Tuesday, September 20, 2016

So You Want To Buy Farmland? Things to Consider

I often field questions that concern farm real estate legal and tax issues.  It seems as if some of the more frequent real estate-related questions that have come up recently concern steps that can be taken to ensure that a farm land purchase goes through and that nothing unexpected occurs to disrupt the deal. 

So, what can be done to ensure a successful transition?  A lot of it boils down to making sure that the buyer has full information about the property they are interested in buying.  This is especially important with respect to farmland.  One of the reasons is because there is a significant federal environmental rule that can come into play.  The Comprehensive Environmental Response Compensation & Liability Act (CERCLA) focuses on hazardous waste sites, but it can have significant ramifications for agricultural operations because the term “hazardous waste” has been defined to include most pesticides, fertilizers, and other chemicals commonly used on farms and ranches and its presence can lead to huge liability.  But, there are defenses to liability. 

Perhaps the most important CERCLA defense for farmland buyers is the “innocent purchaser” defense.  This defense can apply if the defendant purchased land not known at the time of purchase to contain hazardous substances, but which is later determined to have some environmental contamination at the time of the purchase or is contiguous to land not known at the time of the purchase to be contaminated.  A buyer attempting to utilize this defense must establish that the real estate was purchased after the disposal or placement of the hazardous substance, and that they didn’t know and had no reason to know at the time of purchase that a hazardous substance existed on the property.  To utilize the defense, the buyer, as of the purchase date, must have undertaken “all appropriate inquiry” into the previous ownership and uses of the property in an effort to minimize liability.  The phrase “all appropriate inquiry” generally depends upon the existence or nonexistence of five factors:  (1) the buyer’s knowledge or experience about the property; (2) the relationship of the purchase price to the value of the property if it was uncontaminated; (3) commonly known or reasonably ascertainable information about the property; (4) the obviousness of the presence or likely presence of contamination of the property; and (5) the ability to detect such contamination by appropriate inspection.

A buyer of farm land can take several common-sense steps to help satisfy the “appropriate inquiry obligation”.  Certainly, a title search should be made of the property.  Any indication of previous owners that may have conducted operations that might lead to contamination should be investigated.  Aerial photographs of the property should be viewed and historical records examined.  Likewise, investigation should be made of any government regulatory files concerning the property.  A visual observation of the premises should be made, soil and well tests conducted, and neighbors questioned. However, the execution of an environmental audit may be the best method to satisfy the “all appropriate inquiry” requirement.  Some states have enacted legislation requiring the completion of an environmental audit upon the sale of agricultural real estate.  Today, many real estate brokers, banks and other lenders utilize environmental audits to protect against cleanup liability and lawsuits filed under CERCLA.          

There’s more than just CERCLA to be concerned about when buying a farm.  As previously noted, a lot of information about a tract of farmland can be obtained publicly.  In the Midwest, checking drainage records with in the local Auditor’s office (at least in some states) is a good place to discover drainage information.  Those records may not be in the Recorder’s records and probably won’t show up in an abstract.  Also, there may be private drainage agreements and/or easements that exist.  Those agreements will likely be recorded and appear in the Recorder’s office records for the property.  Also, USDA records about the land should be examined.  This includes FSA and NRCS records.  Many sellers will choose to make all of the records open concerning a particular farm.  So, that can be a good way to get your hands on USDA maps and documents.  This will also allow the buyer to determine if there are any government contracts or easements on the property (think CRP and WRP here).  Also, the USDA information will allow the buyer to determine if any of the land is highly erodible or has wetland status.  That can impact value substantially. 

Another little fact that a buyer of farmland definitely wants to know is whether the land is leased to a tenant.  In some states, long-term farm leases must be recorded.  In that situation, check the publicly filed records.  But, most farm leases are short-term leases.  Relatedly, for farmland purchases from an individual (or entity) seller or an estate, it is important to understand whether the lease will continue (and, if so, for how long) or whether it has been properly terminated in accordance with state law.  The mere sale of the land, absent some written agreement, will not terminate any existing lease. 

Other things to consider include getting all appropriate signatures (that means a spouse, when applicable), and determining whether the sale is part of a family settlement agreement.  Also, it is important to make sure that the legal description matches what is being purchased.  On this point, take great care when using the abstract and bring it up to date before the purchase and have it carefully examined for accuracy and for defects in title.  Remember the old Bugs-Bunny cartoon involving Christopher Columbus and the debate he was having: “The world, she’s a flat.  No, the world, she’s a round.”  The point here is that the world is round, but maps are square.  What this means is that sometimes a tract of land won’t have precisely the acres that the buyer thinks it has – a half-section, for example, may not contain 320 acres, for example.  That’s especially likely if the tract lies on the edge of a township, county or a state border.   

From a practical standpoint, put your boots on and physically walk the tract.  Look at the fences.  Are they on the actual, intended location or boundary?  If not, had the adjoining landowners mutually recognized the existing fence location for a long-enough period of time (determined by state law) so that it is the actual dividing line irrespective of what a survey shows?  Is there a written fence agreement that has been recorded?  Probably not, but always check.  Look for paths that might be easements.  Relatedly, are existing paths wide enough to allow equipment into fields and locations where planting is desired?  How much of the land is consumed by ditches and roads?  The seller will try to sell in accordance with deeded acres, but a buyer that plans on farming the property is interested in paying only for tillable ground.  Not much, if any, value is assigned to non-tillable ground other than pasture. 

There are lots of things to think about and get clarified when buying farmland.  While some information is publicly available, that disclosure document is critical.  Failure to disclose key information can serve as the basis for cancelling a farm sale before it takes place if the failure pertains to information that serves as the basis of the bargain. 

As you can see, there is a lot involved in a farm land sale transaction.  Be careful out there!


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