Grain payments qualify as cash per-unit retain allocations

Plain-English summary

An agricultural cooperative planned to take over grain purchasing from a partnership it partly owned. The cooperative would buy members' grain at market prices under written contracts, pay from its own bank account without reference to net earnings, and immediately resell the grain to the partnership on matching terms. The IRS ruled that those payments would be per-unit retain allocations paid in money under section 1382(b)(3). For the former section 199 domestic production deduction, the cooperative would be treated as having produced the grain that its members grew. Its qualified production activities income and taxable income would be computed without deducting the grain payments to members.

Ruling snapshot

• Question: How would the cooperative's direct grain payments be treated under subchapter T and former section 199?
• Outcome: approved
• Key authorities: IRC §§ 1382(b)(3), 1388(f), 199(d)(3); Treas. Reg. § 1.199-6

Full text (IRS public release)

Internal Revenue Service                                        Department of the Treasury
                                                                Washington, DC 20224

Number: 201750003                                               Third Party Communication: None
Release Date: 12/15/2017                                        Date of Communication: Not Applicable
Index Number: 1382.00-00, 1382.08-00,
              1385.00-00, 1388.00-00,                           Person To Contact:
              199.00-00, 199.06-00                              -------------------------, ID No. -----------------
                                                                -----------------------------------------------------
-------------------------------                                 Telephone Number:
---------------------------------------------------             ----------------------
-----------------------------------------------                 Refer Reply To:
---------------------------                                     CC:PSI:5
---------------------------------                               PLR-108471-17
                                                                Date:
In Re:                                                          August 30, 2017
           --------------------------------------------------
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Legend

Taxpayer          =        -----------------------------------------------
                           -----------------------

LLC               =        ---------------------------
                           ------------------------

State             =        -------



Dear ---------------------:

       This letter responds to a letter dated March 9, 2017, submitted on behalf of
Taxpayer, requesting rulings under §§ 1382(b)(3), 199(d)(3)(C), and 199(d)(3)(D) of the
Internal Revenue Code, and § 1.199-6(c) of the Income Tax Regulations.

                                                      FACTS

       According to the information submitted and representations made, Taxpayer is
organized as a cooperative association under the laws of State. Taxpayer is a
nonexempt subchapter T cooperative and a “specified agricultural cooperative” within
the meaning of § 199(d)(3)(F). Taxpayer is required under the laws of State and its
Articles of Incorporation and Bylaws to distribute earnings, after setting aside
reasonable reserves and paying preferred stock dividends, to members each year as

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patronage dividends. Taxpayer does not have a similar obligation to pay patronage
dividends to nonmembers. Taxpayer is engaged in the farm supply and grain marketing
business. Taxpayer provides farm supplies to its members and markets their grain.
Taxpayer’s membership is limited to persons who are farm operators and agricultural
producers.

        Taxpayer is a member in LLC, a limited liability company classified as a
partnership for Federal tax purposes. Taxpayer and an unrelated entity formed LLC to
improve cost efficiencies and streamline operations. LLC is responsible for grain
origination. LLC also markets grain for Taxpayer’s patrons. LLC purchases grain
directly from Taxpayer’s members and other producers. LLC owns and operates grain
elevators in the territory that LLC and Taxpayer serve. LLC receives, handles, and
stores the grain in its elevators, and then sells the grain to terminal grain elevators,
grain processors, feed lots, grain exporters and others.

        Taxpayer proposes to assume the grain origination function. Taxpayer believes
that the change could have a significant impact on grain origination. Grain in State is
primarily marketed through cooperatives, and many producers in State strongly prefer to
sell their grain to a local cooperative. To assume the grain origination function,
Taxpayer will become a grain dealer under the laws of State and meet certain
requirements and conditions in order to obtain a State grain dealer license. After
Taxpayer assumes the grain origination function, Taxpayer will contract with its
members and other producers to purchase grain at market price. The terms of each
grain sale will be reflected in a written grain purchase contract between Taxpayer and
its member or other producer. Taxpayer will pay for the grain with checks drawn from
its bank account or by ACH (Automated Clearing House) transfers from its bank
account. Immediately thereafter, Taxpayer will sell or contract to sell the grain to LLC
on terms that mirror the terms of its purchases from its members and other producers.
Taxpayer will be responsible to pay its members and other producers for the grain, and
LLC will be responsible to pay Taxpayer.

       To maintain efficient operations, Taxpayer contemplates entering into an Agency
and Grain Sales Agreement with LLC after it assumes the grain origination function.
LLC will act as Taxpayer’s agent in purchasing grain from Taxpayer’s members and
other producers. As agent, LLC will be responsible for generating the customary grain
contract documentation for the purchases in Taxpayer’s name. Taxpayer’s members
and other producers will continue to deliver their grain to one of LLC’s elevators. As
agent, LLC will accept the grain and generate a settlement statement in Taxpayer’s
name. LLC will also be authorized to pay for the grain by a check in Taxpayer’s name
drawn on a Taxpayer’s bank account.

       For purpose of this ruling request, the term “Grain Payments” includes only
Taxpayer’s payments, made by checks drawn from Taxpayer’s bank account or by ACH
transfer from its bank account, pursuant to the grain contracts, to its members entitled to

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share in patronage dividends and with respect to the grain marketed for them. Grain
Payments do not include patronage dividends paid to Taxpayer’s members with respect
to the grain marketed for them. The market price Taxpayer pays its members for grain
will be determined without reference to Taxpayer’s net earnings. Taxpayer will typically
make Grain Payments to its members shortly after delivery of the grain, and in any
event, Grain Payments will occur within the payment period (as defined in § 1382(d)) for
the year. Taxpayer will report Grain Payments to members as Per-unit Retain
Allocations in Box 3 on Form 1099-PATR.

                                     RULINGS REQUESTED

     1. After Taxpayer’s proposed assumption of the grain origination function, Grain
Payments to Taxpayer’s members will constitute “per-unit retain allocations paid in
money” within the meaning of § 1382(b).

      2. Pursuant to § 199(d)(3)(D), Taxpayer will be treated as having manufactured,
produced, grown, or extracted in whole or significant part the grain purchased from its
members, which the members have so manufactured, produced, grown or extracted.

       3. For purposes of § 199, Taxpayer’s qualified production activities income and
taxable income will, pursuant to § 199(d)(3)(C) and § 1.199-6(c), be computed without
regard to any deduction for Grain Payments to members.

                                      LAW AND ANALYSIS

        Section 1382(a) provides that, except as provided in § 1382(b), the gross income
of any organization to which subchapter T applies (hereinafter, “a subchapter T
cooperative”) shall be determined without any adjustment (as a reduction in gross
receipts, an increase in cost of goods sold, or otherwise) by reason of any allocation or
distribution to a patron out of net earnings or by reason of any amount paid to a patron
as per-unit retain allocations (as defined in § 1388(f)).

        Section 1382(b) provides, in part, that, in determining the taxable income of a
subchapter T cooperative, there shall not be taken into account amounts paid during the
payment period for the taxable year - (1) as patronage dividends (as defined in
§ 1388(a)), to the extent paid in money, qualified written notices of allocation (as defined
in § 1388(c), or other property (except nonqualified written notices of allocation (as
defined in § 1388(d)) with respect to patronage occurring during such taxable year; (2)
in money or other property (except written notices of allocation) in redemption of a
nonqualified written notice of allocation which was paid as a patronage dividend during
the payment period for the taxable year during which the patronage occurred; (3) as
per-unit retain allocations (as defined in § 1388(f)), to the extent paid in money, qualified
per-unit retain certificates (as defined in § 1388(h), or other property (except
nonqualified per-unit retain certificates, as defined in § 1388(i)) with respect to

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marketing occurring during such taxable year; or (4) in money or other property (except
per-unit retain certificates) in redemption of a nonqualified per-unit retain certificate
which was paid for the taxable year during which the marketing occurred.

       Section 1382(d) provides, in part, that the payment period for any taxable year is
the period beginning with the first day of such taxable year and ending with the fifteenth
day of the ninth month following the close of such year.

       Section 1385(a)(1) provides that each person shall include in gross income the
amount of any patronage dividend which is paid in money, a qualified written notice of
allocation, or other property (except a nonqualified written notice of allocation), and
which is received by him during the taxable year from a subchapter T cooperative.

        Section 1385(a)(3) provides that each person shall include in gross income the
amount of any per-unit retain allocation which is paid in qualified per-unit retain
certificates and which is received by him during the taxable year from a subchapter T
cooperative.

       Section 1388(a) provides, in part, that, for purposes of subchapter T, the term
“patronage dividend” means an amount paid to a patron by a subchapter T cooperative:
(1) on the basis of the quantity or value of business done with or for such patron, (2)
under an obligation of such organization to pay such amount, which obligation existed
before the organization received the amount so paid, and (3) which is determined by
reference to the net earnings of the organization from business done with or for its
patrons.

       Section 1388(f) defines the term “per-unit retain allocation” to mean “any
allocation, by a subchapter T cooperative to a patron with respect to products marketed
for him, the amount of which is fixed without reference to the net earnings of the
organization pursuant to an agreement between the organization and the patron.

       Section 1388(g) defines the term “per-unit retain certificate” to mean any written
notice which discloses to the recipient the stated dollar amount of a per-unit retain
allocation to him by the organization.

       Section 199(a) allows a deduction an amount equal to 9 percent of the lesser of –
(1) the qualified production activities income of the taxpayer for the taxable year, or (2)
taxable income (determined without regard to this section) for the taxable year.

      Section 199(b)(1) provides in general that the amount of the deduction allowable
under § 199(a) for any taxable year shall not exceed 50 percent of the W-2 wages of the
taxpayer for the taxable year.

PLR-108471-17                                  5

       Section 199(c)(1) defines the term “qualified production activities income” (QPAI)
for any taxable year as an amount equal to the excess (if any) of – (A) the taxpayer’s
domestic production gross receipts for such taxable year, over (B) the sum of – (i) the
cost of goods sold that are allocable to such receipts, and (ii) other expenses, losses, or
deductions (other than the deduction allowed under § 199), which are properly allocable
to such receipts.

        In the case of agricultural and horticultural cooperative, § 199(d)(3)(A) allows a
deduction to patrons who receive a qualified payment from a specified agricultural or
horticultural cooperative, for the taxable year in which the payment is received, equal to
the portion of the deduction allowed under § 199(a) to the cooperative, which is (i)
allowed with respect to the portion of QPAI to which such payment is attributable, and
(ii) identified by such cooperative in a written notice mailed to such person during the
payment period described in § 1382(d).

       Under § 199(d)(3)(B), the taxable income of a specified agricultural or
horticultural cooperative shall not be reduced under § 1382 by reason of that portion of
any qualified payment as does not exceed the deduction allowable under § 199(d)(3)(A)
with respect to such payment.

       Section 199(d)(3)(C) provides that, for purposes of § 199, the taxable income of
a specified agricultural or horticultural cooperative shall be computed without regard to
any deduction allowable under subsection (b) or (c) of § 1382 (relating to patronage
dividends, per-unit retain allocations, and nonpatronage distributions).

       Section 199(d)(3)(D) provides that, for purposes of § 199, a specified agricultural
or horticultural cooperative described in § 199(d)(3)(F)(ii) shall be treated as having
manufactured, produced, grown, or extracted in whole or significant part any qualifying
production property marketed by the organization which its patrons have so
manufactured, produced, grown, or extracted.

       Section 199(d)(3)(E) provides that, for purposes of § 199(d)(3), a “qualified
payment” means, with respect to any person, any amount which – (i) is described in
§ 1385(a)(1) or (3), (ii) is received by such person from a specified agricultural or
horticultural cooperative, and (iii) is attributable to QPAI with respect to which a
deduction is allowed to such cooperative under § 199(a).

       Section 199(d)(3)(F) provides that, for purposes of § 199(d)(3), the term
“specified agricultural or horticultural cooperative” means a subchapter T cooperative
which is engaged – (i) in the manufacturing, production, growth, or extraction in whole
or significant part of any agricultural or horticultural product, or (ii) in the marketing of
agricultural or horticultural products.

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      Section 1.199-6(c) provides that, for purposes of determining its § 199 deduction,
the cooperative’s QPAI (as defined in § 1.199-1(c)), and taxable income are computed
without taking into account any deduction allowable under § 1382(b) or (c) (relating to
patronage dividends, per-unit retain allocations, and nonpatronage distributions).

       Section 1.199-6(e) provides that the term “qualified payment” means any amount
of a patronage dividend or per-unit retain allocation, as described in § 1385(a)(1) or (3)
received by a patron from a cooperative, that is attributable to the portion of the
cooperative’s QPAI, for which the cooperative is allowed a § 199 deduction. For this
purpose, patronage dividends and per-unit retain allocations include any advances on
patronage and per-unit retains paid in money during the taxable year.

                                    CONCLUSIONS

      Based solely on the information submitted and representations made, we
conclude as follows:

     1. After Taxpayer’s proposed assumption of the grain origination function, Grain
Payments to Taxpayer’s members will constitute “per-unit retain allocations paid in
money” within the meaning of § 1382(b)(3).

      2. Pursuant to § 199(d)(3)(D), Taxpayer will be treated as having manufactured,
produced, grown, or extracted in whole or significant part the grain purchased from its
members, which the members have so manufactured, produced, grown or extracted.

      3. For purposes of § 199, Taxpayer’s QPAI and taxable income will, pursuant to
§ 199(d)(3)(C) and § 1.199-6(c), be computed without regard to any deduction for Grain
Payments to members.

      The rulings contained in this letter are based upon information and
representations submitted by the taxpayer and accompanied by a penalty of perjury
statement executed by an appropriate party. While this office has not verified any of the
material submitted in support of the request for rulings, it is subject to verification on
examination.

        Except as expressly provided herein, we express or imply no opinion concerning
the tax consequences of any aspect of any transaction or item discussed or referenced
in this letter.

      This ruling is directed only to the taxpayer requesting it. Section 6110(k)(3) of
the Code provides that it may not be used or cited as precedent.

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         In accordance with the Power of Attorney on file with this office, a copy of this
letter is being sent to your authorized representative.


                                       Sincerely,




                                       Jian H. Grant
                                       Senior Technician Reviewer, Branch 5
                                       Office of Associate Chief Counsel
                                       (Passthroughs & Special Industries)



Enclosure (1)
      Copy for section 6110 purposes