these areas.
When choosing your best investment vehicle, you must determine if the money is for the farmer, personally (their own long-term wealth) or if it is for the farm business?
A personal investment, for long-term planning, like retirement, could be placed into a Segregated Fund. This is much like a mutual fund, but it has insurance protection wrapped around it. The capital is protected from loss over time, and if the farmer dies suddenly we can guarantee the investment is made whole, even if the market has declined. But most importantly, a segregated fund provides the farmer/business owner with protection from creditors who might go after their personal assets if the business is in trouble.
The members of the farm family and/or shareholders need to build up their RRSP savings for retirement and, if possible, maximize their Tax Free Savings Accounts. The TFSA is a wonderful long-term savings plan that removes your money from future taxation. These different government programs can utilize a Segregated Fund as the investment vehicle to provide additional protection from business risks.
For the farm business, interest earning investments are only slightly better than leaving money in the business bank account. The taxes on passive business income (investment income that does not come from farm operations) will be taxed at a very high rate in a farm corp. I have been working on a cash flow stabilization strategy for farmers to take profits in a good year and spread that out over the next 5 – 10 years, with interest, using term certain annuities which put money back into operation cash flow in a tax efficient way. Here is an example:
The farm business does well and the business profits are $500,000, with a 12% corporate tax rate (Alberta). The farm corp. would pay $60,000 in taxes, leaving $440,000 to invest. Assume the farm corp. invests $300,000 into a 10 year term certain annuity. Over the next 10 years the farm corp. will get back about $35,000 per year, of which $30,000 will be a non-taxable return of capital. Only about $5,000 on average would be taxed as investment income to the business.
The only problem with such an income stabilization strategy is there is no liquidity, so in a financial emergency you won’t be able to access the remaining capital (but it’s all insured in case the farmer dies, the remaining capital goes to back into the business).
If a business, like a family farm corp. is making investments into diversified funds with after tax dollars, it should use a Corporate Class mutual fund. This type of fund defers most of the gains in the fund as “unrealized capital gains”, meaning the growth will not become a taxable return until the units of the fund are sold. There is only a limited amount of eligible Canadian dividends and capital gains dividends flow through. With the capital gains dividend only 50% of the gains are taxable based on the Capital Gains Inclusion rate of 50%. Also, when units of the fund are sold in the future, again, 50% of the growth is tax free since these are all Capital Gains, not interest income or dividends. This makes Corporate Class mutual funds a great investment asset for corporate retained earnings – so long as these funds are set aside for long-term growth.
For business cash flow needs and emergency cash, I say keep the money in the bank, since this is needed in the short term for cash flow. There is never a good reason to take risk with short term money required for cash flow or emergencies.
AGRALINKS: Mitch, thank you so much for being on with us today. It was great to learn from you, and we’re sure our audience appreciates it.
If you would like to talk to Mitch about your ideas, he can be reached here: