Cooperative may obtain patron consent electronically

Plain-English summary

An agricultural cooperative planned to replace paper patronage-consent forms with an online application. A patron would enter identifying information, choose either consent or waiver, type a name, and submit the form electronically, while the system would reject incomplete applications and compare submitted information with existing records. The cooperative would permanently retain the electronic form with the patron’s account. The IRS ruled that this process produces a valid “consent in writing” under IRC § 1388(c)(2)(A). Electronic transmission and signature did not prevent the form from being a written document when its terms were clearly disclosed and the patron intentionally submitted it.

Ruling snapshot

• Question: Does the cooperative’s online application create a valid written patron consent for qualified written notices of allocation?
• Outcome: Approved
• Key authorities: IRC §§ 1385 and 1388(c); Treas. Reg. § 1.1388-1(c)(3)(i)

Full text (IRS public release)

Internal Revenue Service                                       Department of the Treasury
                                                               Washington, DC 20224

Number: 201619003                                              Third Party Communication: None
Release Date: 5/6/2016                                         Date of Communication: Not Applicable
Index Numbers: 1382.00-00
                                                               Person To Contact:
------------------                                             ---------------------------, ID No. ---------------
------------------------------------------------------------   -----------------
------------                                                   Telephone Number:
------------                                                   --------------------
-----------------------                                        Refer Reply To:
---------------------------------------------------            CC:PSI:B05
                                                               PLR-127635-15
                                                               Date:
                                                               February 10, 2016




LEGEND:

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

State A                             =        -------------


Dear             :

       This in response to a request for rulings dated August 17, 2015, submitted by
your authorized representative. The ruling requests guidance under subchapter T of the
Internal Revenue Code with respect to the process that Taxpayer uses to obtain written
consent from its patrons.

      Taxpayer is a farmers’ cooperative association organized under State A
Cooperative Law. Taxpayer files a consolidated federal income tax return on Form
1120-C, U.S. Income Tax Return for Cooperative Associations, on the basis of a fiscal
year. Taxpayer’s overall method of accounting for federal income tax purposes is the
accrual basis.

         Taxpayer is one of the nation’s leading integrated agricultural companies. It
operates as a grain marketing and agricultural supply cooperative. It also provides its
members with a variety of services. The members of Taxpayer include approximately --
--------local farm supply and grain marketing cooperatives and over ---------farmers and
ranchers.
PLR-127635-15                                2


       Taxpayer sells a broad range of farm supplies – including energy products (such
as diesel fuel, propane, heating oil, and gasoline), crop nutrients, crop protection
products and livestock feed – to its local farm supply cooperative members, and they in
turn sell those products to their farmer and rancher members. Taxpayer also sells farm
supplies directly to farmer and rancher members.

        In addition, Taxpayer markets grain for its farmer and local grain marketing
cooperative members. The principal grains marketed include wheat, corn and
soybeans. Taxpayer also markets barley, milo, sunflowers, oats, canola, flax, rye and
millet. Some of the grain Taxpayer markets is processed by Taxpayer and joint
ventures in which Taxpayer participates and sold in the form of value-added food, food
ingredients and other grain products.

      Taxpayer pays patronage dividends to members. Taxpayer generally does not
pay patronage dividends to nonmembers, but Taxpayer’s Bylaws provide that a
nonmember can be eligible to share in patronage dividends if Taxpayer agrees to
conduct business with the nonmember on a patronage basis. Taxpayer has
agreements to conduct business with a few nonmembers on a patronage basis, but
most nonmembers do not share in patronage dividends. Taxpayer refers to member
and nonmembers who are eligible to share in patronage dividends as “patrons.”

       Taxpayer currently obtains a written consent from each patron (whether a
member or nonmember) as that person is entered into Taxpayer’s system as an
individual or entity eligible to receive patronage dividends. The process of entering a
member or nonmember into Taxpayer’s system as an individual or entity eligible to
receive patronage dividends is referred to as the “patronage eligibility process.”

       Currently, as the first step of the patronage eligibility process, an applicant is
provided with a paper copy of a Patronage Application and Eligibility Form. All new
members are provided with this form. Applicants must complete, sign and date that
form and return it to Taxpayer. Taxpayer reviews applications to confirm that they are
complete and that the data entered on the form is consistent with the information that
Taxpayer already has related to the applicant. If there are inconsistencies or the form is
not complete, Taxpayer contacts the applicant to remedy the deficiencies. If the form is
consistent and complete, Taxpayer places the applicant on its patronage eligibility rolls.

       The paper forms are retained as part of Taxpayer’s permanent records. In
addition, copies of the forms are included in Taxpayer’s electronic records. They are
associated with other information that Taxpayer retains with respect to each patron.

       The Patronage Application and Eligibility Form asks applicants either to check a
box for a written consent or to check a box to waive any patronage dividends the
applicant may earn. Almost all applicants check the box for the consent, though a few
waive their patronage dividends. If one of these boxes is not checked, the application
PLR-127635-15                                  3


form is not processed. The back of the form contains a copy of the consent provisions
from Taxpayer’s Bylaws as well as a statement of their significance.

        Taxpayer is going through the process of designing and installing an enterprise
resource planning system with the assistance of SAP. Taxpayer’s project is a
company-wide business transformation to standardize global processes within an
integrated, enterprise-wide system. By reducing complexity and cost and simplifying
business processes, Taxpayer will be able to deliver better information and business
intelligence to drive efficiencies and ultimately add more value for Taxpayer, its owners
and customers.

       As part of this, Taxpayer plans to change its patronage eligibility process. The
following changes are contemplated. The new patronage eligibility process is referred
to as the “new process” by Taxpayer.

        As an initial step in the process, the Patronage Application and Eligibility Form
will be made available on-line at the Taxpayer website so persons interested in applying
will be able to print the form, complete it, and mail a copy of the completed form to
Taxpayer just as they currently do. It is anticipated that this change will be implemented
in 2015. The form also will be available in paper just as it is today.

      As a second step in the process, Taxpayer plans to roll-out a Patronage
Application and Eligibility Form that can be filled in by an applicant on-line and then be
submitted to Taxpayer by clicking on a box.

       Taxpayer anticipates that the on-line form will look much like the Patronage
Application and Eligibility Form currently used by Taxpayer. The applicant will be
required to complete the application by typing in such information as the applicant’s
name, mailing address, e-mail address, telephone number and social security or
employer identification number. The applicant will be asked to click on a box identifying
what type of entity it is, or, if it is an individual, whether it is an agricultural producer.

       The applicant will be given the choice of checking either a box that contains a
written consent or a box that contains a waiver of any patronage dividends that it might
earn. The box with the written consent will provide:

       CONSENT – By checking this box, entering my typed name below, and
       submitting this form, I consent to include in my gross income for federal
       income tax purposes in the year of receipt in the manner provided in
       Section 1385(a) of the Internal Revenue Code the stated dollar amount of
       each written notice of allocation which I receive from [Taxpayer] and its
       successors with respect to my patronage occurring during the current and
       all subsequent taxable years. This consent does not apply to any written
       notices of allocation labeled “nonqualified.” Under Section 1385(b),
PLR-127635-15                                  4


       written notices of allocation attributable to personal, living or family items
       and those properly taken into account as an adjustment to basis of
       property need not be included in gross income. This written consent shall
       be revocable by me in writing at any time. I also acknowledge receipt of
       the [Taxpayer] Consent Bylaw and Statement of Significance set forth
       below, which provide additional information about my consent.

        According to Taxpayer, the applicant will be required to date the application and
to type in his or her name on the signature line. The applicant will then be able to
submit the completed form to Taxpayer over the internet by clicking a box. If the
applicant desires to retain a paper copy of the application, the applicant will be able to
print the screen prior to submitting the completed form.

       When Taxpayer receives the completed form, Taxpayer’s system will generate
an automatic reply thanking the applicant for the application and telling the applicant
that he or she will be contacted if Taxpayer has any problems with the application. The
system will record the date that each application is received. That date will become a
permanent part of the application retained in Taxpayer’s records.

        Taxpayer will review and process the applications it receives as it has in the past,
though certain parts of the review may be automated. It is anticipated that the system
will not permit the applicant to submit the form unless the form is complete. So, for
instance, if the applicant does not check either the consent box or the waiver box or if
the applicant does not include a social security number or an employer identification
number, the applicant will not be able to submit the form. Because of this, Taxpayer will
no longer need to review applications to determine whether the information is complete.
However, Taxpayer will continue to review applications to determine whether the
information provided by the applicant is consistent with information already residing in
Taxpayer’s system regarding the applicant. If there are inconsistencies, Taxpayer will
contact the applicant to remedy them.

         If the application is consistent and complete, the applicant will be added to the list
of patrons eligible to receive patronage dividends. The Patronage Application and
Eligibility Forms will be retained as part of Taxpayer’s electronic records permanently so
long as the applicant remains a patron of Taxpayer. The form will be associated with
the patron’s account.

       Based on the forgoing, Taxpayer requests a ruling that a consent for a patron
that Taxpayer obtains electronically under the new process will be a valid “consent in
writing” of the patron within the meaning of section 1388(c)(2)(A) of the Code.

      Subchapter T cooperatives are permitted to exclude or deduct payments to
patrons that qualify as “patronage dividends” as that term is defined in section 1388(a)
PLR-127635-15                                  5


of the Code, provided the payments are made in the form and manner and within the
time period specified in subchapter T.

        Patronage dividends may be paid in cash, property, and written notices of
allocation. Section 1388(b) of the Code defines the term “written notice of allocation” as
any capital stock, revolving fund certificate, retain certificate, certificate of indebtedness,
letter of advice, or other written notice, which discloses to the recipient the stated dollar
amount allocated to him by the organization and the portion thereof, if any, which
constitutes a patronage dividend.

        Section 1.1388-1(b) of the Income Tax Regulations further provides that a mere
credit to the account of a patron on the books of the organization without disclosure to
the patron, is not a written notice of allocation. A written notice of allocation may
disclose to the patron the amount of the allocation which constitutes a patronage
dividend either as a dollar amount or as a percentage of the stated dollar amount of the
written notice of allocation.

        Section 1388(c)(1) of the Code provides, in part, that a “qualified written notice of
allocation” means (A) a written notice allocation which may be redeemed in cash at its
stated dollar amount at any time within a period beginning on the date such written of
allocation is paid and ending not earlier than 90 days from such date, but only if the
distributee receives written notice of the right of redemption at the time he receives such
written notice of allocation; and (B) a written notice of allocation which the distributee
has consented, in the manner provided in section 1388(c)(2), to take into account at its
stated dollar amount as provided in section 1385(a).

        Section 1388(c)(2) of the Code provides that a distributee shall consent to take a
written notice of allocation into account as provided in section 1388(c)(1)(B) only by (A)
making such consent in writing, (B) obtaining or retaining membership in the
organization after (i) such organization has adopted (after October 16, 1962) a bylaw
providing that membership in the organization constitutes such consent, and (ii) he has
received as written notification and copy of such bylaw, or (C) if neither section
1388(c)(2)(A) or section 1388(c)(2)(B) applies, endorsing and cashing a qualified check,
paid as part of the patronage dividend or payment of which such written notice of
allocation is also a part, on or before the 90th day after the close of the payment period
for the taxable year of the organization for which such patronage dividend or payment is
paid.

       Section 1388(c)(3)(A)(i) of the Code provides that a consent described in section
1388(c)(2)(A) shall be a consent with respect to all patronage of the distributee with the
organization occurring (determined with the application of section 1382(e)) during the
taxable year of the organization during which such consent is made and all subsequent
taxable years of the organization.
PLR-127635-15                                             6


       Section 1388(c)(3)(B)(i) of the Code provides that any consent described in
section 1388(c)(2)(A) may be revoked (in writing) by the distributee at any time.

        Section 1.1388-1(c)(3)(i) provides a distributee may consent to take the stated
dollar amount of written notices of allocation into account under section 1385 by signing
and furnishing a written consent to the cooperative organization. No special form is
required for the written consent so long as the document on which it is made clearly
discloses the terms of the consent. Thus, the written consent may be made on a signed
invoice, sales slip, delivery ticket, marketing agreement, or other document, on which
appears the appropriate consent.

        The Code does not specify how cooperatives should go about obtaining consent
in writing from patrons. The legislative history of subchapter T of the Code describes
consent in writing as follows:

         “In the case of nonmembers (and members if the cooperative prefers) this
         consent can be provided by the patron signing an agreement to do so.”1

         “An alternative form of consent for members of the cooperative, and the
         only form of consent for nonmembers, is a written statement signed by the
         patron in which he gives the consent referred to above. … By either of
         these forms of consent the patron has in effect constructively received the
         patronage dividend and reinvested it in the cooperative.”2

         “For the allocation to be a qualified allocation, 20 percent of the patronage
         dividend involved must be paid in money (or in a ‘qualified check’ referred
         to below). In addition, for the allocation to be qualified one of two other
         conditions must be met. The patron must either have the opportunity to
         take down the allocation in cash for a limited period of time, or, in one of
         three specified forms, must have given his consent to having the allocation
         treated as constructively distributed to him and reinvested by him in the
         cooperative.”3

       The rules under subchapter T of the Code were developed before the computer
age. At the time subchapter T was enacted, obtaining “consent in writing” involved a
patron physically signing a piece of paper that had on it an appropriate consent and
then handing (or mailing) the piece of paper to the cooperative. The cooperative then
retained the piece of paper in its permanent records to be produced and shown to the
Service upon request.



1
  H.R. Rep. No. 1447 (87th Cong., 2nd Sess.), 1962-3 C.B. 405, at 483.
2
  H.R. Rep. No. 1447 (87th Cong., 2nd Sess.), 1962-3 C.B. 405, at 485.
3
  S. Rep. 1881 (87th Cong., 2nd Sess.), 1962-3 C.B. 707, at 820.
PLR-127635-15                                 7


        Pursuant to § 1.1388-1(c)(3)(i), no special form is required for the written consent
so long as the document on which it is made clearly discloses the terms of the consent.
Consent can be made on a signed invoice, sales slip, delivery ticket, marketing
agreement, or other document, on which appears the appropriate consent. Taxpayer’s
new process for obtaining consent will involve patrons completing and submitting an on-
line form. This on-line form should be considered an “other document” within the
meaning of § 1.1388-1(c)(3)(i).

       A threshold question is whether consent obtained through completion of the
electronic form and transmission of that form over the internet to Taxpayer can qualify
as a consent “in writing” within the meaning of section 1388(c)(2)(A) of the Code. There
is no guidance interpreting what it means to obtain a consent “in writing” as that phrase
is used in this section of the Code.

       Transmitting written notices of allocation electronically does not change their
status as “written.” Generally, the term “written” is used to distinguish communications
that are made in writing from those that are made orally, by sign language, through
pictures, etc. For example, Black's Law Dictionary (Ninth Edition) defines “writing” as:

       “Any intentional recording of words that may be viewed or heard with or
       without mechanical aids. This includes hard-copy documents, electronic
       documents on computer media, audio and videotapes, e-mails, and any
       other media on which words can be recorded.”

        While there is no authority interpreting the term “written” as used in subchapter T,
there is considerable authority interpreting that word elsewhere in the Code. That
authority makes it clear that, when a written notice is transmitted by e-mail or some
other form of electronic communication, the notice does not lose its character as a
“written” notice. See e.g., the Circular 230 regulations provide specific rules related to
the provision of written advice by practitioners. The rules apply to any written advice,
including advice provided by means of electronic communication; and tax-exempt
organizations are required to provide certain information to the public, and to provide
copies of certain documents, such as an annual report, to any member of the public
submitting a written request for the document. Section 301.6401(d)-1(d)(2) provides
that requests in writing must be honored if “addressed to, and delivered by mail,
electronic mail, facsimile, or a private delivery service” to any office of the tax-exempt
organization.

       While subchapter T of the Code describes what must be contained in a written
notice of allocation, it does not specify any particular means for transmitting a written
notice of allocation to a member. Cooperatives historically have employed a variety of
delivery methods. Some bring members’ patronage dividends (including any written
notices of allocation) to the annual meeting and let members pick them up. Patronage
dividends that are not picked up are then mailed (or otherwise delivered) to members.
PLR-127635-15                                 8


Others have fieldmen make personal visits to hand deliver patronage dividends to
members. The most common means employed to transmit patronage dividends is the
U.S. mail. At one time, some cooperatives sent patronage dividends “special delivery.”
Today, some cooperatives use messenger systems such as Federal Express or UPS.

        Nothing in the Code or regulations precludes delivery of written notices of
allocation electronically. We agree with Taxpayer that this approach should be followed
in interpreting the language of subchapter T of the Code. Under the new process, the
written consent will not be signed in the traditional sense of having the patron physically
sign his or her name on a paper document. Rather, the consent will be an electronic
document which will be signed by having the patron type in his name and then transmit
the form to Taxpayer.

       In recent years, the treatment of electronic documents and signatures in
commerce has been addressed both on the national and on the state level by the
adoption of legislation which equates electronic documents with paper documents and
electronic signatures with physical signatures.

      According to Taxpayer, on the federal level, the relevant law is the Electronic
Signatures in Global and National Commerce Act, 15 U.S.C. 96 (Public Law 106-229,
adopted June 30, 2000) (the “Electronic Signatures Act”). Section 7001(a) of that Act
provides:

      “(a) In general

      Notwithstanding any statute, regulation, or other rule of law (other than this
      subchapter and subchapter II of this chapter), with respect to any
      transaction in or affecting interstate or foreign commerce –

      (1) a signature, contract, or other record relating to such transaction may
      not be denied legal effect, validity, or enforceability solely because it is in
      electronic form; and

      (2) a contract relating to such transaction may not be denied legal effect,
      validity, or enforceability solely because an electronic signature or
      electronic record was used in its formation.”

         For purposes of the Electronic Signature Act, the term “electronic
signature” is defined to mean an “electronic sound, symbol, or process, attached
to or logically associated with a contract or other record and executed or adopted
by a person with the intent to sign the record.” Section 7006(5).

       Taxpayer’s new process for obtaining “consent in writing” from patrons will result
in patrons “signing” the electronic document as that term is understood today. A patron
PLR-127635-15                                9


will be required to complete a Patronage Application and Eligibility Form online and then
to click to submit that form to Taxpayer. Completing the form will require the patron to
provide information, including the patron’s social security or employer identification
number, to check a box next to the consent, and to type in his or her name. As part of
the process, Taxpayer will compare the information on the Patronage Application and
Eligibility Form with information already on file with respect to the patron. As noted
earlier, if they do not match, Taxpayer will not accept the form. Such a process should
result in “consent in writing” as that term is used in section 1388(c)(2)(A) of the Code.

       Accordingly, based solely on the forgoing we rule that, a consent for a patron that
Taxpayer obtains electronically under the new process will be a valid “consent in
writing” of the patron within the meaning of section 1388(c)(2)(A) of the Code.

        No opinion is expressed or implied regarding the application of any other
provision in the Code or regulations. This ruling is directed only to the taxpayer that
requested it. Under section 6110(k)(3) of the Code it may not be used or cited as
precedent. In accordance with a power of attorney filed with the request, a copy of the
ruling is being sent to your authorized representative.



                                             Sincerely yours,



                                             Paul Handleman
                                             Chief, Branch 5
                                             Office of the Associate Chief Counsel
                                             (Passthroughs & Special Industries)