Flexible Lease Agreements Offer Alternatives

 

The rapid rise in corn [2] and soybean [3] commodity prices in the past few months – and the resulting projected increase in gross crop income per acre – has caused many landlords to consider significant increases in cash rental rates on rented farmland for 2011. This comes after substantial increases in many rental rates from 2008-2010. Many crop producers are concerned that the favorable crop prices may not last long term, and that the gross income per acre in future years may not be high enough to justify the higher cash rental rates that are being proposed for the 2011, or potential future rental rate increases. In addition, crop input costs for seed [4], fertilizer [5], chemicals [6], fuel and crop drying are likely to be higher in 2011, as compared to the 2010 crop year. An alternative to the proposed high cash rental rates for 2011, or potentially even higher rental rates in the future, may be for producers and landlords to consider a flexible cash leaseagreement, which allows the final cash rental rate to vary as crop yields and market prices vary, or as gross revenue per acre exceeds established targets.

The use of a flexible cash rental lease is potentially fairer to both the landlord and the farm operator, depending on the situation and how the flexible lease is set up. A true flexible cash lease allows for the landlord to receive additional land rental payments for a crop year above a base land rental rate, if the actual crop yields and market prices – or the gross revenue per acre – exceed established base figures. A true flexible cash lease would also allow for the base rent to be adjusted downward, if the actual crop yields and prices – or revenue per acre – fall below the established base figures. However, many flexible leases have been modified, and only flex upward with added rental payment to the landlords if the base crop yield and prices are exceeded. The modified cash lease approach is probably acceptable if the base cash rental rates are within a reasonable range.

Challenges

The biggest challenge with flexible cash rental leases is determining the base rent per acre, the maximum (and possible minimum) cash rent per acre and the method to determine the flexible rent payments. The best way to establish the base rental rate is to have a rental rate per acre that is agreeable to both the landlord and farm operator. Most land-grant universities and some farm-management associations publish annual average land rental rates on a yearly basis, which could be used as a resource for arriving at an equitable base rental rate. It is important for producers to have a maximum cash rental amount, in order to assist them with crop budgeting, grain marketing strategies and crop insurance decisions. Typically maximum rental rates are $50-100 above the base rate.

Determine base yield, prices

The base yield for a crop can be determined by either using the proven yield (APH) for Federal Crop Insurance, which is updated annually, or some other acceptable method of yield determination. Actual yield calculation on the farm can be determined by warehouse receipts, settlement sheets, scale tickets, bin measurements, grain cart weigh wagons, yield monitors or any other method that is acceptable to both the landlord and farm operator.

In many cases, the base price for a crop is the new-crop price at the local grain elevator for that crop on a specified date (say, April 1 for corn and soybeans), and the final price is the price for that crop at the same local elevator on a specified date in the fall (for example, Oct. 15). In some cases a weekly or monthly average price at the local grain elevator from planting to harvest is used to determine the final price. Another alternative that is easy to follow is to use the Revenue Assurance (RA) crop insurance base price for a crop as the base price for the flexible lease, and the RA harvest price as the final price, which are based on Chicago Board of Trade (CBOT) futures prices. Whatever method is used to determine both the base and final prices should be consistent, using either local cash prices or RA prices from the CBOT. The details for determining prices and yields should be spelled out in a written land rental agreement that is signed by all parties.

Modification for input costs

With the occurrence of much higher crop input costs in recent years, some flexible cash leases have been modified, and are now based on gross revenue triggers that exceed the cost of production, rather than on crop yield and price triggers. In this type of lease the landlord only receives additional cash rental payments beyond the base rent when the final gross revenue per acre (yield x price) exceeds the established cost of production for the year.

Typically, the added flex rent payment to the landlord would be a set percentage of the added gross revenue per acre above the established cost of production per acre, which is typically about 30% for corn and about 40% for soybeans, with a maximum rental rate per acre. Just as with crop yields and prices, determining the established cost of production for a crop for the year can be a challenge. Some possibilities would be to use cash-flow statements for the year prepared by a farm-management advisor, ag lender or the producer themselves. Again many universities and farm-management associations have average cost of production data available. There also probably needs to be allowances in a flexible lease to allow for added costs or expenses due to weather or emergencies.

There are many other variations to setting up a flexible lease agreement between a landlord and farm operator. The big key, regardless of the flexible lease agreement, is that both the landlord and tenant fully understand the rental agreement and the calculations used to determine the final rental rate. It is also very important that flexible lease agreements, as well as all land rental contracts, be finalized with a written agreement. These written agreements should be notarized, with both parties receiving a copy of the agreement.

Flexible Lease Resources

Iowa State University has some very good resources on flexible cash leases and written cash rental lease contracts, including sample cash rental contracts, which are available on their Ag Decision Maker website [7]. For additional information on flexible land rental leases, send an e-mail to Kent Thiesse ([email protected] [8]).

Editor’s note: Kent Thiesse is a former University of Minnesota Extension educator and now is Vice President of MinnStar Bank, Lake Crystal, MN. You can contact him at 507-726-2137 or via e-mail at [email protected]