Bankruptcy relief for farmers would compound banks' credit risk

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President Trump is poised to sign legislation that could transfer more of the fallout from the escalating trade war with China onto the backs of ag banks.

The Senate last week passed the Family Farmer Relief Act, which would allow more farmers with higher levels of debt to file for Chapter 12 bankruptcy. This chapter of the Bankruptcy Code was created after the farming crisis in the 1980s as an easier path for farmers to settle their debts compared with Chapter 11 reorganizations.

The bill, which passed the House in July and is now moving to Trump’s desk, has pitted farming trade groups against their lenders. The American Bankers Association fought the legislation, saying it would change the rules in midgame on community and regional banks, whose agricultural loan books were already starting to take a hit.

Farmers filed 164 Chapter 12 petitions in the second quarter, up from 130 in the first quarter and 135 during the same period last year, according to U.S. bankruptcy courts data.

“There will be more filings” if the new legislation becomes law, said Lynn Paulson, director of agribusiness development at Bell Bank in Fargo, N.D.

Specifically, the bill would raise the maximum amount of debt a farm can carry into Chapter 12 to $10 million from $4.3 million. For many farmers who were barely hanging on this past planting season and are carrying heavy amounts of debt, the proposal is expected to give them a way out of trouble over the winter.

Filing for Chapter 12 bankruptcy, which is reserved only for farming and fishing operations, can be done for as little as a $275 application fee, compared to Chapter 11, which can run up legal fees into the hundreds of thousands of dollars, Paulson said.

The $6 billion-asset Bell Bank says it is the largest agricultural lender in the state with a farm loan book approaching $500 million. Like other banks, it is working with its clients to extend payments or help them refinance their debt loads by putting up more collateral such as farming equipment or land in the hopes crop prices will rebound.

But farmers were dealt another blow on Aug. 1 when Trump announced on Twitter a 10% tariff on an additional $300 billion of Chinese exports beginning Sept. 1. The Chinese responded on Aug. 5 by announcing they would stop buying U.S. agricultural products.

According to analysts at Sandler O’Neill, China is the fourth-largest importer of goods from U.S. farms, but the trade war has cut deeply into volume. The U.S. exported $9.1 billion in crops and livestock to China last year, down more than half from $19.5 billion in 2017, Sandler O’Neill said in a recent report on farm banks.

“People are getting dizzy from the roller coaster,” Paulson said. “Trump still has some support in farm country. But there is frustration.”

Debt continues to pile up. The U.S. Department of Agriculture said in July that farm debt is expected to climb above $420 billion this year, or within roughly $4 billion of where it was in the early 1980s before that decade’s ag crisis.

The feeling among bankers and bankruptcy attorneys in farm country is that there could be a spike in bankruptcy filings this winter after this year’s crops have sold off and before planting season in the spring. This could have a big impact on small and midsize banks that do the bulk of lending to farmers.

“You can only kick the can down the road so many years,” said Michael Gust, a bankruptcy attorney in the Fargo, N.D., area for Anderson Bottrell Sanden & Thompson. “At some point in time that’s just going to have to end.”

The ABA wrote a letter to House Speaker Nancy Pelosi, D-Calif., and House Minority Leader Kevin McCarthy, R-Calif., on July 25 explaining that raising the debt limits on Chapter 12 would lead to tighter credit terms and higher borrowing costs.

One benefit of Chapter 12 that has the ABA particularly concerned is the ability for farmers to significantly reduce the amount of debt they owe via a “mortgage cramdown,” which the group said would lead to higher losses for secured lenders.

The National Farmers Union, which advocates for family farms, has been backing the bill since April. The group’s president, Roger Johnson, said after the Senate approved the measure that the bill would give farmers “a fighting chance to stay in business.”

“Chronic overproduction, an ongoing international trade war, and a series of extreme weather events have created a perfect storm for the farm economy,” Johnson said. “Farm debt is at a record high, and too many operations have been pushed to the brink financially.”

The House approved the measure by voice vote, and the Senate approved it as part of a package of other House bills.

Daniel Beckman, an attorney focusing on agriculture law for Gislason & Hunter in Minneapolis, said bankruptcy judges are more lenient in Chapter 12 cases compared to Chapter 11. They are more inclined to extend deadlines for approval of their plans.

“All of us think there will be more filings because of continued trade difficulties and low commodity prices,” Beckman said. “More of them will be Chapter 12 because of the new law.”

For older farmers, ongoing struggles could push them into retirement instead of bankruptcy. But younger farmers have been taking on more debt to keep their operations going and may be facing tough choices this winter.

The total amount of outstanding loans from the Farm Credit System, a network of government-sponsored enterprises and cooperative banks that provide credit to farmers, increased by 3.2% overall last year. For younger farmers in particular, the jump in overall debt was 6.2%.

The Trump administration has cleared two rounds of bailouts for farmers, one last year totaling $12 billion and another $16 billion package that was unveiled in July. Meanwhile, crop insurance payouts for sweeping floods across corn country in the Midwest are expected to approach record levels in 2019.

While the money has been critical to struggling farmers and their banks, “we do not think it will be sufficient to offset losing China as an export market entirely,” Sandler O’Neill analysts said in their note.

John Blanchfield, an industry consultant with Agricultural Banking Advisory Services, said the administration could be eyeing a third round of farm bailouts in 2020 — an election year.

“Every winter we’re wondering what it holds,” said Mattew Benada, senior loan officer and vice president of the $251 million-asset First United Bank in Park River, N.D. “It sure would be nice to see something change.”

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Ag lending Bankruptcy Commercial lending Community banking Regional banks Donald Trump American Bankers Association