1. Cooperative Tax Developments Co-op Professionals Conference
Presented by: Bruce Mayer, CPA May 31, 2019

2. Topics
Entity Choice
Member capital accounts
Sweat Equity

3. Entity Choice Cooperative Corporation – Subchapter T
Internal Revenue Code (IRC) Sections
Is a subset of C-Corporations
Partnership – Subchapter K
Internal Revenue Code (IRC) Sections
S-Corporation – Subchapter S
Internal Revenue Code (IRC) Sections
Tax Exempt – Subchapter F
Internal Revenue Code (IRC) Sections

4. Entity Choice What is a co-op anyway? IRS and accounting definition:
One member- One vote
Allocate profits based on business done with the co-operative
No statutory definition
The IRS only recognizes Subchapter T entities as cooperatives
Everything else is meeting co-op principles through choices in organizing documents allowable under their chosen entity
Chart comparing entities

5. Entity Choice Cooperative Corporation – Subchapter T
Usually incorporated, whether as a co-op or not
Can be an LLC that elects to be taxed as a corporation
Elect corporate taxation with Form 8832
File before effective date or within 75 days after
For January 1, 2019 effective date file by March 15, 2019
Cannot go back to partnership taxation once corporate taxation is elected

6. Entity Choice Cooperative Corporation – Subchapter T (continued)
More formal entity – has it’s own existence
Owners generally paid with W-2
Depends on qualification as employee or independent contractor
No draws
Either corporate dividend or return of capital or W-2 wage or reimbursement of business expenses
Or patronage dividend

7. Entity Choice Cooperative Corporation – Subchapter T (continued)
Double taxation only on corporate dividends
Patronage dividends are deductible
Tax paid by the co-operative or by patrons
Tax form 1120-C
The profit allocations, patronage dividends, may be subject to self employment tax
Can retain income in the name of the co-op
Permanent capital belonging to co-op
Accessed through losses or on dissolution

8. Entity Choice Cooperative Corporation – Subchapter T (continued)
When operating in multiple states only the Co-op files returns in all states
Owners with W-2s subject to all rules and taxes imposed by state where they work
Unemployment
Worker’s compensation
Exempt or non-exempt employee
Minimum wage, overtime

9. Entity Choice Partnership – Subchapter K More open and informal entity
Can be LLC, partnership, or an informal association
Only LLCs can elect corporate taxation
More open and informal entity
Pass through entity where all activity is allocated to owners
All tax characteristics pass through to members
Tax form: 1065
Allocation reporting form: Schedule K-1 of Form 1065

10. Entity Choice Partnership – Subchapter K (continued)
Taxes paid by owners through allocation of income
Partnership generally does not pay income taxes
The profit allocations are subject to self employment tax
All equity is allocated to owners
Partnership cannot retain any income
No permanent reserves
Can revolve former owner equity slowly

11. Entity Choice Partnership – Subchapter K (continued)
Owners paid with draws and guaranteed payments
No W-2s regardless of meeting definition of an employee
Owners not subject to employee rules or taxes
Non-owners are subject to employee or independent contractor rules
Probationary members may be employees
If so, employee rules and taxes apply

12. Entity Choice Partnership – Subchapter K (continued)
Governed by operating agreement
IRS will not recognize partnership as a co-op
To call the entity a co-op:
One member – one vote
Allocate profits based on business done with the co-op
Operating agreements are flexible
Allow voting and profit allocation to be independent of ownership percentage
Allocation must not be based on tax avoidance

13. Entity Choice Partnership – Subchapter K (continued)
Operating in multiple states the partnership files in each state and allocates income to all owners in each state
May result in owners filing personal income taxes in each state

14. Half Way Still on entity choice
Through Co-op Corporations and Partnerships
Still have:
Subchapter S and exempt groups
Member capital accounts
Sweat equity

15. Entity Choice S-Corporation – Subchapter S
Is a hybrid of corporation and partnership taxation
Not many co-ops use this
Possible for small groups

16. Entity Choice Corporation – Subchapter S (continued)
Usually incorporated
Corporations elect S status by filing Form 2553
File before effective date or within 75 days after
For January 1, 2019 effective date file by March 15, 2019
Can be an LLC that elects to be taxed as a corporation and then elects treatment as an S-corporation

17. Entity Choice Corporation – Subchapter S (continued)
Owners generally paid with W-2
Depends on qualification as employee or independent contractor
There can be draws
Double taxation only on corporate dividends

18. Entity Choice Corporation – Subchapter S (continued)
Tax paid by income allocated to owners
Tax Form 1120-S
Income allocation reported on Schedule K-1 of Form 1120-S
The profit allocations are not subject to self employment tax
But W-2 wage must be fair compensation for services
All equity is allocated to owners
Partnership cannot retain any income
No permanent reserves
Can revolve former owner equity slowly

19. Entity Choice Corporation – Subchapter S (continued)
S-corporation rules are very strict
Profit allocation must exactly follow ownership percentage
This is where operating as a co-op can be challenging
If equal ownership and all owners work equal amounts the allocation of profits agrees to allocation based on business done with the co-op
Otherwise need to use a bonus system to emulate allocation based business done with the co-op

20. Entity Choice Corporation – Subchapter S (continued)
Operating in multiple states the S-corporation files in each state and allocates income to all owners in each state
May result in owners filing personal income taxes in each state
Owners with W-2s subject to all rules and taxes imposed by state where they work
Unemployment
Worker’s compensation
Exempt or non-exempt employee
Minimum wage, overtime

21. Entity Choice Tax Exempt Most are 501(c)(3) charitable organizations
Some have tried other tax exempt co-op approaches
501(c)(4) – Social Welfare
501(c)(5) – Labor organizations
501(c)(6) – Business League
501(c)(7) – Social Club
Most do not qualify due to focus on members

22. Entity Choice Tax Exempt
Generally housing
Student
Senior
Low-income
Must have public purpose and not allocating profits to members

23. Entity Choice So which one? How do they want to operate? Legal Tax
Conversion

24. Member Capital Accounts
Tax law dictates capital accounts
Co-op corporations – typical equity composition
Preferred shares – owners or investors
Common shares - owners
Retained patronage dividends – patrons
Retained earnings – co-op

25. Member Capital Accounts
Co-op corporations (continued)
Retained patronage dividends must be allocated to patrons
By name
By year
Identify if it was qualified or non-qualified patronage dividend
This is the non-cash portion of patronage dividends

26. Member Capital Accounts
Partnership
Member equity – invested equity
Member equity – allocated profits or losses
S-corporation
Common shares – invested equity

27. Sweat Equity Awarding equity for services triggers immediate taxation
Founding members
New members
Example founding members given credit for low paid years by assigning equity of $5,000 each
Must report as income in year assigned

28. Sweat Equity
Assignment of equity falls into deferred compensation rules
If qualifying contract is not used it is immediately taxable
To qualify there must be a risk of forfeiture
Co-op can use other means to award work such as higher compensation or bonuses
But any plan promising future benefit may fall into deferred compensation rules

29. Co-op Taxes and Accounting
Ask The Accountant

30. Thank you for participating!
Bruce Mayer, MBA, CPA