A couple of weeks ago, a post on Farmdoc Daily by Todd Kuethe on the legal structures of farms in Illinois got us curious about how Maryland farms use business organization structure. As attorneys, we are curious about the use of business organizations because adopting a business organization for a farm is one way to manage legal risks, along with purchasing liability insurance, written contracts, liability waivers, etc.
The Census of Agriculture is conducted every 5 years and includes questions regarding the types of business organizations being utilized in agriculture. Farms are classified in the Census as either:
1. Family or Individual (sole proprietorship) excluding partnerships and corporations;
2. Partnership, including family partnership and can either be:
a. Registered under state law or
b. Not registered under state law;
3. Corporation, including family corporations and further classified as:
a. Family corporation or other than family held
b. More than 10 stockholders
4. Other, cooperative, estate or trust, or institutional, etc.
For those farms utilizing a Limited Liability Corporation (LLC), the owner would classify the LLC based on whether the LLC has elected to be taxed as a corporation or as a partnership when filling out the census.
Looking at the 2012 results, Maryland had 12,256 farming operations which is up 1.42 percent from 1997 when Maryland had 12,084 farming operations. Sole proprietorships represented the largest group of business organizations being used with 10,132 or 82.7 percent of all Maryland farms (chart 1). Sole proprietorships also control the largest number of farmland acres in Maryland (64.8 percent) and have the highest share of the value of production at 58.2 percent in 2012 (chart 2). In Maryland, sole proprietorships were followed by partnerships, family-held corporations, other-held corporations, and other (chart 1).
One interesting number does jump out at you when looking at chart 2. Family-held corporations accounted for the third most utilized business organization structure, but accounted for the second highest percentage of acres and the second highest value of production (chart 2). In fact, family-held corporations have almost double the value of production as a partnership. The vast majority of those family-held corporations in Maryland (96.7 percent) had fewer than 10 shareholders.
How does Maryland compare with the rest of the United States in adopting business structures? The percentages are comparable. The vast majority of U.S. farms are sole proprietorships, followed by partnerships, family-held corporations, other-held corporations, and other (chart 3). But is having such a high number of farms (nationally and in Maryland) using only a sole proprietorship structure a good thing?
Sole proprietorship is the simplest business structure and requires no filings with the state to create or continue the business. The problem with a sole proprietorship is that the business owner’s personal assets and business assets are exposed to all forms of liability. For example, Farmer Mike’s farm is organized as a sole proprietorship. While driving his tractor home one day, Farmer Mike causes an accident that is his fault and he is eventually sued by the injured party. All of Farmer Mike’s assets are exposed in this lawsuit (his home, personal bank account, farmland, farm bank accounts, etc). The result is the same (all of his assets being exposed) even if we switch up the facts and Farmer Mike has the accident in his personal vehicle (sometimes not always clear in a lot of farming operations) while driving to the store for groceries.
Adopting a business structure does provide a way to segregate business assets (farmland, tractors, and other equipment) from personal assets (your house, retirement accounts, etc). Partnerships, corporations and LLCs all offer distinct advantages in liability protections and the type of business organization used will depend on your situation and the goals for your farm. Talk with an attorney and your tax preparer on which business organization makes the most sense for you, your farm, and your goals.
If you do adopt a business organizational structure, one important note is to always remember to follow the rules associated with that structure. If you do not follow the rules (for example, mixing business assets and personal assets, or missing reporting requirements with the state), you could potentially lose the limited liability protections that business structure offers. Make sure you ask your attorney how to manage the business in order to keep the protections offered by the business organizational structure.
In the coming weeks, Ashley and I plan to do a review of each of the business organizational structures available to you and lay out the pros and cons of each. Stay tuned for that. To review the basic concepts of business organizational structures, please see the University of Minnesota’s Ag Risk Library for publications dealing with this issue (see page here). The Maryland Rural Economic Development Center also has resources available to help you set goals for your business before talking with your attorney and tax preparer on the structure that will work best for you and your operation.