By Ralph K. Morris, Esq.
Doherty, Rumble & Butler
Suite 2800, 30 East Seventh Street
St. Paul, MN 55101 (612) 291-9333

I. STRUCTURE AND CHARACTERISTICS OF "NEW GENERATION" COOPERATIVES

• Limited membership / Limited delivery rights
• Equity investment required by members
• Cooperative receives permanent capital
• Patronage paid only to members
• Opportunity for appreciation in value of delivery rights

• Own common stock
• Own preferred stock
• Agree to uniform member marketing agreement
• Agree to comply with articles and bylaws
• Agree to "Consent" bylaw
• Approval by the Board of Directors

• Limit members to one state
• Require a minimum quantity of preferred stock
• Require certain grower practices
• Require a certain proximity to a factory
• Unit retains - additional member investment

II. APPLICATION OF FEDERAL INCOME TAX LAWS TO COOPERATIVES

A. Subchapter T of the Internal Revenue Code applies to any Corporation doing business on a cooperative basis (Sections 1381-1388, I.R.C.).

B. Exceptions for rural electric and rural telephone cooperatives.

C. Numerous technical requirements for compliance, including:

1. Pre-existing legal obligation to allocate net earnings.
2. Allocation and payment within 8-1/2 months following close of fiscal year.
3. 20% of allocation paid in cash and remainder in form of qualified written notices of allocation (to be deductible).
4. Consent to take into income by patrons.

D. "Operating on a Cooperative Basis"

Efforts by IRS to define and restrict, including:
• Democratic voting control
• Subordination of capital
• Mutuality

E. Patronage vs. Nonpatronage Income.

F. Application of Internal Revenue Code-- Section 277 to Nonexempt Cooperatives

• Alternative minimum tax and use of patronage allocations to pass AMT obligation through to member patrons.

G. Section 521 of Internal Revenue Code.

1. Available only to cooperatives consisting of agricultural producers.
2. Requirements include voting limited to farmers.
3. Marketing of producer products only.
4. Allocation of partonage earnings to all patrons, regardless of membership.
5. Not less than 85% of purchasing activities must be done with farmer member patrons.
6. Benefits include ability to allocate and deduct earnings derived from nonpatronage sourced business.
7. Non-tax benefits include certain exemptions under the Federal Securities Act of 1933.

III. APPLICATION OF ANTITRUST LAWS TO EFFORTS BY FARMERS TO MARKET TOGETHER

A. Section 6 of Clayton Act permits the formation of nonstock marketing and bargaining associations.

B. Capper Volstead Act

1. Permits farmers to act together in associations (corporate or otherwise) with or without capital stock.

2. The Capper Volstead organization must be operated for the mutual benefit of members and must either limit voting rights to one vote per member or limit the payment of dividends on stock membership (8% per annum).

3. The association must not deal in products of nonmembers in an amount greater in value than the association handles for members.

C. Issues under Capper Volstead include:

1. Type of marketing; see Treasure Valley Potato Bargaining vs. Ore Ida Foods, Inc., 479 F.2d 203 (9th Cir. 1974).

2. Permissible activities and functions; see U.S. vs. Maryland and Virginia Milk Producers, 362 U. S. 456 (1960).

3. Need for membership voting control, see Case-Swayne vs. Sunkist, 389 U.S. 384 (1967).

4. Defining a producer; see U.S. vs. National Broiler Marketing Association.

IV. SECURITIES LAW ISSUES

A. Whether the membership interest of equity contribution constitutes a security subject to registration under the Securities Act of 1933 and the Securities Exchange Act of 1934.

B. If a "security" is involved, whether exemptions from registration requirements are available.