Tapping farm equity key to greater
local ownership of renewable energy
Editor's note: This article presents
findings from Informa Economics Inc., a
consulting firm contracted by USDA
Rural Development to perform an initial
study on financial models used in biofuel
production. This article represents the
author’s effort to summarize the study
findings; it does not reflect official
positions of the U.S. Department of
Agriculture or any other government
entity.
The ability to tap local equity is
the key to greater local investment in
rural business opportunities, such as
renewable energy. One part of this
investment-model study includes an
examination of the amount of equity
available in rural communities that
could be available for rural
investment.
Farm assets
According to Informa Economics
and the USDA Economic Research
Service, the value of U.S. farm
business assets in 2006 was $1.81
trillion, about 6.3 percent more than
in 2005. The value of farm real
estate, accounting for 85 percent of
farm sector assets, is expected to have
increased by 7.5 percent in 2006,
following a gain of 16.3 percent in
2005.
The value of farmland in the
United States generally follows farm
income and return to assets.
However, since 2004, net farm
income declined while rural real
estate value increased substantially.
This pattern followed the same
pattern of real estate values
throughout the rest of the country.
Total farm real estate value increased
from $1 trillion in 2001, to an
estimated value of $1.6 trillion in
2006, with most of the increase
occurring since 2004.
Farm debt
While there is significant value in
land held by farmers, it is important
to determine the extent to which
these assets are already leveraged. It
is estimated that total farm business
debt climbed 1.2 percent in 2006, to
$218 billion.
Real estate debt for farm
businesses has steadily increased over
the past 15 years, growing from $67.6
billion in 1990 to $114.3 billion in
2005. Real estate debt accounts for
more than half of total farm debt
outstanding.
Farm equity
Farm business equity was
expected to continue rising in 2006
as the increase in farm asset values
exceeds the rise in farm debt. Farm
sector net worth was expected to be
about $1.7 trillion in 2006, up from
$1.59 trillion in 2005. The increase
in assets relative to debt has lifted
farmers’ net wealth over the past
few years. The value of debt-toequity
fell from 17.4 percent in
2002 to an estimated 12.7 percent in
2006.
This growing stock of equity
capital can be used to finance
investments in rural communities.
There are many opportunities for
investment in the rural communities
today, one of the biggest being the renewable fuel sector.
Funds available
While U.S. farmers hold a significant amount of assets
and equity relative to debt, the ability to take on more
debt is largely dependent on the ability to generate
enough income to service their debt obligations. In other
words, you can’t mortgage the farm if you cannot cover
the additional debt payments.
One way to measure the amount of additional mortgage
funds available is to look at the unused debt-repayment
capacity. This value compares the difference between the
maximum amounts of debt farmers can afford to the
amount of debt they currently hold, given the income
level of the farm household. The difference is referred to
as the “un-used debt-repayment capacity.”
The debt-repayment capacity is based on the maximum
debt service that operators would be able to pay given
total income and farm and non-farm expenses. Figure 1
illustrates these two values from 1970 to 2006. During this
time period, there was only one year when the debt level
was more than the repayment capacity. In 1981, the
aggregate debt payments exceeded the farmers’ ability to
repay these loans, which resulted in many farm
foreclosures.
This tells us that farmers could boost their debt load by
nearly $1 trillion. However, a number of scenarios could
occur that could affect the income available for debt
coverage. These include falling commodity prices,
increases for input prices or crop failures. On the other
hand, the risk associated with commodity price
fluctuations for the farm operator may be partially offset
by their investment in a biofuel facility.
Demographics show that the farming community is
older. More than one out of every four farmers, and about
half of agricultural landlords, are 65 or older. This group
controls more than one-third of all farm assets.
How does this affect the attitude of farmers with
respect to mortgaging the farm for investment purposes?
In addition to working longer past traditional retirement
age, farm-operator households tend to have several
income sources and different forms of wealth, compared
with the general population. While fewer farm operators
are covered by employer-sponsored pensions than are
non-farmers, a majority of farm operators save from
current income on a regular basis and have accumulated
diversified financial portfolios, including individual
retirement savings.
Reduced tax rates on capital gains associated with the
appreciation in farmland values, along with the prospect of
avoiding capital gains taxes on any appreciation prior to
death, continues to encourage farm owners to hold land.
Recent changes in the federal estate tax policies that allow
larger amounts of property to be transferred at death free
of any estate tax further reinforce this incentive.
These factors, along with not wanting to “mortgage the
farm” on risky ventures, will probably keep the equity
capital tied up in the farm business. In order to tap the
equity, there will need to be some incentive to entice the
farmer to transfer equity out of the farm and into
ownership of biofuel operations.
