Which is the better option in a farming situation?
The two most common farm-owning entities are either a company or a trust. Often, a farming operation is carried out with a mix of trust ownership (typically owning the land) and a company (owning the rest). Both structures have their pros and cons; in this article we compare these two ownership models.
The major feature of the company structure is the limitation of liability for the company owners. The company acts as a ‘shield’ to protect its shareholders from personal liability from that company’s obligations (other than for the amount of uncalled or unpaid capital). This limitation has been eroded over the years, partly by the use of personal guarantees, but also by various statutes that seek to impose liability on officers of a company, such as health and safety legislation.
By contrast, trustees are personally liable for a trust’s obligations and this liability is ‘joint and several’, which means that any or all of the trustees can be called upon to meet a liability. This liability can be limited in two main ways:
- Contractually by way of a ‘limitation of liability’ clause, and
- By an indemnity in the trust document that provides that the trustees must be indemnified, out of trust assets, against any claims against them.
Both the limitations of trustee’s liability are problematic. It’s not possible to contract out of all liability and an indemnity out of trust assets is not of much use if those assets have been exhausted. For the liability reason alone, the company structure has significant advantages over the trust.
One of the reasons that the trust has been such a useful tool over the years is its ability to ‘blur’ ownership. The trustees are the legal owners of the trust property. It is, however, a restricted form of ownership in that the trustees must use and deal with the trust property only for the benefit of the beneficiaries of the trust. The traditional ‘discretionary’ family trust gives the trustees discretions as to how the capital and income of the trust can be applied; it’s not until the trustees make a decision in favour of a beneficiary that ownership passes to that beneficiary.
A trust has had significant advantages (particularly in the tax field) over the years. It does mean, however, that in family situations there’s often uncertainty over the ultimate ownership of the assets. Also, it’s becoming more common to challenge the trustees’ decisions if a beneficiary regards themselves as being hard done by. Accordingly, it’s not always possible for the trustees to carry out the wishes of the person who established the trust.
By contrast, company ownership is fixed by the number of shares that are owned and/or the rights that attach to those shares. It’s a simple exercise to change the share ownership in a company; therefore it’s a useful vehicle where ownership is to be transferred in stages.
Under the Perpetuities Act 1964, the private family trust has a maximum life span of 80 years. This may well change in the future as a result of the Law Commission’s recent report on trusts; but it’s likely that there will still be a limit on the length of a trust – possibly 150 years.
A company has no expiry date and therefore is an infinite form of ownership. While the 80-year timeframe does seem long, it has been proved that it’s often not long enough and issues have arisen where properties have been put in trust, the trust nears the end of its life and there’s no ability to extend the term.
As you can see there are a number of advantages and disadvantages of each ownership method. If you’re contemplating farm ownership, do talk with us early on so we can discuss the ownership model/s best suited for your particular circumstances.