Farmers urged to share the wealth with landowners, economist says

Booming grain prices like those farmers have experienced in 2021 mean one thing: Prices paid for farmland and cash rents are sure to increase in time for the 2022 crop season.

Just as certain, however, is that grain prices will eventually decline. Farmers who locked in high cash rents during the boom times may be stuck with unprofitable leases when the market does fall. It's one of the pitfalls of cash rent agreements, says Mykel Taylor, the Alfa Endowed Eminent Scholar in agricultural economics at Auburn University.

"It's hard to set a fair fixed cash rent when things change from year to year," Taylor explains.

For that reason, a flexible cash lease (FCL) may be the solution for some farmers and landowners.

The FCL guarantees a minimum price that both the tenant and landlord agree upon. It is usually less than the going cash rent rate; however, landowners can obtain a bonus based on yield, grain prices, or gross income. "For landowners, that's attractive because they're not missing out on good years," Taylor says.

While FCLs can be tailored to each farm, in most scenarios the tenant and landlord agree on one of two common scenarios:

* Share of net revenue. The landowner will receive rent equal to an agreed-upon share of the net revenue of the crop, determined by multiplying harvested yield by market price (usually the price at harvest). Typically, the rent will equal between 25% and 40% of the net crop value or net crop revenue.

* Base rent plus bonus. The parties agree to a base rent, typically lower than a typical fixed cash rent for the same land.

The landowner receives a share of the net revenue if it exceeds a certain base value. Both parties need to agree on how to calculate net revenue.

What's the Holdup?

Ideally, a farm rental agreement should be fair to both parties. "Everyone wants to find that middle ground, but it's hard," Taylor says. An FCL can provide that middle ground. However, only about 5% to 6% of all leases in the Corn Belt are FCLs, according to the Tenure, Ownership, and Transition of Agricultural Land Survey by USDA's National Agricultural Statistics Service.

"The reason we don't see more of them is because they can just be a little bit complex to figure out," Taylor says. "Let's say you set a base rate, but the formula component — which is where the flex comes in — can be complicated."

In most cases, farmers will pay a fixed portion of cash rent on March 1, and the second portion — the flex — after harvest in the fall.

Parties can base the flexible portion of the lease on either yield or net revenue; Taylor prefers the latter. However, that requires a farmer's willingness to provide cost-of-production information and how that information was derived.

"If you do the calculations and you just say to a landowner, here's your base rent and your $25-per-acre bonus, but don't tell them how you arrived at the $25 bonus, they may say, 'Thank you.' Or they may think, 'What gives? I thought it would be more,' " Taylor explains.

How About Informal Bonuses?

If the point of a flexible cash lease is to provide fair compensation to landowners, why not offer an end-of-year bonus in very good years?

Taylor advises against it. Remember the scene in National Lampoon's Christmas Vacation where Clark Griswold gets a subscription to the Jelly of the Month Club rather than the cash bonus he was expecting — and had already spent? An informal bonus is like that.

If you give your landlord an extra $10 to $15 an acre in a good year, the landlord will appreciate it. However, if prices are low the next year or the weather is bad and there is no bonus, the landlord will probably be disappointed. "That can come back to bite you," she says.

"If you have good communication, you can work through that," she adds.

"But not every landowner and tenant have good communication."

Three Keys to A Flexible Cash Lease

A flexible cash lease (FCL) can provide farmers and landowners more certainty in volatile years, says Mykel Taylor, Alfa Endowed Eminent Scholar at Auburn University. To make it work effectively, however, requires management discipline in three areas.

Transparency

Operations that are successful with FCLs keep close track of input costs and are willing to share those with the landowner.

Communication

When Taylor was an Extension ag economist at Kansas State University, a young farmer and his landlord approached her after a meeting. They had set up a flexible cash lease, whereby the young farmer paid a base cash rent and a bonus that depended on whether the land turned a profit that year. "The farmer was paying a lot more than market value, and it was unsustainable," says Taylor. "But they were able to reconcile the situation because they were willing to communicate with each other."

Documentation

Details of the FCL should always be written down and revisited each year. This includes payment terms (what time of the year does the landlord get paid), how yield is determined (weigh tickets, combine yield monitors, grain bin storage capacity), plus how crop insurance and government payments factor into the formula. For an interactive worksheet on flexible cash leases, visit the Iowa State University Ag Decision Maker website at extension.iastate.edu/agdm/wdleasing.html.