Opposition Brief — West Central Cooperative v. United States

|

85-9049 FILED

No. CLERK

IN THE SUPREME COURT OF THE UNITED STATES

October Term, 1985

WEST CENTRAL COOPERATIVE,

Petitioner,

Vv.

UNITED STATES OF AMERICA,

Respondent,

PETITION FOR A WRIT OF CERTIORARI

TO THE UNITED STATES COURT OF APPEALS

FOR THE EIGHTH CIRCUIT (and Appendices)

West Central Cooperative,

Petitioner

By Thomas W. Polking

WILCOX, POLKING, GERKEN

& SCHWARZKOPF, P.C.

200 Lincoln Building

Jefferson, Iowa 50129

(515) 386-3158

Counsel of Record for Petitioner

af

’

™

win

QUESTIONS PRESENTED FOR REVIEW

Should the time frame for testing the

judicially imposed requirement that a

shareholder-producer be "currently

patronizing" a cooperative under In-

ternal Revenue Code Section 521 be

restricted solely to business tr.ans-

acted within the twelve months con-

stituting the tax year of the coopera-

tive:

(a) Even though the legislative in-

- tent and case law analysis would

be aimed only at preventing the

Section 521 tax exemption from

flowing to investors, non-pro-

ducers, and former producers

having abandoned their coopera-

tive as users, and

(b) The only cited authority for the

case imposing “current patron-

age" would look at a minimum of

twenty-four months before assum-

ing abandonment as a user has oc-

curred, and

(c) The farmer-patrons have at most

One crop to sell, which because of

poor harvest conditions, storage

demands, or marketing strategy

will be sold to the cooperative

but the sale date of two succes-

Sive crops may happen to straddle

the twelve months comprising the

cooperative's tax year, and

(d) The cooperative, in aneffort to

avoid handling consumer type

products which non-producers

might be purchasing, deals only in

atin

farm supplies which might only be

purchased once each crop year by

grain farmers, after fall harvest

or before spring planting, with

the purchase dates occasionally

straddling the cooperative's

twelve month tax year.

Should shareholder-patrons' storing

grain with West Central Cooperative

during its tax year in question be

excluded when counting the number of

Shareholder-producers who are cur-

rently patronizing West Cen_ral,

where the only purpose and rationale

for the requirement of on going busi-

ness between member and cooperative is

to make certain that the benefits of

the tax exemption do not flow to in-

vestors, non-producers, or former

producers having abandoned the coop-

erative as users.

~iii-

TABLE OF CONTENTS

Questions Presented for Review

Table of Contents

Table of Authorities

co ee ae ee ee

Opinions Below

Jurisdiction

Beaecuces Invoiveaqd .....eee

Statement of the Case

Reasons for Granting Writ

ee ee

I. The time frame for determin-

ing whether a shareholder-

producer is sufficiently

patronizing a cooperative

Should not be limited to

just business transacted

within the twelve months

constituting the tax vear

GE Gme CcGgperative .... «

II. Shareholder-patrons storing

grain with West Central

during its tax year in

question are currently

patronizing West Central

within the meaning of

Section 521 of the Internal

Revenue Code

ee ae ee ee ee ee ee

Appendices

Court of Appeals Opinion ....

District Court Opinion .,.....

Order Denying Petition for

Rehearing

o . . . . . . . . . oe

a)

* |p

KID

ON WH = HY & S

fad ued

16

B LE OF AUTHOR L LES

Coopei a Grain & Supply Co.

v. Commissioner, 407 F.2d 1158

(8th Ci 1969)- - «© «© «© «© 19,20,21,

34,38,45

46,47,48,

50

Cooperative Grain & Supply Co.

v. Commissioner, 32 T.C.M. (CCH)

Bo €2973) « «© «© © © © & © hi . 22.

Durbin Paper Stock Co. Inc., 80

T.C. 2352 (1983). 2. « « = we eo 25

Farmers Cooperative Creamery

Ass'n of Cresco, Iowa v. United

States, 8:i-1 U.S. Tax Cas. (CCH)

$9657 (1981) . s« © «© sw we we ow os st S], 8

Farmers' ‘ooperative Creamery vv.

Commissioner, 21 B.T.A. 265 (1930) 36

Dealers Ass'n

Nationa! Muff I

5 t es, 440 U.S. 472

v. United

$3 ft: ) , 4°

Pomeroy Cooperative Grain Co. v.

Commissioner, 288 F.2d 326 (8th

Paes SEOPE 4 « 6 & 4 bie1 ee 4s

Treasure Valley Potato Bargain-

ing Ass'n v. Ore-Ida Foods, Inc.,

497 F.2d 203 (9th Cir. 1974) . . . 4i1

United States v. Vogel Fertilizer

Co., 455 U.S. 16 (1982).

wm

Nm

. © 2 ~

-V-

TABLE OF AUTHORITIES - Continued

STATUTES Page

28 U.S.C. §1254(1) l

28 U.S.C. §1346(a) (1). 5

28 U.S.C. §7422(a) 6

Internal Revenue Act, 48 Stat.

680 (1926) 20

I.R.C. (1934). 16,1i7

I.R.C. §183 ee a 23

ReMeGs Geek 2. ss 6 4s Se hSG STE SO Re

I.R.C. §521(a) 1,2

E.R.C. SSZLCD) (i) «8 st te et AGO, SD

T.R.C. §522(0) (2) « « « « « 364,468,489

I.R.C. §521(b) (3) 4

I.R.C. §521(b) (4) 4,5

I.R.C. §521(b) (5) 5

I.R.C. §1381(a) (1) 17

I.R.C. §1381(a) (2) 17

I.R.C. §1381(b) 1

I.R.C. §1381(c) (1) 18

I.R.C. §1381(c) (2) 18

REGULATIONS, REPORTS, RULINGS

MEMORANDA

Mimeo. 3886, X-2 C.B. 164 (1931),20,21

Rev. Proc. 73-39, 1973-2 C.B.

502

Rev. Rul. 59-107, 1959-1 C.B.

20

31,47

44

aia

TABLE OF AUTHORITIES - Continued

REGULATIONS, etc. cont'd

Rev. Rul. 63-58, 1963-1 C.B.

109

Rev. Rul. 66-108, 1966-1 C.B.

154

Rev. Rul. 67-429, 1967-2 C.B.

218 OS Para cae ae

Rev. Rul. 67-430, 1967-2 C.B.

220 Arar th ae Te ae

Rev. Rul. 73-248, 1973-1 C.B.

295 <= - se 6 @

Treas. Reg. §1.522-2(d) (195

co

TEXTBOOKS

Exempt Organization Handbook of

Internal Revenue Service,

Chapter 44 (Item 32).

Legal Phases of Farmers' Co-

operatives, FCS Bulletin 10,

(1958),

Legal Phases of Farmers' Co-

operatives, FCS Information

100, (1976)

WISSMAN, FARMER COOPERATIVES

(Agricultural Cooperative

Services, July 1984) .

40,4]

34,35

35

15

oj-

OPINIONS BELOW

The opinion of the Court of Appeals is

reported at 758 F.2d 1269 (8th Cir. 1985).

The opinion of the District Court is re-

ported at 607 F. Supp. 1 (N.D. Ia. 1984).

JURISDICTION

Judgment of the Court of Appeals was

entered April 1, 1985. Petition for Re-

hearing was denied May 16, 1985. Juris-

diction of this court is invoked under 28

U.S.C. §1254(1).

STATUTES INVOLVED

Internal Revenue Code §521 provides as

foliows (with the pertinent language un-

derlined) :

(a) Exemption from tax.

A farmers' cooperative organization

described in subsection (b)(1) shall

be exempt from taxation under this

subtitle except as otherwise provided

in part I of subchapter T (sec. 1381

(b)

-2-

and following). Notwithstanding part

I of subchapter T (sec. 1381 and fol-

lowing), such an organization shall be

considered an organization exempt

from income taxes for purposes of any

law which refers to organizaticns ex-

empt from income taxes.

Applicable rules.

(1) Exempt farmers' cooperatives.

The farmers' cooperatives exempt from

taxation to the extent provided in

subsection (a) are farmers', fruit

growers', or like associations organ-

ized and operated on a cooperative

basis (A) for the purpose of marketing

the products of members or other pro-

ducers, and turning back to them the

proceeds of sales, less the necessary

marketing expenses, on the basis of

either the quantity or the value of

the products furnished by them, or (B)

for the purpose of purchasing supplies

=3-

and equipment for the use of members

Or other persons, and turning over

such supplies and equipment to them at

actual cost, plus necessary expenses.

(2) Organizations having’ capital

stock. Exemption shall not be denied

any such association because it has

Capital stock, if the dividend rate of

such stock is fixed at not to exceed

the legal rate of interest in the

State of incorporation or 8 percent

per annum, whichever is greater, on

the value of consideration for which

the stock was issued, and if substan-

tially all such stock (other than non-

voting preferred stock, the owners of

which are not entitled or permitted to

participate, directly or indirectly,

in the profits of the association,

upon dissolution or otherwise, beyond

the fixed dividends) is owned by pro-

ducers who market their products or

~~

purchase their supplies and equipment

through the association.

(3) Organizations maintaining re-

serve. Exeuption shall not be denied

any such association because there is

accumulated and maintained by it a

reserve required by State law or a

reasonable reserve for any necessary

purpose.

(4) Transactions with nonmembers.

Exemptions shall not be denied such

association which markets the prod-

ucts of nonmembers in an amount the

value of which does not exceed the

value of the products marketed for

members, Or which purchases supplies

and equipment for nonmembers in an

amount the value of which does not

exceed the value of supplies and

equipment purchased for members, pro-

vided the value of the purchases made

aS—

\

for persons who are neither members

nor producers does not exceed 15 per-

cent of the value of all its pur-

chases.

(5) Business for the United States.

Business done for the United States or

any of its agencies shall be dis-

coabiien in determining the right to

exemption under this section.

STATEMENT OF THE CASE

West Central Cooperative ("West Cen-

trai") filed a Complaint seeking the re-

fund of $57,459 additional taxes and in-

terest assessed against it resulting from

the revocation by the Internal Revenue

Service ("IRS") of West Central's status

aS an exempt farmers' cooperative, ef-

fective for the tax year ending January

31, 1974 ("1974 year"). The basis for

federal jurisdiction of the Trial Court

was by virtue of 28 U.S.C. §1346(a) (1) and

-6§-

26 U.S.C. § 7422(a).

West Central is a marketing and pur-

chasing farmers' cooperative organization

with its principal place of business in

Ralston, Carroll County, Iowa. West Cen-

tral purchases grain from its patrons, and

sells farm supplies including livestock

feed, fertilizer, herbicides, pesticides,

and seed to its patrons. Up to and in-

cluding the tax year in question, West

Central never was involved in the sale of

consumer type products, dealing strictly

in farm supplies.

Although organized with capital

stock, West Central has always referred to

the holders of its common voting stock as

members, and references herein to "mem-

bers" refer to holders of common voting

stock in West Central. In order to become

a member, a patron would subscribe for one

share of common stock, and pay for it

through patronage dividends earned by

——E— ————— EE ee aS ae Ol Ol

— l=

doing business with West Central. During

the year 19 74 West Central had outstanding

2,887 shares of voting stock. No member

could own more than one share. The Arti-

cles of Incorporation of West Central pro-

vided that no fixed dividends could be

paid on common stock (common stock or

membership stock having the only vote),

the only dividend to be paid on common

stock dependent upon margins or net earn-

ings of the cooperative, and allocation of

any margins of the cooperative to its

members in the form of patronage refunds

or dividends, which are based upon the

business done by the holder of such common

stock with West Central. For the year

19 74, the members' business constituted

93.4% of the total value of agricultural

products marketed or handled by West Cen-

tral. Of the total value of supplies and

equipment sold by West Central for its tax

year 1974, 98.5% was purchased by members,

=o

West Central introduced evidence

showing its agreement with the positions

subsequently adopted by the Trial Court

and Eighth Circuit that there are legiti-

mate concerns as to who is receiving the

benefits of the tax exempt status of a

cooperative if member-shareholders cease

to patronize it. As explained by Dr. James

Baarda, of the Cooperative Service Divi-

sion of the United States Department of

Agriculture, witness for West Central, if

a member has abandoned the cooperative and

has no desire to use it, then such member

might vote in an attempt to make the co-

operative operate in a different fashion

with regard to pricing or redemption of

stock, that member at that point making

decisions based upon his position as an

investor rather than upon the maximum

amount of benefit that can be given to a

producer. Extended periods of non-use

serve as an indication that the member has

~G-

abandoned the use of the cooperative.

A period of non-use by a farmer of his

cooperative is, however, only a possible

indication of the abandonment of that co-

operative as a mechanism where he can get

benefits through use. Baarda testified

that a one year period of non-use is not

proof of a change in a member's attitude

and approach towards his cooperative from

that of "user" to that of "investor".

Introduced into evidence was the deposi-

tion of Elmer Ray Johnson, former super-

visor of exempt organizations for the IRS,

including the auditing of farmers' co-

operatives in Iowa. Mr. Johnson agreed

that in setting up a test to determine

whether or not a member was a producer, a

period of several years would be a better

gauge than twelve months. At trial West

Central introduced into evidence a number

of circumstances which might cause a par-

ticular member to not show any business

-}0-

done with West Central during any partic-

ular twelve month period, but nonetheless

that member continue to be looking to West

Central as their market for crops raised,

and for their farm supplies. The IRS

offered no testimony or evidence to refute

the above.

The Trial Court counted as members

only those who completed a sale of grain or

purchase of supplies with West Central

during its fiscal tax year 1974, giving

exception only for those members who were

precluded from such activity by sickness,

disability or death.

The Trial Court found 2,418 members,

Or 83. 7548% of the 2,887 holders of West

Central's voting stock, to be producers

marketing their products or purchasing

their supplies through West Central during

the twelve months constituting the 19 74

tax year of West Central. West Central

records introduced into evidence would

ak&aiteFteHekiaeehtiit & |

-l|l-

indicate that of the 469 members found by

the Trial Court not to be current patrons,

290 had done business with West Central

during its tax year 19/73, and 87 had done

business with West Central in both 19 73

and 1975.

The Trial Court also refused to count

as current patrons members who were stor-

ing grain with West Central during the

19 74 year in question.

To West Central's contention that the

time frame for determining whether a mem-

ber is currently patronizing a cooperative

need be determined with reference to the

rationale for the requirement, and take

into account "real world" modern farming

practices, the Court of Appeals offered

neither explanation nor analysis. The

Court of Appeals responded only that "be-

cause tax exemptions must be narrowly con-

strued, it is reasonable and consistent

with the general scheme of the Internal

=} 2—-

Revenue Code to assess annually the tax-

payer's compliance with the terms of the

exemption."

It is unclear from the decision of the

Eighth Circuit whether the Court of Ap-

peals found storing grain to constitute

doing business on a current basis with

West Central, the issue before the Court.

The Eighth Circuit disposed of the matter

by determining that storing grain with the

cooperative is not "marketing or purchas-

ing" through a cooperative, an issue not

raised to the Court, and decided in a

matter contrary to all cage precedent and

the IRS position under Section 521. West

Central brought this to the attention of

the Eighth Circuit in a Petition for Re-

hearing, which was denied without comment.

REASONS FOR GRANTING THE WRIT

West Central believes that the Writ

should issue in this case for all of the

following critical reasons:

=} 3=

In handling the issue of whether

the storing of grain constitutes

current business with the cooper-

ative, the Court of Appeal's ac-

tions in failing to answer the

issue before it, and disposing of

the issue by erroneously deciding

an issue neither briefed or argued

to the Eighth Circuit, and failing

to answer the matter when raised

in a Petition for Rehearing, re-

flects such a departure from ac-

cepted and usual course of judi-

cial procedure as necessitates

the exercise of this Court's su-

pervisory power.

In deciding that storing grain is

not "marketing or _ purchasing"

within the meaning of I.R.C. §521,

the decision entered by the Eighth

Circuit conflicts with the hold-

ings of the Eighth Circuit itself,

olé=

decisions of other Courts of Ap-

peals, and the position of the

Internal Revenue Service, upset-

ting the basis of tax exemption

for numerous cooperatives, all of

which dictate the review and cor-

rection of such decision.

A determination that the measure

for compliance with the judicial-

ly imposed requirement of "cur-

rent patronage" when limited to

the twelve months coinciding with

the cooperative's tax year oper-

ates to take away a statutorily

conferred benefit by placing an

unreasonable standard upon coop-

eratives not contained in the

statute nor contemplated by Con-

gress, and indicates a lack of

understanding the case and issues

before it which results in a de-

cision that must be reviewed by

|-BRaOCbaiegaeianmtdias-

j

-15-

this Court as the court of last

resort.

Farmers are struggling for their

very existence in many parts of

the United States. The issues

before the Court do not impact

only upon West Central or its mem-

bers. In the United States there

were 2,933 farmers' exempt coop-

eratives (with sales of nearly $15

billion) filing as exempt under

§521 of the Internal Revenue Code.

(Statistics for the year 1977, the

most recent information available

on §521 cooperatives, as set out

in an article by Roger Wissman,

Agricultural Economist for Agri-

cultural Cooperative Services,

United States Department of Agri-

culture, and appearing in Farmer

Cooperatives, July, 1984, pub-

lished by Agricultural Coopera-

-})6-

tive Services.) Related issues

are before the United States Tax

Court in Docket No. 15643-82 and

Docket No. 5988-83, Farmers Co-

Operative Company, et al., vv.

Commissioner. The Eighth Cir-

cuit decision sought to be re-

viewed will have a consequence of

national importance.

ARGUMENT

I.

THE TIME FRAME FOR DETERMINING WHETHER

A SHAREHOLDER-PRODUCER IS SUFFICIENTLY

PATRONIZING A COOPERATIVE SHOULD NOT BE

LIMITED TO JUST BUSINESS TRANSACTED WITHIN

THE TWELVE MONTHS CONSTITUTING THE TAX

YEAR OF THE COOPERATIVE.

The tax treatment of cooperatives is

set forth in Subchapter T, Sections 1381l-

1388, oi the Internal Revenue Code of

1954, as amended. (All statutory refer-

ences, unless otherwise noted, are to the

=} 7=

Internal Revenue Code of 1954, as amended

("I.R.C." or the "Code")). Subchapter T

applies to two types of organizations:

(1) farmer cooperatives described in Sec-

tion 521 (so-called "exempt" cooper-

atives); and (2) any other corporation

(with exceptions not pertinent here) op-

erating on a cooperative basis (so-called

"non-exempt" cooperatives). I.R.C.

§1381(a) (1) & (2).

Exemption in this context is somewhat

of a misnomer, because even "exempt" co-

operatives are subject to the same normal

tax, Surtax and alternative tax imposed on

corporations. I.R.C. §1381(b). All co-

operatives, whether exempt or non-exempt,

are entitled to deduct amounts paid or

allocated to their patrons (called "pa-

tronage refunds or dividends") under cer-

tain circumstances. I.R.C. §1382(b). Ex-

empt cooperatives are entitled to two ad-

ditional deductions: (1) for amounts paid

=~18=

as dividends on capital stock; and (2) for

amounts paid out of earnings from non-

patronage sources. I.R.C. §1382(c)(1) &

(2).

In pertinent part, I.R.C. §521(b) (1)

states that exempt cooperatives are "“far-

mers' . . . associations organized and

operated on a cooperative basis (A) for

the purpose of marketing the products of

members or other producers, and turning

back to them the proceeds of sales, less

the necessary marketing expenses, on the

basis of either the quantity or the value

of the products furnished by them, or (B)

for the purpose of purchasing supplies and

equipment for the use of members or other

persons, and turning over such supplies

and equipment to them at actual cost, plus

necessary expenses."

Because West Central does have capital

stock, I.R.C. 521(b)(2) becomes’ impor-

tant. It states that the §521 exemption

~19-

"shall not be denied any such association

because it has capital stock .. . if

substantially all such stock ... is owned

by producers who market their products or

purchase their supplies and equipment

through the association." (Emphasis ad-

ded).

West Central stock was held by farmer-

producers in 1974. That was not ques-

tioned before the Trial Court. At issue is

whether substantially all of the farmer-

producers holding the voting stock of West

Central were actively patronizing West

Central. The first case to impose the

additional requirement that producers

holding stock be “active” with such co-

operative was Cooperative Grain & £.apply

Co. v. Commissioner, 407 F.2d 1158 (8th

Cir. 1969). The tax exempt status of the

Roseland Cooperative was at issue. The

Eighth Circuit in the Roseland case con-

Cluded that "Substantially all of the

=20-

shareholder-producers are required to

market their products and purchase their

supplies through the taxpayer on a current

basis. That is our holding." 407F.2d at

1163. (Emphasis added).

West Central agrees with the Eighth

Circuit's determination in Cooperative

Grain & Supply Co. that substantially all

of the shareholders of an exempt farmers'

cooperative need be current patrons as

well as producers. The current patronage

requirement is a logical extension of the

concerns of Congress in enacting the Reve-

nue Act of 1926, which gave us the present

language in question. Mimeo 3886, X-2

C.B. 164 (1931) of the IRS reviewed the

enactment of the provisions in question,

and indicates that the concern of Congress

and of the Internal Revenue Service at

that time was to restrict the benefits of

the tax exemption to cooperatives owned by

"actual producers", and to prohibit in-

=2i-

vestors, non-producers, and shareholders

ceasing to be producers from owning a

substantial quantity of the voting stock

of a tax exempt cooperative. X-2 C.B. at

16 7-168. In Cooperative Grain & Supply

Co. the Eighth Circuit adopted the reason-

ing of the IRS in indicating that "if a

producer owns stock in the cooperative but

does not transact business through it,

then he is no different from a nonpro-

ducing investor." 407 F.2d at 1159.

The rationale for "current patronage"

being clear, it was left to the Eighth

Circuit in the instant case to determine

the time reference for determining "cur-

rent patronage", left undecided by the

Cooperative Grain & Supply Co. case. (The

time frame issue had never previously been

before an appellate court, though on re-

mand the Tax Court in Cooperative Grain &

Supply Co. assumed the Eighth Circuit had

meant “actual yearly participation". 32

a22%—

T.C.M. (CCH) 795, 798 (1973)). Without any

analysis of the Cooperative Grain & Supply

Co. case, or the legislative history, or

why it had imposed the "current patronage"

requirement in the first place, the Eighth

Circuit panel decision disposed of the

issue by concluding that ". . . it is

reasonable and consistent with the general

scheme of the Internal Revenue Code to

assess annually (West Central's) compli-

ance with the terms of the “Section 521"

exemption."

West Central does not argue with what

the "general scheme" of the Internal Reve-

nue Code may or may not be. West Central

would point out, however, that a measure

of compliance looking at more than one

year's activity is not unheard of in the

Internal Revenue Code. (In determining

whether an activity is engaged in for

profit, if gross income exceeds deductions

SS na HeeeHeEEeEHEeEeihetnl & -i

«23

for the activity in two or more of the

taxable years in the period of five con-

secutive years ending with the taxable

year in question, a presumption arises

that the activity is engaged in for prof-

it... 1.8.€C. $403.)

West Central does not dispute that the

IRS can “annually check compiiance" by

West Central with the requirements of

I.R.C. §521. Contrary to the government

attorney arguing orally before the Eighth

Circuit, a test encompassing more than

twelve months activity would not prevent a

timely audit of a cooperative. To audit

the 1974 year of West Centra’, we would

only be arguing that business of a member

with West Central occurring in either 19 73

or 1974 be examined. The information for

both years would most certainly be avail-

able to the IRS upon audit.

West Central would urge that the proper

test for determining what constitutes do-

~24-

ing business on a "current basis" should

be determined in relation to why the ad-

ditional requirement of a "current pa-

tronage" was added by the Eighth Circuit.

The language of the statute itself does

not demand that stock be owned by pro-

ducers who market their products or pur-

chase their supplies every year. The

language of the statute was intended to

make certain that it was farmers who mar-

keted their products or purchased their

supplies and equipment that were benefited

by the tax exenption, rather than inves-

tors who are not actually farmers, and did

not have their own products to sell or

their own needs for supplies and equipment

to fill, but were rather reselling or

purchasing for resale.

The test for determining compliance

with the statute should not be allowed to

impose a standard much greater than ever

envisioned by the Congress enacting the

‘FS See BeaenwtiwnwtEatnwteEaEe eS ee

= 25—

law itself. A statutory interpretation is

not reasonable unless it harmonizes with

the plain language of the statute, its

Origins and purposes. Durbin Paper Stock

Coes 2ne., SO T.C. 252,257 (1963), citing

United States v. Vogel Fertilizer Co., 455

U.S. 16 (1982) and National Muffler Deal-

ers Ass'n v. United States, 440 U.S.-

472,477 (1979).

The Eighth Circuit in Cooperative

Grain & Supply Co. correctly adopted the

position that a person who has abandoned

his cooperative as a user might raise the

same concerns for manipulation of the co-

operative aS an investor or non-producer.

If a member has abandoned the cooperative

and has no plans to use it, then such

member might vote in an attempt to make the

cooperative operate ina different fashion

with regard to pricing, or redemption of

stock, that member at that point making

decisions based upon his position as an

-26-

investor rather than upon the maximum

amount of benefit that can be given to a

producer through the cooperative. Ex-

tended periods of non-use serve as an

indication that a member has abandoned the

use of a cooperative as a producer.

Yes, most members do business with

West Central every year. The statute as

interpreted requires that substantially

all of the stock be in the hands of pro-

ducers doing business with West Central on

a current basis. "Substantially all" has

been interpreted to mean 85%. Rev. Rul.

73-248, 1973-1 C.B. 295. Because of this

high standard of participation, it is im-

portant to realize that it is not unusual

for a period of twelve consecutive months

to occur in which a shareholder-patron

does not do business with his cooperative,

yet West Central continues to be the pri-

mary market or source of supplies for such

member.

_es =F BSewaTtEeOTETllU SE OS SS OS oe lel Cl

-27-

A grain farmer member of West Central

may experience a crop failure, or may have

Signed up for the U.S. government farm

program, ink avai crop loans rather

than sell his crop during a particular

twelve month period. A producer may

choose not to sell to the cooperative ina

particular twelve month period in expec-

tation of higher prices later on, or for

tax reasons. A member may store all of his

grain on his farm, hold it ~ver a period of

a year, and then deliver more than one crop

for sale during a particular West Central

tax year. A livestock producer might feed

all of their grain during a twelve month

period, leaving no grain to be selling to

West Central, or because of crop rotation

not raise for sale a cash crop every year.

How can West Central go to a member who

sells grain to West Central, and tell them

they can no longer be a member because even

though they may have sold every bushel of

=-28-

grain to West Central, they didn't sell

any grain to West Central during a par-

ticular twelve month period of time?._Is

the farmer to sell at lower prices than he

might otherwise anticipate receiving, to

meet the artificial standards imposed by

the internal Revenue Service? All of

these examples introduced at trial were

undisputed by the IRS, and most certainly

prove the undesirability of a twelve month

test as a standard for measuring whether a

member has abandoned his cooperative as a

user.

It might be anticipated that in co-

operatives dealing with perishable com-

modities, members as a rule would sell to

their cooperative on an annual or even

more often basis. West Central would not

wish to be seen as indicating that for some

types of cooperatives a twelve month pa-

tronage test might be appropriate, but

would certainly wish to point out that a

-29-

yearly patronage requirement is most in-

appropriate with regard to grain cooper-

atives. Grain can be stored for long

periods of time. Members of grain co-

operatives do not have the urgent need for

a guaranteed market as members raising a

perishable commodity might. Marketing

agreements between members and coopera-

tives have worked to some degree with

regard to perishable commodity coopera-

tives. But, as testified to at trial, they

have failed miserably, even resulting in

the bankruptcy of cooperatives, where

tried with grain cooperatives. Grain co-

operatives, and their members, if they

have a commodity to sell to their co-

operative have it only once a year, such

that it is not unusual at all for members

in a grain cooperative to occasionally

have a particular twelve month period co-

inciding with the tax year of the co-

operative in which they do not patronize

= 30-

such cooperative, even though such co-

operative might get all of their business.

In.a question during oral argument,..a

Justice of the Eighth Circuit indicated

that the test would not be just measuring

member sales to a cooperative, but that

members' business could be buying from the

cooperative as well. The Judge indicated

he felt no particular burden was being

imposed upon a cooperative through a

twelve month test, stating it could be

complied with simply by "farmers who are

members going in there and buying gro-

ceries and other things." The problem

with that is that West Central does not

deal in consumer type goods which might be

used at many different times during the

year, a matter clear on the record. West

Central deals strictly in farm supplies,

of a nature that may only be purchased once

every crop season. Weather may prevent a

member from putting either the spring or

«3)-

fall crop inputs on during the regular

season, such that they end up doubling up

crop inputs in one growing season, missing

the cooperative's tax year though buying

all of their inputs from the cooperative.

Must he buy crop inputs at a time when they

are not needed, or at a time when weather

would prevent their use, in order to allow

the cooperative to meet the artificial IRS

Standard?

The Internal Revenue Service does

recognize exceptions from the annual

business requirement where a cooperative

Geals in high priced items such as farm

machinery which are not normally purchased

On an annual basis. Rev. Proc. 73-39,

1973-2 C.B. 502. Remembering that the

test is only being imposed to determine

whether or not the member had abandoned

his cooperative as a user, and that normal

farming circumstances and practices can

easily result in the patron's doing all of

«32

his business with West Central but none of

it happening to have been transacted with-

in a particular twelve month period, the

test for “current patronage" should not be

so artificially compressed as the 8th Cir-

cuit decision would dictate.

Numerous concrete examples based upon

the actual records of member business were

introduced by West Central to attempt to

show the ludicrous nature of a determi-

nation that a person not having a sale or

purchase during a twelve month period was

not an active patron of a cooperative, or

concerned about their cooperative as a

user rather than an investor. One member

responded that while he chose not to mar-

ket any of his grain during the period

involved and stored it all on his farm,

"West Central Coop has always had 100% of

my grain business." Another member indi-

cated the records didn't happen to show

any activity from him, when measured by

imeSEeagtktegtitgteQggnLhanLa

=33e

the twelve month tax year of West Central,

by explaining the sales of his crop oc-

curred in January of 1973, and that his

"tax year runs from December 3lst", show-

ing why his sales were not included in West

Central's tax year 1974, which commenced

February 1, 1973. As illustration, the

following lists by year the business done

with West Central by Imogene Hamilton, a

member now deceased. In evidence was the

fact that she had stored her grain during

the year 1974, and as a result had no sales

diring February 1, 1973 to January 31,

19/74. She was determined to be an "in-

active patron" of West Central by the

Trial Court. Can it be said she had

abandoned her cooperative as a user, rais-

ing concern as to her receiving benefits

of West Central's tax exemption, when her

business done with West Central from 1971

through 1977 is as follows:

-34-

1971 Corn 5,169.03 Bu

1971 Soybeans 1,062.71 Bu

1971 Merchandise 844.66 $

purchased

1972 Soybeans 1,404.39 Bu

1972 Corn 6,263.54 Bu

1972 Merchandise 1, 363.33 $

purchased

1973 Soybeans 1,063.00 Bu

1973 Corn 8,061.26 Bu

1973 Merchandise 704.04 $

purchased

1975 Corn 3,100.88 Bu

1975 Soybeans 950.33 Bu

1976 Soybeans 305.11 Bu

1976 Corn 2,/73.39 Bu

1977 Soybeans 1,193.55 Bu

1977 Corn 2,699.99 Bu

1977 Merchandise 564.94 §$

purchased

West Central respectfully reminded

the Eighth Circuit that when it stated in

Cooperative Grain & Supply Co. that there

was "virtually no legal authority sug-

gesting that (Section 521(b)(2)) requires

a current patronage requirement", its only

citation was to Legal Phases of Farmers'

Cooperatives, FCS Bulletin 10, (1958), for

Support. 407 F.2d at 1160. The same 1958

edition quoted from by the Eighth Circuit

also set out in suggested organizational

aa daaeaf## afHg#hf_weregwH#ea & & =

=35-

documents when a cooperative should move

to redeem a shareholder-patron's stock for

failure to currently patronize the co-

operative. The length of time selected as

indicative of an abandonment was two

years. Id. at 56, 315-316. No mention is

made of this in the 8th Circuit opinion

West Central seeks to have reviewed. If

Legal Phases of Farmers' Cooperatives was

good enough to cite for its support of the

notion of current patronage, it seems it

should also be consulted for what period

the cooperative should measure for current

patronage. The 1976 edition of Legal

Phases of Farmers' Cooperatives, FCS In-

formation 100, (1976) has retained the two

year period as the proper measure for

current patronage. Id. at 564,568.

The Trial Court and the Eighth Circuit,

depending upon little more than a recan-

tation that special tax exemptions are to

-36-

be strictly construed against the tax-

payer, have managed to totally frustrate

what the courts in the era of enactment

found to be the purpose of the forerunner

to I.R.C. §521, namely to prevent a pos-

sible narrowing of exemptions for farmer

cooperatives by administrative construc-

tion. Farmer's Cooperative Creamery v.

Commissioner, 21 B.T.A. 265, 268 (1930).

The IRS, now with the aid of the Trial

Court and Eighth Circuit, is being allowed

to promulgate a twelve month test that

will not just weed out cooperatives whose

tax exemption is benefiting investors and

non-producers, but will eradicate fromthe

countryside exempt farmers' cooperatives.

The Supreme Court should not allow such

misconstruction to become the rule of the

land.

Il

SHAREHOLDER-PATRONS STORING GRAIN WITH

WEST CENTRAL DURING ITS TAX YEAR IN QUES-

‘

-37-

TION ARE CURRENTLY PATRONIZING WEST CEN-

TRAL WITHIN THE MEANING OF SECTION 521 OF

THE INTERNAL REVENUE CODE.

Rev. Rul. 73-248, 1973-1 C.B. 295 in-

terprets the “substantially all" language

of I.R.C. §521(b)(2) to mean 85% of the

voting stock must be owned by producers.

It should be noted that the highest per-

centage previously found by a court not to

constitute “substantially all" was 78% in

Cooperative Grain & Supply Co. v. Comnis-

Sioner, 32 T.C.M. (CCH) 795 (1973). But

even assuming the validity of kev. Rul.

73-248, and measuring current patronage on

a twelve month basis coinciding with West

Central's 1974 tax year as the Trial Court

and Eighth Circuit would require, West

Central Cooperative is only 36 producers

short of satisfying the 85% test so strin-

gently applied. And there were 39 share-

holder-patrons not presently counted as

active patrons who were storing grain with

-38-

West Central Cooperative during its entire

tax year 1974.

At both the Trial and Appellate Court

levels, West Central has argued that mem-

bers storing grain with West Central are

actively and currently doing business with

West Central, and meet the “current pa-

tronage" requirement of Cooperative Grain

& Supply Co.. It is unclear whether the

Eighth Circuit panel decided whether

storing grain was "Current patronage" or

not. The panel disposed of the issue by

indicating that the "language at 26 U.S.C.

Section 521(b)(2) is clear and storing

grain with the cooperative is not market-

ing or purchasing through a cooperative."

West Central respectfully asserts that in

such disposition the Eighth Circuit has

failed to answer the issue before the

court (whether storage constitutes doing

business on a current basis), and incor-

rectly decided an issue not argued (wheth-

= 39-

er storage constitutes marketing or pur-

chasing).

Permissable activities included in

“marketing or purchasing" are important

because not all farmer cooperatives can be

exempt from taxation under I.R.C. §521.

It is only those farmers' cooperatives

Organized and operated for the purpose of

marketing the products of members or other

producers, or for the purpose of purchas:

ing supplies and equipment for the use of

members or other persons that will be

considered to be .exempt. .R.C.

§521(b) (1). Contrary to what the 8th

Circuit evidently believes, the terms

“Marketing or purchasing" within I.R.C.

§521 are not so narrowly defined as being

limited to solely the passage of title and

contemporaneous payment for goods. The

Eighth Circuit determination is directly

contrary to the IRS position. "Revenue

Ruling 66-108, 1966-1 C.B. 154, defines

-40-

the erm "marketing" as used in Section

521 of the Code to include not only the

sale of farm products by farmers' coopera-

tive for its patrons but other activities

necessary to the sale of such products.

This definition is broad enough to include

all activities which are an integral part

of the marketing function. Therefore, a

cooperative may be exempt under Section

521 of the Code without actually handling

the sale of a product." Rev. Rul. 67-430,

1967-2 C.B. 220 (Emphasis added) (Found

the formation of a cooperative to furnish

facilities for a farmers' market to quali-

fy the cooperative for tax exempt status

under Section 521). In describing the

activities encompassed under the "market-

"

ing" definition under Section 521, the

Exempt Organization Handbook of the In-

ternal Revenue Service at Chapter 44 (Item

32) states that "the marketing process

includes activities such as processing,

fc zZETclU aC ceaerllClCcerrlhlC CCOClC COCOUlClC Cl COUlClC Cll MO CO

-4]-

packing, crating, shipping, storing, man-

ufacturing, etc., when necessary in mar-

keting agricultural products." (Emphasis

added). A cooperative organized to buy or

lease grazing land to apportion to its

members for grazing their livestock was

found to be furnishing its members "“sup-

plies" within the meaning of Section 521.

Rev. Rul. 67-429, 1967-2 C.B. 218. All of

the foregoing indicate that in order to

qualify as an exempt cooperative an as-

sociation does not need actually to be

taking title to products of its members.

The Eighth Circuit determination is con-

trary to all recognized decisions on the

issue. See Pomeroy Cooperative Grain Co.

v. Commissioner, 288 F.2d 326,329 (8th Cir.

1961) (Storage income allocated in pa-

tronage dividends); Treasure Valley Po-

tato Bargaining Ass'n _v. Ore-Ida Foods,

Inc., 497 F.2d 203,215 (9th Cir. 1974) and

Farmers Cooperative Creamery Ass'n of

=42-

Cresco, Iowa v. United States, 81-1 U.S.

Tax Cas. (CCH) 49457 (1981) at 87,322 (the

term "marketing" far broader than the word

"sell", definition of "marketing" in-

cludes the aggregate of functions involved

in transferring title and in moving goods

from producer to consumer, listing among

others “storing").

At the risk of being redundant, West

Central would wish to explain exactly what

the recognized law was prior to the de-

cision by the Eighth Circuit case with

respect to what was “marketing or pur-

chasing" within the meaning of Section

521. The foregoing authorities make it

guite clear that a cooperative could have

as its only business the storage of mem-

bers' grain, and qualify as an exempt

cooperative under Section 521. There is

no dispute that these 39 members did have

their grain being stored by West Central

Cooperative. These 39 members when added

|; aemeneeHekeeEsiEe’g#:sL.#itit #-:

o£ 4~

to the 2,418 members already found to be

actively patronizing West Central would be

enough for West Central to meet the stand-

ard imposed by the IRS in determining and

confirming substantially all of its stock

was held by producers. yet the Eighth

Circuit somehow found against West Central

on the storage issue. West Central would

respectfully pray that the Supreme Court

would not allow a decision to stand which

is in such conflict with recognized de-

cisions of other courts, and even contrary

to the position of the IRS.

It might make a difference if the

business being done by the shareholder-

patron with West Central was “incidental

income", which is income derived from

sources not directly related to the mar-

keting, purchasing, or service activities

of the cooperative association. Treas.

Reg. §1.522-2(d) (1958). Examples of in-

Cidental income are interest earned, in-

-44-

come from investments in securities, and

income from the sale or exchange of capi-

tal assets. (Id). These would all be

examples of income which could not serve

as a basis for a patronage refund or divi-

dend being paid, because such income was

not derived from business done with mem-

bers.

Income received from members for

storing their grain is not “incidental

income". Patronage dividends can be sepa-

rately paid on storage charges. Rev. Rul.

99-107, 1959-1 C.B. 20. If a cooperative

can pay "patronage dividends" on storing

grain, it certainly constitutes "current

patronage" or doing business with the co-

operative during the time the members are

storing the grain with the cooperative.

For West Central the margins or profits

earned from storage income are combined

with the margins or profits earned upon

the sale of grain, with a patronage re-

=-45-

fund, if any, being a combination of the

two margins or profits. West Central's

treatment reinforces more so the fact that

storing grain is an integral part of the

marketing function of cooperatives.

"Where the taxpayer's grain business 1s an

integrated business, that is, the same

storage and facilities are used by the

taxpayer in its marketing and storage fa-

cilites, and patrons are credited with the

number of bushels of grain delivered with-

out regard to whether they are for sale or

for storage, the storage and marketing

activities may be treated as a unit." Rev.

Rul. 63-58, 1963-1 C.B. 109. See Pomeroy

Cooperative Grain Co. v. Commissioner,

Supra. Storing grain most certainly con-

Stitutes "current business" with the co-

operative for purposes of the Cooperative

Grain & Supply Co. test and Section 521.

It is most important to remember again

that the "current patronage" requirement

-46-

is not and should not be in terms of

whether or not a patron receives a "pa-

tronage dividend or refund" for his busi-

ness with the cooperative, which may have

been what is confusing the Eighth Circuit

panel. The purpose of a cooperative is to

increase the bargaining position of its

individual patron-members, resulting in

decreased costs of inputs and increased

prices for commodities sold. Whether a

cooperative can declare a patronage divi-

dend or refund is Cependent upon whether

the cooperative earns margins for a par-

ticular year, that being simply receipts

in excess of its expenditures. That co-

operatives quite often are facing opera-

ting losses in the Midwest in these trou-

bled agricultural times most certainly

does not mean that they are not fulfilling

the purpose for their formation.

The “current patronage" requirement of

Cooperative Grain & Supply Co. is nothing

~47

more than a requirement that shareholder-

patrons need be doing business with a

cooperative. In reviewing the current

patronage requirement imposed by Coopera-

tive Grain & Supply Co., the IRS deter-

mined that “it 1s the position of the

service that current patronage means a

continuing ongoing relationship between

the producer and the cooperative." Rev.

Proc. 73-39, Supra. The 39 people storing

grain with West Central during the tax

year in question most certainly had a

continuing and ongoing relationship with

West Central. How can West Central go to

one of its members who has grain stored

with it, and teli them that they are not

"doing business currently" with the co-

operative, and that West Central will have

to redeem their stock, so that they have no

voice inthe policies of West Central,

even though they presently have grain

stored with West Central?

=49-

Shareholder-patrons storing grain with

West Central allay the rightful concerns

expressed by the Cooperative Grain & Sup-

ply Co. case in requiring current patron-

age to make cectain that substantially all

of the stock of the cooperative was held by

shareholders using the cooperative to

produce, rather than looking at the coop-

erative as an investment. Storing grain

constitutes current patronage. It con-

Stitutes active business. Convincing

testimony was offered at trial to refute

the “straw man argument" that there is no

way Of knowing whether the person storing

the grain and holding the warehouse re-

ceipt later sold the grain to West Cen-

tral. If the tax exempt status of West

Central Cooperative hinges on whecher the

39 persons who had grain stored with West

Central in 1974 as evidenced by their

warehouse receipts ended up selling such

grain to West Central, then West Central

— eee ee

-49-

would respectfully request remand of the

case to district court for an opportunity

to put into evidence that every bushel of

grain on warehouse receipt by such 39

members was subsequently sold by these

same 39 members to West Central Coopera-

tive.

West Central fully appreciates the

burdens being placed upon and the time

constraints of the Supreme Court. But,

our legai system was designed with the

hope of dispensing justice. Justice has

not been accorded West Central Cooperative

Or its members in this case. We believe

that the members of this Court could not

feel right in permitting the lower courts'

decisions to stand.

CONCLUSION

West Central was told by the IRS audi-

tor performing the examination which re-

sulted in revoking its exempt status that

the method by which the IRS measured com-

-50-

pliance with the current patronage rule

wasn't a very sensible rule, but it was

"the law". West Central was told by the

Supervisor of exempt organizations for the

IRS that a period of several years would be

a better gauge than twelve months in de-

termining who is a current producer. West

Central has been told that unfortunately

for it "the law" has not kept pace with the

modern farming and cooperative practices

of its members and itself, and that was the

reason why West Central was finding it

difficult to comply with the IRS audit and

examination. This is not the case.

The "current patronage" requirement

imposed by the Eighth Circuit in the Co-

Operative Grain & Supply Co. case is not

found in the statute itself. But, West

Central had no quarrel with the Eighth

Circuit when it added that requirement,

because it believes as well that a co-

operative should be controlled by the mem-

aw ae Trl TrTrllCUETrThlCUCUMOECUC OC TC TCU DCChCUCUTlCUR

=-5j]<

bers it currently serves. But the de-

cision of the Eighth Circuit now has im-

posed a standard which squares neither

with the statute nor its intent. How can

it be said that there is concern for the

holding of stock by a member because he has

abandoned the cooperative, and thinks like

an investor, when he is currently storing

grain with the cooperative as a user?

Unless reviewed, the Eighth Circuit

will be allowed to have taken six months to

enter a per curium decision, reciting

therein conclusions without analysis,

leaving issues undecided, and making de-

terminations which fly in the face of its

Own previous cases and those of other

Circuits, and end up taking a position

which cannot even be squared with those

espoused by the IRS.

A party before a tribunal cannot expect

the judge or court to always be right.

But, the party should have the right to

~-§2<

feel that the judges and the courts will

listen to the issues before them, and

before entering a decision understand the

issues and the impact upon the parties of

their decisions. The party should have

the right to a degree of consideration and

logic in the entering of judgment. West

Central was not afforded that right in

this case.

Respectfully submitted,

WEST CENTRAL COOPERATIVE,

Petitioners

WILCOX, POLKING, GERKEN

& SCHWARZKOPF, P.C.

By

Thomas W. Polking

200 Lincoln Buildin

Jefferson, Iowa 50129

(515) 386-3158

Counsel for Petitioners

o§3-

APPENDIX A

United States Court of Appeals

FOR THE EIGHTH CIRCUIT

No. 84-1289

West Central *

Cooperative, °

* Appeal from the

Appellant, * United States

* District Court

Vv. * for the Northern

* District of Iowa

United States, =

*

Appellee. a

_

Submitted: October 10, 1984

Filed: April 1, 1985

Before LAY, Chief Judge, ROSS and

McMILLIAN, Circuit Judges.

PER CURIAM.

West Central Cooperative (taxpayer)

appeals from a final judgment entered in

the District Court! for the Northern Dis-

IThe Honorable Edward J. McManus, Chief Judge,

United States District Court for the Northern

District of Iowa.

-54-

trict of Iowa denying taxpayer's petition

seeking a refund of additional taxes as-

sessed because of the withdrawal of tax-

payer's exemption as a farmers‘ coopera-

tive pursuant to 26 U.S.C. § 521(b) (2)

(1982). For reversal taxpayer argues that

the district court erred in (1) holding

that the percentage of taxpayer's voting

stock held by producers did not constitute

"substantially all" within the meaning of

26 U.S.C. § 521(b) (2), (2) imposing an

annual patronage test in determining

whether substantially all voting stock was

owned by participating producers, (3) not

including as participatiny members those

who merely stored grain in taxpayer's

storage facilities, and (4) approving

retroactive revocation of taxpayer's ex-

emption. For the reasons discussed below,

we affirm.

The basic fact in the present case are

not in dispute. Taxpayer is a capital

-55-

stock marketing and purchasing farmers'

cooperative organization with its princi-

pal place of business in Ralston, Carroll

County, Iowa. Taxpayer purchases grain

from its members and sells it to grain

buyers on the open market. Taxpayer also

purchases farm supplies such as livestock

feed, fertilizer, pesticides, and seed to

resell to its members. In addition, tax-

payer owns and operates grain storage fa-

cilities as a federally licensed ware-

house.

Taxpayer issued voting common stock

limited to one share per member. Share-

holder could earn patronage dividends

based on the quantity of goods that the

shareholder sells through or purchases

from the cooperative in a given year.

Dividends are not distributed on the basis

of the collective success of the coopera-

tive and only participating members who

market their products through or purchase

-56-

Supplies from the cooperative in a year

are entitled to a dividend. As of January

31, 1974, the last day of the taxpayer's

fiscal year, taxpayer had 2,887 shares of

voting common stock outstanding. Accord-

ing to taxpayer's records, 83.75% of the

stockholders were producers who marketed

some of their products through or pur-

chased Suppiies from taxpayer and thus

were eligible to receive patronav® divi-

dends.

In May 1958 the Internal Revenue Ser-

vice (IRS) issued a letter recognizing

that the taxpayer was an exempt farmers'

cooperative pursuant to 26 U.S.C. § 521.

After an audit of taxpayer's 1974 fiscal

year, the IRS determined that substan-

tially all of taxpayer's common stock was

not owned by producers who marketed

through and purchased from the taxpayer.

Therefore, on January 23, 1978, the IRS

-57-

withdrew taxpayer'* tax exemption ruling,

effective for its 1974 fiscal year and all

subsequent years. Taxpayer was assessed

$57,459.00 for additional income taxes,

including interest and penalty, all of

which taxpayer has paid. Taxpayer's claim

for a refund was denied by the Commis-

sioner; thereupon taxpayer instituted

this refund suit against the government.

In pertinent part 26 U.S.C. § 521(b) (2)

provides that an "{e]xemption shall not be

denied any such association because it has

Capital stock . . . if substantially all

such stock . .. is owned by producers who

market their products or purchase their

supplies and equipment through the as-

sociation." The district court correctly

noted that special tax exemptions are to

be strictly construed against the tax-

payer. West Central Cooperative v. United

States, No. 1C 81-3029, slip op. at 3 (N.D.

Iowa Dec. 21, 1983), citing Helvering v.

-58-

Northwest Steel Rolling Mills, Inc., 3ll

U.S. 46 (1940). Accord Land O'Lakes, Inc.

v. United States, 514 F.2d 134, 139 (8th

Cir.), cert. denied, 423 U.S. 926 (1975).

Taxpayer argues that the district court

erred in holding that substantially all of

taxpayer's stock was not owned by pro-

ducers who marketed or purchased through

the cooperative. Rev. Rul. 73-248, 1973-

2 C.B. 295 requires that at least 85% of

capital stock must be held by producers

before the "substantially all" test of 26

U.S.C. § 521(b) (2) can be satisfied. The

district court held that "Rev. Rul. 73-

248, 1973-2 C.B. 295 . . . is reasonable

and in keeping with the congressional man-

date embodied in the language of §

521(b)(2)." West Central Cooperative v.

United States, slip op. at 5 (footnote

omitted). We agree with the district

court's conclusion that Rev. Ruling 73-248

reasonably interprets the "substantially

-59-

all" requirement and therefore, based on

the 85% test, taxpayer did not qualify for

the exemption.

Taxpayer also argues that the district

court erred in imposing an annual patron-

age test in determining whether voting

stock of a taxpayer was owned by pro-

ducers.

This court held that “substantially all

of the shareholder-producers are required

to market their products and purchase

their supplies through the taxpayer on a

current basis." Cooperative Grain & Sup-

ply Co. v. Commissioner, 407 F.2d 1158,

1164 (8th Cir. 1969). On remand the Tax

Court interpreted this to mean “actual

yearly participation." Cooperative Grain

& Supply Co. v. Commissioner, 32 T.C.M.

(CCH) 795, 798 (1973). Accordingly, in

the present case the district court held

that taxpayer "failed to prove by a pre-

ponderance of the evidence that substan-

-§0-

tially all of its voting stock was owned by

producers who marketed their products or

purchased their supplies and equipment

through the cooperative on a current ba-

sis." West Central Cooperative v. United

States, slip op. at 3 (footnote omitted).

Because tax exemptions must be narrowly

construed, it is reasonable and consistent

with the general scheme of the Internal

Revenue Code to assess annually the tax-

payer's compliance with the terms of the

exemptions.

Taxpayer also argues that the district

court erred in not including as partici-

pating members those who merely stored

grain in taxpayer's storage facilities but

marketed no products nor purchased any

supplies from the taxpayer. Relying on

the unequivocal language in Co-operative

Grain & Supply Co. v. Commissioner, 407

F.2d at 1162, the district court did not

include as producers those who only stored

~ te

grain with the taxpayer. West Central

Cooperative v. United States, slip op. at

3-4 n.2. We agree that the language of 26

U.S.C. § 521(b)(2) is clear and storing

grain with a cooperative is not marketing

Or purchasing through a cooperative.

Finally, -taxpayer argues that the dis-

trict court erred in finding that retro-

active revocation of taxpayer's exemption

was not an abuse of discretion. Pursuant

to 26 U.S.C. § 7805(b), the Commissioner

has the power to revoke retroactively an

exemption ruling. Absent an abuse of

discretion, the Commissioner's determina-

tion will not be overturned. See Stevens

Bros. Foundation, Inc. v. Commissioner,

324 F.2d 633, 641 (8th Cir. 1963), cert.

denied, 376 U.S. 969 (1964). The district

court correctly determined that taxpayer

failed to prove that retroactive revo-

cation in the present case was an abuse of

discretion. Furthermore, publication of

a

-62-

Rev. Rul. 73-248 provided taxpayer with

sufficient notice that 85% patronage was

necessary to comply with 26 U.S.C. §

§21(b) (2).

We have carefully examined the record

and find no error of law or fact on the part

of the district court. Accordingly, we

affirm on the basis of the district

court's opinion. See 8th Cir. R. 14.

A true copy.

ATTEST:

CLERK, U.S. COURT OF APPEALS,

EIGHTH CIRCUIT

inna a EBgBeBeBa BeBe ERE Eee ee

-§3-

APPENDIX B

122183PB

IN THE UNITED STATES DISTRICT COURT

FOR THE NORTHERN DISTRICT OF IOWA

CENTRAL DIVISION

WEST CENTRAL

COOPERATIVE,

Plaintiff,

Vs.

UNITED STATES

OF AMERICA,

Defendant.

This action for refund of income taxes

and interest was tried to the court on July

18, 1983. All proposed findings of fact

and conclusions of law have been received

and considered along with the entire rec-

Ord and the court now makes the following:

FINDINGS OF FACT

1. Plaintiff is a capital stock mar-

keting and purchasing farmers' coopera-

tive organization with its principal place

of business in Ralston, Carroll County,

=¢4-

Iowa.

2. At all times material plaintiff was

a fiscal year taxpayer engaged in the

purchase of grain, including corn and

beans, from its members and sale to grain

buyers. It also purchases farm supplies

such as livestock feed, fertilizer, her-

bicides, pesticides, and seed which it

sells to its members. Plaintiff owns and

operates grain storage facilities as a

federally licensed warehouse under 7 USC §

241.

Se Prior to its fiscal year ending

January 31, 1974 (FY 74), the Internal

Revenue Service (IRS) recognized plain-

tiff as an exempt farmers' cooperative

under 26 USC 521(b) (2).

4. During FY 74 plaintiff had out-

standing 2,887Y shares of voting common

stock limited to one share per member.

1/ Duplicate accounts for 2? members have been

deleted.

-65-

5. During said fiscal year 2,418 mem-

bers or 83.75% of the holders of plain-

tiff's voting stock were producers who

marketed some of their products or pur-

chased some of their supplies and equip-

ment through plaintiff.

6. Prior to FY 74, plaintiff had the

Capability and did in fact review its

membership's business activity on an an-

nual basis. However, during FY 74 it

failed to review the business activity of

its members to determine current patron-

age.

7. On January 23, 1978, plaintiff's

tax exemption under 26 USC 521(b)(2) for

FY 74 was withdrawn by IRS. In 1978 and

early 1979, defendant assessed the plain-

tiff for additional income taxes for FY 74

in the total amount of $57,459.00, in-

Cluding interest and penalty which has

been paid. More than six months have

passed since plaintiff filed a valid and

~$65~—

timely claim for refund.

CONCLUSIONS OF LAW

1. The court has jurisdittion of the

parties and the subject matter pursuant to

28 USC 1346(a)(1) and 26 USC 7422(a).

2. In an action for refund of income

taxes, the burden is on the taxpayer to

prove that the assessment is wrong and the

amount he is entitled to recover. Lewis v.

Reynolds, 284 U.S. 281 (1932). It is not

enough for the taxpayer to demonstrate

that the assessment of tax for which re-

fund is sought is erroneous in some re-

spects. United States v. Janis, 428 U.S.

433, 440 (1976).

3. Special tax exemptions are to be

strictly construed against the taxpayer.

Helvering v. Nwrthwest Steel Rolling

Mills, Inc., 311 U.S. 46 (1940); Luehr-

mann's Estate v. Commissioner of Internal

Revenue, 287 F.2d 10 (8th Cir. 1961).

4. The provisions of 26 USC 521 impose

-6 7y-

strict requirements on cooperatives which

must be satisfied in order for the co-

operative to qualify for tax exemption.

Farmers Union Co-op of Guide Rock v. Com-

missioner of Internal Revenue, 90 F.2d

488, 493 (8th Cir. 1937); Producers Cream-

ery Co. v. United States, 55 F.2d 104, 106

(Sth Circ. 1932).

5. Plaintiff has failed to prove by a

preponderance of the evidence that sub-

stantially all of its voting stock was

owned by producers who marketed theiz

products or purchased their supplies and

equipment through the cooperative on a

2/

current basis.- 26 USC 521(b) (2); Co-

2/

Here and in connection with Finding of Fact

No. 5 supa, since plaintiff claims that the 50%

of production or purchases standard required by

Rev. Proc. 73-39, 1973-1 C.B. 502 is unreasonable,

the court has included in the number of active

members any shareholder-producer that did "some"

business with plaintiff during FY 74. In ad-

dition, the court has included those members doing

business through an agent and those members who

=¢6-

were precluded from current patronage by sick-

ness, disability or death. This determination is

in keeping with the exceptions to the current

patronage requirement recognized by the Eighth

Circuit in Cooperative Grain & Supply Co. v.

Commissioner of Internal Revenue, 407 F.2d 1158,

1164 (8th Cir. 1969) and subsequently applied by

the Tax Court in Cooperative Grain & Supply Co. v.

Commissioner, 32 TCM (CCH) 795 (1973) on remand.

The court has not included those members who

sold no grain; stored their grain on farm; stored

their grain with plaintiff; or fed all their grain

based on the following rationale from the Eighth

Circuit:

[3] The pertinent part of the statute

under consideration recites in plain and

unequivocal language that substantially all

of the voting stock must be owned by pro-

ducers "who market their products or pur-

chase their supplies and equipment through

the association." There are no exceptions,

as we read the crucial phrase we are unable

to discern any intent on the part of Congress

to grant a cooperative exempt status if its

stockholding producers market their products

or purchase their supplies through the as-

sociation only at such times as the producers

may determine that it is expedient for them

to do so. If Congress had not intended to

impose a _ patronage requirement upon the

stockholder-producers there would have been

no reason to include in the statute the

language under scrutiny. Congress in the

enactment of a statute is presumed to have

used no superfluous words. Tabor v. Ulloa,

323 F.2d 823 (9th Cir. 1963); Born v. Allen,

110 U.S.App.D.C. 217, 291 F.2d 345 (1960).

Cooperative Grain & Supply Co., 407 F.2d at

1162.

-£6-

operative Grain & Supply Co. v. Commis-

sioner of Internal Revenue, 407 F.2d 1158,

1164 (8th Cir. 1969); Cooperative Grain &

Supply Co. v. Commissioner, 32 TCM (CCE)

795, 798 (1973).

6. Rev. Rul. 73-248, 1973-2 C.B. 295

requiring that at least 85% or more con-

stitutes "substantially all" of a cooper-

ative's voting stock is reasonable and in

keeping with the congressional mandate

embodied in the language of § 521(b) (2) 2

2/ (Cont'd)

i Nor has the court included those members who

did business with plaintiff in six out of seven

years. This argument was previously raised before

the Tax Court and rejected on the following basic:

A mere continuing business’~ relationship

without the actual yearly participation is

not a sufficient basis upon which to find

current shareholder participation of busi-

ness with a cooperative. Cooperative Grain &

Supply Co., 32 TCM (CCH) at 798.

3/

Rev. Rul. 73-248, the 85% requirement, was

promulgated in light of various court opinions

interpreting the “substantially all" language of

§ 521(b)(2). The lowest amount held by a court to

constitute substantially all is 91%. Farmers

Cooperative Creamery v. Commissioner, 21 BTA 265

=-70=

United States v. Correll, 389 U.S. 299,

307 (1967).

7. Defendant's retroactive revocation

of plaintiff's exemption was not an abuse

of @iscretion. Stevens Bros. Foundation,

Inc. v. Commissioner of Internal Revenue,

324 F.2d 633, 641 (8th Cir. 1963), citing

Automobile Club of Mich. v. Commissioner,

353 U.S. 180 (1957).

It is therefore

ORDERED

Dismissed.

December 21, 1983.

Edward J. McManus, Chief

Judge

UNITED STATES DISTRICT

COURT

3/ (Cont'd)

(1930). The highest percentage held not to

constitute substantially all is 78%. Cooperative

Grain & Supply Co. v. Commissioner, 32 TCM (CCH)

795 (1973). It appears necessary for the Service

to establish some guidelines and the 85% standard

is a reasonable construction of the phrase.

| tt tia aHienmtEHiethenheeéil «= #

«Fin

JUDGMENT ON DECISION BY THE COURT

United States District Court

for the

NORTHERN DISTRICT OF IOWA

CENTRAL DIVISION

WEST CENTRAL Civil Action

COOPERATIVE, Docket No.

1c 81-3029

Plaintiff,

vs.

JUDGMENT

UNITED STATES

OF AMERICA,

Defendant.

This action came on for trial before

the Court, United States District Judge

Edward J. McManus presiding. The issues

having been duly tried and a decision

having been duly rendered, it is ordered

and adjudged that the plaintiff take noth-

ing, that the action be dismissed on the

merits and that the defendant, United

States of America, recover of the plain-

tiff, West Central Cooperative, its costs

of action.

=F2=

Dated at Cedar Rapids, Iowa

Date: December 21, 1983

Chief Deputy Clerk

of Court

=F3-

APPENDIX C

United States Court of Appeals

FOR THE EIGHTH CIRCUIT

No. 84-1209-NI September Term,

1984

WEST CENTRAL

COOPERATIVE,

Appeal from the

Appellant, United States

vs. the Northern

District of Iowa

+

*

*

*

*

*

* District Court for

*

*

UNITED STATES, .

*

*

*

Appellee.

Appellant's petition for rehearing en

banc has been considered by the Court and

is denied.

Petition for rehearing by the panel is

also denied.

May 16, 1985

)

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7

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z

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3