Challenges in setting 2021 land rental rates
Once harvest is completed in any given year, farm operators and non-farm landowners begin the tenuous task of negotiating annual land rental rates for the following crop year.
Approximately 60-70% of crop land in the Upper Midwest is under a land rental agreement, and most rental agreements are negotiated on an annual basis. Arriving at equitable land rental rates for the 2021 crop year is even more of a challenge, given the variable crop yields in 2020 and the unexpected rise in grain market prices, as well as fairy high levels of government farm program payments during 2020.
In the past, many land rental arrangements have been between farm operators and landlords that usually have known each other quite well, sometimes being neighbors or family members.
However, in recent years, more and more land ownership has been transferred to family members or family trusts outside of the local area where the land is located. Some landowners are hiring the services of a land management company to represent them in land rental negotiations. Many times, farm operators have had very limited previous working relationships with the newer landlords or those representing landowners. This can lead to more challenges when negotiating annual land rental rates, especially during more highly volatile economic times in crop farming, such as we are now experiencing.
Crop producers in the Upper Midwest are indicating mixed crop production results in 2020. Some producers are reporting corn and soybean yields that are well above average, while producers in other areas had average to below average yields, due to severe storms and drought late in the growing season.
Many farm operators in portions of southern Minnesota and northern Iowa had corn yields that were 10% above their 10-year crop insurance actual production history (APH) yields in 2020, after having corn yields that were 10-20% or more below long-term average yields in 2019. This is why it is best to use the updated 10-year APH yields, or other verifiable historical yield data, to make yield projections for cash rental rate estimates for the coming year.
Cash corn prices have remained fairly low over the past five years (2016-2020), though recently there have been some signs of slight improvement due to the variable crop yields this year.
Soybean prices were also quite low from 2018-2020, following the Chinese tariffs on U.S. soybean imports. Up until 2018, China had been importing approximately one-third of the U.S. soybean production on an annual basis; however, U.S. soybean export levels to China in 2019 were only a fraction of what they were prior to the trade war.
Since the initiation of the Phase 1 trade agreement with China earlier this year, U.S. export levels to China for both corn and soybeans have been increasing again. The projected added export levels to China have greatly reduced the estimated U.S. corn and soybean carryover levels by the end of the 2020-21 marketing year.
The U.S. Department of Agriculture (USDA) is currently projecting the national average soybean market price for the 2020-21 marketing year at an average of $10.60 per bushel, compared to the final national average price of $8.57 per bushel for 2019-20. USDA is estimating the national average corn price for the 2019-20 marketing year at an average of $4.00 per bushel, compared to $3.56 per bushel for 2019-20. However, it should be noted that the USDA Farm Service Agency (FSA) in southern Minnesota is recommending using $3.50 per bushel for corn and $9.00 per bushel for soybeans as planning prices for farm operating loans for the 2021 crop year.
Even though there is some current strength in local grain markets, forward price bids for the fall of 2021 are currently much lower. It is probably not realistic to base 2021 cash rental rates on projected prices of near $4.00 per bushel for corn and over $10.00 per bushel for soybeans.
Many farm operators have received some Coronavirus Food Aid Program (CFAP) payments in 2020 to compensate for a portion of the financial loss that resulted from the depressed market prices and the market disruptions during the COVID-19 pandemic. In addition, some producers received 2019 farm program payments and disaster payments in 2020, due to crop losses that occurred in 2019.
These various government payments did not totally account for the financial loss incurred by many farm operators in 2019 and early 2020, especially livestock producers and farmers in areas with greatly reduced crop yields in either 2019 or 2020. Given current crop commodity prices, 2020 farm program payments in 2021 are not likely to be widespread, and USDA has indicated that farmers should not plan on CFAP-type disaster payments again in 2021. As a result, farm program payments and other short-term disaster payments should not be factored into 2021 cash rental agreements.
Average crop input expenses for crop production in the Upper Midwest, excluding land costs, have remained somewhat stable in recent years and expense estimates for 2021 are not expected to show any major increases. Costs for operating interest in 2021 are likely to be stable or lower, due to stable interest rates and potentially reduced levels of farm operating debt at the end of 2020. Production costs are highly variable from farm to farm, depending on fertility level, availability of livestock manure and farm operator efficiency.
Many landlords reduced land rental rates a few years ago, due to the lower commodity prices and very tight cash flow margins. Now, landlords are wondering if 2021 is the time to re-adjust land rental rates to a slightly higher level; however, there continues to be a high level of volatility in commodity prices and considerable uncertainty in ag policy. Serious and honest negotiation between farm operators and landlords will be required to arrive at equitable rental rates for 2021 and beyond. One alternative in lieu of increasing land rental rates that landlords may want to consider for 2021 would be to set up a “flexible cash rent agreement” with a farm operator.
A flexible lease would have provisions to increase the final annual rental rate in the event of exceptional crop yields and/or higher than anticipated crop prices in 2021. A good flexible lease sets a reasonable “base rental rate” that is based on average crop yields, typical production costs, and projected 2020 prices.
The final cash rent adjustments should be based on actual 2021 crop yields and crop market prices in the fall of 2021, with any rental rate adjustments occurring on the final land rental payment for the year. If the “base rental rate” is set higher than realistic breakeven levels for the farm operator, the flexible lease will not be very effective to address any added financial risk for the farm operator.
Iowa State University has some good resources on flexible cash leases and written cash rental lease contracts, including sample cash rental contracts, which are available on their “Ag Decision Maker” website, which is located at: http://www.extension.iastate.edu/agdm/.
Kent Thiesse is the Farm Management Analyst and Vice President for MinnStar Bank