Cooperatives Annotations (Agricultural Law and Tax)

Posted December 23, 2020

Separate DPAD Amounts For Patronage and Nonpatronage Need Not Be Computed. The petitioner, and ag co-op, sells fuel, lubricants, plant nutrients, crop protection products, seed, structures, and equipment. It also provides grain marketing assistance and other services. The petitioner is member-owned, and its members include farmer cooperatives and individual farmers. Petitioner does business with its members and certain nonmembers (patrons) on a patronage basis. Patrons are eligible to share in patronage dividends paid by the petitioner. The petitioner also does business with all other nonmembers (nonpatrons) on a nonpatronage basis, and nonpatrons are not eligible to share in patronage dividends. In completing its Form 1120-C for 2009, the petitioner allocated its domestic production gross receipts (DPGR) and the wages it reported on Form W-2 between the patronage and nonpatronage columns in its Schedule G. The petitioner did not split its business operations on the basis of patronage and nonpatronage activities, nor did it dedicate specific assets or persons to patronage and nonpatronage activities. Rather, on Schedule G, the petitioner allocated items between the patronage and nonpatronage columns on the basis of the volume of business done with members. In computing its 2010 DPAD, the petitioner did not separate any amounts as patronage and nonpatronage. Instead, it performed a single computation aggregating all amounts from the members of its expanded affiliate group. It then allocated the DPAD between the patronage and nonpatronage columns on Schedule G on the basis of its qualified production activities income. The IRS determined deficiencies of approximately $462,000 for 2009 and approximately $3 million for 2010. The Tax Court concluded that the petitioner was not required to compute separate domestic production activity deduction (DPAD) amounts for its patronage and nonpatronage activities, but that the taxpayer must allocate its aggregately computed DPAD between its patronage and nonpatronage accounts. The Tax Court also held that the taxpayer must allocate the aggregate DPAD on its Schedule G using the same method it used for other Schedule G allocations. Growmark, Inc. v. Comr., T.C. Memo. 2019-161.

Co-op Payments to Members Are PURPIM. The petitioner is a non-exempt cooperative subject to subchapter T (I.R.C. §§1381-1388). The petitioner, during the tax years 2006-2009, made soybean and grain payments to its members for products that it processed and marketed for the members. The amounts of the payments were fixed without reference to net earnings in accordance with the agreement between the petitioner and each member. The petitioner received similar payments from a separate cooperative of which it was a member. The petitioner received a private letter ruling from the IRS in 2009 in which the IRS characterized the payments as per-unit retain allocations paid in money (PURPIM) for purposes of the petitioner’s domestic production activity deduction (DPAD). Thus, the petitioner reported the payments as PURPIM in computing its taxable income and treated the payments as PURPIM in computing its DPAD for the 2009 tax year as well as the 2008 tax year. The petitioner also filed amended returns for 2006 and 2007 reporting the payments made with respect to those years as PURPIMs and treated them as such in computing its taxable income and DPAD. On audit, the IRS determined that the payments made to members did not qualify as PURPIM for 2006-2008, and also held that the petitioner had to compute two separate DPAD amounts – one for patronage activities and one for non-patronage activities. The IRS assessed deficiencies of approximately $12 million for the petitioner’s tax years ending September 1, 2006 through August 31, 2009. The Tax Court held that the payments were PURPIM, both those made to members and similar payments that it received from the cooperative of which it was a member. Thus, the petitioner must treat the payments as PURPIM when computing its DPAD. The Tax Court noted that I.R.C. §199(d)(3) does not required the petitioner to compute separate DPAD amounts for its patronage and non-patronage activities. Once the DPAD is computed under I.R.C. §199, that amount is to be allocated under the rules of subchapter T between the patronage and non-patronage accounts. The Tax Court also held that the petitioner’s DPAD could not be used to create or increase a net operating loss. Ag Processing, Inc. v. Comr., 153 T.C. 34 (2019).

Posted January 30, 2018

IRS DPAD Ruling on Cooperative’s Payments Made to Members. An agricultural cooperative was a member of a limited liability company (LLC) and the co-op proposed to assume the LLC’s grain origination function. The co-op sought IRS guidance concerning whether payments for grain made to the cooperative members would constitute “per-unit retain allocations paid in money” as defined by I.R.C. §1382(b) for purposes of the domestic production deduction of I.R.C. §199 (through 2017). The IRS determined that they would. Also, for purposes of I.R.C. §199, the IRS also ruled that the cooperative would be treated as having manufactured, produced, grown or extracted, in whole or significant part, the grain that it bought from its members that raised the grain, and that the cooperative’s qualified production activities income and taxable income would be computed without regard to any deduction for the grain payments that the cooperative made to its members. Priv. Ltr. Rul. 201750003 (Aug. 30, 2017).

Posted June 13, 2016

Co-op Patronage Application and Eligibility Process Forms Can Be Filed Electronically. The taxpayer is a grain marketing and supply cooperative that provides member services. It proposed to revise its patronage eligibility process to allow members to file patronage application and eligibility forms online by means of the taxpayer’s website instead of by paper. The taxpayer sought a ruling from the IRS that allowing patrons to consent electronically would satisfy the requirement of I.R.C. §1382(c)(2)(A) that the consent be in “writing.” The IRS determined that it would, noting that the Code did not specify how cooperatives are to obtain a “consent in writing” from patrons and there was no guidance as to whether electronic consent satisfied the requirement. The IRS noted that nothing in the Code or Regulations precluded electronic consent. Priv. Ltr. Rul. 201619003 (Feb. 10, 2016).

Posted April 1, 2016

LLC, As Licensed Grain Dealer, Cannot Treat Grain Purchases As PURPIM. The taxpayer was a nonexempt ag co-op that bought, stored, marketed and sold grain. The grain was purchased from the co-op's members (farmers) and was sold to grain processors. The co-op, along with two other co-ops, formed an LLC. The LLC was the licensed grain dealer and was classified as a partnership for tax purposes, but was not a cooperative. After the LLC was formed, the taxpayer got out of the grain business and surrendered its grain licenses under a non-compete agreement with the LLC. The taxpayer's patrons could continue to sell to the LLC. The taxpayer wanted to treat the LLC's purchases of grain as its own, the LLC's payments as patronage allocations and that the purchases were deductible on the taxpayer's return as PURPIMs. The IRS determined that such treatment was not allowed because the purchases were by an entity that was not subject to cooperative taxation under Subchapter T. The IRS also determined that there were no facts that provided an argument that the LLC was acting as the taxpayer's agent. IRS noted that a payment to a co-op patron for grain cannot be treated as PURPIM unless it is paid by means of an agreement between a co-op and the patron. That didn't exist. F.S.A. 20150801F (Apr. 22, 2014).

Written Notices of Allocation Can Be Sent Electronically or Over the Web. In this private letter ruling, the IRS has said that a cooperative can use email or a website to send notices to members about patronage dividends. The cooperative had many members that bought personal and family items from the cooperative. Patronage dividends were paid annually in nonqualified written notices of allocation. Historically, the cooperative had used the U.S. mail to send the notices. To cut down on costs, the cooperative proposed to send the notices via email or their website. The IRS approved using the website or email to send the notices and that the cooperative could take an exclusion or deduction under I.R.C. Sec. 1382(b)(2) or tax benefit under I.R.C. Sec. 1383(a)(2) when the nonqualified written notice is paid or redeemed. Priv. Ltr. Rul. 201413002 (Mar. 6, 2014).

Reclassified Grain Sales Do Not Reduce Nonpatronage Income. Under I.R.C. §1382(b), a cooperative can reduce its patronage-sourced income by the amounts paid to its patrons during the payment period. It cannot reduce nonpatronage-sourced income by amounts paid to patrons. Amounts paid to patrons include patronage dividends paid in money, qualified written notices of allocation, or other property paid with respect to patronage during the tax year, and per unit retain allocations paid in money, qualified per-unit retain certifications, or other property with respect to marketing occurring during the tax year. A per-unit retain allocation is an allocation by a cooperative to a patron with respect to products marketed for the patron. Here, a grain marketing and supply cooperative marketed grain on a patronage basis for its members (farmers and local grain cooperatives). The cooperative treated all payments made to members and nonmembers for grain purchases and not as PURPIMS. The cooperative filed an amended return seeking to increase its DPAD based on the reclassification of amounts previously characterized as grain purchases as PURPIMS. However, the IRS determined that the DPAD resulting from the reclassification of amounts previously classified as grain purchases as PURPIMs is a deduction incurred in connection with the conduct of patronage business and is inherently patronage-based. Thus, the amount can only be used to reduce patronage-sourced income, not non-patronage–sourced income. C.C.M. 20132701F (May 16, 2013).

DPAD Not Computed By Aggregating Patronage and Nonpatronage Income. A taxable cooperative filed Form 1120C that claimed DPAD for patronage income and no DPAD for nonpatronage income. The taxpayer simply computed the DPAD by aggregating patronage and nonpatronage sourced activities. Nonpatronage activities had negative QPAI that would not have produced a DPAD, but by virtue of aggregating patronage and nonpatronage activities, the taxpayer converted the portion of wages attributable to nonpatronage activity into wages associated with qualified activities. Since cooperatives compute gross patronage sourced income for DPAD purposes without deducting PURPIMS, patronage sourced income is higher than it otherwise would be which gives cooperatives an advantage over corporations. While the statute does not require separate computations, the IRS concluded that the DPAD is a deduction only against patronage sourced income. Thus, the taxpayer cannot compute the DPAD by aggregating patronage and nonpatronage sourced income. F.S.A. 20131802F (Feb. 27, 2013).