During lunch at a recent conference I sat next to a very bright, successful young farmer from a state other than Wisconsin. When he learned that I work for a Farm Credit System association, he outlined a dilemma faced by many young farmers. He’s been farming on rented land up to this point. He feels like he won’t really be established as a true farmer until he buys some land of his own. Is this a good time to buy? If so, what sort of land should he buy? How much land should he buy?
Those are all tough questions to answer with any certainty. Each is highly dependent on a beginning farmer’s financial position, type of operation, the local and national farm economy, and many other factors. We’ll consider the factors that influence each question and at the end of the article offer some recommendations.
Is this a good time to buy? From 2000 to 2016, ag land values rose rapidly in most parts of the country. Then, from 2016 to 2020, the market stalled out or retracted due to significant declines in net farm income. Farm land prices were relatively flat with similarly flat interest rates. Few acres were changing hands, which means we haven’t had a good test recently of market values. Today, interest rates remain at historic lows but are likely to rise if the nonfarm economy picks up steam. As the market gains momentum, we’ve also seen prices increase in 2021. That being said, it seems that land values have more downside risk than upside potential in the next few years.
Let’s compare a land purchase today at $5,000 per acre to a purchase in the future if land values declined 20% (to $4,000/acre) and interest rates increased 20%. We’ll finance 70% of the purchase price either way.
$5,000/acre x 70% = $3,500 @ 6% interest on a 15-year note = $360 per year loan payment, $150 principal and $210 interest paid in the first year.
$4,000/acre x 70% = $2,800 @ 7.2% interest on a 15-year note = $311 per year loan payment, $110 principal and $201 interest paid in the first year.
In this scenario, a farmer would need $300 more per acre for the down payment, would have a $49 per year higher payment, and pay $9 per year more in interest by buying land now instead of waiting.
What sort of land should a farmer buy? Even before the tremendous increase in land values, the cash return on an investment in farmland was not great in many parts of the US. However, people don’t just buy land for the annual cash return on investment, they also anticipate a potential increase in net worth over time due to rising land values.
If land values remain at their current plateau—or begin to decline—the cash return on investment becomes a more important consideration. A farmer might want to look for land that has a better than average potential to generate a cash return. It might be a parcel with outbuildings that could be used for livestock production or machinery storage. It might be a place that would be a good site for a grain storage facility. Or maybe it’s a place with a house that could be rented out to generate cash flow.
How much land should a farmer buy? It makes sense that a beginning farmer would want to buy some land. The feeling of pride and satisfaction that comes with owning land is immeasurable. A person will never put as much time and effort into rented land as they will in a parcel they own. And every business needs a base from which to operate.
Keep in mind that every acre purchased is going to tie up cash that might be deployed in more profitable ways. It’s also going to add overhead costs in the form of property taxes, interest expense, insurance, and possibly repairs and depreciation. If a significant percentage of the purchase is being financed, the annual payment will likely be a lot more than a farmer would have to pay for rent.
Recommendations for a beginning farmer who is determined to buy land: Don’t be in a hurry to buy. Have patience and wait for the right opportunity to present itself. While you wait, build up cash reserves and use them in ways that produce the highest net profit possible. Buy a relatively small parcel to start and avoid becoming highly leveraged. Keep your overhead costs under control. Try to find something that gives you more than just cropping acres; a house, outbuildings, grain storage, timber to sell, hunting lease opportunities, or further potentials.
It’s possible for beginning farmers to buy land, although the timing now is not ideal. Use the tips in the preceding paragraph and you’ll still be farming years from now when other land buying opportunities come along.