NATIONAL COUNCIL OF FARMER COOPERATIVES

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1 Legal-Tax-Accounting Memorandum NATIONAL COUNCIL OF FARMER COOPERATIVES 50 F STREET, NW SUITE 900 WASHINGTON, DC fax LTA Memo October 9, 2009 IRS Issues Section 199 Private Letter Ruling to Soybean Cooperative The IRS has issued another favorable Section 199 ruling, concluding that a federated soybean cooperative may treat payments to members as per-unit retain allocations paid in money (PURPIMs) when calculating the Section 199 deduction. The full text of the ruling is attached. Private letter rulings may not be cited as precedent; however, the rulings provide some certainty for taxpayers concerned about the treatment of advance payments for purposes of the Section 199 deduction. The cooperative at issue is engaged in procuring, processing, marketing, and transporting soybeans. The cooperative operates several processing plants and sells its products to a broad range of customers involved in food processing, merchandising agricultural commodities, livestock production, and renewable fuels marketing. The cooperative s members deliver product to its plants subject to the terms of written purchase contracts. A purchase contract may cover a single delivery or multiple shipments and the contract price is negotiated with reference to the current Chicago Board of Trade market price per bushel. The price per bushel is subject to adjustment for discounts based on moisture, foreign material, damage, and other factors. A settlement check for the adjusted contract price per bushel is issued to each member after delivery. The cooperative maintains a single pool to determine its annual patronage refund obligation; a separate pool is opened for each fiscal year. The cooperative uses the closed pool method in its financial statement and tax return and capitalizes the settlement payments into inventory. The cooperative s ending inventory includes the capitalized settlement payments adjusted to the lower of cost or net realizable value, after considering processing costs. Product on hand at the end of the fiscal year is sold forward to the next year s pool at the lower of cost or net realizable value. The cooperative treats the payments as part of cost of goods sold and only the final payment, or patronage dividend, is reflected as part of net income. The IRS ruled that the settlement checks constitute per-unit retain allocations paid in money within the meaning of Section 1382(b)(3). The IRS further ruled that the cooperative s qualified production activities income and taxable income should be computed without regard to any deduction for the settlement checks. In reaching its rulings, the IRS noted that the full amount of the [settlement checks] and patronage dividend are section 1382(b) amount paid within the payment period for the taxable year and may be

2 deducted on the income tax return and added back for purposes of computing the section 199 deduction. The Section 199 deduction for domestic production activities income was enacted as part of The American Jobs Creation Act of The deduction replaced the exclusion for Extraterritorial Income with a phased-in 9 percent deduction for domestic production income. The deduction applies to proceeds from agricultural or horticultural products that are manufactured, produced, grown, or extracted by cooperatives, or that are marketed through cooperatives. Agricultural or horticultural products include fertilizer, diesel fuel, and other supplies manufactured, produced, grown, or extracted by cooperatives. The deduction is limited to 50 percent of the W-2 wages paid by the taxpayer during the calendar year that ends in the taxable year. The phased-in deduction amount, currently at 6 percent, will increase to 9 percent in (The deduction for oil and gas production will remain at 6 percent.) The IRS has now issued at least ten rulings on the application of the Section 199 deduction for Subchapter T cooperatives, including rulings for dairy, grain, and sugar beets. The soybean cooperative ruling (attached) is dated August 12, 2009, and has not yet been published by the IRS. The other rulings are: PLR (June 18, 2008); PLR (July 21, 2008); PLR (July 21, 2008); PLR (July 24, 2008); PLR (Sept. 17, 2008); PLR (Nov. 24, 2008); PLR (Nov. 26, 2008); PLR (April 16, 2009); and a ruling dated July 9, 2009, and not yet published by the IRS. 2

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