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Rev. Rul. 84-81, 1984-1 CB 135

REV-RUL, Cooperative marketing forest products; definition of "farming"., Rev. Rul. 84-81, 1984-1 CB 135, (Jan. 01, 1984)

Section 521.--Exemption Of Farmers' Cooperatives From Tax

26 CFR 1.521-1: Farmers' cooperative marketing and purchasing associations; requirements for exemption under section 521.

[IRS Headnote] Cooperative marketing forest products; definition of "farming".--
A federated cooperative marketing newsprint, and its member cooperatives growing pulpwood, are not engaged in the business of farming and do not qualify for the exemption from federal income tax as farmers' cooperatives within the meaning of section 521 of the Code.

ISSUE

Do a federated cooperative marketing newsprint and its member cooperatives supplying pulpwood cut from timber grown by the cooperatives' patron members qualify for exemption from federal income tax as farmers' cooperatives within the meaning of section 521 of the Internal Revenue Code?

FACTS

Three taxpayers were organized as agricultural associations and qualify as cooperative organizations (COOPS) under subchapter T, sections 1381-1385 of the Code. Their purpose is to engage in the business of marketing the forest products of their member patrons. The COOPS' producer-members are engaged in the business of growing pine trees for timber and cutting it into pulpwood that is marketed by the COOPS. In connection with the marketing, the COOPS cut or contract to cut the members' pine timber. The COOPS also provide forest management services to improve yields.

In order to consolidate their marketing activities, the COOPS formed a federated cooperative in which the COOPS are members. The federated cooperative buys pulpwood from the COOPS. In order to provide a steady market for the pulpwood, the federated cooperative formed a partnership with other investors to construct and operate a newsprint papermill. The federated cooperative provided its shares of the necessary capital by assessing the COOPS and their members. The partnership buys pulpwood from the federated cooperative and processes it into newsprint and subsequently sells it to newsprint users. The profits of the partnership are derived from selling newsprint and are distributed equally to the partners.

LAW AND ANALYSIS

Section 521(a) of the Code provides that a farmers' cooperative organization shall be exempt from the federal income tax except as provided in subchapter T.

Section 521(b) of the Code defines farmers' cooperatives that are exempt from federal income tax under sections 521(a). Included are farmers', fruit growers' or like associations organized and operated on a cooperative basis for the purpose of marketing the products of members and turning back to them the proceeds of sales, less the necessary marketing expenses.

Section 1.521-1(a)(1) of the Income Tax Regulations includes in the definition of exempt farmers' cooperatives cooperative associations engaged in the marketing of farm products for farmers, fruit growers, livestock growers, and dairymen, and turning back to the producers the proceeds of the sales of their products, less the necessary operating expenses, on the basis of either the quantity or value of the products furnished by them.

Neither sections 521 of the Code nor 1.521-1 of the regulations defines the terms "farm", "business of farming", or "land used in farming." However, other sections of the Code and their related regulations do define these or similar terms.

Section 61 of the Code is an income defining section. Under section 1.61-4(d) of the regulations, a farm is defined in the ordinarily accepted sense and cited as examples are stock, dairy, poultry, fruit, and truck farms, as well as plantations and ranches. A reference is made to section 1.175-3 of the regulations for more detailed rules to apply in determining whether farming is being carried on.

Section 175 of the Code provides for the deduction of soil and water conservation expenditures by a taxpayer engaged in the business of farming. Section 1.175-3 of the regulations states that a taxpayer engaged in the growing of timber is not engaged in the business of farming.

Section 180 of the Code provides for the deduction of expenditures by farmers for fertilizer. The regulations underlying section 180 require that the principles of section 1.175-3 and 1.175-4 apply to determine if a taxpayer is engaged in the business of farming.

Section 182 of the Code applies to expenditures by farmers for clearing land. For purposes of defining the term "land suitable for farming", section 1.182-2 of the regulations provides that a taxpayer is engaged in the business of farming if he operates or manages a farm for profit. Section 1.182-2 specifically provides that forestry or the growing of timber is not a farming activity.

Section 464(e)(1) of the Code provides that for purposes of section 464, the term "farming" means the cultivation of land or the raising or harvesting of any agricultural or horticultural commodity including the raising, shearing, feeding, caring for, training, and management of animals. For purposes of the preceding sentence, trees (other than trees bearing fruit or nuts) shall not be treated as an agricultural or horticultural commodity.

Rev. Rul. 73-570, 1973-2 C.B. 194, holds that an incorporated organization marketing lumber for independent lumber producing companies controlling the organization does not qualify for exemption under section 521 of the Code. Rev. Rul. 73-570 relied on sections 1.61-4(d) and 1.175-3 of the regulations as supporting the exclusion of lumbering from the generally accepted definition of farming. Lumbering is the business of cutting timber and converting the cut timber by the forest industry into lumber.

In the present situation, the grown timber is cut and the cut timber converted by a forest industry into pulpwood, which is then pulped and made into newsprint. Lumbering and the production of pulpwood are similar in that timber is cut and the products cut from the timber are sent to a forest industry mill for conversion into another product. The primary distinction between lumbering and the production of pulpwood is the kind of forest industry mill that is used in the conversion of the timber into an end product. This distinction does not affect the classification of the activity as forestry for purposes of the Code.

The terms "farmers" and "farming" as used in sections 61, 175, 180, and 182 of the Code and regulations do not apply to forestry. Consequently, the cutting of timber for its end use as either lumber or newsprint is excluded from the definition of farming or fruit growing within the meaning of section 521. See also section 1.175-3 of the regulations.

HOLDING

A federated cooperative marketing newsprint and its member cooperatives supplying pulpwood cut from timber grown by patron members do not qualify for exemption from federal income tax as farmers' cooperatives within the meaning of section 521 of the Code.