How to Make Money with a Farm

There are several ways landowners can earn income from their farmland investments. Each business model carries different levels of risk and reward.

The best choice for you will depend upon things like your level of capital reserves, your level of experience with farming and production agriculture, and, if you’re an investor, your preference for investing in active or passive income opportunities.

This article will discuss the different business models that farmers and investors need to understand before starting their journey:

• Farm Owner-Operator
• What is a Custom Farming Operation?
• Crop Sharing
• How do Cash Rent Leases Work?
• Residual Income Opportunities

Farm Owner-Operator

In this scenario, the landowner and the farmer are one and the same. Getting started as an owner-operator requires capital for land and equipment, business acumen, and extensive hands-on experience that is typically earned by working with more experienced farmers.

Most owner-operators have grown up in the business and work for family members, but the complexities of modern farming have led more young farmers to also obtain college-level degrees in agricultural sciences.

Buying a farm in order to become an owner-operator is less like making an investment and more like buying yourself a full-time job. While farming your own land can yield the highest annual returns during years with good harvests, it can also carry the most dramatic swings in profit and loss from year to year.

If you do not have adequate farming experience, capital available for the purchase of land and equipment, or the desire to assume the responsibility of running an agribusiness full-time, becoming an owner-operator may not be a suitable option for you.

What is a Custom Farming Operation?

With a custom farming operation, the landowner hires farmers to grow crops on their land and pays them a set rate or fixed fee. Hired custom farmers typically provide and maintain their own equipment and tools-of-the-trade necessary to nurture the crop from planting through harvest.

In this model, the landowner would pay 100% of the input expenses including seed, fertilizer, pesticides, etc., and also keep 100% of the profit from crop sales. This can be especially lucrative in years with great harvests and, when factored over several years, can net average annual returns approaching 9% to 10% of the land value (assuming the landowner owns the land outright).

Note: Return numbers are according to Investors' Guide to Farmland by agricultural asset manager Greyson Colvin (2012).

The custom farming model is far less labor-intensive for the landowner than being an owner-operator. However, it is only a good fit if the landowner has some agribusiness experience, capital to cover input and labor costs, and the risk tolerance to go through one or more bad harvests or years with low commodity prices.

For the farmer, providing custom farming services to others is a less risky option than the owner-operator model because they are paid at a fixed rate despite the profitability of the harvest year to year, and you do not have to supply the capital to invest in the purchase of a farm.

Crop Sharing

With a crop sharing arrangement, the landowner partners with a farmer. The landowner provides the land, while the farmer provides the labor and equipment to work the crops. The terms for this partnership often vary based on regional customs.

For instance, a common arrangement in midwestern states is where the landowner and farmer each pay half of the input costs (e.g. seed and fertilizer) and share equally in the profit of the harvest.

In the Delta states, however, a more common arrangement is where the farmer pays all of the input costs and takes 65% to 80% of the revenues, while the landowner receives 20% to 35%.

With a crop share arrangement, the landowner has significantly lower out-of-pocket expenses compared to custom farming. Unlike custom farming, however, the farmer has less obligation and financial incentive to prioritize your land over other parcels he is working, where he may be fully invested and earning 100% of the crop revenues. This could be problematic if the farmer finds themselves overworked and facing a choice of where to invest time and effort.

Averaged over several years, a crop share agreement may earn the landowner 5% to 6% of the land value annually, according to Greyson Colvin.

Compared to the cash rent model below, however, both the landowner and the farmer assume significantly higher risk with exposure to commodity markets, crop risks, and inclement weather, yet achieve only a slightly higher return.

How do Cash Rent Leases Work?

With a cash rent agreement, the landowner acts only as a landlord. A tenant farmer pays the landowner a fixed dollar amount per acre per year for the right to farm their land.

The farmer uses their own equipment, assumes all input expenses, and, for the most part, conducts business as they see fit. In turn the landowner collects an annual rent check, usually before planting begins each spring, which is typically 3% to 5% of the land value.

For example, if the landowner has 100 acres of farmland valued at $3,000 per acre, they could reasonably expect to charge a tenant farmer anywhere from $90 to $150 per acre for a total annual cash rent of $9,000 to $15,000.

Of all the income options discussed here, cash rents are believed to offer the lowest relative risk and require the least amount of effort for the landowner.

Cash rent contracts often mandate that a portion, or all, of the rent be paid prior to planting season, and the vast majority of row crop operators carry crop insurance to reimburse unexpected crop loss. Thus, default is very rare and landowner exposure to crop risk is largely mitigated.

Because cash rent leases require no direct labor or inputs from landowners, they are a good fit for those who lack the experience, ability, capital, time, or desire to actively work the land. On the other hand, it gives a farmer that has the means to farm but lacks the land the opportunity to pay a fair rent and farm land that they do not own.

Flex Lease Opportunities

As opposed to a standard lease option, flex leases offer potential upsides for the farmer and the landowner. This provision may benefit the landowner by allowing them to share in the seasonal risk and reward of the farmer’s operation. It may also benefit the farmer because they are able to pay a lower rent during harvests that are not as bountiful.

With a flex lease, the tenant agrees to pay a predetermined amount of “base rent” per acre to farm the land, just like in the cash rent agreement described above. In addition, the tenant agrees to pay an extra amount (often called a “bonus” or “kicker”) after harvest if certain conditions are met.

The additional rent amount is based on current commodity prices for the crop grown and the on-farm yield, or the amount of crop produced that year measured as a per-acre average.

This hybrid model allows a landowner to lock in their minimum return from the base rent, but still participate in the upside of high yields and/or high commodity prices.

Residual Income Opportunities

Depending on the unique features of the land and the landowner’s level of creativity, they may also be able to secure residual income beyond their agricultural operations.

Some common arrangements that may lead to passive income include hunting leases, mineral rights, or even renewable energy leases for wind turbines or solar panels.

While the landowner is more likely to benefit from these passive income opportunities, farmers that are leasing land may benefit from certain government programs and subsidies.

Final Thoughts

Whatever the land ownership structure may be, there are many ways to earn income from farming a property, including several other unique business structures not discussed here.

While cash rent agreements provide an ideal passive income opportunity and serve as a natural choice for those simply seeking diversification from other markets, each investor, farmer, and landowner must decide which business model best meets their needs.

AcreTrader promotes a mutual relationship so that investors, and farmers may both benefit from the land.

The above content is not intended to be a comparison between products, but is intended for general, educational and informational purposes only. Any performance noted is historical and there is no guarantee any trends will continue. All investing involves risks, including the complete loss of principal. Diversification does not guarantee a profit or protect against loss in a declining market. It is important for each investor to review their investment objectives, risk tolerance, tax liability and liquidity needs before investing. Investment vehicles have differences in fee structure, risk factors and objectives. Investments are considered speculative, involve a high degree of risk and therefore are not suitable for all investors.

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