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No matter your experience level with horses or homesteading, I hope this is a place you can get lost in, and learn something along the way - we welcome everyone from vets, to lifelong ranchers, trainer, to nonprofits contributing.
What is the best business structure for a horse farm? What about for a farmette or hobby farm?
Well, there are several reasons to incorporate- most of which being that incorporating a farm can save a farm owner quite a bit of tax money, and most importantly, separates the farm owner’s farm liability from their own personal liability. Read on to find out exactly what type of business structure is best for your farm, and how to incorporate your farming business!
The word “incorporate” can sound like a complicated legal thing, when in reality, it all comes down to this: setting up a business structure that separates your personal liability from your farm’s liability. In other words, if your farm were to get sued, you wouldn’t want your family’s finances to be on the line, right? And at the same time, if you were sued personally, you wouldn’t want your family farm to have to pay the costs.
This is when incorporating a farm comes into play. And one thing to note: when we discuss “incorporating a farm” in this article, this applies to every type of homesteading business: everything from ranches to backyard homesteads, farmettes to horse farms, equestrian businesses to hobby farms. No matter what type of farm you have, the legality applies to you.
It’s making the decision to file an LLC, partnership, or corporation for your farm. This is what can protect you from losing your savings, equipment, animals, or other assets if you find yourself in a legal dispute.
Incorporating your farm does not have to be an expensive endeavor- in fact, it rarely (if ever) is. In all honesty, some of the savviest clients we have know that you can actually make money by incorporating your farm, because it can provide you with multiple tax benefits.
We’ll go into more detail below.
There are several ways to incorporate your business, and different considerations each farm needs to consider when choosing which entity is right for them. But before we get into all that, here’s what you need to know from this article:
Your farm should not be a sole proprietorship.
No matter how much money your farm (or horse farm, farmette, ranch, etc.) makes, it ultimately should not be a sole proprietorship. Why?
A “sole proprietorship” is the government’s fancy wording for “a person operating at a business”. Sole proprietorships do not provide a single bit of protection. When you start selling any goods or services, you’re a sole proprietor by default. Basically, you have no legal separation between your business’ liabilities and assets, and your own.
Business formations like an LLC completely separates your business from yourself. In other words, if your farm was sued, but you had an LLC, your personal assets would be safe (and vice versa). For homesteaders, farmers, and ranchers, especially: your business and personal lives are going to be naturally intertwined. After all, you’re literally living where you’re making a profit!
At the end of the day, you do NOT want your family or your personal assets to be on the line for anything that could happen to your business.
For example, if you remain a sole proprietor (remember, your default status when you make any money), someone could theoretically sue you if, for example, your farm animal escapes from his pasture, and causes a wreck when a driver swerves to avoid hitting him. It sounds crazy, but it’s true.
Let’s say our made up scenario gets crazier, and you lose the lawsuit. The judge says you have to pay that person thousands of dollars. If you were just a sole proprietor, you would have to pay that, and a judge would make you “liquidate your assets” to do it. In other words, a judge could make you sell your entire farm to satisfy the judgment, including your farm equipment and even farm animals.
On the other hand, if you had an LLC, only your LLC would have to satisfy the judgment, meaning your home, your family, and your land would be safe. (Plus, a good accountant can find tax write-offs for you).
Incorporating a business is inexpensive, and simple. Truly. It can cost $100 and take only a half hour of your time to create the legal protection and separation you need.
Any time I begin talking about homesteading law, equine law, or LLC’s in general, the first question that usually arises: When do you need to incorporate your family farm? In other words, how soon is too soon to form an LLC for your hobby farm?
Here’s exactly what I tell my own clients: when you start making any money from your farm, it’s time to form at least an LLC. There’s no truly precise time; so the most logical way to make this decision from a monetary standpoint is to check your state’s filing fees.
But, it’s important to reverse-engineer your thinking. When you have a farm, your farming activities naturally carry more liability than just someone with an online business.
If your farm:
You should have some sort of entity in place, because your liability is higher. Courts typically recognize corporate entities and business formations, and if you have run your business like a business, they will recognize the sanctity of the entity. In other words, if your family farm were to run into a legal dispute, your family would still be protected.
Again, every type of homesteading business or farm should have a business structure. But, let’s break it down further. If you fall into any of these categories, you should have at least an LLC:
Before we get into the details of each, here are the main forms of business formations to consider for your farm. (This will help narrow down your decision at a glance):
Pros: LLCs provide baseline, critical liability protection. They can work for a single person or multi-member LLCs.
Cons: While they can be more specific, operating agreements will typically only cover general specifics as to who is a member of an LLC. In other words, the governing documents of the LLC won’t include specifics as to how the daily tasks will be performed.
Pros: As you probably gathered from the name, partnerships provide the opportunity to operate with a partner.
Con: Partnerships can be even riskier than sole proprietorships, because you can enter into one without even realizing it….and be on the hook for your partner’s actions.
Pros: This can actually be a form of tax election, rather than an actual entity formation. In other words, you can have a single member LLC, and choose to have it taxed as an S-Corp, which means you’re taxed as an entity, rather than as an individual (without having to change your entity status.)
Cons: I wouldn’t necessarily call it a “con”, but if you aren’t making much money with your business (around $25K, based on the current tax code), electing to be taxed as an S-Corp may not save you money (yet.)
Pros: This type of business formation is very useful if you have multiple people involved in your farming business. With a C-Corporation, you have the ability to truly delegate roles and add shareholders.
Cons: There are corporate formalities you must follow, such as bylaws, minutes, and corporate governance.
Pros: This is the proper formation for a nonprofit, such as an equine rescue center. This allows the supporters of a nonprofit to provide donations with a tax incentive.
Cons: Again, there are certain corporate formalities that you’ll have to follow to keep your 501(c)(3) status.
Hopefully this breakdown helps you decide which business formations would work for your horse farm or homestead business. Below we are diving into the details of each structure to help you make your final decision.
As I said earlier, this is a very risky business structure for your horse farm or homestead business. As the sole owner and investor of your business, you are personally liable for your homestead’s debts. Basically, if anything goes wrong, it’s you who has to answer for it. You may be thinking, I would never have a sole proprietorship and open myself up to that kind of risk. But, chances are, you technically already have…
Many farm owners don’t realize that boarding a horse or two at a family rate or selling a few dozen eggs to your friends qualifies you as a business. Now what started as a small favor or casual arrangement looks very different in the eyes of the law and your insurance provider.
When you start making money with the assets that fall under your homeowner’s policy (horses, land, etc), your insurance may consider you a commercial enterprise, making your homeowner’s policy insufficient to cover any accidents that may occur in these transactions.
For example, let’s say the horse you were boarding for your friend was to cause some damage on your property. Your insurance may decide not to cover the damages if they find that any amount of money was exchanged for this favor. They could consider you a commercial enterprise or sole proprietor, leaving you solely responsible for fronting the costs of the repairs.
As for the legal implications of this situation, your farm, now considered a business, would be held to higher safety standards. If the horse you are boarding for your friend were to get hurt during its stint in your facilities, your friend may be inclined to sue you for the injuries that happened on your property. When that lawsuit comes through, all of your personal assets are going to be on the line because there is no legal separation between you and what started as a favor for your friend.
Sure, it may seem far-fetched that a friend would sue you when you were trying to help them out, but an injured horse is no small matter, both emotionally and financially. When their insurance comes calling, you want to be protected.
Partnerships are one of the only business structures riskier than a sole proprietorship. The reason being that not only are you personally liable for anything that goes wrong under your care, but you’re also liable for the mistakes of your partners. What adds to the risk of this arrangement is that the law may find a partnership exists when that was never your plan.
A law known as the Uniform Partnership Act (UPA) only requires that a partnership be reflected by parties’ actions and an intent to operate a profitable business together. This means that there doesn’t have to be anything in writing for your homestead business to be considered a partnership, and for your and your “partner’s” personal assets to be at risk.
A common example of an unwritten partnership is an “investment horse.” One partner will front the cash to purchase and care for the horse, while the other will spend the time to actually care for, work with, and campaign the horse. Often, none of this is in writing and this gray area leaves a lot of room for legal disputes in which both parties’ personal assets are totally exposed.
This may sound like a quick fix for the scenario I just described, but in most states, LLPs are limited to doctors, architects, and certain other licensed professionals. LLPs are usually not an applicable option for horse farm owners or homesteaders.
Now we’re getting warmer with Limited Liability Companies and Corporations. These entities will limit the personal liability of investors to their investment in the business. But how do you know whether an LLC or corporation is the right choice for your homestead?
An LLC is generally best for a business run by two or more persons (what would be a partnership before incorporation.) The LLC structure would spell out the details of how the company should be run in its operating agreement. This typically includes how the horse or homestead business will be managed, how investors will split the profits or losses of the company, and the procedure for when an investor wants to step away from the business.
On the other hand, instead of documenting the responsibilities of each owner, a corporation formation requires an in-depth list of bylaws that address corporate governance, or the rules and processes that the operations of the business must adhere to. A corporate structure can be the right option for many companies, especially considering the tax advantages of forming a C corporation or an S corporation. I’ll explain the differences and benefits of both below.
Incorporating your farm or homestead can help increase your status in the market, which offers your business more protection in and of itself. Plus, a corporate structure will help to put more separation between the corporation’s liability and your own. A corporation is a good option if any of these sound like things you want:
If it sounds like a corporation is the way to go for your farm, let’s go one step further and discuss the tax implications of this structure. When you incorporate your farm, you will be categorized as a C Corporation by default. However, you can elect to change your status to an S Corporation when or after you incorporate. But how do you know which option is best for you?
C Corporations receive a full tax deduction for benefits such as health and life insurance and long-term care premiums for employees. Companies structured as C Corporations can also deduct public transportation and vehicle costs.
C Corporations also pay taxes at a lower rate on their first $50,000 of taxable income. C Corporations would be taxed 15% on this income, while S Corporations would be paying the full 35% tax rate on all of their taxable income.
The downside of incorporating your farm as a C Corporation is the double taxation factor. You could potentially be taxed twice because your corporation will pay its corporate income tax, and then the shareholders (which most likely includes you) will also pay personal income tax on any dividends from your corporation.
The main benefit for forming an S Corporation is pass-through taxation that allows your corporation to avoid paying federal taxes on its taxable income. Instead, your homestead’s income is “passed through” to shareholders (you and your partners) who will report this income on their personal taxes. This method throws out the double taxation associated with C Corporations.
Other advantages of S Corporations are that shareholders don’t have to pay self-employment tax on their share of S corporation profits and, if any S corporation profits are allocated as pass-through income, you could qualify for a 20% deduction on your income taxes known as the pass-through business income deduction.
A drawback of S Corporations is that benefits given by the corporation will be taxed as compensation for employees who own more than a 2% share of the corporation.
If you are still trying to make sense of the C and S Corporation pros and cons, don’t worry! If you can’t decide, it’s actually possible to combine the advantages of both an S and C Corporation when incorporating your farm or homestead.
By setting up two different entities that are connected to different functions of your business, you can take advantage of the tax deductions of the C Corporation, while enjoying the pass-through benefits of an S Corporation.
As an example, you can tie administrative costs to an entity taxed as a C Corporation and operating costs to an entity taxed as an S Corporation. This way, you protect your assets, you qualify for extra deductions on your taxes, and you get the taxation benefits of a pass-through entity. Win, win, win!
In most cases, your horse farm or homestead business will operate in one state, meaning you should incorporate your business in that state. However, if your business is primarily practiced in one state, and you want to incorporate in another, you must register your business as a foreign corporation in whatever state it is that you do most of your work.
While you may have heard of large corporations that benefit from incorporating in places like Delaware and then registering their franchises as a foreign corporation in other states, this tactic is not really that helpful for smaller corporations like your horse business or homestead.
If you tried this, your farm would pay corporate taxes to the state in which you incorporated, and you would pay filing fees to the state in which you registered as a foreign corporation. You would lose any advantage of this arrangement with those filing fees because they are typically equivalent to the cost of corporate taxes in your incorporating state.
Each state has slightly different rules, but overall, the process requires the same:
|State||LLC Filing||LLC Annual Report or certificate||Incorporation Filing||Corporation Annual Report|
|District of Columbia||$220||$300||$220||$300|
|Texas||$310||Based on annual revenue||$310||Based on annual revenue|
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