Dear Michael: We have had ten years in a row of very successful farming and are now about three years ahead on costs for farming. We have not taken crop income for the past three years other than what was enough to pay the bills and family living. Now, on top of this, we've had mineral income coming in, and it's really raising havoc with our income taxes. Sometimes I feel like we are single-handedly supporting our government and their spending.
How can we take this wealth and work with it so our non-farming children and our farming children (two boys) both end up with assets they won't blow someday. Our biggest worry is that our children have never seen the tough times and they have a tendency to spend money not in the manner we grew up with. What suggestions do you have? – Suddenly Wealthy But Still Ultra-Conservative.
Dear Suddenly: Whether it's farm income or if it's mineral income, it's easy to let this income dribble out to your children and have them spend it on things you wouldn't have. They grew up differently than you did – they've had more advantages – and they typically haven't seen real tough times to put perspective on what's happening today as being the way things will always be. Perhaps it's an anomaly – perhaps it's going to last for another twenty years – no one knows.
Here is the problem and I use this in my talks around the region. If I give a child ten thousand dollars per year s/he wasn't expecting, on top of their normal income, what is that child going to have in twenty years?
In eighty percent or more of the cases I've seen, I've got a kid who's twenty years old with two hundred thousand dollars of junk they bought, now worth nothing.
Whereas, if I had taken that ten thousand dollars per year and purchased long-term assets – such as farmland, or preferred stock in a business, or anything that has long-term growth and income possibilities, and kept that ownership under my wing, by the time I die, these kids might have grown out of these tendencies, plus they'll receive assets that produce income forever – for them, for their children and possibly for their grandchildren – your great-grandchildren!
What instrument would we use for this type of planning? A corporate structure would be good because you need to be able to retain 'authority' over how the assets are handled within the corporation ownership. You can give shares to your children, but up until you die, you want to be the boss.
In a normal corporation, this is handled by keeping a majority of shares in the corporation and you can't be outvoted. However, if you'd like the ownership of these assets to be shielded from your children's activities, or vice versa, you'd like the personal assets of the owners to be limited from liabilities of the corporation, you set up a limited liability corporation. Under an LLC, all personal assets of the owners are, supposedly, limited from liability.
If you wanted to go one step further, you can go to an LLLC – the extra L is for Limited but limited in the definition that there are two share types now in your LLLC – limited shares which have no voting power and general shares which have all the voting power. Under this type of arrangement, one can divest themselves of all stock held in the LLLC except for perhaps two 'general' partnership shares. Even though the parents only own two shares in the corporation, as long as they are 'general' shares and all the other shares, on paper the children 'own' the assets of the business but they have no voting rights and the parents 'own' virtually nothing but they are the decision makers.
Many people have used these for farm businesses – which is okay if you don't have children who don't want to farm. It's a nice, easy way to pass assets to children – but one has to remember that someday those 'general' shares will go to someone. You can either give them to all the children – and then you'll have gridlock on running any of the farm business with both farming and non-farming heirs able to make day-to-day decisions on the farm – or you can leave them to the farming child and, like any good farmer, he or she will run the business so there is no profit to be shared at year end. Ultimately, when the other shareholders discover they own a business which doesn't produce any income, there's going to be a lawsuit sooner or later. As such, I don't advocate LLLC's for farm businesses that have farming heirs.
However, if you have non-farming children and/or you have mineral income you'd like to conserve for your children, the LLLC might be the right vehicle.
For example, under the LLLC, you can retain the shares that would have gone to the children and use these assets – as general partners – to purchase other long-term assets such as farmland, apartment buildings, etc., etc. On paper, the children still own these assets, but as long as you retain the general shares and the children have limited shares, they would have no voting rights as to how the assets were handled.
By doing this, you can make certain your children don't receive an annual income from your LLLC, which is quickly absorbed into their new 'cost of living' and they have nothing to show for it long-term. We'll get more specific in the next column regarding how to go about this.