Freeing up cash with an interest-only mortgage

AFTER many years of low farmgate prices in virtually all sectors, it is refreshing to be able to refer to rapidly increasing prices in the arable and dairy sectors.

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The extra cash is certainly needed by farming businesses, not only to compensate for recent hikes in input costs, but also to catch up on much-needed reinvestment after a number of years of low profitability, where farmers have sought to save on all but the unavoidable costs.

We should not forget, however, that not all sectors are benefiting from price rises, and all livestock farmers will be facing some very expensive feed bills in future as a result of higher grain prices.

While few, if any, had the nerve to predict the prices now being paid for milk and grain, many of us have been predicting for some time that farm commodity prices would become more volatile in future – and there is every reason to believe that such unpredictability and volatility will remain a characteristic of most agricultural markets.

Provided these higher milk and grain prices are sustainable – and the indications are that they will be, at least in the medium-term – then farmers will have to consider making the best use of their unexpected flow of cash.

Some may see an opportunity to reinvest in equipment, machinery, building maintenance or other expenditure that has had to wait for better times. Others may wish to prioritise repayment of bank debt.

Recognising that different farmers will have different priorities for their cash, recently introduced agricultural mortgages, with interest-only terms available up to 25 years, will give farmers more flexibility to repay borrowed capital at a time that suits them.

Farmers have told us that they value being able to decide for themselves when to repay debt. A key benefit of an interest-only loan is the flexibility to enable best use of cash resources without necessarily having to prioritise repaying borrowed money.

Rather than follow a rigid repayment schedule, borrowers can repay more or less capital as it suits them. Some may even choose not to repay any capital until the end of the interest-only period.

An interest-only mortgage means that regular mortgage payments will be lower than for a conventional repayment mortgage and will free cash, which can then be used for different purposes, such as reinvestment.

Farming and land-owning businesses are characterised by long-term strategies, where land is frequently bought as a long-term investment, often for the benefit of future generations.

One farmer in this position recently questioned why his generation should use all their spare cash to repay the mortgage, such that the next generation, who would inherit the land, would have no borrowing to service, as their parents had spent all their cash paying it off. A fair point, I felt.

Interest-only terms can also help some farmers to mitigate their Inheritance Tax liability, particularly when the business includes non-agricultural assets, such as residential property or property used for diversification activity.

When HM Customs and Revenue assess Inheritance Tax liability, agricultural property is treated favourably as it benefits from Agricultural Property Relief, but other non-agricultural assets that a farmer may own would not be eligible for this relief.

One way to reduce the tax liability on non-agricultural assets is to use them as security for the farm’s mortgage.

A number of specialist agricultural accountants have already advised their clients to take this route.

However, there are a number of other considerations that need to be taken into account in planning a tax strategy, and it is essential for farmers to consult their tax adviser as well as their bank.