Educating Producers on Proper Land Titling &Using a Business Organization

Educating Producers on Proper Land Titling &Using a Business Organization Lori Lynch Paul Goeringer, Center for Agricultural and Natural Resource Policy University of Maryland

Who is in business with you? Property Titles and Business Formats Lori Lynch Agricultural and Resource Economics University of Maryland March 2013

People do not really know what ownership means. We think we understand what we own but sometimes we don’t. I try to give examples such as “the little house” to explain rights of use and ability to “pass it on”; ability to sell What is ownership? • Rights of ownership • Rights of use • Can one sell or transfer the property • The man who had built her so well said “ The little house can never be sold for silver and gold and she will live for our great-great-great grandchildren…” • Can one pass it to heirs

Different Types of Ownership Pride and Prejudice: Mr. Bennet has no son so Mr. Collins is heir to his entailed estate. Austen described him as "not a sensible man” but Mr. Bennet can do nothing to change it Downton Abbey – must go to male issue or back to the King • Fee simple absolute • Life Estates • Fee Simple but…. • Condition: pass to male heir • Determinable • Subject to a condition subsequent • Tenancy in common • Joint tenancy • With survivorship • Tenancy by the entirety

Fee simple absolute (no limitations of rights) Define the various types of property titles • Greatest bundles of rights • Can sell and give away • Can divide the land • Can make all decisions • Receive all the income and interest • Can be passed on to children or not • Liable for all obligations – mortgage, property taxes, these obligations passes with the land if the land is used as collateral for the loan

Life Estates (owns only rights to use) • Owner owns the property for his or her lifetime • Can exclude others from the property even the one who will receives the land once owner dies • Collect all the income and interest in the property • Can be transferred (leased) but can not be passed on to children • Difficult to sell because one does not know the term of ownership – could be an hour or could be 20 years. • Can not use for collateral; owner might die before loan is paid and once dead, property shifts ownership • Economic waste – if the income from property less than the expenses for taxes and interest on the mortgage – courts may allow a sale.

Fee simple: Determinable or Subject to a Condition Subsequent • Own outright as long as follow “rules” • Can put almost any type of rule into the ownership condition: for example, no selling alcohol, must keep farming, must allow hunting, must not allow hunting, cannot play cards, cannot pray; to Ann as long as the property is used for a park" • If violate the rules, lose rights to property immediately when determinable • Condition subsequent – again must follow the rules: • If violate conditions, Joe (the grantor) can get the property back • "to Ann, but if Ann sells alcohol on the land, then Joe has the right of entry(or power of termination)." • But grantor can waive condition or not act upon it • Less automatic – in the sense may not lose rights immediately

Tenancy in common • Each tenant owns a share of one piece of property- for example Jill owns 60% and Jack owns 40% of a property • Co-owners own the land in proportion to the amount each contributed to purchase the property – if Jill paid 60% of the purchase, she owns 60% of the property • Can convey their interest in the land either by sale or by inheritance – Jill can sell or pass on her 60% of the property • Can mortgage her share or secure a loan – however cannot sell other owners’ interest. Thus if Jill default on the loan, bank only forecloses on 60% of the property.

Joint tenancy • Each member is vested with an equal share of the undivided whole • Each member has the right of survivorship • If one owner dies, her interest in the property ends – the surviving owners continue to be owners • Can not pass on interest in land post-death unless one is the last one alive • Can be used to avoid the cost and time involved in the probate process – for married couple or business partner • People can sell their share of the property. If one transfers or sells the interest in the land before death, it severs survivorship rights (i.e. ends joint tenancy)

Joint tenancy with survivorship • Primary advantage • Automatic transfer of ownership upon the death of one of the joint tenants • Does not go through probate • Avoid time and expense • Do not avoid the federal and state taxes – the value of the transfer counts as part of the “estate” – so unless to a spouse would owe taxes on $ above that excluded • Disadvantages • Co-ownership of assets – if difference of opinion over management – “fight” • Unintended consequence as to who inherits the property upon death (children and other heirs might be disinherited) • Wills have no legal effect over this particular property – the type of ownership dominates any wishes expressed in the will

Can check what your state allows Tenancy by the entirety • Reserved for husband and wife – own the property as a unit rather than equal shares • Must be married • Right of survivorship • One spouse can not unilaterally sever the tie. • Can foreclose only it both spouses signed loan documents – some states permit banks to foreclose on ½ interest of debtor spouse • Both must execute sales agreement to sell property

For all co-tenants: tenants in common; jt tenants and tenancy in the entirety • All tenants have a right to revenue minus costs • Don’t owe rent to another “tenant” unless one restricts the other from entry. • Co-tenants must pay pro-rata share of taxes and mortgage payments (due or past due) unless only one of the “tenants” uses property • Can not collect for repairs or improvements from other co-tenants without agreement • Partition: Can petition a court to partition property • Divide in parcels of equal value or money payment • Sell the parcel and divide proceeds

Common Law States • Property is owned by the spouse who paid for it or inherited it – can sell it or pass it on (can’t comingle) • In case of divorce, wife’s and husband’s right have become somewhat like community property states. • Creditors must exhaust separate assets before community assets – can’t take non-debtor spouse’s separate assets. Should check what your state allows Can look it up – there is a map at http://www.bankrate.com/brm/news/pf/20060322a1.asp

Business Organization Styles • Sole Proprietor • Corporation • Limited Liability Company • Partnership I find this section does not work well – could be it is at the end of the evening so people’s brains are tired. Or too many “bad” words. Haven’t found the right way to do it – but we can discuss.

Sole Proprietor • Business and person the “same” in the eyes of the law • Advantages: • Do not have to file incorporation papers • Easier decision making – no partners • Do not pay corporate tax so no risk of double taxation • Simpler accounting – file a schedule C rather than business tax forms • Can buy health care for self-employed persons

Sole proprietor • Disadvantages: • Personal assets are at risk of seizure if business debts are not paid • Unlimited liability • No sharing of the risk • Pay personal income tax – deductions? • Can not sell shares in the business • If owner dies, the business ceases to exit; can’t sell the value

Corporation • Are like a separate person • Can bring lawsuits, buy and sell property, sign contracts, are taxed, can even commit crimes • Owned by shareholders • Managed by board of directors • Advantages • Protects owners from personal liability for corporate debts and obligations • Perpetual life – continues past the death of the owner(s) • Can sell shares of stock – if need capital – selling ownership • Can transfer ownership through transfer of securities

Corporation • Unlimited life • Corporation can have better tax benefits under certain circumstance • “c” corporations may be subject to ‘double taxation’ on profits; corporation pays taxes on income and then shareholders pay taxes on dividends • Disadvantages • Require annual meetings and other formalities • More expensive to set up and more paperwork • Require periodic filings with the state and annual fees • Takeovers?

Partnership • Advantages • Easy and inexpensive to start • Are not required to have annual meetings or formalities • Offer favorable taxation to most smaller business • Do not have to pay minimum taxes that are required of LLCs and corporations • Disadvantages • All ownership subject to unlimited personal liability for the debts, losses and liabilities of the business • Individual partners bear responsibility of the actions of other partners • Poorly organized partnership and oral partnerships can lead to dispute among owners

Partnership • If a husband-wife partnership and if filing married filing jointly on tax return can now elect to be taxed as a qualified joint venture. • Sole proprietor, farm family partnerships and corporations may use the cash method of accounting. • Corporations can only use cash method if they have average annual gross receipts under $5 Million for the prior 3-taxable years

Limited Liability Company • Hybrid business form • Combines the liability protection of corporation with tax treatment and ease of administration of a partnership • Advantages: • No burdensome formality • No annual meetings/require few ongoing formalities • Owners protected from personal liability for company debts and obligations • Partnership-style, pass through taxation – favorable to many small business

Limited Liability Company • Disadvantages: • Harder to raise money • Harder to eventually go public if one wants – and sell shares • Less legal precedent – thus hard to know what could happen under certain scenarios but becoming more reliable • More expensive to set up than partnerships • Periodic filing with the state • Annual fees

Comparison of Business types

*Partnerships can, conceivably, have unlimited life if new partners are admitted into the partnership as old partners exit the partnership. **While general partnerships are not limited in size by operation of law, prudence dictates that they not have too many partners. Because each partner is liable for the acts of the other partners acting on the partnership's behalf, a large general partnership is not wise. Any general partnership of more than ten persons is likely to become difficult to manage. Source: http://www.learnaboutlaw.com/newsletter/corporation_vs_llc.htm, 2007

Educating Producers on Proper Land Titling &Using a Business Organization