The Basics of Agricultural Cooperatives

Jan 20, 2020 | Agriculture

An agriculture cooperative (co-op) is a business entity formed specifically for agricultural purposes, through which members market, negotiate, purchase and sell collectively. In Idaho, there are many different kinds of co-ops, including marketing, bargaining, “new wave,” service, rural electric, telephone, and supply co-ops.

A co-op distributes the co-op’s profits in accordance with each member’s use of the co-op, acting essentially as an extension of its members’ farm or ranch businesses. The benefit for members lies in the power of collectively negotiating and marketing the larger group to achieve the highest possible price for commodities. Co-ops can purchase needed inputs at the lowest possible price, often lower than if prices were negotiated by a single member.

How can a co-op be created?

Co-op formation is similar to that of an S or C corporation. It must comply with your state’s cooperative laws, including filing articles of incorporation with the Secretary of State.

The first step toward co-op creation occurs when a group of agriculture producers come together and decide to operate collectively. The group of producers then typically form a steering committee by majority vote. The steering committee analyzes the market and other data, and a meeting is set to discuss the market data and develop a business plan. After the required legal incorporation documents are filed and bylaws are adopted and ratified, the members of the co-op elect the Board of Directors. Once the legal entity is formed, the co-op acquires capital and facilities and operations begin.

Many state and federal laws apply specifically to co-op operations. They include:

  • The Capper-Volstead Act exempts co-ops from antitrust restrictions if they comply with specific requirements of the Act.
  • The Cooperative Marketing Act allows co-ops to obtain past, present, and prospective data concerning market trends and pricing.
  • The Robinson-Patman Act prohibits price discrimination for commodities of “like grade or quality” that “may be substantially to lessen competition or tend to create a monopoly….”
  • The Agricultural Marketing Agreement Act authorizes the Secretary of Agriculture to enter into marketing agreements that “directly burden[ ], obstruct[ ], or affect[ ]” interstate or foreign commerce.
  • The Agricultural Fair Practices Act protects producers’ right to choose to sell their products themselves, or through a co-op.

In addition, because of their unique status, co-ops are granted certain tax deductions based upon the premise that profits belong to members and co-ops operate at cost. This allows a co-op to be treated as a pass-through entity similar to a partnership, with income tax only assessed on each member for their share of the co-op’s income. Federal tax law permits a co-op to elect to be treated as a tax exempt association under Internal Revenue Code § 521. If a co-op elects to be tax exempt, it is likely to have little taxable income. However, a nonexempt co-op that either does not elect to be tax exempt or otherwise does not qualify must be “operating on a cooperative basis” in order to receive co-op tax benefits. Since 1992, the IRS has considered seven factors to determine whether a nonexempt co-op is “operating on a cooperative basis” and can receive co-op tax benefits:

  • Subordination of capital;
  • Democratic control;
  • Operation at cost;
  • Joint effort;
  • Minimum number of patrons;
  • Limited business conducted with nonmembers; and
  • Liquidating distributions.

Co-ops are a unique and important tool for agricultural producers. Their operational and tax advantages allow their members to benefit from the negotiating and marketing power of a larger group. However, obtaining this benefit requires compliance with state and federal laws covering the formation and operation of co-ops.

This blog post is designed to provide general information on pertinent legal topics. The statements made are provided for educational purposes only. This blog does not provide legal advice. This blog does not create an attorney-client relationship between you and Smith + Malek, PLLC. If you want to create an attorney-client relationship and have specific questions regarding the application of the law to your own circumstances, you should contact our office.