Last week IFAC and the Irish Grassland Association (IGA) teamed up to discuss how a father and son partnership, who seven years ago had invested over €550,000 in a new farmyard, could benefit from changing from a sole trader to a limited company.

In 2006, father and son team, Pat and Martin Kennedy made the decision to build a brand new dairy facility on their 140-acre outfarm near Toomevara in north Tipperary, a mile from their 74-acre home farm. They were milking 95 cows on the home farm but it is now used for rearing replacements and for silage.

The new facility has a 14-unit Fullwood parlour, 140 cubicles, two outdoor concrete lagoon slurry tanks, silage slab, calving and calf rearing pens. Pat works full time on the farm and his wife Phyillis works part time and is chief calf rearer. This year they have started employing part time labour to carry out winter feeding and slurry spreading.

Martin is a qualified accountant and is branch manager of the IFAC office in Templemore (20 minutes drive from home) but often milks the cows before work and is heavily involved in the farm.

Cow numbers have now increased to 140 cows on the new unit. Martin cited a number of reasons behind their decision to expand.

“Investment in slurry storage was required on the home farm so we asked ourselves where would be the best place to spend the money? We knew we were making good money from the cows and moving to the out farm would allow significant expansion and more profit,” he said.

It took nearly two years from when they first started thinking about moving the farmyard to when buildings were complete. Construction happened over two phases with most of the work done in 2006 and 40 cubicles, more calving pens and the second out door concrete slurry lagoon added in 2011.Over 200,000 litres of quota was also purchased.

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Today, the Kennedys have a model farm set up with cubicles, parlour and calf pens all under one roof and a silage slab located right beside the 14-bay feeding passage.

Family Circumstances

Martin said that family circumstances have a huge bearing on expansion. “Every farm is different and retained earnings are a huge benefit to a business when expanding,” he said.

“Having an off-farm job allowed me take less drawings from the farm and leave cash available to the business. Many farmers have families to support and no other income source so have high drawings which must be considered. The other big issue is current profitability.

“You can’t put a figure on how many thousand euro per cow someone can borrow and pay back as profit varies too much. Some farmers make €200 net profit per cow per year and some make over €800, depending on performance and cost control. The amount of debt these different cows can service is massive.”

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This is the first year the Kennedys have reached their initial target of 140 cows and 30% of the herd are first lactation heifers so Martin expects extra profit will be made as the herd matures.

“One of the biggest drains on profit I see are heifers not lasting in the herd. Realistically, a heifer needs to complete two full lactations before the profit she generates will cover all rearing costs,” he said.

The Kennedy British Friesian herd has an EBI of €128 with €104 for fertility, so longevity is something Martin hopes will be a strong trait of the herd in the future.

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Consolidate or grow

For the first seven years after investing in the farm, the annual income tax the Kennedys have been paying was small due to capital allowances (parlour and buildings depreciation) of up to €80,000 per year being claimed.

At the end of this year, all phase one buildings will be fully depreciated so this will increase the profit in the Kennedy farm accounts, and will potentially lead to them paying up to €40,000 in tax.

They are now considering various expansion options to increase profit and minimise tax. While more investments will mean more capital allowances, under every scenario Martin has examined, the farm will retain more net cash if operating as a limited company.

As a company, they would incur approximately €22,000 less taxation in 2014 (based on a milk price of 28c/l excluding VAT) if the business maintains its current scale.

If Martin wished to invest and expand to 200 cows, he estimates that in 2014 he would pay €11,700 less tax if expanding as a company (Table 1).

While the tax saving is less when expanding as a company due to the capital allowances effect (Table 2), when capital allowance are finished in seven years’ time the saving increases to €24,000 per year.

Martin concluded: “After a huge amount of planning we have decided it’s a matter of when, not if, we convert to a company. While it suits us every farm is different and you should get specific advice from a professional with agri expertise before making the decision.”

Farm tax considerations

At the farm walk Declan McEvoy from IFAC outlined a number of important tax considerations every farmer should be aware of:

What future investments have you planned? How will these add to your capital allowances over the next seven years?

Stock relief will only be useful for expanding herds and is only 25% for a farm business, 50% for a registered partnership and 100% for the first four years for a young trained farmer.

Are you making full use of family wages to reduce taxable profits?

Do certain expenditures fall in under repairs (written off in one year but you can’t claim back the VAT) or capital expenditure (written off over seven years)

Is income averaging something to consider? The tax you pay every year is on the average profit you made over the last three years. When profits are increasing this reduces the tax you have to pay but when profits are decreasing it increases the tax you have to pay. This led to difficulties for some farmers in 2009.

How is the business structured? Should you be in a partnership for increased stock relief? A married couple can earn up to €65,600 at lower rate of tax. If a son is in the partnership he can earn up to €32,800 at the lower rate of tax.

Is there off farm investments such as a pension fund? Is this taking cash out of the business that will be needed for expansion or servicing debt?

Should you consider entering a limited company? It was made possible for farmers to operate under this structure in 2008.

Questions on companies

Q: What are the inheritance issues that arise when farming through a company?

A: There should be no difficulties. The land is owned by a person and is transferred as normal. Shares in the company can be transferred in the same way. This may disqualify someone from the 90% agricultural relief as the company value could mean less than 80% of the assets owned by the inheritor are agricultural land. However, other reliefs are available such as business relief which will compensate for this.

Q: Do companies have to register for VAT?

A: No just like farmers as sole traders this is something they can elect to do.

Q: Can you farm inside and outside a company at the same time?

A: Yes with careful planning but there are a number of important obligations to be met; e.g. to get stock relief you must only be farming in the company.

Q: If the land is owned by the company what happens? Can it be taken back out?

A: There may be no need to transfer the land into the company as succession can easily be done with the land and company as two different entities. To bring land out of a company will expose you to capital gains tax. As for a sole trader if the company director is over 55 years old and has been farming the land for the previous 10 years in the company he is entitled to full capital gains tax relief.

Q: Can you quit being in a company?

A: Yes, but there are a number of reliefs and concessions you get when forming a company and these are foregone when you leave. This could leave you exposed to a large bill but money saved from being in the company will still just about cover these extra bills.

Q: Once the company has debt paid back and cash starts to accumulate within the company, how can the farmer access it?

A: The money can be used to take on more debt and expand or to purchase land. A director’s loan can be paid to the director of the company tax free up to the value of the assets he/she put into it. After this, extracting money from a company can become tax inefficient and is taxed at the normal rate of a wage.