Farm Loan Affordability: It’s Not Just the Interest Rate

Hand with contract pointing where to sign

Farm loan borrowers often focus on interest rate. Without a doubt, a competitive rate is important. Consider a 5% vs. 4% rate on a $500,000 farmland loan with a 30-year term. The annual payment on the lower rate saves a producer about $3,800 a year ($32,921 compared to $29,121). Over the life of the loan, that adds up to about $110,000.

Current Loan

 

New Loan

Principal

$500,000

 

Principal

$500,000

Interest Rate

5.0%

 

Interest Rate

4.0%

Loan Term

30 years

 

Loan Term

30 years

Annual Payment

$32,921

 

Annual Payment

$29,121

 

But producers also need to consider the structure of their debt. Unlike other businesses that can rely on a cash coming in and cash going out on a regular basis, income and expenses on a farm or ranch don’t always align. A lender who understands agriculture can work with you to structure debt to meet your operation’s cash flow needs. Examples of this include:

Farm Loan Amortization

The longer the repayment period, the lower the individual payments. Say the interest rate on that $500,000 farmland loan is 5%. Amortized over 20 years, loan payments equate to $40,378 annually. A 30-year loan, by comparison, reduces the annual payments by $7,457 to $32,921.

Current Loan

 

New Loan

Principal

$500,000

 

Principal

$500,000

Interest Rate

5.0%

 

Interest Rate

5.0%

Loan Term

20 years

 

Loan Term

30 years

Annual Payment

$40,378

 

Annual Payment

$32,921

 

A longer-term loan that can be paid off early without penalty makes sense for some producers. During challenging years, a producer might need the lower payment to ease cash flow needs and help retain working capital. In profitable years, the producer can pay down the loan, effectively shortening the amortization period. However, it’s always smart to talk to your lender and other advisors about how best to use profits.

Farm Loan Payment Schedules

Inputs being bought in the fall and winter of 2021 are for the 2022 crop. Some producers will choose not to market their 2022 crop until 2023. A monthly payment schedule doesn’t always work with the outflow and inflow of cash on a farm. Ask your lender if there are other payment terms are offered. Depending on the lender, the type of loan and the needs of your operation, you may have an option to pay monthly, quarterly, semi-annually or annually. The loan payment calculator allows you to try out different scenarios to determine how interest rate, payment schedule, loan term and more impact loan payments.

Debt service is a major source of cash outflow for many farm businesses. Whether you are weighing a farmland loan, an equipment loan or a line of credit (operating loan), your lender will want to know how the additional debt impacts your cash flow. And while the right debt structure is important to managing your cash flow budget, it isn’t the only factor.

Alternative Cash Flow Strategies

A farmland purchase, for example, might not cash flow in the short-term. But the rest of your operation could subsidize the land purchase.

Some strategies to consider:

  • Sell underperforming or underutilized assets on the farm to increase cash flow.
  • Evaluate other ways to manage agricultural machinery expenses – lease vs. purchase.
  • Outsource tasks that others can do for less so you can focus on areas of your operation that could improve profitability.
  • Bring in additional income from off-farm jobs. Check out our Side by Side webinar for ideas on side hustles.

On the flip side, you may need to reduce costs or delay purchases to decrease the cash flowing out of your operation. Honing your business negotiation skills, reducing family living, improving your feed management and collaborating on field work, machinery and labor are just a few ways to reduce costs. 



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