[Federal Register Volume 86, Number 11 (Tuesday, January 19, 2021)]
[Rules and Regulations]
[Pages 5544-5593]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2021-00667]



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Vol. 86

Tuesday,

No. 11

January 19, 2021

Part V





Department of the Treasury





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Internal Revenue Service





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26 CFR Part 1





Section 199A Rules for Cooperatives and Their Patrons; Final Rule

Federal Register / Vol. 86 , No. 11 / Tuesday, January 19, 2021 / 
Rules and Regulations

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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9947]
RIN 1545-B090


Section 199A Rules for Cooperatives and Their Patrons

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final regulations and removal of final and temporary 
regulations.

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SUMMARY: This document contains final regulations that provide guidance 
to cooperatives to which sections 1381 through 1388 of the Internal 
Revenue Code (Code) apply (Cooperatives) and their patrons regarding 
the deduction provided by section 199A(a) of the Code for qualified 
business income (QBI), as well as guidance to specified agricultural or 
horticultural cooperatives (Specified Cooperatives) and their patrons 
regarding the deduction provided by section 199A(g) of the Code for 
eligible domestic production activities undertaken by Specified 
Cooperatives. The final regulations also provide guidance on section 
199A(b)(7), the statutory rule requiring patrons of Specified 
Cooperatives to reduce their QBI deduction under section 199A(a). In 
addition, the final regulations include a definition of patronage and 
nonpatronage sourced items under section 1388 of the Code, and revise 
existing regulations under section 1382 of the Code to reference this 
definition. Finally, this document removes the final and temporary 
regulations under former section 199. These final regulations affect 
Cooperatives as well as patrons that are individuals, partnerships, S 
corporations, trusts, and estates engaged in domestic trades or 
businesses.

DATES: 
    Effective date: These regulations are effective on January 14, 
2021.
    Applicability dates: For dates of applicability, see Sec. Sec.  
1.199A-7(h), 1.199A-8(h), 1.199A-9(k), 1.199A-10(i), 1.199A-11(h), 
1.199A-12(j), 1.1382-3(e), and 1.1388-1(g).

FOR FURTHER INFORMATION CONTACT: Jason Deirmenjian at (202) 317-4470 
(not a toll-free number).

SUPPLEMENTARY INFORMATION: 

Background

    This document contains amendments to the Income Tax Regulations (26 
CFR part 1) under sections 199A, 1382, and 1388 of the Code.
    Section 199A was enacted on December 22, 2017, by section 11011 of 
Public Law 115-97, 131 Stat. 2054, 2063, commonly referred to as the 
Tax Cuts and Jobs Act (TCJA). Parts of section 199A were amended on 
March 23, 2018, effective as if included in the TCJA, by section 101 of 
Division T of the Consolidated Appropriations Act, 2018, Public Law 
115-141, 132 Stat. 348, 1151 (2018 Act). Section 199A applies to 
taxable years beginning after 2017 and before 2026. Unless otherwise 
indicated, all references to section 199A are to section 199A as 
amended by the 2018 Act.
    In addition, section 13305 of the TCJA repealed section 199 (former 
section 199), which provided a deduction for income attributable to 
domestic production activities (section 199 deduction). Public Law 115-
97, 131 Stat. 2054, 2126. The repeal of former section 199 is effective 
for all taxable years beginning after 2017.
    Section 199A(a) provides taxpayers a deduction of up to 20 percent 
of QBI from a domestic business operated as a sole proprietorship or 
through a partnership, S corporation, trust, or estate, and up to 20 
percent of qualified real estate investment trust (REIT) dividends and 
publicly traded partnership (PTP) income (section 199A(a) deduction). 
Section 199A(b)(7) requires patrons of Specified Cooperatives to reduce 
their section 199A(a) deduction if those patrons receive certain 
payments from Specified Cooperatives.
    Section 199A(g) provides a deduction for Specified Cooperatives and 
their patrons (section 199A(g) deduction) that is based on the former 
section 199 deduction. Section 199A(g)(4)(A) defines a Specified 
Cooperative, in part, as an organization to which part I of subchapter 
T of chapter 1 of the Code (subchapter T) applies. Under section 
1381(a)(2), subchapter T applies to any corporation operating on a 
cooperative basis, with certain exceptions not relevant here. Section 
1382 provides rules regarding the taxable income of Cooperatives and 
section 1388 provides definitions applicable for purposes of subchapter 
T.
    The Department of the Treasury (Treasury Department) and the IRS 
published proposed regulations (REG-107892-18) providing guidance on 
the section 199A(a) deduction in the Federal Register (83 FR 40884) on 
August 16, 2018. A second notice of proposed rulemaking providing 
guidance (REG-134652-18) and final regulations implementing the section 
199A(a) deduction (TD 9847) were published in the Federal Register (84 
FR 3015 and 84 FR 2952, respectively) on February 8, 2019, with 
corrections to TD 9847 published in the Federal Register (84 FR 15954) 
on April 17, 2019. TD 9847, which promulgated Sec. Sec.  1.199A-1 
through 1.199A-6 to implement the section 199A(a) deduction, does not 
include all the rules needed for patrons of Cooperatives to calculate 
their particular section 199A(a) deductions. Specifically, the rules 
included in TD 9847 do not address patrons' treatment of payments 
received from Cooperatives for purposes of section 199A(a) or the 
section 199A(g) deduction for Specified Cooperatives, though Sec.  
1.199A-1(e)(7) restates the reduction to a patron's section 199A(a) 
deduction required under section 199A(b)(7).
    To address these matters, on June 19, 2019, the Treasury Department 
and the IRS published a notice of proposed rulemaking (REG-118425-18) 
in the Federal Register (84 FR 28668) containing proposed regulations 
under sections 199A and 1388, with corrections published in the Federal 
Register (84 FR 38148) on August 6, 2019 (together, Proposed 
Regulations). The Proposed Regulations set forth rules to address 
patrons' treatment of payments received from Cooperatives for purposes 
of section 199A(a) and the section 199A(g) deduction for Specified 
Cooperatives in proposed Sec. Sec.  1.199A-7 through 1.199A-12, as well 
as proposed rules under section 1388 regarding patronage and 
nonpatronage sources of income of Cooperatives. The Proposed 
Regulations also withdrew all proposed regulations issued under former 
section 199 that had not been finalized and proposed to remove the 
final and temporary regulations under former section 199.
    The Summary of Comments and Explanation of Revisions of the final 
regulations summarizes the provisions of the Proposed Regulations, 
which are explained in greater detail in the preamble to the Proposed 
Regulations. After full consideration of the comments received on the 
Proposed Regulations, this Treasury decision adopts the Proposed 
Regulations with modifications in response to such comments as 
described in the Summary of Comments and Explanation of Revisions.

Summary of Comments and Explanation of Revisions

    The purpose and scope of the final regulations is limited to 
providing guidance regarding the application of sections 199A(a), 
199A(b)(7), 199A(g), 1382, and 1388. Section 199A(a) is generally 
applicable to patrons of all

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Cooperatives, whereas sections 199A(b)(7) and 199A(g) apply only to 
Specified Cooperatives and their patrons. Section 1388 generally 
applies to all Cooperatives and their patrons.
    The Treasury Department and the IRS received written comment 
submissions in response to the Proposed Regulations. All comments were 
considered and are available at www.regulations.gov or upon request. 
Most of the comments addressing the Proposed Regulations are summarized 
in this Summary of Comments and Explanation of Revisions. However, 
comments merely summarizing or interpreting the Proposed Regulations, 
recommending statutory revisions, or addressing issues which are 
outside the scope of the final regulations are not discussed in this 
Summary of Comments and Explanation of Revisions.
    Commenters requested that the rules for section 199A as they apply 
to Cooperatives and patrons be simplified and clarified. Accordingly, 
while the final regulations adopt many of the rules described in the 
Proposed Regulations, they are revised in response to the comments 
received. Additionally, in response to the comments, the final 
regulations include clarifying language and additional examples.
    Parts I through VII of this Summary of Comments and Explanation of 
Revisions discuss Sec. Sec.  1.199A-7 through 1.199A-12, 1.1382-3, and 
1.1388-1, respectively. Part VIII addresses the removal of all final 
and temporary regulations issued under former section 199. Part IX 
addresses comments on the proposed applicability date and the 
transition rule.

I. Sec.  1.199A-7, Rules for Patrons of Cooperatives

A. In General

    As noted in the Background, the section 199A(a) deduction allows 
taxpayers to deduct up to 20 percent of QBI from a domestic business 
operated as a sole proprietorship or through a partnership, S 
corporation, trust, or estate, and up to 20 percent of qualified REIT 
dividends and PTP income. Patrons that are individuals (as described in 
Sec.  1.199A-1(a)(2)) are eligible for the section 199A(a) deduction. 
If patrons receive certain payments from Specified Cooperatives, then 
section 199A(b)(7) requires them to calculate a reduction to their 
section 199A(a) deduction. This part I.A provides a general outline of 
the rules of proposed Sec.  1.199A-7, and the remainder of this part I 
addresses the specific comments received on proposed Sec.  1.199A-7. 
Other than for modifications made in response to specific comments, the 
final regulations generally adopt the Proposed Regulations.
    Proposed Sec.  1.199A-7(a) provides special rules and definitions 
for patrons of cooperatives in applying Sec. Sec.  1.199A-1 through -6, 
including definitions of patron, patronage and nonpatronage, qualified 
payment, and Specified Cooperative. Proposed Sec.  1.199A-7(b) explains 
that patronage dividends or similar payments that a patron receives 
from a Cooperative are considered as generated from the trade or 
business the Cooperative conducts on behalf of the patron, and are 
therefore tested by the Cooperative at its trade or business level. 
Proposed Sec.  1.199A-7(c) provides special rules for patrons and 
Cooperatives relating to the definition of QBI, the determination of 
QBI by patrons, and the determination and reporting by Cooperatives of 
the amount of qualified items of income, gain, deduction, and loss 
(collectively, qualified items) for qualified trades or businesses in 
distributions made to patrons. Proposed Sec.  1.199A-7(d) provides 
special rules for patrons' determinations of specified service trades 
or businesses (SSTBs) and for Cooperatives' determination and reporting 
of SSTBs.
    Under proposed Sec.  1.199A-7(c)(3) and (d)(3), Cooperatives are 
required to report the amount of qualified items related to non-SSTBs 
and SSTBs in distributions made to patrons on an attachment to or on 
the Form 1099-PATR (or any successor form), unless the form 
instructions provide otherwise. Under proposed Sec.  1.199A-7(c)(3), if 
a Cooperative fails to report the amount of qualified items from its 
non-SSTBs, then the amount of distributions from the Cooperative that 
may be included in the patron's QBI is presumed to be zero. Under 
proposed Sec.  1.199A-7(d)(3), if a Cooperative fails to report the 
amount of qualified items from an SSTB (SSTB items), then only the 
amount of qualified items the Cooperative reports under proposed Sec.  
1.199A-7(c)(3) may be included in the patron's QBI, and the remaining 
amount of distributions from the Cooperative is presumed to not be 
included in the patron's QBI.
    Proposed Sec.  1.199A-7(e) provides special rules for patrons 
relating to the statutory limitations based on W-2 wages and unadjusted 
basis immediately after acquisition (UBIA) of qualified property. The 
Proposed Regulations provide that Cooperatives do not allocate their W-
2 wages and UBIA of qualified property to patrons, and directs patrons 
to calculate the W-2 wage and UBIA of qualified property limitations at 
the patron level when calculating their section 199A(a) deduction.
    Proposed Sec.  1.199A-7(f) provides special rules for Specified 
Cooperatives and their patrons relating to calculating the section 
199A(b)(7) reduction, including a requirement that Cooperatives report 
the amount of qualified payments (as defined in proposed Sec.  1.199A-
8(d)(2)(ii)) made to patrons on an attachment to or on the Form 1099-
PATR (or any successor form). Proposed Sec.  1.199A-7(g) provides 
examples that illustrate the rules in Sec.  1.199A-7(a) through (f) for 
Specified Cooperatives and their patrons.
    Lastly, proposed Sec.  1.199A-7(h) generally provides that 
taxpayers may rely on the proposed rules in their entirety and as 
applied in a consistent manner until final regulations are published in 
the Federal Register. Proposed Sec.  1.199A-7(h) also includes the 
transition rule relating to the repeal of the former section 199 
deduction and the implementation of the new section 199A(a) deduction.

B. Comments Related to Proposed Sec. Sec.  1.199A-7(c)(3) and (d)(3)

i. Requirements That Cooperative Determines Qualified Items From Non-
SSTBs and Qualified Items From SSTBs
    Under proposed Sec. Sec.  1.199A-7(c)(3) and (d)(3), Cooperatives 
must separately determine the amounts of qualified items relating to 
non-SSTBs and qualified items relating to SSTBs in distributions made 
to patrons. Commenters asserted that whether income is a qualified item 
when earned at the Cooperative level should not be determinative of its 
treatment at the patron level, but that instead the determination of 
qualified items from non-SSTBs and SSTBs should be made by the patron 
based solely on whether a patronage dividend relates to a patron's 
trade or business. These commenters additionally asserted that the 
proposed rules burden Cooperatives by requiring additional information 
reporting and are not consistent with the provisions of subchapter T.
    The final regulations do not adopt the commenters' suggestion for 
several reasons, including that the proposal does not comport with 
sections 199A(c)(3) and (d)(2). The rules of proposed Sec. Sec.  
1.199A-7(c)(3) and (d)(3) are consistent with the rules in TD 9847 
implementing the section 199A(a) deduction generally. These rules arise 
from the statutory requirement that all items in the computation of the 
section 199A(a) deduction be qualified items as defined in section 
199A(c)(3) and not

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derived from an SSTB as defined in section 199A(d)(2). TD 9847 
generally provides that an item of income, gain, deduction and loss is 
determined and reported for each trade or business by the entity or 
individual that directly conducts the trade or business. Patronage 
dividends and similar payments are considered to be directly generated 
from the trade or business that the Cooperative conducts on behalf of 
or with its patrons. For example, an individual patron must determine 
QBI for each trade or business it directly conducts. To the extent a 
patron receives patronage dividends or similar payments from a 
Cooperative, such patronage dividends or similar payments are 
considered generated from the trade or business the Cooperative 
conducts on behalf of or with its patron and are tested by the 
Cooperative at the level of its trade or business.
    Failure to determine whether items of income, gain, deduction, and 
loss that are distributed to patrons are qualified items at the 
Cooperative level could result in patrons' circumvention of the 
statutory requirements for qualified items under section 199A(c)(3)(A) 
and (B), for example, that items be effectively connected with the 
conduct of a trade or business within the United States. Section 
199A(c)(3)(B) lists items that are not treated as qualified items 
defined in section 199A(c)(3). All dividends, income equivalent to 
dividends, or payments in lieu of dividends described in section 
954(c)(1)(G) are not qualified items. However, section 
199A(c)(3)(B)(ii) also specifically provides that patronage dividends 
are not treated as dividends, income equivalent to dividends, or 
payments in lieu of dividends described in section 954(c)(1)(G), which 
means a patronage dividend can be taken into account as a qualified 
item to the extent otherwise qualified. The Joint Committee on Taxation 
report titled ``Technical Explanation of the Revenue Provisions of the 
House Amendment to the Senate Amendment to H.R. 1625 (Rules Committee 
Print 115-66)'' (JCX-6-18, released March 22, 2018) (Joint Committee 
Report) further clarified that other similar amounts received from 
Cooperatives can be included in QBI, provided those amounts are 
otherwise a qualified item. Joint Committee on Taxation, JCX-6-18, 
Technical Explanation of the Revenue Provisions of the House Amendment 
to the Senate Amendment to H.R. 1625 (Rules Committee Print 115-66) 25 
(March 22, 2018). As a result, the Proposed Regulations define a 
qualified item as including a distribution for which a Cooperative is 
allowed a deduction under section 1382(b) or (c)(2) (including 
patronage dividends and other similar payments, such as money, 
property, qualified written notices of allocation, and qualified per-
unit retain certificates, as well as money or property paid in 
redemption of a nonqualified written notice of allocation), provided 
the distribution is otherwise a qualified item. Therefore, to be a 
qualified item under section 199A(c)(3), patronage dividends and other 
similar payments must still be effectively connected (section 
199A(c)(3)(A)(i)), included or allowed in income (section 
199A(c)(3)(A)(ii)), and not represent amounts described in section 
199A(c)(3)(B)(i) and (iii)-(vii). Additionally, items of income, gain, 
deduction, and loss from an SSTB are not includable in QBI with respect 
to individuals above the threshold amount and subject to the phase-in 
range under section 199A(d)(3). Any potential burden to the 
Cooperatives in making these determinations is outweighed by the 
patrons' need for this information to determine their section 199A(a) 
deduction.
    Based upon these statutory requirements and because the Cooperative 
is better positioned than a patron to determine whether a patronage 
dividend or other similar payment is a qualified item as determined 
under the rules of Sec.  199A(c)(3) and Sec.  1.199A-3(b) and whether 
it is derived from an SSTB as defined in Sec.  199A(d)(2) and Sec.  
1.199A-5, these determination rules are adopted in the final 
regulations without substantive change. The patron then determines if 
the qualified item is includible in the patron's QBI under Sec.  
1.199A-7(c)(2) and whether the qualified item from the SSTB is 
includible in the patron's QBI based on the threshold rules in Sec.  
199A(d)(3) and Sec.  1.199A-5(a)(2)). There is no duplication in effort 
between the Cooperative and the patron with respect to these 
determinations. However, in response to commenters, the reporting 
requirements of Cooperatives have been modified to balance the burden 
on the Cooperatives and the patrons' need to receive information to 
determine their section 199A(a) deduction.
ii. Requirements That Cooperative Report Qualified Items From Non-
SSTBs, Qualified Items From SSTBs, and Qualified Payments
    Proposed Sec. Sec.  1.199A-7(c)(3), (d)(3), and (f)(3) require 
Cooperatives to report qualified items from non-SSTBs, qualified items 
from SSTBs, and qualified payments (qualified payments are relevant 
only for Specified Cooperatives) to patrons. A commenter opposed these 
reporting requirements on the grounds that the requirements did not 
exist under former section 199 and do not exist under section 6044(b). 
In the commenter's view, Congress would have amended section 6044 to 
that effect if the reporting requirements were intended. The Treasury 
Department and the IRS agree that versions of Form 1099-PATR prior to 
the enactment of section 199A did not include a box for qualified 
payments and that section 6044(b) does not require reporting of these 
amounts. However, unlike former section 199, information concerning all 
of these amounts (qualified payments as applicable) are required for a 
patron to calculate its section 199A(a) deduction, including the 
reduction under section 199A(b)(7) for patrons of Specified 
Cooperatives, which did not exist under former section 199. Therefore, 
it is necessary for patrons to have this information, and it is most 
efficient for patrons to receive the information from Cooperatives on 
Form 1099-PATR (or any successor form). Additionally, section 
199A(f)(4) authorizes the Treasury Department and the IRS to prescribe 
such regulations as are necessary to carry out the purposes of section 
199A, including reporting requirements.
    The commenter also requested removal of these reporting 
requirements on the grounds that Cooperatives should not be treated as 
relevant passthrough entities (RPEs). The Treasury Department and the 
IRS agree that Cooperatives are not RPEs. However, these reporting 
requirements emanate from the statutory requirements of section 199A 
and not the nature of the entities. These reporting requirements are 
imposed on Cooperatives because sections 199A(c) and (d) require that 
items of income, gain, deduction, and loss be of a certain character 
and from a qualified trade or business when determining the section 
199A(a) deduction, and patrons need this information to determine their 
section 199A(a) deduction. Further, the reporting requirements 
applicable to Cooperatives are distinguishable from those imposed on 
RPEs because RPEs are required to engage in more detailed reporting, 
including reporting W-2 wages and UBIA of qualified property.
    After consideration of the comments, the final regulations maintain 
a reporting requirement for Cooperatives, but the rules in proposed 
Sec.  1.199A-7(c)(3) and (d)(3) are revised to simplify the 
Cooperative's reporting obligation with respect to qualified items from

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non-SSTBs and qualified items from SSTBs. The proposed regulations 
required that the Cooperative report the amounts of qualified items 
with respect to each non-SSTB of the Cooperative, with a similar 
requirement for SSTBs. However, to reduce burden and clarify that 
Cooperatives do not make trade or business and corresponding 
aggregation determinations, the final regulations require the 
Cooperative to report the total net amount of qualified items from non-
SSTBs in distributions to patrons without delineating these amounts 
business by business. A similar change was made to the reporting 
requirements for qualified items in distributions from SSTBs. Patrons 
then determine the extent that those payments are included in the QBI 
of the patrons' trade or business. For example, a patron will determine 
whether those payments are related to the patron's trade or business 
and whether any items in the SSTB distributions reported by the 
Cooperative are includible as qualified items of income, gain, 
deduction and loss at the patron's level after consideration of the 
threshold and phase-in amounts as applied to the patron's taxable 
income. In addition, the rules in proposed Sec.  1.199A-7(b) are 
revised for consistency with the revision to proposed Sec.  1.199A-
7(c)(3) and (d)(3).
    Commenter also suggested that the SSTB reporting requirements be 
revised to reflect that if a Cooperative provides services from SSTBs 
to patrons, the services are provided to patrons, not third parties. 
Therefore, any patronage dividends should be deemed a rebate, which 
would increase QBI of the patrons to its proper amount. Further, if the 
SSTBs conducted by the Cooperatives relate to personal expenses of a 
patron, then the SSTB patronage dividends should be excluded from the 
QBI calculation, but done so at the patron level, because only the 
patron would know whether the SSTB service is a personal expense.
    Based on the commenter's suggestions, the Treasury Department and 
the IRS considered whether additional rules were needed and concluded 
that revisions are necessary to resolve certain questions raised by the 
commenter. Consider an example where a Cooperative provides a service 
to patrons as part of an SSTB of the Cooperative under section 
199A(d)(2). Assume that a patron's use of that service is a deductible 
expense to its qualified trade or business. Patron pays the Cooperative 
$1,000 for the service. The Cooperative later pays the patron a 
patronage dividend of $50 related to the service. This patronage 
dividend is income under section 1385(a)(1) to the patron. Under the 
Proposed Regulations, assuming the patron's income is over the 
threshold amount (defined in section 199A(e)(2)), the patron would not 
be able to include the $50 in its calculation of QBI because it is SSTB 
income. Meanwhile, the patron would have a $1,000 expense that would 
reduce QBI. In substance, however, the patron would have only paid $950 
for the service.
    The Treasury Department and the IRS considered two approaches for 
resolving this asymmetry. One approach (suggested by a commenter) would 
permit a patron paying for services from an SSTB of the Cooperative for 
its trade or business to treat any patronage dividends related to those 
amounts as qualified items (or rebates that would reduce the expense), 
regardless of the threshold amounts, if the services were required or 
used in a qualified trade or business of the patron. A second approach 
would permit the allocation of part of the patron's expense to the non-
qualified SSTB income. To reach the correct result, this second 
approach would limit the allocation of the expense to the amount of 
SSTB income of the Cooperative that relates to the patron's expense. 
Under the second approach, a patron could allocate expenses between its 
qualified trade or business income and the SSTB income up to the amount 
of the patronage dividend. Either approach reaches a similar end result 
with respect to the example--that is, the patron having a net $950 
expense included within QBI. However, the first approach conflicts with 
section 199A(d)(2) in that SSTB income cannot be treated as QBI, unless 
the section 199A(d)(3) exception applies. The first approach also 
conflicts with section 1385(a)(1), which requires inclusion of 
patronage dividends in income, unless an exception is met under section 
1385(b). In contrast, the second approach does not conflict with either 
the requirements of section 199A or section 1385(a)(1). Also, the 
commenter noted, the patron's exception to income from patronage 
dividends for personal, living, or family items is met under section 
1385(b)(2). For clarification in that case, the patron will have to 
make that determination, and none of the expense or patronage dividend 
should be taken into account for purposes of QBI. Based on this 
analysis, the final regulations in Sec.  1.199A-7(d)(3)(ii) adopt the 
second approach, and include an example illustrating the application of 
this approach.
iii. Relief From Zero-Presumption Rule
    As discussed previously, if a Cooperative fails to timely report 
qualified items and SSTB items, proposed Sec. Sec.  1.199A-7(c)(3) and 
(d)(3) provide that the amount of distributions from the Cooperative 
that may be included in the patron's QBI is presumed to be zero (zero-
presumption rule). Commenters requested relief from the zero-
presumption rule on the basis that Cooperatives may not be aware of the 
reporting requirements and may negligently fail to issue Forms 1099-
PATR in a timely manner. For tax year 2019 filing, Cooperatives can 
report qualified payments on the Form 1099-PATR and can attach a 
supplemental schedule disclosing qualified items and SSTB items to 
patrons. For future filing years, the Form 1099-PATR will be updated to 
include boxes for qualified items and SSTB items. The final regulations 
do not provide relief from the zero-presumption rule, since the zero-
presumption rule is a presumption that the patron may rebut with 
appropriate evidence or documentation. One example of appropriate 
evidence or documentation would be a corrected Form 1099-PATR received 
by the patron from the Cooperative.

C. Comments Related to Proposed Sec.  1.199A-7(f), Special Rules for 
Patrons of Specified Cooperatives

i. Requirement for Patrons To Compute the Section 199A(b)(7) Reduction
    The section 199A(b)(7) reduction is a statutory rule requiring, in 
the case of any qualified trade or business of a patron of a Specified 
Cooperative, that the amount determined under section 199A(b)(2) with 
respect to the trade or business be reduced by the lesser of (A) 9 
percent of so much of the QBI with respect to the trade of business as 
is properly allocable to qualified payments (as defined in section 
199A(g)(2)(E) and Sec.  1.199A-8(d)(2)(ii)), or (B) 50 percent of so 
much of the W-2 wages with respect to the trade or business as are so 
allocable. Proposed Sec.  1.199A-7(f)(1) provides that a patron of a 
Specified Cooperative that receives a qualified payment must reduce its 
section 199A(a) deduction as provided in Sec.  1.199A-1(e)(7) (which 
follows the language of section 199A(b)(7)), and the reduction applies 
whether the Specified Cooperative passes through all, some, or none of 
the Specified Cooperative's section 199A(g) deduction to the patron in 
the taxable year.
    Commenters requested an opt-out provision whereby patrons and 
Specified Cooperatives could elect out of the rules under sections 
199A(b)(7)

[[Page 5548]]

and (g). The final regulations do not adopt this request. There is no 
statutory provision providing for an opt-out of these Code sections. In 
the parallel situation under former section 199, there also was no opt-
out provision. Specifically, the no-double-counting rule under former 
Sec.  1.199-6(l) precluded farmers from including qualified payments in 
their own former section 199 deduction. Further, permitting patrons and 
Specified Cooperatives to elect out of the rules under sections 
199A(b)(7) and (g) would be difficult to administer and could result in 
patrons and Specified Cooperatives taking conflicting positions.
    Some commenters have reasoned that turning off the section 
199A(b)(7) reduction is justified based on the part of the qualified 
payment definition in section 199A(g)(2)(E)(iii), whereby the payment 
must be attributable to qualified production activities income (QPAI) 
with respect to which a deduction is allowed to the Specified 
Cooperative under section 199A(g)(1). However, section 199A(b)(7) 
applies when qualified payments are received by a patron in a qualified 
trade or business. The determination of whether a qualified payment was 
received is a different issue and is addressed in part II of this 
Summary of Comments and Explanation of Revisions.
ii. Comments on Interaction of Section 199A(b)(7) Reduction and Sec.  
1.199A-4
    Commenters requested clarification on how the section 199A(b)(7) 
reduction operates with the aggregation rules in Sec.  1.199A-4. In 
certain circumstances, an individual may aggregate two or more trades 
or businesses for purposes of the QBI component calculation in Sec.  
1.199A-1(d)(2)(iv), which includes application of the W-2 wage and UBIA 
of qualified property limitations under section 199A(b)(2). Aggregation 
is permitted but not required. Once an individual chooses to aggregate 
two or more trades or businesses, the individual must consistently 
report the aggregated trades or businesses in all subsequent taxable 
years. As commenters point out, aggregation of two or more trades or 
businesses may be favored by a taxpayer because it may provide better 
results when applying the W-2 wage and UBIA of qualified property 
limitations.
    Commenters asked for clarification in two situations. First, 
commenters asked whether a patron who aggregates a rental real estate 
business and a farming business conducted with or through a Specified 
Cooperative may exclude the rental income from the section 199A(b)(7) 
reduction. This question relates to clarifying the rule in proposed 
Sec.  1.199A-7(f)(2)(i), which provides that for purposes of 
calculating the section 199A(b)(7) reduction, a patron must use a 
reasonable method based on all the facts and circumstances to allocate 
between income that is from qualified payments and income that is not 
from qualified payments. As a clarification, income that is not related 
to qualified payments can be earned in transactions that do not involve 
Specified Cooperatives, for example, a grain sale to a noncooperative 
customer. This means that the rental income, which is not income 
related to qualified payments, should be excluded when calculating the 
section 199A(b)(7) reduction for the aggregated trade or business.
    Second, commenters asked whether in that same situation a patron is 
permitted to allocate the rental expenses toward the income from the 
Specified Cooperative, thus possibly lowering the section 199A(b)(7) 
reduction. Proposed Sec.  1.199A-7(f)(2)(i) provides that for purposes 
of calculating the section 199A(b)(7) reduction, a patron must use a 
reasonable method to allocate income items and related deductions. 
Thus, it would be reasonable to allocate that expense against qualified 
payments when calculating the section 199A(b)(7) reduction only to the 
extent the rental expense is related to the qualified payments from the 
Specified Cooperative. These aggregation principles are applied 
throughout the rules and examples of the final regulations and are 
consistent with the Proposed Regulations.
    Commenters also inquired as to how negative QBI allocable to 
qualified payments affects the section 199A(b)(7) reduction. The 
Treasury Department and the IRS considered this comment and determined 
that there would be no section 199A(b)(7) reduction in such a case. An 
example illustrating this is a farmer conducting two types of 
agricultural businesses (A and B). Assume the farmer treats A and B as 
one trade or business for purposes of the section 199A(a) deduction. 
The farmer conducts A with non-Specified Cooperatives and B through a 
Specified Cooperative. The farmer generates $100 of qualifying income 
through A and receives $100 of qualifying income from a Specified 
Cooperative in B, all of which is also a qualified payment. The farmer 
has $180 of qualified expenses. For purposes of the section 199A(a) 
deduction, the farmer's QBI ($20) from the trade or business is used to 
calculate the deduction, resulting in a $4 deduction (assuming there is 
no limitation under section 199A(b)(2)(B)). The farmer then must 
determine if there is any section 199A(b)(7) reduction to this amount. 
The farmer reasonably allocates its qualified expenses under Sec.  
1.199A-7(f)(2)(i) for purposes of calculating the section 199A(b)(7) 
reduction, and determines $110 of the qualified expenses are allocable 
to B (and $70 to A). The farmer will use only QBI from B to calculate 
the section 199A(b)(7) reduction because that is the only QBI properly 
allocable to qualified payments. Farmer's QBI for purposes of section 
199A(b)(7)(A) is negative $10, resulting in a $0 section 199A(b)(7) 
reduction (regardless of W-2 wages under section 199A(b)(7)(B)).
iii. Comments on Safe Harbor Allocation Method in Proposed Sec.  
1.199A-7(f)(2)(ii)
    Proposed Sec.  1.199A-7(f)(2)(ii) is a safe harbor providing a 
reasonable method for patrons with income under the threshold amount 
(set forth in section 199A(e)(2)) to allocate deductions and W-2 wages 
between income or gain related to qualified payments and income or gain 
that is not related to qualified payments when determining the section 
199A(b)(7) reduction with respect to a patron's qualified trade or 
business. The method allows patrons to apportion deductions and W-2 
wages ratably between income related to qualified payments and income 
not related to qualified payments. This means, for example, that the 
amount of deductions in QBI allocable to qualified payments is equal to 
the proportion of the total deductions that the amount of income or 
gain related to qualified payments bears to total income or gain used 
to determine QBI. The same proportion also applies when determining the 
amount of W-2 wages allocable to the portion of the trade or business 
that received qualified payments. In addition to considering the 
specific comments concerning proposed Sec.  1.199A-7(f)(2)(ii) 
described in this preamble, revisions necessary to clarify the scope 
and application of the safe harbor were made in Sec.  1.199A-
7(f)(2)(ii) of the final regulations.
    Commenters requested clarification on whether QBI under the safe 
harbor allocation method in proposed Sec.  1.199A-7(f)(2)(ii) includes: 
Gross receipts from the sale of farm equipment, farm program payments 
(i.e., Conservation Reserve Program, Market Facilitation Program, Dairy 
Program, etc.), section 1245 recapture, and commonly owned rental 
income. One commenter recommended that gross receipts from the sale of 
equipment and machinery should be included in the calculation and 
allocated based on past depreciation (in

[[Page 5549]]

the case of section 1245 recapture), and that gross receipts from farm 
programs be considered not related to qualified payments. Another 
commenter recommended that both gains from section 1245 recapture, crop 
insurance receipts, government subsidy payments, and income from 
aggregated rental income under Sec.  1.199A-4 be not allocable to 
qualified payments received from Specified Cooperatives for purposes of 
section 199A(b)(7).
    Section 199A(b)(7)(A) requires determining the QBI with respect to 
a trade or business that is properly allocable to qualified payments 
received from a Specified Cooperative, Sec.  1.199A-7(f)(2)(i) requires 
a reasonable method be adopted for making this determination, and the 
safe harbor under Sec.  1.199A-7(f)(2)(ii) allows patrons under the 
threshold amount to allocate the deductions and W-2 wages of a business 
between income related to qualified payments and income that is not 
related to qualified payments based on a ratio. The determination of 
whether the amounts mentioned by commenters are included in QBI of a 
trade or business, subject to the section 199A(b)(7) reduction, and how 
these amounts are allocated may change based on a patron's individual 
facts and circumstances and is not addressed in the final regulations.
    One commenter also requested that the safe harbor method in 
proposed Sec.  1.199A-7(f)(2)(ii) apply to patrons with a trade or 
business that has average annual total gross receipts equal to 
$25,000,000 or less. This amount is equal to the threshold for the 
small business simplified overall method under proposed Sec.  1.199A-
10(f)(1). Under the small business simplified overall method, a 
qualifying small Specified Cooperative may apportion total costs for 
the current taxable year between domestic production gross receipts 
(DPGR) and non-DPGR based on relative gross receipts for purposes of 
calculating the section 199A(g) deduction. The safe harbor in proposed 
Sec.  1.199A-7(f)(2)(ii) is different from the safe harbor in proposed 
Sec.  1.199A-10(f)(1). Proposed Sec.  1.199A-7(f)(2)(ii) is applied as 
part of the patron's calculation of the section 199A(a) deduction. In 
calculating the section 199A(a) deduction, the threshold amount 
(described in section 199A(e)(2)) is used in other circumstances to 
determine when a taxpayer must engage in more complex calculations, 
specifically the W-2 wage and UBIA of qualified property limitations in 
section 199A(b)(2)(B). Thus, it is consistent with section 199A(e)(2) 
for the safe harbor in proposed Sec.  1.199A-7(f)(2)(ii) to adopt the 
threshold amount. This contrasts with the small business simplified 
overall method in Sec.  1.199A-10(f)(1), used to compute the section 
199A(g) deduction by a Specified Cooperative, and for which the 
threshold amount in section 199A(e)(2) is not relevant. Therefore, the 
final regulations do not adopt this request.
    The commenter also suggested cooperative and noncooperative farming 
expenses should be allocable based on sales. The commenter believes 
that if an allocation based on sales is not allowed, then it will be 
impossible for cash basis taxpayers to offset input expenses from the 
prior year to harvest revenues in the following year, because taxpayers 
would have already claimed the expenses in the prior year. Moreover, 
because farmers do not know if crops are sold to a Specified 
Cooperative or noncooperative until the crops are harvested, the 
potential exists for allocations to be understated/overstated as it 
relates to either Specified Cooperative/noncooperative revenues. The 
reasonable method approach in Sec.  1.199A-7(f)(2)(i) of the Proposed 
Regulations, which is the approach adopted in the final regulations, 
accommodates these timing issues. A reasonable method is based on the 
facts and circumstances of the taxpayer and should provide the needed 
flexibility to accommodate this fact pattern.

D. Comments on Examples in Proposed Sec.  1.199A-7(g)

    Commenters requested corrections to proposed Sec.  1.199A-7(g)(1), 
Example 1, because the allocation of W-2 wage expense is not 
proportional to the total expense allocation. This example illustrates 
that a reasonable method of allocation does not necessarily have to be 
proportional between W-2 wages and other expenses. This example is 
consistent with Example 1 in the Joint Committee Report. The Joint 
Committee Report in footnote 133 explains that example and the general 
rule by stating that ``[w]hich expenses are properly allocable in a 
given case will depend on all the facts and circumstances. The example 
assumes that the fraction of properly allocable W-2 wages differs from 
the fraction of other properly allocable expenses.'' Thus, a 
modification to the allocation in Example 1 of the proposed Sec.  
1.199A-7(g)(1) is not warranted.

II. Sec.  1.199A-8, Deduction for Income Attributable to Domestic 
Production Activities of Specified Cooperatives

A. In General

    Section 199A(g) provides a deduction for Specified Cooperatives and 
their patrons. This deduction is similar in many respects to the former 
section 199 deduction and, as provided in section 199A(g)(6), these 
regulations are based on the regulations applicable to Specified 
Cooperatives and their patrons under former section 199. The section 
199A(g) deduction is calculated by the Specified Cooperative and is 
equal to 9 percent of the lesser of the Specified Cooperative's QPAI or 
taxable income (as modified by section 199A(g)(1)(C)) for the taxable 
year. There is a further limitation on the deduction equal to 50 
percent of the Specified Cooperative's W-2 wages for the taxable year 
that are properly allocable to DPGR. Proposed Sec.  1.199A-8 provides 
definitions relating to the section 199A(g) deduction, which includes 
establishing the criteria that a Specified Cooperative must satisfy to 
be eligible to claim the section 199A(g) deduction, and sets forth the 
necessary steps for a Specified Cooperative to calculate the section 
199A(g) deduction. This part II.A provides a general outline of 
proposed Sec.  1.199A-8, and the remainder of this part II addresses 
specific comments on proposed Sec.  1.199A-8. Other than as described 
in response to the specific comments, the final regulations generally 
follow the Proposed Regulations.
    Proposed Sec.  1.199A-8(a), for purposes of section 199A(g), 
defines the terms patron (cross references proposed Sec.  1.1388-1(e)), 
Specified Cooperative, and agricultural or horticultural products. The 
definition of Specified Cooperative is consistent with section 
199A(g)(4) and the Joint Committee Report, and reflects the 2018 Act's 
amendment to the definition originally provided by section 11011(a) of 
the TCJA.; that is, a Specified Cooperative no longer includes a 
Cooperative solely engaged in the provision of supplies, equipment, or 
services to farmers or other Specified Cooperatives. The definition of 
agricultural or horticultural products in the Proposed Regulations is 
based upon the Cooperative Marketing Act of 1926, 44 Stat. 802 (1926).
    Proposed Sec.  1.199A-8(b) provides the four steps a Specified 
Cooperative that is not qualified as a farmer's cooperative 
organization under section 521 (nonexempt Specified Cooperative) 
performs to calculate its section 199A(g) deduction and includes 
definitions of relevant terms. Step 1, under proposed

[[Page 5550]]

Sec.  1.199A-8(b)(2)(i), requires a Specified Cooperative to identify 
its patronage and nonpatronage gross receipts, and related cost of 
goods sold (COGS), deductible expenses, W-2 wages, etc. (collectively, 
deductions) and allocate these deductions to the gross receipts from 
patronage and nonpatronage activity. Proposed Sec.  1.199A-8(b)(2)(ii) 
directs a nonexempt Specified Cooperative to use only patronage gross 
receipts and related deductions when calculating the section 199A(g) 
deduction. Step 2, under proposed Sec.  1.199A-8(b)(3), requires a 
nonexempt Specified Cooperative to determine the patronage gross 
receipts that qualify as DPGR. Proposed Sec.  1.199A-9 provides rules 
for determining whether gross receipts are DPGR. Step 3, under proposed 
Sec.  1.199A-8(b)(4), requires a Specified Cooperative to calculate 
QPAI (including oil-related QPAI) from only patronage DPGR and 
patronage deductions. Further rules for allocating COGS and other 
expenses, losses, or deductions to patronage DPGR are in proposed Sec.  
1.199A-10. A nonexempt Specified Cooperative calculates the section 
199A(g) deduction using step 4, under proposed Sec.  1.199A-8(b)(5). 
Proposed Sec.  1.199A-8(b) also provides a definition of taxable income 
(including how to take net operating losses (NOLs) into account), rules 
on the use of the patronage section 199A(g) deduction, and special 
rules for nonexempt Specified Cooperatives that have oil-related QPAI.
    Proposed Sec.  1.199A-8(c) provides rules explaining the steps a 
Specified Cooperative that is qualified as a farmer's cooperative 
organization under section 521 (exempt Specified Cooperative) performs 
to calculate its section 199A(g) deduction. Generally, exempt Specified 
Cooperatives follow the same steps as nonexempt Specified Cooperatives, 
except that exempt Specified Cooperatives are not disallowed a section 
199A(g) deduction based on nonpatronage gross receipts and related 
deductions. Instead, exempt Specified Cooperatives performs step 1 to 
identify patronage and nonpatronage gross receipts and related 
deductions, and then performs steps 2 through 4 in proposed Sec.  
1.199A-8(b) twice, to calculate a patronage section 199A(g) deduction 
and a nonpatronage section 199A(g) deduction. Proposed Sec.  1.199A-
8(c)(4)(ii) explains that the nonpatronage section 199A(g) deduction 
can be used only against nonpatronage income and cannot be passed 
through to patrons.
    Proposed Sec.  1.199A-8(d) provides rules for Specified 
Cooperatives passing through the section 199A(g) deduction to patrons. 
In general, under proposed Sec.  1.199A-8(d)(1), a Specified 
Cooperative may pass through all, some, or none of the section 199A(g) 
deduction to patrons who are eligible taxpayers as defined in section 
199A(g)(2)(D), that is, (i) a patron that is other than a corporation 
defined in section 1361(a)(2) (C corporation) or (ii) a patron that is 
a Specified Cooperative. Proposed Sec.  1.199A-8(d)(2) limits the 
amount of the section 199A(g) deduction that a Specified Cooperative 
can pass through to the portion of the section 199A(g) deduction that 
is allowed with respect to the QPAI to which the qualified payments 
(defined in proposed Sec.  1.199A-8(d)(2)(ii)) made to the eligible 
taxpayer are attributable. Proposed Sec. Sec.  1.199A-8(d)(3) through 
(7) further outlines the written notice requirement to pass through the 
deduction to a patron, the patron's ability to deduct the section 
199A(g) passed through (generally limited to the patron's taxable 
income), that a Specified Cooperative that is passed through a section 
199A(g) deduction as an eligible taxpayer is limited to taking the 
deduction only against patronage gross income and related deductions, 
that the W-2 wage limitation is applied only at the Specified 
Cooperative level, and that a Specified Cooperative must reduce its 
section 1382 deduction by an amount equal to the section 199A(g) 
deduction passed through to its eligible patrons.
    The remainder of proposed Sec.  1.199A-8 covers a variety of 
issues. Proposed Sec.  1.199A-8(e) provides examples that illustrate 
the rules in proposed Sec.  1.199A-8(b) through (d). Proposed Sec.  
1.199A-8(f) provides guidance for Specified Cooperatives that are 
partners in a partnership. Proposed Sec.  1.199A-8(g) provides guidance 
on the recapture of a claimed section 199A(g) deduction. Finally, 
proposed Sec.  1.199A-8(h) generally provides that taxpayers may rely 
on the proposed rules in their entirety and as applied in a consistent 
manner until final regulations are published in the Federal Register.

B. Comments Related to Definition of ``Agricultural or Horticultural 
Products''

i. General Comments on Definition
    Section 199A(g)(3)(D) defines DPGR as the gross receipts of a 
taxpayer that are derived from any lease, rental, license, sale, 
exchange, or other disposition (collectively, disposition) of any 
agricultural or horticultural product that was manufactured, produced, 
grown, or extracted (MPGE) by the taxpayer in whole or significant part 
within the United States. Proposed Sec.  1.199A-8(a)(4) defines 
agricultural or horticultural products as agricultural, horticultural, 
viticultural, and dairy products, livestock and the products thereof, 
the products of poultry and bee raising, the edible products of 
forestry, and any and all products raised or produced on farms and 
processed or manufactured products thereof within the meaning of the 
Cooperative Marketing Act of 1926, 44 Stat. 802 (1926). Agricultural or 
horticultural products also include aquatic products that are farmed 
whether by an exempt or a nonexempt Specified Cooperative. In addition, 
agricultural or horticultural products include fertilizer, diesel fuel, 
and other supplies used in agricultural or horticultural production 
that are MPGE by a Specified Cooperative. Agricultural or horticultural 
products, however, do not include intangible property (other than as 
provided in the exception in Sec.  1.199A-9(b)(2)); for example, an 
agricultural or horticultural product includes a seed that is grown, 
but does not include the intangible property right to reproduce a seed 
for sale. This exclusion of intangible property does not apply to 
intangible characteristics of any particular agricultural or 
horticultural product. For example, gross receipts from the sale of 
different varieties of oranges would all qualify as DPGR from the 
disposition of agricultural or horticultural products (assuming all 
other requirements of section 199A(g) are met). However, gross receipts 
from the license of the right to produce and sell a certain variety of 
an orange would be considered separate from the orange and not from an 
agricultural or horticultural product.
    One commenter requested that the definition be omitted on the 
premise that the meaning of farming and agricultural or horticultural 
product is generally understood by the agricultural community and their 
advisors, and argued that there was no current, comprehensive 
definition of these terms in the Code or regulations. Because section 
199A(g) is focused solely on dispositions of agricultural or 
horticultural products, as opposed to the broader scope of former 
section 199, the Treasury Department and the IRS have determined a 
definition is necessary to provide guidance on the limits of the 
section 199A(g) deduction. As an alternative to removing the 
definition, the commenter recommended against referencing non-tax 
legislation or regulations because the definitions were developed 
independent of tax law. The Treasury Department and the IRS have 
determined that using

[[Page 5551]]

the definition from the Proposed Regulations, based on a pre-existing 
definition from non-tax cooperative law specifically referencing the 
type of cooperative at issue here, is the best alternative, but have 
made some modifications based on the commenter's suggested definition. 
The definition in the final regulations includes parts of the 
commenter's suggested definition, by providing examples (without 
limitation) of products that are considered agricultural or 
horticultural products, including specific agricultural or 
horticultural products, livestock products, edible forestry products, 
and farmed aquatic products.
ii. Comments on Exclusion of Intangible Property
    A commenter requested that the definition of agricultural or 
horticultural products include intangible property. The commenter 
reasoned that because a license is a disposition under section 
199A(g)(3)(D) for purposes of determining if gross receipts qualify as 
DPGR, an exploitation of intangible property is implied. However, the 
inclusion of the term license under section 199A(g)(3)(D) does not 
impact the definition of agricultural or horticultural products. The 
term license also appeared in former section 199(c)(4)(A)(i), which was 
the equivalent of section 199A(g)(3)(D) under former section 199. Under 
former section 199, DPGR generally meant the gross receipts of the 
taxpayer derived from qualifying production property (QPP) which was 
MPGE by the taxpayer in whole or significant part within the US. Income 
from the disposition of intangible property (with the specific 
exception of computer software, sound recordings under section 
168(f)(4), and qualified films under former section 199(c)(6)) were 
generally excluded from DPGR. This was because intangible property was 
not QPP (as defined in former section 199(c)(5), also see former Sec.  
1.199-3(j)(2)(iii)). The proposed definition and rules reach a similar 
result for purposes of section 199A(g).
    Also related to intangible property, the commenter specifically 
requested that gross receipts qualify as DPGR from the disposition of 
an agricultural or horticultural product when a Specified Cooperative 
enters into a long-term arrangement with an unrelated third party, 
under which (1) the Specified Cooperative develops a finished retail 
product with the unrelated third party, (2) the finished retail product 
contains a patron's product as an ingredient, and (3) the Specified 
Cooperative receives a royalty or license fee based on the sale of the 
finished retail product irrespective of whether the Specified 
Cooperative's brand, label, and/or tradename is featured on the 
finished retail product. The situation described by the commenter is 
very fact specific and raises multiple possible issues for purposes of 
section 199A(g). Among the issues to consider are what property or 
properties the Specified Cooperative is deriving gross receipts from in 
the normal course of business, and which party is the producer of the 
property. Because of the fact specific nature of the comment, and 
multiple possible outcomes, there is no rule or example to address this 
specific situation in the final regulations.
    After consideration of the comments, the final regulations maintain 
the approach in the Proposed Regulations that the definition of 
agricultural or horticultural products does not include intangible 
property, but also provide language further clarifying the exclusion. 
The clarifying language provides that intangible rights include the 
rights to MPGE and sell an agricultural or horticultural product with 
certain characteristics protected by a patent and the trademark of a 
brand. Further examples 9 and 10 have been added to Sec.  1.199A-8(e) 
to illustrate concepts related to intangible property transactions and 
the disposition of agricultural or horticultural products.
iii. Comments on ``Other Supplies''
    Included in the definition of agricultural or horticultural 
products are other supplies that are MPGE by the Specified Cooperative. 
A commenter suggested that the MPGE requirement be removed from ``other 
supplies'' on the basis that Joint Committee Report footnote 120 cites 
Sec.  1.199-6(f), which made no mention of a MPGE requirement as it 
pertained to ``other supplies'' being agricultural or horticultural 
products. However, footnote 120 explicitly mentions a MPGE requirement 
as it pertains to other supplies. The Joint Committee Report also 
explains that after the amendments to section 199A(g) made by the 2018 
Act, ``[t]he definition of [specified agricultural or horticultural 
cooperative] no longer includes a [C]ooperative solely engaged in the 
provision of supplies, equipment, or services to farmers or other 
specified agricultural or horticultural cooperatives.'' Joint Committee 
Report, 23. Based upon these considerations, subjecting ``other 
supplies'' to a MPGE requirement before being considered agricultural 
or horticultural products is appropriate.
    Commenters also requested that ``other supplies'' be further 
illustrated with examples. The final regulations include more examples 
of ``other supplies'' such as seed, feed, herbicides, and pesticides.
    Finally, one commenter requested that language be added to the 
definition of agricultural or horticultural products to include 
supplies used in activities under Sec.  1.199A-9(f)(2) and (3). Under 
proposed Sec.  1.199A-9(f)(2) and (3), if the Specified Cooperative 
performs packaging, repackaging, labeling, or installation with respect 
to an agricultural or horticultural product and engages in no other 
MPGE activity with respect to that agricultural or horticultural 
product, the Specified Cooperative's activity does not qualify as MPGE 
with respect to that agricultural or horticultural product. Based on 
this rule, to the extent a Specified Cooperative performs MPGE 
activities with respect to an agricultural or horticultural product, 
and in conjunction performs a packaging, repackaging, labeling, or 
installation activity, the activities are treated as part of the MPGE 
of the agricultural production. The packaging or labeling materials 
used may also be treated as part of the agricultural or horticultural 
product. For example, if a Specified Cooperative packages an 
agricultural or horticultural product that the Specified Cooperative 
had MPGE, then the packaging activity is treated as part of the MPGE of 
the agricultural or horticultural product, and gross receipts from the 
sale of the packaged agricultural or horticultural product all qualify 
as DPGR, assuming all other requirements for such treatment are met. 
However, property packaged or offered with an agricultural or 
horticultural product that is not an agricultural or horticultural 
product (or packaging) is not considered part of the agricultural or 
horticultural product.

C. Identifying Patronage Items and Exclusion of Nonpatronage Items for 
Nonexempt Specified Cooperatives

    As previously described, proposed Sec.  1.199A-8(b) outlines a 
four-step process for nonexempt Specified Cooperatives to use in 
calculating the section 199A(g) deduction. Step 1, in proposed Sec.  
1.199A-8(b)(2)(i) and (ii), requires a nonexempt Specified Cooperative 
to identify its gross receipts, COGS, deductions, W-2 wages, etc. as 
patronage or nonpatronage, and allows only the patronage activities to 
be included in the calculation of the section 199A(g) deduction. One 
commenter described step 1 as burdensome and unnecessary, and suggested 
removal of that step. Further, the commenter asserted that both

[[Page 5552]]

patronage and nonpatronage activities should be included in the section 
199A(g) deduction calculation for nonexempt Specified Cooperatives. The 
commenter provided, as an alternative to removal of that step, that 
these rules be reserved until the conclusion of litigation under former 
section 199 relating to the calculation of the former section 199 
deduction by Specified Cooperatives.
    The Treasury Department and the IRS decline to adopt these comments 
in the final regulations for the reasons described in the following 
paragraphs. However, the final regulations make revisions to the 
proposed regulations to benefit and reduce complexity for Specified 
Cooperatives with de minimis gross receipts from nonpatronage 
activities.
    Section 199A(g)(4)(A) defines a Specified Cooperative, in part, as 
an organization to which part I of subchapter T applies. Under section 
1381(a)(2), subchapter T applies to any corporation operating on a 
cooperative basis, with certain exceptions not relevant here. In the 
commenter's view, this means that if subchapter T applies, it applies 
to the entire corporation, and the benefits of the section 199A(g) 
deduction should follow that determination. In support of this 
position, the commenter argues that the plain language of the statute 
and the Joint Committee Report do not limit the deduction to patronage 
activities. The commenter's view fails to properly take into account 
how subchapter T applies to nonexempt Cooperatives that have both 
cooperative and noncooperative operations. This is an especially 
important consideration because of the exclusion of C corporations from 
the definition of eligible taxpayers under section 199A(g)(2)(D)(i), 
and the fact that section 199A as a general matter is not intended to 
benefit C corporations.
    When a nonexempt Cooperative does not act entirely on a cooperative 
basis under subchapter T, its activities are characterized as patronage 
or nonpatronage, and accordingly, the tax items from these distinct 
activities receive different treatment. See Buckeye Countrymark, Inc. 
v. Comm'r, 103 T.C. 547, at 559 (1994) (explaining that ``subchapter T 
requires nonexempt cooperatives to separate income and deductions into 
two categories or baskets, one for patronage income and deductions and 
one for nonpatronage income and deductions'') and Farm Service Coop. v. 
Comm'r, 619 F.2d 718 (8th Cir. 1980) (subchapter T prohibits the 
netting of patronage losses against nonpatronage income). Cooperative 
activities generate patronage income and deductions and are taxed on a 
cooperative basis, generally resulting in a single-level of tax to the 
Cooperative or the patrons after application of the rules under 
subchapter T. See Joint Committee Report, 20 (explaining that 
``excluding patronage dividends and per-unit retain allocations paid by 
the cooperative from the cooperative's taxable income in effect allows 
the cooperative to be a conduit with respect to profits derived from 
transactions with its patrons''). In contrast, noncooperative 
activities of a Cooperative generate nonpatronage income and deductions 
and are taxed like a for-profit business of a C corporation, resulting 
in a double-level of tax, that is, at both the Cooperative and patron 
levels. See, for example, Farm Service at 723, and Conway Cty. Farmers 
Ass'n v. United States, 588 F.2d 592, 596 (8th Cir. 1978) (describing 
nonpatronage income as being taxed as a for-profit business in case 
where organization found to be operating on a cooperative basis with 
more than 50 percent of business done with nonmembers).
    There is limited guidance as to how much of an organization's 
activities must be conducted on a cooperative basis for the 
organization to qualify as a Cooperative under subchapter T, but the 
available guidance suggests a low threshold in certain cases. To the 
extent this is true, it allows for the noncooperative activities to be 
of substantial value relative to the organization's cooperative 
activities. For example, in Columbus Fruit and Vegetable Coop. Ass'n, 
Inc. v. United States, 7 Cl. Ct. 561 (March 27, 1985), the court held 
that an agricultural organization whose sales of members' merchandise 
accounted for only about 24 percent of value of its total sales for the 
tax years in question was nevertheless a corporation operating on a 
cooperative basis within the meaning of the Code, and thus was entitled 
to deduct patronage dividends paid to its members.
    The Treasury Department and IRS compared how application of the 
rules of subchapter T aligned with the commenter's proposal and with 
the Proposed Regulations and found the subchapter T rules align better 
with the Proposed Regulations. Among the scenarios considered were C 
corporations engaged in the following: (1) An agricultural business 
with no cooperative activities (scenario 1); (2) an agricultural 
business operating entirely on a cooperative basis considered a 
nonexempt Specified Cooperative (scenario 2); and, (3) an agricultural 
business with a mixed percentage of business from cooperative and 
noncooperative activities that qualifies as a nonexempt Specified 
Cooperative (scenario 3).
    In the first and second scenarios, both the commenter's proposal 
and the Proposed Regulations reach the same conclusions. In the first 
scenario, because none of the organization's activities are conducted 
on a cooperative basis, subchapter T does not apply to the 
organization, and the organization receives no benefits from the 
section 199A(g) deduction. In the second scenario, because all the 
organization's activities are conducted on a cooperative basis, the 
benefits of subchapter T apply to all of the organization's activities, 
and the organization can calculate the section 199A(g) deduction based 
on all its activities.
    It is the third scenario where the conclusions under the 
commenter's proposal and the Proposed Regulations differ. Under the 
commenter's proposal, subchapter T applies to the organization and so 
the organization should calculate a single section 199A(g) deduction by 
aggregating the patronage income, deductions, etc., resulting from 
cooperative activities and the nonpatronage income, deductions, etc., 
resulting from noncooperative activities. The commenter's proposal 
would permit a Specified Cooperative to calculate and take the section 
199A(g) deduction on its business activities that are not operated on a 
cooperative basis (those activities that generate income that is taxed 
as that of a C corporation). This would be the case even where a 
substantial portion of the income of the Specified Cooperative is 
generated from business activities not operated on a cooperative basis. 
In contrast, the Proposed Regulations allow the organization to 
calculate the section 199A(g) deduction based only on the patronage 
income, deductions, etc., resulting from the organization's cooperative 
activities.
    The Proposed Regulations, and not the commenter's proposal, align 
with subchapter T and the structure and intent of section 199A. Under 
subchapter T, a nonexempt Cooperative with both cooperative and 
noncooperative activities receives beneficial single-level tax 
treatment only on its patronage income, and its income from operating 
as a C corporation (that is, nonpatronage income) receives double-level 
tax treatment. Farm Service at 723. Generally, section 199A was 
structured to give businesses that are not operating as C corporations 
a deduction that corresponds to the TCJA's reduction of

[[Page 5553]]

the top corporate rate of tax from 35 percent to 21 percent under 
section 11. Indeed, Congress needed to specifically clarify that 
Specified Cooperatives could benefit from the section 199A deduction 
because Cooperatives are C Corporations. See section 1382(a)(2). That 
is, Congress, in including section 199A(g), was making sure that 
Specified Cooperatives received a benefit when operating as 
Cooperatives. This also makes sense when considering that patronage 
distributions deductible under section 1382 to a Specified Cooperative, 
which enable the Specified Cooperative to act as a conduit for its 
patrons, are taxed to the patrons eligible for the section 199A(a) 
deduction at individual rates. The Proposed Regulations align with this 
intent because only the activities resulting in patronage income 
receive beneficial treatment under section 199A(g), and income arising 
from nonpatronage activities continues to be taxed as income from a C 
corporation. Were the result as requested by commenter, a C corporation 
conducting a portion of its business on a cooperative basis would 
receive the benefits of both the reduced corporate income tax rate and 
the section 199A(g) deduction with respect to its nonpatronage 
activities, giving it a competitive advantage relative to a regular C 
corporation.
    The commenter also referred to section 199A(g)(6), which provides 
that the Secretary shall prescribe regulations as are necessary to 
carry out the purposes of section 199A(g), and that the regulations 
shall be based on the regulations applicable to Cooperatives and their 
patrons under section 199 (as in effect before its repeal). The 
commenter noted that the former section 199 regulations did not exclude 
nonpatronage income from the calculation of the former section 199 
deduction. However, because there are material differences between 
former section 199 and section 199A, section 199A(g)(6) does not 
require that the section 199A(g) regulations replicate or duplicate the 
former section 199 regulations in their entirety. The former section 
199 regulations did not specifically address an organization with 
cooperative and noncooperative operations because former section 199 
applied to all categories of businesses, including C corporations, 
whether operating on a cooperative basis, noncooperative basis, or 
both. In contrast to the former section 199 deduction, the section 
199A(g) deduction, which must be read in the context of section 199A, 
does not apply to C corporations generally. Unlike for the former 
section 199 regulations, clarification of this distinction is necessary 
to carry out the purposes of section 199A(g), which include providing 
the section 199A(g) deduction for the patronage activities of Specified 
Cooperatives. Clarification of this distinction is also necessary to 
assist taxpayers in complying with the law, as well as to aid the 
proper administration of section 199A(g).
    The Treasury Department and the IRS also considered the recent 
opinions in Ag Processing, Inc. v. Comm'r, 153 T.C. No. 3 (2019), and 
Growmark, Inc. & Subsidiaries v. Comm'r, T.C. Memo. 2019-161. These 
cases are the litigation referred to by the commenter. In Ag Processing 
and Growmark, the Tax Court determined that under former section 199, a 
nonexempt agricultural Cooperative should calculate the section 199 
deduction in the aggregate by combining patronage and nonpatronage 
items and then allocating the total section 199 deduction between the 
Cooperative's patronage and nonpatronage businesses. These cases do not 
support, and in fact, conflict with the commenter's proposal in that 
they require an allocation of the former section 199 deduction between 
patronage and nonpatronage businesses. At the same time, the Tax 
Court's approach in these cases allows the proceeds of the cooperative 
and noncooperative businesses to be combined to calculate an aggregate 
deduction before allocation. The allowance of an aggregate calculation 
highlights the difference between section 199A(g), benefitting solely 
cooperative activities, and former section 199, benefitting both 
cooperative and noncooperative activities. Thus, the cases do not 
necessitate that final regulations adopt an approach different from 
that of the Proposed Regulations. Based on the commenter's proposal, 
the Treasury Department and IRS considered calculating the section 
199A(g) deduction on an aggregate basis and then disallowing the 
nonpatronage portion, but this would require unnecessary calculations 
and likely prove less accurate than the straightforward calculation 
provided in the Proposed Regulations.
    Finally, the Treasury Department and IRS considered how the 
commenter's proposal would align with the treatment of exempt Specified 
Cooperatives. The commenter's proposal would allow both exempt and 
nonexempt Specified Cooperatives to calculate their section 199A(g) 
deductions based on both cooperative and noncooperative activities. The 
Proposed Regulations permit only exempt Specified Cooperatives to 
calculate their section 199A(g) deductions based on both cooperative 
and noncooperative activities. Under subchapter T, exempt Cooperatives 
can receive the beneficial single-level tax treatment with respect to 
both types of business activities while nonexempt Cooperatives cannot. 
In effect, by meeting the requirements of section 521, the entirety of 
an exempt organization's operations can be treated as done on a 
cooperative basis. Exempt Specified Cooperatives, thus, are effectively 
equivalent to the described scenario 2 (a nonexempt Specified 
Cooperative operating entirely on a cooperative basis). The commenter's 
proposal would provide the same benefits of the section 199A(g) 
deduction to nonexempt Specified Cooperatives without requiring those 
Cooperatives to meet the requirements of section 521.
    In summary, the Treasury Department and the IRS have determined 
that retaining step 1 in proposed Sec.  1.199A-8(b)(2)(i) and (ii) is 
the approach for calculating the section 199A(g) deduction that best 
reflects the law and is most consistent with the scope of section 
199A(g) and the application of subchapter T to nonexempt Cooperatives.
    The final regulations, however, revise the rule for applicable 
gross receipts in Sec.  1.199A-8(b)(2)(ii) to allow a Specified 
Cooperative to include all nonpatronage gross receipts in non-DPGR for 
purposes of the de minimis rules in Sec.  1.199A-9(c)(3), while also 
increasing the de minimis percentage in the de minimis rules in Sec.  
1.199A-9(c)(3) from 5 percent to 10 percent. These revisions expand the 
type of gross receipts eligible for the de minimis rules and should 
increase the number of Specified Cooperatives that can apply the de 
minimis rules. Applying the de minimis rule in Sec.  1.199A-9(c)(3)(i) 
after these revisions means that a Specified Cooperative when 
calculating its patronage section 199A(g) deduction can treat all of 
its gross receipts as DPGR when the Specified Cooperative derives less 
than 10 percent of its total gross receipts from non-DPGR (with non-
DPGR now possibly including all gross receipts from nonpatronage as 
well as other patronage non-DPGR). While this provides the benefit of 
increased DPGR, application of the de minimis rule in Sec.  1.199A-
9(c)(3)(i) also reduces complexity by simplifying the allocations 
needed to calculate the section 199A(g) deduction. Under Sec.  1.199A-
9(c)(3)(ii), the revisions also make it possible for any Specified 
Cooperative deriving less than 10 percent of their gross receipts from

[[Page 5554]]

DPGR to treat all of their gross receipts as non-DPGR. The final 
regulations also update Sec.  1.199A-8(b)(5)(ii)(C), Sec.  1.199A-
8(c)(2) and (4), and Sec.  1.199A-12(b)(1) to take these revisions into 
account.

D. Exempt Specified Cooperative Calculation of Nonpatronage Section 
199A(g) Deduction

    Rules for exempt Specified Cooperatives to calculate the section 
199A(g) deduction were included in proposed Sec.  1.199A-8(c). 
Specifically, under proposed Sec.  1.199A-8(c)(2), an exempt Specified 
Cooperative calculates separate patronage and nonpatronage section 
199A(g) deductions, as is consistent with the administration of former 
section 199. One commenter disputed that separate calculations were 
required under former section 199 and further stated that separate 
calculations are unnecessary since exempt Specified Cooperatives are 
permitted the section 199A(g) deduction on both their patronage and 
nonpatronage income. Contrary to the commenter's assertion, the 
instruction to line 25 for Agricultural and Horticultural Cooperatives 
on the Form 8903, Domestic Production Activities Deduction, makes clear 
that the calculations are made separately. This step is necessary 
because allowing an aggregate calculation and allocation results in 
less accurate patronage and nonpatronage deductions because alignment 
of the appropriate W-2 wages, COGS, and other expenses from an activity 
with the income from that activity is lost on aggregation, and 
difficult to rectify on allocation. For these reasons, the final 
regulations maintain the requirement of separate calculations of the 
patronage section 199A(g) deductions and nonpatronage section 199A(g) 
deductions by exempt Specified Cooperatives. However, the revisions in 
the final regulations to Sec.  1.199A-8(b)(2)(ii) and the increase in 
the de minimis percentage under Sec.  1.199A-9(c)(3) will simplify the 
allocations needed to calculate the section 199A(g) deduction for an 
exempt Specified Cooperative with de minimis nonpatronage gross 
receipts.

E. Definition of Taxable Income

i. General Definition Comments
    Proposed Sec.  1.199A-8(b)(5)(ii)(C) provides that taxable income 
is defined in section 1382 and Sec.  1.1382-1 and Sec.  1.1382-2. For 
purposes of determining the amount of the deduction allowed under Sec.  
1.199A-8(b)(5)(ii), taxable income is limited to taxable income and 
related deductions from patronage sources. Patronage NOLs reduce 
taxable income. Taxable income is determined without taking into 
account the section 199A(g) deduction or any deduction allowable under 
section 1382(b). Further, taxable income is determined using the same 
method of accounting used to determine distributions under section 
1382(b) and qualified payments to eligible taxpayers.
    One commenter stated that the definition of taxable income should 
refer to section 63, and take into account both patronage and 
nonpatronage income (including NOLs) on an aggregate basis. The 
Treasury Department and the IRS agree that section 63 generally defines 
taxable income. In response, the definition of taxable income in the 
final regulations has been modified so that it also includes a 
reference to section 63. However, consistent with the exclusion of 
nonpatronage items from the calculation of the section 199A(g) 
deduction, the final regulations continue to limit the definition to 
patronage taxable items for purposes of the limitation.
    The commenter also stated that the requirement that Specified 
Cooperatives use the same method of accounting to determine taxable 
income, distributions under section 1382(b), and qualified payments is 
in error. Specifically, commenter stated that patronage dividends or 
other similar payments to patrons can be calculated on a book basis 
because it is a more accurate economic measure of income over time. The 
commenter provided an example where accelerated depreciation and other 
book/tax items often cause timing differences that may 
disproportionately benefit longer-term patrons over shorter-term 
patrons. Commenter further maintained that Cooperatives have been 
allowed to determine payments to patrons pursuant to methods other than 
on tax basis. The commenter pointed to section 1388(a)(3), which in 
defining patronage dividends, references the net earnings of the 
organization. In the commenter's view, the use of net earnings rather 
than taxable income means that net earnings do not necessarily 
correlate to taxable income. Further, the commenter pointed to Example 
2 of former Sec.  1.199-6(m) that included language indicating 
patronage distributions could be paid based on book or Federal income 
tax net earnings, as well as the requirement on Form 1120-C (U.S. 
Income Tax Form for Cooperative Associations) that a cooperative 
disclose the method of accounting used to compute distributable 
patronage income, with the choices being ``Book,'' Tax,'' and 
``Other.''
    In reviewing this part of the definition, the Treasury Department 
and the IRS determined it is unnecessary for defining taxable income to 
include the requirement that taxable income is determined using the 
same method of accounting used to determine distributions under section 
1382(b) and qualified payments to eligible taxpayers. Accordingly, the 
final regulations do not include this requirement in Sec.  1.199A-
8(b)(5)(ii)(C) and also do not include a similar requirement in Sec.  
1.199A-8(c)(4)(i). The commenter's example and reasoning, however, 
relate more to the deductibility under section 1382 of distributions to 
patrons calculated on a book basis when there are book/tax differences, 
which is outside of the scope of the final regulations. No inference as 
to the deductibility of distributions to patrons under section 1382 is 
intended by removing this language (regardless of the method used to 
determine the payments).
ii. Comments on Net Operating Loss (NOL) Ordering Rules
    Proposed Sec.  1.199A-8(b)(5)(ii)(C) provides that patronage NOLs 
reduce taxable income. However, taxable income does not take into 
account the section 199A(g) deduction or any deduction allowable under 
section 1382(b). A commenter requested clarification on ordering rules 
concerning the interplay of NOLs, section 1382(b), and section 199A(g) 
deductions. Specifically, the commenter requested that final 
regulations clarify that the amount of an NOL that is taken into 
account for purposes of calculating the section 199A(g) deduction is 
the amount that the Specified Cooperative actually used in computing 
taxable income on its tax return for the year. The commenter further 
suggested that NOLs should not be regarded as having been used against 
any patronage dividends or per-unit retain allocations that are 
disregarded in computing taxable income for purposes of the section 
199A(g) deduction limitation. The commenter provided an example where a 
nonexempt Specified Cooperative generated $100 of QPAI and taxable 
income, without taking account any of its deductions under section 
1382(b) or section 199A(g), or an NOL carryover of $500. In the 
commenter's example, the nonexempt Specified Cooperative was able to 
calculate and use a $9 section 199A(g) deduction, pay out a $91 
patronage dividend, and avoid using any of the $500 NOL carryover.
    In consideration of the commenter's example, the Treasury 
Department and

[[Page 5555]]

the IRS reviewed Examples 1 and 2 in former Sec.  1.199-1(b)(2), which 
illustrated that when calculating and using the former section 199 
deduction, taxable income is reduced by any available NOL or NOL 
carryovers, before being reduced by the section 199 deduction. This 
avoided having the former section 199 deduction create or increase an 
NOL, but did not illustrate how section 1382 deductions impacted the 
calculation or use of the former section 199 deduction. Consistent with 
former section 199, taxable income for purposes of calculating the 
section 199A(g) deduction should take into account an NOL or NOL 
carryover. After calculation, the section 199A(g) deduction should not 
create or increase an NOL or NOL carryover. The section 199A(g) 
deduction also should not be used as a substitute for an NOL carryover 
when a Specified Cooperative has taxable income remaining after its 
section 1382 deductions, but before the section 199A(g) deduction is 
taken.
    Using the facts of the commenter's example, this means that for 
purposes of calculating the section 199A(g) deduction, the $500 NOL 
carryover should reduce taxable income by $9, which is the amount that 
remains after the section 1382(b) deduction. Taxpayer would calculate a 
section 199A(g) deduction based on $91 (the lesser of QPAI ($100) or 
taxable income ($91), without taking section 1382(b) deduction into 
account). As a result under these facts, taxpayer would have $0 of 
taxable income after taking a section 1382 deduction of $91 and using 
$9 of the $500 NOL carryover (leaving a $491 NOL carryover). The 
Specified Cooperative could pass through the section 199A(g) deduction 
to patrons and reduce its section 1382 deduction accordingly. However, 
if the Specified Cooperative did not pass through the section 199A(g) 
deduction it would be lost because the deduction cannot increase an NOL 
carryover. In accordance with this analysis, the definition of taxable 
income in Sec.  1.199A-8(b)(5)(ii)(C) and the rules in Sec.  1.199A-
8(b)(6) related to a Specified Cooperative using the section 199A(g) 
deduction have been updated. To illustrate this ordering rule, example 
5 has also been added under Sec.  1.199A-8(e). Based on this ordering 
rule and its reasoning, the Treasury Department and the IRS decline to 
adopt the commenter's approach permitting Specified Cooperatives to 
reduce taxable income by taking the section 199A(g) deduction before 
using an NOL, but clarify that NOLs are not used against taxable income 
that is the result of not taking into account section 1382 deductions 
when calculating the section 199A(g) deduction.
    The commenter also stated that the examples in the proposed 
regulation (Examples 6 and 7 of proposed Sec.  1.199A-8(e)) do not 
consider the more realistic case where the Specified Cooperative made 
payments to patrons that were deductible under section 1382(b). The 
Treasury Department and the IRS agree with this statement, and the new 
example in Sec.  1.199A-8(e) replaces those examples from the Proposed 
Regulations.

F. Pass Through of Section 199A(g) Deduction

    Sections 1.199A-8(d)(1) and (2) of the Proposed Regulations allow a 
Specified Cooperative, at its discretion, to pass through all, some, or 
none of its patronage section 199A(g) deduction to an eligible taxpayer 
(i.e., a patron other than a C Corporation or a patron that is a 
Specified Cooperative), but the amount passed through to any eligible 
taxpayer is limited to the allowable portion of the section 199A(g) 
deduction with respect to the QPAI to which the qualified payments made 
to the eligible taxpayer are attributable. The intent of the proposed 
rule was to allow the Specified Cooperative the benefit of retaining 
and using the amounts equal to the section 199A(g) deduction 
attributable to non-eligible taxpayers (who will not be able to use the 
deduction) at the Specified Cooperative level, even when the Specified 
Cooperative chooses to pass through all or some of the section 199A(g) 
deduction attributable to patrons that are eligible taxpayers. 
Consistent with section 199A(g)(2)(A)(ii), proposed Sec.  1.199A-
8(d)(3) provides that a Specified Cooperative must identify in a 
written notice the amount of the deduction passed through to an 
eligible taxpayer, and the notice must be mailed by the Specified 
Cooperative to the eligible taxpayer no later than the 15th day of the 
ninth month following the close of the taxable year of the Specified 
Cooperative. The 15th day of the ninth month coincides with the end of 
the payment period as described in section 1382(d).
    Commenters asked that the final regulations clarify that a 
Specified Cooperative will not be penalized if it passes through 
information relating to a section 199A(g) deduction to a non-eligible 
taxpayer, and that the ultimate determination of whether the deduction 
that is passed through can be used is the responsibility of the patron. 
One of these commenters indicated that section 199A(g)(2)(A) does not 
require the Specified Cooperative to determine the eligibility of all 
of its patrons. The Treasury Department and the IRS recognize that it 
may be difficult for a Specified Cooperative to determine the 
eligibility status of all patrons, and agree that the ultimate 
determination of eligibility should be made at the patron level. 
Therefore, the final regulations provide that a Specified Cooperative 
may pass through all, some, or none of the section 199A(g) deduction to 
all patrons, with appropriate adjustments to the section 1382 deduction 
depending on the amount passed through, but that only eligible 
taxpayers may claim the section 199A(g) deduction that is passed 
through. In considering this comment, the Treasury Department and the 
IRS also considered proposed Sec.  1.199A-8(d)(5), which provides 
special rules for eligible taxpayers that are Specified Cooperatives, 
and that provides a Specified Cooperative that receives a section 
199A(g) deduction can take the deduction only against patronage gross 
income and related deductions. The final regulations clarify the rule 
to be consistent with the nonpatronage disallowance for nonexempt 
Specified Cooperatives and also provide that only an exempt Specified 
Cooperative can take a section 199A(g) deduction passed through from 
another Specified Cooperative if the deduction relates to the patron 
Specified Cooperative's nonpatronage gross income and related 
deductions.
    In addition to requesting that Specified Cooperatives not be 
required to identify the eligibility of all patrons, commenters 
requested that if a Specified Cooperative does obtain the tax status of 
its patrons so as not to pass through the section 199A(g) deduction to 
an non-eligible taxpayer, then the Specified Cooperative should be 
allowed to retain and use the section 199A(g) deduction from patrons 
that are non-eligible taxpayers while passing through the section 
199A(g) deduction to patrons that are eligible taxpayers, subject to 
the section 199A(g)(1)(A)(ii) limitation. The Treasury Department and 
the IRS intended this result in the Proposed Regulations and have 
revised Sec.  1.199A-8(d)(1) to clarify that if a Specified Cooperative 
obtains the tax status of a patron that is an non-eligible taxpayer, 
the Specified Cooperative may retain the section 199A(g) deduction 
attributable to that patron, even when passing through the deduction to 
other patrons. Example 11 under Sec.  1.199A-8(e) has also been added 
to illustrate allocation rules for situations in which a Specified 
Cooperative retains the

[[Page 5556]]

section 199A(g) deduction attributable to non-eligible taxpayers.
    Another commenter also requested relief from the notice 
requirements in proposed Sec.  1.199A-8(d)(3) in the event that a 
Specified Cooperative wishes to pass through the section 199A(g) 
deduction to patrons but does not send the notice before the payment 
period ends, or passes through an incorrect amount of the section 
199A(g) deduction during the payment period. Specifically, the 
commenter asked if there is a way to issue a late notice or to void or 
otherwise reissue a notice after the payment period. The requirement of 
identifying the amount passed through during the payment period is from 
section 199A(g)(2)(A)(ii). Further, no administrative remedies of this 
type existed under former section 199. The former section 199 rules 
required the notice to be provided during the payment period, and this 
notice worked in conjunction with the recapture provision in former 
Sec.  1.199-6(k) and the no-double counting rule in former Sec.  1.199-
6(l). Finally, the payment period is also used in determining whether a 
distribution is deductible under section 1382(b), so a consistent 
interpretation is appropriate. Thus, no changes were made with respect 
to this comment.

G. Comments on Definition of Qualified Payments

    Section 199A(g)(2)(E) defines qualified payment, with respect to 
any eligible taxpayer, as any amount which is (i) described in section 
1385(a)(1) or (3), (ii) received by the taxpayer from a Specified 
Cooperative, and (iii) is attributable to QPAI with respect to which a 
deduction is allowed to the Specified Cooperative under section 
199A(g)(1). Proposed Sec.  1.199A-8(d)(2)(ii) defines qualified payment 
as ``any amount of a patronage dividend or per-unit retain allocation, 
as described in section 1385(a)(1) or (3) received by a patron from a 
Specified Cooperative that is attributable to the portion of the 
Specified Cooperative's QPAI, for which the cooperative is allowed a 
section 199A(g) deduction. For this purpose, patronage dividends 
include any advances on patronage and per-unit retain allocations 
include per-unit retains paid in money during the taxable year. A 
Specified Cooperative calculates its qualified payment using the same 
method of accounting it uses to calculate its taxable income.'' The 
inclusion of advances on patronage and per-unit retains paid in money 
during the taxable year is consistent with the definition in former 
Sec.  1.199-6(e).
    The commenter asserted that when a Specified Cooperative's section 
199A(g) deduction is W-2 wage-limited under section 199A(g)(1)(B), 
section 199A(g)(2)(E)(iii) requires qualified payments to reflect the 
limitation for purposes of the section 199A(b)(7) reduction. The 
commenter provided an example where the Cooperative's W-2 wage-limited 
section 199A(g) deduction is $50, but would have been $100 absent the 
W-2 wage limitation, and so the commenter proposed that only 50 percent 
of patronage dividends (or per-unit retain allocations) would be 
``qualified payments'' under section 199A(g)(2)(E).
    The definition of qualified payment in former section 199 and 
section 199A is almost identical. Under former section 199, the 
definition in section 199(d)(3)(E)(iii) provided that a qualified 
payment is an amount which is attributable to QPAI with respect to 
which a deduction is allowed to such cooperative under section 199(a). 
Section 199(A)(g)(2)(E)(iii) provides the same except that it refers to 
the deduction allowed to such cooperative under section 199A(g)(1). In 
former section 199, the amount allowed under former section 199(a) did 
not consider the W-2 wage limitation, which was in section 199(b). 
Section 199A(g)(1) is organized so that section 199A(g)(1)(A) is 
equivalent to former section 199(a) and section 199A(g)(1)(B) is 
equivalent to former section 199(b).
    The Proposed Regulations interpreted the definition of qualified 
payment as referring to payments that relate to gross receipts that are 
allowable in the QPAI of a Specified Cooperative for which a deduction 
is allowed under section 199A(g)(1)(A). This is consistent with the 
language used in section 199A(g)(1)(A), which provides that there shall 
be allowed a deduction equal to 9 percent of the lesser of (i) QPAI of 
the taxpayer for the taxable year, or (ii) the taxable income of the 
taxpayer for the taxable year. As relevant, this language parallels 
former section 199(a). This interpretation is directly supported by 
Example 1 of the Joint Committee Report, which illustrates that 
payments to the patron are considered qualified payments for purposes 
of the section 199A(b)(7) reduction when the issuing Specified 
Cooperative's section 199A(g) deduction was W-2 wage-limited. This is 
also consistent with the regulations under former section 199, which 
did not have a proportionality rule for qualified payments. Therefore, 
the final regulations do not incorporate this comment.
    Commenters also requested clarification that the definition of 
qualified payments does not include amounts paid to patrons by 
Specified Cooperatives with respect to activities that do not qualify 
as producing DPGR from the sale of agricultural or horticultural 
products. When gross receipts of a Specified Cooperative are non-DPGR, 
and thus, are not includable in QPAI, payments based on these amounts 
do not meet the definition of qualified payments. The Treasury 
Department and the IRS agree with this comment and view this as 
consistent with the interpretation of qualified payment described 
earlier, but do not consider additional regulatory language necessary 
to clarify this point.
    Commenters also suggested that the last sentence of the definition, 
indicating that a Specified Cooperative calculates its qualified 
payment using the same method of accounting it uses to calculate its 
taxable income, was added in error and should be removed. This sentence 
was not in the definition of qualified payment in former Sec.  1.199-
6(e), and the Treasury Department and the IRS have removed the sentence 
for consistency with former Sec.  1.199-6(e). Further, the definition 
of qualified payments already encompasses this concept with its 
references to patronage dividends and per-unit retain allocations, as a 
Specified Cooperative calculates patronage dividends and per-unit 
retain allocations when determining taxable income.

H. Comments on Examples in Proposed Sec.  1.199A-8(e)

    Commenters requested clarification on Examples 1 and 2 of proposed 
Sec.  1.199A-8(e), asking how both examples are based on the same 
facts, but the payment in Example 1 is deemed a per-unit retain 
allocation, while the payment in Example 2 is deemed a purchase. 
Commenters indicated that without further explanation, the examples 
were confusing. Example 2 has been removed to eliminate any confusion 
as Example 1 is consistent with Example 1 from the Joint Committee 
Report. Example 1 has also been slightly modified for clarity and to 
more closely track Example 1 from the Joint Committee Report. In 
general, the determination of whether a payment is a per-unit retain 
allocation is made based on the definition in section 1388(f). Section 
1388(f) defines per-unit retain allocations as any allocation, by an 
organization to which part I of subchapter T apples, to a patron with 
respect to products marketed for the patron, the amount of which is 
fixed without reference to the net earnings of the organization 
pursuant to an agreement between the organization and

[[Page 5557]]

the patron. Per-unit retain allocations are qualified payments (to the 
extent all other requirements are met) under the definition in Sec.  
1.199A-8(d)(2)(ii).
    One commenter also requested clarification on whether it is 
possible for a Specified Cooperative and its patrons to contractually 
agree that a payment is not a qualified payment. The Treasury 
Department and the IRS believe that an agreement to treat a payment 
that otherwise meets the definition of qualified payment as something 
else would be inappropriate and ineffective. A payment meeting the 
definition of a qualified payment should be characterized as a 
qualified payment.
    Commenters also asked that Examples 1-3 from former Sec.  1.199-
6(m) be included in the final regulations. Similar to Example 2 of 
proposed Sec.  1.199A-8(e), the facts of Examples 1 and 2 from former 
Sec.  1.199-6(m) both treat the Cooperative payments to patrons as 
purchases rather than per-unit retain allocations. In order to avoid 
confusion, the examples were modified to be consistent with Example 1 
from the Joint Committee Report. The final regulations include Examples 
1-3 from former Sec.  1.199-6(m) as Examples 6, 7, and 8 under Sec.  
1.199A-8(e).

I. Comments on Rules for Specific Cooperative Partners in Proposed 
Sec.  1.199A-8(f)

    Under proposed Sec.  1.199A-8(f), a Specified Cooperative that is a 
partner in a partnership must determine which Schedule K-1 allocations 
(i.e., gross receipts and related deductions) qualify as DPGR and use 
the items to calculate its corresponding section 199A(g) deduction. A 
commenter noted that W-2 wages generated by the partnership should be 
passed on to the Specified Cooperative partner, relying on section 
199A(f)(1)(A)(iii) and former Sec.  1.199-5(b)(1)(i). The Treasury 
Department and the IRS agree and have amended Sec.  1.199A-8(f) 
accordingly. Section 1.199A-8(f) of the final regulations also includes 
the share of COGS to maintain consistency with former Sec.  1.199-
5(b)(1)(i), which allowed for the allocation of COGS to partners.
    A commenter also requested that if a partnership conducts MPGE 
activities that result in DPGR, then a Specified Cooperative partner in 
that partnership should be treated as if the activities were directly 
conducted by the Specified Cooperative. The Treasury Department and IRS 
agree with the comment and Sec.  1.199A-8(f) now allows for two-way 
attribution, meaning: (1) A partnership's activities alone with respect 
to an agricultural or horticultural product can qualify the gross 
receipts for the Specified Cooperative partner, and (2) a partnership 
can be attributed the activities of the Specified Cooperative partner 
(including those activities that a specified partner is attributed from 
patrons) so that the gross receipts can be DPGR.

III. Sec.  1.199A-9, Domestic Production Gross Receipts

A. In General

    Section 199A(g)(3)(D) defines the term DPGR to mean gross receipts 
of a Specified Cooperative derived from any lease, rental, license, 
sale, exchange, or other disposition (collectively, a disposition) of 
any agricultural or horticultural product which was MPGE (determined 
after application of section 199A(g)(4)(B)) by the Specified 
Cooperative in whole or significant part within the United States. DPGR 
does not include gross receipts of the Specified Cooperative derived 
from a disposition of land or from services. Section 199A(g)(4)(B) 
treats marketing Specified Cooperatives as having MPGE any agricultural 
or horticultural product in whole or significant part within the United 
States if their patrons have done so. Proposed Sec.  1.199A-9 provides 
rules for determining whether gross receipts are DPGR, and provides 
methods of allocating gross receipts between DPGR and non-DPGR. 
Proposed Sec.  1.199A-9 was based on Sec.  1.199-3 of the former 
section 199 regulations, but also incorporated rules from former Sec.  
1.199-1(d)(1) through (3) and Sec.  1.199-1(e). Former Sec.  1.199-
1(d)(1) through (3) and Sec.  1.199-1(e) relate to the allocation of 
gross receipts between DPGR and non-DPGR, determining whether an 
allocation method is reasonable, treating de minimis gross receipts as 
DPGR or non-DPGR, and the use of historical data to allocate gross 
receipts for certain multiple-year transactions. The Proposed 
Regulations were intended to be interpreted in a manner consistent with 
the interpretation under former section 199. Other than as described in 
response to the specific comments, the final regulations generally 
follow the Proposed Regulations.

B. Reasonable Method of Allocating Gross Receipts Between DPGR and Non-
DPGR

    Under proposed Sec.  1.199A-9(c)(1), Specified Cooperatives must 
use a reasonable method when allocating gross receipts between DPGR and 
non-DPGR. This reasonable method must be consistently applied from one 
taxable year to another, and must clearly reflect the portion of gross 
receipts for the taxable year that is DPGR and the portion of gross 
receipts that is non-DPGR. Proposed Sec.  1.199A-9(c)(2) provides that 
if a Specified Cooperative has the information readily available and 
can, without undue burden or expense, specifically identify whether the 
gross receipts are derived from an item as defined in proposed Sec.  
1.199A-9(e)(1)(i) (and thus, are DPGR), then the Specified Cooperative 
must use that specific identification method to determine DPGR. If the 
Specified Cooperative does not have information readily available to 
specifically identify whether gross receipts are derived from an item 
or cannot, without undue burden or expense, specifically identify 
whether the gross receipts are derived from an item, then the Specified 
Cooperative can use a reasonable method. Among the seven factors listed 
for determining whether a method is reasonable is whether the Specified 
Cooperative applies the method consistently from year to year.
    A commenter observed that former Sec.  1.199-8(a) did not prevent 
taxpayers from choosing a reasonable method on a year-to-year basis, 
and that former Sec.  1.199-8(a) provided that a taxpayer's change in 
allocating or apportioning items did not constitute a change in method 
of accounting to which the provisions of sections 446 and 481 and the 
regulations under sections 446 and 481 apply. The Treasury Department 
and the IRS agree with the commenter that any change to an allocation 
or apportionment of items should not constitute a change in method of 
accounting to which the provisions of sections 446 and 481 and the 
regulations under sections 446 and 481 apply. However, the final 
regulations maintain the rule from the Proposed Regulations. The 
Treasury Department and the IRS incorporated the ``consistently 
applied'' requirement into proposed Sec.  1.199A-9(c)(1) to be 
consistent with the section 199A(a) regulations, specifically Sec.  
1.199A-3(b)(5). Further, if a method is not reasonable because it no 
longer clearly reflects the gross receipts from DPGR and non-DPGR, the 
method cannot continue to be used. The Specified Cooperative must 
choose a new method that is reasonable under the facts and 
circumstances and apply it consistently going forward.
    The same commenter also claimed that former section 199 did not 
subject the ``any reasonable method'' determination to the Sec.  
1.199A-9(c)(2) factors. This is incorrect, as the proposed Sec.  
1.199A-9(c)(2) factors follow former Sec.  1.199-1(d)(2), including the 
factor of whether the taxpayer applies

[[Page 5558]]

the method consistently from year to year. Therefore, the use of 
consistency as a factor (Sec.  1.199A-9(c)(2)) follows former Sec.  
1.199-1(d)(2).

C. Interaction of MPGE Rules in Proposed Sec.  1.199A-9(f)(1) With 
(f)(2) and (3)

    MPGE is defined under proposed Sec.  1.199A-9(f)(1) as 
manufacturing, producing, growing, extracting, installing, developing, 
improving, and creating agricultural or horticultural products; making 
agricultural or horticultural products out of material by processing, 
manipulating, refining, or changing the form of an article, or by 
combining or assembling two or more articles; and cultivating soil, 
raising livestock, and farming aquatic products. MPGE also includes 
storage, handling, or other processing activities (other than 
transportation activities) within the United States related to the 
sale, exchange, or other disposition of agricultural or horticultural 
products only if the products are consumed in connection with or 
incorporated into the MPGE of agricultural or horticultural products, 
whether or not by the Specified Cooperative. The Specified Cooperative 
(or the patron if Sec.  1.199A-9(a)(2) applies) must have the benefits 
and burdens of ownership of the agricultural or horticultural products 
under Federal income tax principles during the period the MPGE activity 
occurs in order for the gross receipts derived from the MPGE of the 
agricultural or horticultural products to qualify as DPGR. Under 
proposed Sec.  1.199A-9(f)(2) and (3), if a Specified Cooperative 
engages in packaging, repackaging, labeling, or installation of an 
agricultural or horticultural product, and engages in no other MPGE 
activity with respect to the agricultural or horticultural product, 
then the activities of packaging, repackaging, labeling, or 
installation do not qualify as MPGE with respect to the agricultural or 
horticultural product.
    A commenter suggested the removal of Sec.  1.199A-9(f)(2) and (3) 
on the grounds that ``packaging, repackaging, or labelling, [and] 
installing'' cannot be distinguished from ``storage, handling, and 
other processing activities'' mentioned in proposed Sec.  1.199A-
9(f)(1).
    The Joint Committee Report, in footnote 118, citing Sec.  1.199-
3(e)(1), provides that gross receipts of a Specified Cooperative may 
qualify as DPGR so long as the Specified Cooperative performs storage, 
handling, or other processing activities (other than transportation 
activities) within the United States, provided the products are 
consumed in connection with, or incorporated into, the MPGE of 
agricultural or horticultural products (whether or not by the Specified 
Cooperative). Thus, the Proposed Regulations' definition of MPGE 
included that language. However, Sec.  1.199A-9(f)(2) and (3) 
effectively serve as minimum thresholds for purposes of MPGE 
qualification under Sec.  1.199A-9(f)(1). These requirements were also 
part of the former section 199 regulations at the time of repeal (see 
former Sec.  1.199-3(e)(2) and (3)). A logical reading of these 
paragraphs is that the storage, handling, and other processing 
activities that are described in Sec.  1.199A-9(f)(1) are activities 
that are more extensive than those described in Sec.  1.199A-9(f)(2) 
and (3). Thus, the final regulations do not adopt this suggestion.
    Commenters requested the inclusion of Examples 1 and 2 of former 
Sec.  1.199-3(e)(5) to affirm that the storage of farm products 
qualifies as MPGE. These examples deal with relevant fact patterns, but 
required modification to apply to Specified Cooperatives as the 
examples in former Sec.  1.199-3(e)(5) explicitly state that all 
taxpayers are not Cooperatives. Therefore, Examples 1 and 2, with 
appropriate modifications, have been added under Sec.  1.199A-9(f)(5).

IV. Sec.  1.199A-10, Costs Allocable to DPGR

    Section 1.199A-10 provides guidance on the allocation of costs to 
DPGR. This section provides rules for allocating a taxpayer's COGS, as 
well as other expenses, losses, and deductions properly allocable to 
DPGR. The Proposed Regulations were based on and follow the former 
section 199 regulations in Sec.  1.199-4. No comments were received on 
this part of the Proposed Regulations, and so Sec.  1.199A-10 of the 
Proposed Regulations is adopted without change by the final 
regulations.

V. Sec.  1.199A-11, Wage Limitation

    Section 1.199A-11 provides guidance regarding the W-2 wage 
limitation on the section 199A(g) deduction. No comments were received 
on this part of the Proposed Regulations, and so Sec.  1.199A-11 of the 
Proposed Regulations is adopted without change by the final 
regulations.
    A notice of proposed revenue procedure, Notice 2019-27, 2019-31 
IRB, which proposed a draft revenue procedure providing three proposed 
methods that Specified Cooperatives may use for calculating W-2 wages, 
was issued concurrently with the Proposed Regulations. A revenue 
procedure is a statement of procedure that affects the rights or duties 
of taxpayers under the Code. Consistent with the general purpose of 
publishing revenue procedures in the Internal Revenue Bulletin, the 
methods that taxpayers may use for calculating W-2 wages are set forth 
in a revenue procedure to promote a uniform application of the laws 
administered by the IRS. The revenue procedure may be modified 
independently from the regulations under section 199A if, for example, 
changes unrelated to section 199A or the regulations thereunder are 
made to the underlying Form W-2, Wage and Tax Statement. No comments 
were received on Notice 2019-27. A revenue procedure that conforms with 
the draft, with one modification related to short taxable years, is 
being issued concurrently with the final regulations.

VI. Sec.  1.199A-12, Expanded Affiliated Group (EAG) Rules

    Proposed Sec.  1.199A-12 provides guidance on the application of 
section 199A(g) to an expanded affiliated group (EAG) that includes a 
Specified Cooperative. Section 199A(g)(5)(A)(iii) defines an EAG as an 
``affiliated group as defined in section 1504(a),'' except that the 
ownership threshold is ``more than 50 percent'' as opposed to ``at 
least 80 percent.'' Section 1504(a)(1) defines an affiliated group as 
``1 or more chains of includible corporations connected through stock 
ownership with a common parent corporation which is an includible 
corporation . . . .'' Section 1504(b)(1) further provides that the term 
``includible corporation'' excludes ``[c]orporations exempt from 
taxation under section 501.'' Thus, the final regulations clarify that 
exempt Specified Cooperatives are not eligible to be members of an EAG. 
See Sec.  1.1381-2(a)(1) (treating farmers' cooperatives that are 
exempt from tax under section 521 (such as Specified Cooperatives) as 
exempt organizations under section 501 ``[f]or the purpose of any law 
that refers to organizations exempt from income taxes''). As a result, 
for purposes of section 199A(g), an EAG may include nonexempt Specified 
Cooperatives as well as other includible corporations.
    The Proposed Regulations provide that the section 199A(g) deduction 
for an EAG is determined by separating patronage and nonpatronage gross 
receipts and related deductions of Specified Cooperatives that are 
members of the EAG. The section 199A(g) deduction is then computed 
solely with respect to patronage gross receipts and related deductions 
(patronage items). As explained in part VII of this Summary of Comments 
and Explanation of Revisions, patronage items are items of income or 
deduction

[[Page 5559]]

produced by a transaction that actually facilitates the accomplishment 
of the Specified Cooperative's marketing, purchasing, or services 
activities. See Farmland Industries, Inc. v. Comm'r, 78 T.C.M. 846 
(CCH) (1999); Sec.  1.1388-1(f).
    Thus, the Proposed Regulations effectively have two specific rules 
addressing the computation of the section 199A(g) deduction for an EAG 
that includes a Specified Cooperative. First, the section 199A(g) 
deduction is computed using only patronage items (the EAG patronage 
limitation). Second, only members of an EAG that are Specified 
Cooperatives are taken into account in computing the section 199A(g) 
deduction (the Specified Cooperative limitation).
    A commenter recommended that the final regulations eliminate the 
EAG patronage limitation. Specifically, as discussed in part II of this 
Summary of Comments and Explanation of Revisions, the commenter argued 
that the general requirement to distinguish income, deductions, and W-2 
wages from patronage and nonpatronage activities conflicts with the 
policy of section 199A, and that such a requirement is equally 
inappropriate for EAGs that include Specified Cooperatives.
    The Treasury Department and the IRS do not agree with the 
commenter's argument. Under subchapter T, patronage income of a 
nonexempt cooperative with both patronage and nonpatronage activities 
effectively receives single-level tax treatment, whereas nonpatronage 
income of such a cooperative is taxed at both the corporate level and 
the shareholder level. Farm Service Coop. v. Comm'r, 619 F.2d 718, 723 
(8th Cir. 1980). Because the commenter's proposal would extend the 
benefits of the section 199A(g) deduction to nonpatronage activities, 
with respect to which a nonexempt cooperative is taxed as a C 
corporation, it is inconsistent with the purposes and structure of 
section 199A. Moreover, eliminating the patronage limitation solely in 
the context of an EAG would disadvantage nonexempt Specified 
Cooperatives that are not members of an EAG because such entities, 
unlike their counterparts in an EAG, would be prohibited from taking a 
section 199A(g) deduction on nonpatronage sourced gross receipts.
    Thus, the final regulations do not adopt the commenter's 
recommendation to compute the section 199A(g) deduction using both 
patronage and nonpatronage items in either the standalone context (see 
part II of this Summary of Comments and Explanation of Revisions) or 
for EAGs. Instead, activities resulting in nonpatronage income continue 
to be taxed as income from a noncooperative C corporation.
    The same commenter also recommended eliminating the Specified 
Cooperative limitation, specifically arguing that, because C 
corporations that are not Specified Cooperatives can be members of an 
EAG, such corporations also should be taken into account in computing 
the section 199A(g) deduction for an EAG. The commenter also stressed 
that the approach in proposed Sec.  1.199A-12 is different from the 
approach in the former section 199 EAG rules, which provide the basis 
for the rules in proposed Sec.  1.199A-12.
    The final regulations also do not adopt this recommendation. Unlike 
the former section 199 deduction, which was broader in scope, section 
199A(g) specifically provides that only a ``taxpayer which is a 
specified agricultural or horticultural cooperative'' (that is, a 
Specified Cooperative) may claim the section 199A(g) deduction. 
Moreover, as noted in part II of this Summary of Comments and 
Explanation of Revisions, C corporations are expressly prohibited under 
section 199A(a) from claiming a section 199A(a) deduction, and C 
corporations other than Specified Cooperatives under section 
199A(g)(2)(D)(i) from claiming a section 199A(g) deduction as a patron 
of a Specified Cooperative. Although the statute does not expressly 
prohibit C corporations that are not Specified Cooperatives from being 
taken into account in computing an EAG's section 199A(g) deduction, the 
fact that the statute expressly limits this deduction to Specified 
Cooperatives, and the statute's general prohibition against C 
corporations that are not Specified Cooperatives benefiting from the 
section 199A(g) deduction, indicate that the Specified Cooperative 
limitation is consistent with the structure and intent of section 199A.
    Additionally, eliminating the Specified Cooperative limitation 
would have no practical effect unless the EAG patronage limitation also 
were eliminated. Nonexempt Specified Cooperatives receive single-level 
tax treatment only to the extent of patronage income generated and 
distributed to their patrons; their nonpatronage income continues to be 
taxed at both the corporate level and the shareholder level. 
Accordingly, the net effect of the Specified Cooperative limitation is 
to exclude what otherwise would be nonpatronage income, because a C 
corporation that is not a Specified Cooperative cannot generate 
patronage income. Because the final regulations retain the EAG 
patronage limitation, removing the Specified Cooperative limitation 
would have no practical effect with respect to nonexempt Specified 
Cooperatives. As previously noted, removing the Specified Cooperative 
limitation would not affect the treatment of exempt Specified 
Cooperatives because they are not eligible to be members of an EAG. See 
section 1504(b)(1); Sec.  1.1381-2(a)(1).
    Finally, revisions necessary to clarify the scope and application 
of section 199A(g) to an EAG that includes a Specified Cooperative were 
made in Sec.  1.199A-12 of the final regulations.

VII. Sec.  1.1382-3, Taxable Income of Cooperatives; Special Deductions 
for Exempt Farmers' Cooperatives; and Sec.  1.1388-1, Definitions and 
Special Rules

A. Comments on Definition of ``Patronage and Nonpatronage''

    Section 1.1388-1 provides definitions and special rules applicable 
to Cooperatives. The Proposed Regulations added a definition of 
patronage and nonpatronage in proposed Sec.  1.1388-1(f). Proposed 
Sec.  1.1388-1(f) provides ``[w]hether an item of income or deduction 
is patronage or nonpatronage sourced is determined by applying the 
directly related use test. The directly related use test provides that 
if the income or deduction is produced by a transaction that actually 
facilitates the accomplishment of the cooperative's marketing, 
purchasing, or services activities, the income or deduction is from 
patronage sources. However, if the transaction producing the income or 
deduction does not actually facilitate the accomplishment of these 
activities but merely enhances the overall profitability of the 
cooperative, being merely incidental to the association's cooperative 
operation, the income or deduction is from nonpatronage sources. 
Patronage and nonpatronage income or deductions cannot be netted unless 
otherwise permitted by the Internal Revenue Code or regulations issued 
under the relevant section of the Internal Revenue Code, or guidance 
published in the Internal Revenue Bulletin (see Sec.  601.601(d)(2) of 
this chapter).''
    Commenters questioned the need for adopting a definition in 
connection with guidance under section 199A(g), as the definition will 
impact all Cooperatives. However, a common determination for all 
Cooperatives is identifying activities as patronage or nonpatronage. 
Prior to the Proposed Regulations, there was no single definition of 
patronage and

[[Page 5560]]

nonpatronage. The definition of income derived from sources other than 
patronage in Sec.  1.1382-3(c)(2), which was often cited as part of the 
determination, is outdated. As it relates to section 199A(g), the 
requirement to identify patronage and nonpatronage to calculate the 
section 199A(g) deduction places additional importance on the 
determination. To assist taxpayers in distinguishing between patronage 
and nonpatronage, proposed Sec.  1.1388-1(f) was added. The intent in 
adding Sec.  1.1388-1(f) was to incorporate the ``directly related'' 
test, which is the current legal standard for making the determination.
    Commenters requested citations relevant to the proposed definition 
to ensure the language complies with the current legal standard. Other 
than the last sentence, the language adopted in the Proposed 
Regulations closely follows the language used in Rev. Rul. 69-576, 
1969-2 C.B. 166, which provides ``[t]he classification of an item of 
income as from either patronage or nonpatronage sources is dependent on 
the relationship of the activity generating the income to the 
marketing, purchasing, or service activities of the cooperative. If the 
income is produced by a transaction which actually facilitates the 
accomplishment of the cooperative's marketing, purchasing, or service 
activities, the income is from patronage sources. However, if the 
transaction producing the income does not actually facilitate the 
accomplishment of these activities but merely enhances the overall 
profitability of the cooperative, being merely incidental to the 
association's cooperative operation, the income is from nonpatronage 
sources.''
    The language from Rev. Rul. 69-576 has been cited in numerous 
opinions, including Farmland Industries, Inc. v. Comm'r, 78 T.C.M. 846 
(CCH) (1999), which provides a summary of published guidance and many 
of the cases relevant to the current legal standard. In the Farmland 
opinion, the court states that ``the `directly related test' applied by 
the courts is traceable to published rulings issued by the 
Commissioner, such as Rev. Rul. 69-576, 1969-2 C.B. 166, and Rev. Rul. 
74-160, 1974-1 C.B. 245, that interpreted patronage income broadly.'' 
Farmland at 865.
    Commenters also suggested removal of Sec.  1.1388-1(f) on the basis 
that patronage/nonpatronage determinations necessitate a facts and 
circumstances analysis, and, therefore Sec.  1.1388-1(f) is 
inappropriate. Section 1.1388-1(f) provides a definition, it does not 
eliminate the necessity for factual analysis. Therefore, the final 
regulations do not adopt this comment.
    Alternatively, one commenter requested that the definition in Sec.  
1.1388-1(f) be modified to provide that income is from patronage 
sources if the underlying transaction is either directly related or 
actually facilitates the cooperative's purpose. The final regulations 
do not adopt this comment. The definitional language of Sec.  1.1388-
1(f) follows the language from Rev. Rul. 69-576 and is also consistent 
with language in Farmland. However, revisions have been made to clarify 
the distinction between patronage and nonpatronage sourced items.
    The commenter also suggested the removal of the last sentence of 
the definition, which prohibited the netting of patronage and 
nonpatronage items. The Treasury Department and the IRS agree that the 
``netting'' rule is not needed to define patronage and nonpatronage. 
Therefore, the last sentence of proposed Sec.  1.1388-1(f) is removed 
from the definition in the final regulations.

B. Comments on Removing the Definition of ``Income From Sources Other 
Than Patronage''

    The commenter also requested that if a definition was finalized, 
then the definition of income from sources other than patronage in 
Sec.  1.1382-3(c)(2) be removed. The Treasury Department and the IRS 
agree that this section should be revised. The final regulations revise 
this section so that it now cross-references the definition of 
patronage and nonpatronage in Sec.  1.1388-1(f).

VIII. Removal of Section 199 Regulations

    In light of the TCJA, the Treasury Department and the IRS proposed 
to remove the former section 199 regulations (Sec. Sec.  1.199-0 
through 1.199-9) and withdrew the 2015 proposed regulations because the 
regulations interpret a provision of the Code that has been repealed 
for taxable years beginning after December 31, 2017. No comments were 
received, and the final regulations remove the former section 199 final 
regulations (Sec. Sec.  1.199-0 through 1.199-9, including expired 
temporary regulations published in the Federal Register as TD 9731).
    The removal of these regulations is unrelated to the substance of 
the rules in the regulations, and no negative inference regarding the 
stated rules should be made. The regulations are removed from the Code 
of Federal Regulations (CFR) solely because they have no future 
applicability. Removal of these regulations is not intended to alter 
any non-regulatory guidance that cites to or relies upon these 
regulations. These regulations as contained in 26 CFR part 1, revised 
April 1, 2019, remain applicable to determining eligibility for the 
former section 199 deduction for any taxable year that began before 
January 1, 2018. The beginning date of the taxable year of a 
partnership, S corporation, or a non-grantor trust or estate, rather 
than the taxable year of a partner, shareholder, or beneficiary is used 
to determine items that are taken into account for purposes of 
calculating a former section 199 deduction.

IX. Comments on Proposed Applicability Date and Transition Rule

    A commenter requested that the final regulations be made applicable 
to taxable years beginning after the publication date. The final 
regulations adopt the commenter's request.
    Regarding the transition rule, proposed Sec.  1.199A-7(h)(2) 
provides that no deductions under section 199A are allowed to patrons 
for any qualified payments that are attributable to QPAI with respect 
to which a deduction is allowable to the Specified Cooperative under 
former section 199 as in effect on and before December 31, 2017, for a 
taxable year of the Cooperative beginning before January 1, 2018. 
Additionally proposed Sec.  1.199A-7(h)(3) provides that if a patron of 
a Cooperative cannot claim a deduction under section 199A(a) for any 
qualified payments described in the transition rule of Sec.  1.199A-
7(h)(2), the Cooperative must report this information on an attachment 
to or on the Form 1099-PATR (or any successor form) issued by the 
Cooperative to the patron, unless otherwise provided by the 
instructions to the form.
    The commenter also requested omission of references to the 
transition rule and confirmation that any reasonable application of the 
transition rule will be deemed appropriate. This request was based on 
the presumption that these regulations would not be finalized until 
after 2019, when the time period covered by the transition rule has 
passed, thus requiring the amendment of Forms 1099-PATR (and 
corresponding Forms 1040, U.S. Individual Income Tax Return). The 
commenter also suggested that Cooperatives have a common understanding 
of the transition rule to the extent that payments described under 
proposed Sec.  1.199A-7(h)(2) would be properly identified and not 
included in patrons' section 199A(a) calculations. The commenter, 
however, did not identify a specific method that

[[Page 5561]]

Cooperatives primarily used. The final regulations amend the rule from 
proposed Sec.  1.199A-7(h)(2) so that it now only cross-references 
section 101(c) of Division T of the 2018 Act. The final regulations 
also amend proposed Sec.  1.199A-7(h)(3) to allow Cooperatives to use a 
reasonable method to identify the payments, and state that the method 
from the Proposed Regulations of reporting on an attachment to or on 
Form 1099-PATR (or successor form) is one reasonable method.

Applicability Dates

    Section 7805(b)(1)(A) and (B) of the Code generally provide that no 
temporary, proposed, or final regulation relating to the internal 
revenue laws may apply to any taxable period ending before the earliest 
of (A) the date on which the regulation is filed with the Federal 
Register, or (B) in the case of a final regulation, the date on which a 
proposed or temporary regulation to which the final regulation relates 
was filed with the Federal Register.
    Consistent with authority provided by section 7805(b)(1)(A), 
Sec. Sec.  1.199A-7 through 1.199A-12, Sec.  1.1382-3(c)(2) as revised, 
and Sec.  1.1388-1(f) generally apply to taxable years beginning after 
January 19, 2021. However, taxpayers may choose to apply the rules set 
forth in Sec. Sec.  1.199A-7 through 1.199A-12, Sec.  1.1382-3(c)(2) as 
revised, and Sec.  1.1388-1(f) for taxable years beginning on or before 
January 19, 2021, provided, in each case, the taxpayers follow the 
rules in their entirety and in a consistent manner. Alternatively, 
taxpayers may rely on the proposed regulations under Sec. Sec.  1.199A-
7 through 1.199A-12 issued on June 19, 2019 for taxable years beginning 
on or before January 19, 2021 and taxpayers may rely on the proposed 
regulations under Sec.  1.1388-1(f) issued on June 19, 2019 for taxable 
years beginning on or before January 19, 2021, provided, in each case, 
taxpayers follow the proposed regulations in their entirety and in a 
consistent manner.

Special Analyses

I. Regulatory Planning and Review--Economic Analysis

    Executive Orders 13771, 13563 and 12866 direct agencies to assess 
costs and benefits of available regulatory alternatives and, if 
regulation is necessary, to select regulatory approaches that maximize 
net benefits (including potential economic, environmental, public 
health and safety effects, distributive impacts, and equity). Executive 
Order 13563 emphasizes the importance of quantifying both costs and 
benefits, of reducing costs, of harmonizing rules, and of promoting 
flexibility.
    These regulations have been designated by the Office of Management 
and Budget's Office of Information and Regulatory Affairs (OIRA) as 
subject to review under Executive Order 12866 pursuant to the 
Memorandum of Agreement (April 11, 2018) between the Treasury 
Department and the Office of Management and Budget regarding review of 
tax regulations. OIRA has determined that the final rulemaking is 
significant and subject to review under Executive Order 12866 and 
section 1(b) of the Memorandum of Agreement. Accordingly, the final 
regulations have been reviewed by the Office of Management and Budget.

A. Background and Overview

    The TCJA repealed section 199 of the Code, which provided a 
deduction for income attributable to domestic production activities. In 
its place it created section 199A, which provides a deduction for 
qualified business income derived from passthrough businesses--such as 
sole proprietorships, partnerships, and S corporations--engaged in 
domestic trades or businesses. While the repealed section 199 deduction 
was generally available to all taxpayers, the section 199A(a) deduction 
is available only to taxpayers other than C corporations, including 
patrons of cooperatives to which sections 1381 through 1388 of the Code 
apply (Cooperatives). On March 23, 2018, section 101 of the 2018 Act 
amended section 199A(g) to provide deductions for Specified 
Cooperatives and their patrons that are substantially similar to the 
deductions allowed under the repealed section 199 deduction. 
Accordingly, these regulations generally formalize prior and current 
practices based on the rules under former section 199. The 2018 Act 
also added section 199A(b)(7), which requires patrons of Specified 
Cooperatives to reduce their section 199A(a) deduction if those patrons 
receive qualified payments from Specified Cooperatives.
    The estimated number of Cooperatives affected by the 2018 Act and 
these final regulations is 9,200, including approximately 2,000 
Specified Cooperatives, based on 2018 tax filings.

B. Need for Regulation

    The final regulations provide guidance regarding the application of 
sections 199A(a), 199A(b)(7), and 199A(g) to Cooperatives, Specified 
Cooperatives, and their patrons. The final regulations are needed 
because the 2018 Act introduced a number of terms and calculations. 
Patrons, Cooperatives, and Specified Cooperatives would benefit from 
greater specificity regarding these and other items.

C. Economic Analysis

1. Baseline
    The Treasury Department and the IRS have assessed the benefits and 
costs of the final regulations relative to a no-action baseline 
reflecting anticipated Federal income tax-related behavior in the 
absence of these regulations.
2. Economic Rationale for Issuing Guidance for the 2018 Act
    The Treasury Department and the IRS anticipate that the issuance of 
guidance pertaining to sections 199A(a), 199A(b)(7), and 199A(g) of the 
2018 Act to Cooperatives, Specified Cooperatives, and their patrons 
will provide a marginal net economic benefit to the overall U.S. 
economy.
    The final regulations clarify a number of concepts for Cooperatives 
and their patrons, regarding the deduction provided by section 199A(a) 
for qualified business income, as well as for Specified Cooperatives 
and their patrons regarding the section 199A(g) deduction on income 
attributable to the domestic production activities of Specified 
Cooperatives. Specifically, the final regulations (i) clarify how 
Specified Cooperatives should determine their section 199A(g) 
deduction; (ii) define ``agricultural or horticultural products'' to 
clarify which Cooperatives qualify as Specified Cooperatives eligible 
for the section 199A(g) deduction; (iii) provide de minimis rules 
reducing compliance costs for certain Specified Cooperatives; (iv) 
require reporting from Cooperatives; (v) provide a safe harbor 
permitting certain patrons of Specified Cooperatives to use a simpler 
method to calculate the section 199A(b)(7) reduction to the section 
199A(a) deduction; (vi) permit patrons to allocate their expenses to 
calculate the correct amount of qualified business income and their 
section 199A(a) deduction; (vii) permit, but do not require, Specified 
Cooperatives to identify the eligibility status of patrons to pass 
through the section 199A(g) deduction to them; and (viii) permit 
partnerships to pass through W-2 wages and cost of goods sold (COGS) to 
Specified Cooperative partners and permit attribution of a 
partnership's activities to a Specified Cooperative partner and a 
Specified Cooperative's partner's activities to a partnership. In the 
absence of guidance, affected

[[Page 5562]]

taxpayers would have to calculate their tax liability without the 
definitions and clarifications provided by the final regulations, a 
situation that is generally considered more burdensome and could lead 
to greater conflicts with tax administrators. Thus, the Treasury 
Department and the IRS project that the final regulations will 
marginally reduce taxpayer compliance burden and the costs of tax 
administration relative to not issuing any such guidance.
    This guidance also ensures that section 199A deductions are 
calculated similarly across taxpayers, avoiding situations where one 
taxpayer receives preferential treatment over another for fundamentally 
similar economic activity. For example, in the absence of these final 
regulations, a Specified Cooperative may have uncertainty over what 
type of income is eligible for the section 199A(g) deduction. If a 
Specified Cooperative claimed the section 199A(g) deduction on income 
that is taxed similarly to a C corporation, this would confer an 
unintended economic benefit to the Specified Cooperative over other C 
corporations performing identical activities that only benefit from a 
lower corporate tax rate. As discussed further below, this guidance 
prevents the introduction of distortions of economic decisions in the 
agricultural or horticultural sector.
    In the absence of these regulations, uncertainty over statutory 
interpretation could lead to economic losses to the extent that 
taxpayers interpret the statute in ways that are inconsistent with the 
statute's intents and purposes. For example, a Specified Cooperative 
may pursue a project involving a certain product that is only 
profitable if that product is deemed ``agricultural or horticultural'' 
and thus eligible for the section 199A(g) deduction. If, in fact, this 
product is ineligible for the deduction based on the intents and 
purposes of the statute, then the project should not have been pursued 
and this results in an economic loss. Alternatively, without a 
definition of ``agricultural or horticultural,'' a Specified 
Cooperative may incorrectly assume that a project is not eligible for 
the deduction and not pursue the project, which could also result in an 
economic loss. In such cases, guidance provides value by supporting 
decision-making that is economically efficient, contingent on the 
overall Code. While no guidance can fully curtail all inaccurate 
interpretations of the statute, the final regulations significantly 
mitigate the chance for such interpretations and thereby increase 
economic efficiency. Due to the lack of readily available data, the 
Treasury Department and the IRS have not estimated the increase in 
United States economic activity that would arise from the guidance.
    The Treasury Department further projects that the issuance of 
guidance will reduce taxpayer compliance burden and the costs of tax 
administration relative to a no-action baseline. Due to the lack of 
readily available data, the Treasury Department has not estimated the 
decrease in taxpayer compliance burden nor tax administration costs 
arising from the issuance of guidance.
    No comments were received on the economic analysis provided in the 
proposed regulations.
3. Economic Analysis of Specific Provisions
    The final regulations embody certain regulatory decisions that 
reflect necessary regulatory discretion. These decisions specify more 
fully how the 2018 Act is to be implemented.
i. Determining Section 199A(g) Deduction for Specified Cooperatives
    The final regulations outline the process by which Specified 
Cooperatives calculate their section 199A(g) deductions. The rules 
concern two types of Specified Cooperatives, those that are exempt 
(qualified as a Cooperative under section 521) and those that are 
nonexempt (qualified under subchapter T of the Code), and two sources 
of income, patronage and nonpatronage. The patronage and nonpatronage 
income of Specified Cooperatives is taxed differently depending on 
whether the Specified Cooperative is exempt or nonexempt. In the case 
of exempt Specified Cooperatives, patronage and nonpatronage source 
income is subject to a single level of tax at the patron level. 
Whereas, for nonexempt Specified Cooperatives only patronage source 
income is subject to a single level of tax at the patron level; 
nonpatronage source income is subject to a double level of tax, similar 
to other C corporation income.
    Because the Code does not define patronage and nonpatronage sourced 
items, Sec.  1.1388-1(f) of these final regulations sets forth a 
definition that is consistent with the current state of federal case 
law. Specifically, the definition adopts the directly related test, 
which is a fact specific test for determining whether income and 
deductions of a Cooperative are patronage or nonpatronage. The final 
regulations also make revisions to clarify patronage versus 
nonpatronage items. In response to a commenter, the final regulations 
remove the last sentence in the proposed definition, because the 
Treasury Department and the IRS agree that the sentence is not needed 
to define patronage and nonpatronage. Specifying a definition that is 
consistent with current case law will help to minimize the economic 
impacts of these regulations that may arise from lack of clarity.
    The final regulations adopt the proposed rule requiring Specified 
Cooperatives to identify gross receipts, COGS, deductions, W-2 wages, 
etc. as patronage or nonpatronage, and only allows the patronage 
activities of nonexempt Specified Cooperatives to be included in the 
calculation of the section 199A(g) deduction, unless the Specified 
Cooperative falls under the expanded de minimis rules, which are 
discussed later. The TCJA reduced the corporate tax rate for C 
corporations under section 11 and provided the section 199A deduction 
for domestic businesses operating as sole proprietorships or through 
partnerships, S corporations, trusts, or estates. The TCJA also 
repealed section 199, which did not preclude deductions on income 
earned by C corporations. The 2018 Act amended section 199A to address 
concerns that the TCJA created an unintended incentive for farmers to 
sell their agricultural or horticultural products to Specified 
Cooperatives over independent buyers. Specifically, the 2018 Act 
amended section 199A(g) to allow Specified Cooperatives and their 
patrons a deduction similar to the former section 199 deduction. 
Because the section 199A(g) deduction is not intended to benefit C 
corporations and their shareholders, in general, the final regulations 
specify that the section 199A(g) deduction can be claimed only on 
income that can be subject to tax only at the patron level. Under the 
final regulations, a non-exempt Specified Cooperative may not claim the 
section 199A(g) deductions on income that cannot be paid to patrons and 
deducted under section 1382(b) and exempt Specified Cooperatives may 
not claim section 199A(g) deductions on income that cannot be paid to 
patrons and deducted under sections 1382(b) or 1382(c)(2).
    In the absence of these regulations, a Specified Cooperative may 
have uncertainty as to whether nonpatronage source income, which would 
be taxed in the same manner as a C corporation, could receive both the 
lower corporate tax rate and be further offset by a section 199A(g) 
deduction. Other C corporations performing identical activities would 
only benefit from the lower corporate tax rate. This would

[[Page 5563]]

confer an unintended economic benefit to Specified Cooperatives over 
other C corporations and undermine the intent of the 2018 Act's 
amendments of section 199A to reduce competitive distortions between C 
corporations and Specified Cooperatives.
    The Treasury Department and the IRS have determined that this 
potential uncertainty as to tax treatment could distort economic 
decisions in the agricultural or horticultural sector. The final 
regulations avoid this outcome, promoting a more efficient allocation 
of resources by providing more uniform incentives across taxpayers.
ii. Definition of Agricultural or Horticultural Products
    The section 199A(g) deduction is focused solely on dispositions of 
agricultural or horticultural products. As a result, the Treasury 
Department and the IRS determined that it was necessary to provide a 
definition. Because there is no definition of agricultural or 
horticultural products in the Code or Income Tax Regulations, the 
Treasury Department and the IRS looked to the United States Department 
of Agriculture (USDA) for definitions because the USDA has expertise 
concerning Specified Cooperatives, and Specified Cooperatives are 
likely familiar with USDA law. The proposed regulations defined 
agricultural or horticultural products within the meaning of the 
Cooperative Marketing Act of 1926 as agricultural, horticultural, 
viticultural, and dairy products, livestock and the products thereof, 
the products of poultry and bee raising, the edible products of 
forestry, and any and all products raised or produced on farms and 
processed or manufactured products thereof. Agricultural or 
horticultural products also include aquatic products that are farmed as 
well as fertilizer, diesel fuel, and other supplies used in 
agricultural or horticultural production that are manufactured, 
produced, grown, or extracted by the Specified Cooperative. 
Agricultural or horticultural products, however, do not include 
intangible property, since agricultural or horticultural products were 
considered a subset of tangible property under former section 199. 
Intangible property (defined in Sec.  1.199-3(j)(2)(iii)) was a 
separate category of property and gross receipts from intangible 
property did not qualify as domestic production gross receipts (DPGR).
    The final regulations made clarifying changes to the definition of 
agricultural or horticultural products in response to commenters. The 
final regulations provide examples (without limitation) of products 
that are considered agricultural or horticultural products, including 
specific agricultural or horticultural products, livestock products, 
edible forestry products, and farmed aquatic products. The final 
regulations also provide language further clarifying that agricultural 
or horticultural products do not include intangible property. Finally, 
the final regulations include more examples of ``other supplies'' being 
agricultural or horticultural products.
    The Treasury Department and the IRS considered a similar but 
alternative definition of agricultural or horticultural products within 
the meaning of the Agricultural Marketing Act of 1946 as agricultural, 
horticultural, viticultural, and dairy products, livestock and poultry, 
bees, forest products, fish and shellfish, and any products thereof, 
including processed and manufactured products, and any and all products 
raised or produced on farms and any processed or manufactured product 
thereof. While very similar to the definition in the rules adopted in 
these final regulations, the rules under the Agricultural Marketing Act 
of 1946 concern the marketing and distribution of agricultural products 
without reference to Cooperatives.
    The Treasury Department and the IRS also considered an alternative 
definition of agricultural or horticultural products based on the 
definition of agricultural commodities within the meaning of general 
regulations under the Commodity Exchange Act. The Treasury Department 
and the IRS concluded that this definition was too narrow, because it 
is limited to products that can be commodities. The use of this narrow 
definition would have restricted the range of products for which the 
section 199A(g) deduction would be otherwise available.
    The Treasury Department and the IRS did not attempt to provide 
quantitative estimates of the economic consequences of different 
designations of agricultural or horticultural products because suitable 
data are not readily available at this level of detail.
iii. De Minimis Threshold for Domestic Production Gross Receipts of 
Specified Cooperatives
    In general, Sec.  1.199A-9 of the final regulations requires that 
Specified Cooperatives allocate gross receipts between DPGR and non-
DPGR. However, Sec.  1.199A-9(c)(3) of the proposed regulations 
includes a de minimis provision that allows Specified Cooperatives to 
allocate total gross receipts to DPGR if less than 5 percent of total 
gross receipts are non-DPGR or to allocate total gross receipts to non-
DPGR if less than 5 percent of total gross receipts are DPGR. The 
thresholds provided in the proposed regulations are based on the 
thresholds set forth in Sec.  1.199-1(d)(3) under former section 199. 
The Treasury Department and the IRS chose to include a de minimis rule 
to reduce compliance costs and simplify tax filing relative to an 
alternative of no de minimis rule.
    The Treasury Department and the IRS considered changes to the de 
minimis provisions in the proposed regulations, but determined that 
materially changing these rules from provisions that were previously 
available would lead to taxpayer confusion. The final regulations 
generally maintain the rules of the proposed regulations, but increase 
the threshold. Thus, under Sec.  1.199A-9(c)(3) of the final 
regulations, Specified Cooperatives when calculating the patronage 
section 199A(g) deduction may allocate total gross receipts to DPGR if 
less than 10 percent of total gross receipts are non-DPGR (which now 
can include nonpatronage gross receipts as well as patronage non-DPGR 
pursuant to Sec.  1.199A-8(b)(2)(ii)), or alternatively, may allocate 
total gross receipts to non-DPGR if less than 10 percent of total gross 
receipts are DPGR. The de minimis threshold modestly reduces compliance 
costs for businesses with relatively small amounts of non-DPGR or DPGR 
by allowing them to avoid allocating receipts between DPGR and non-DPGR 
activities. The de minimis threshold is unlikely to create any 
substantial effects on market activity because any change in the ratio 
of DPGR to non-DPGR will be localized around the threshold, meaning 
that the movement will be a small fraction of receipts to get below the 
de minimis threshold. Because the de minimis provision exempts 
taxpayers from having to perform certain allocations and therefore 
reporting these allocations, the Treasury Department and the IRS do not 
have information on taxpayers' use of this exemption under former 
section 199 to perform a quantitative analysis of the impacts of the de 
minimis provision.
iv. Reporting Requirements for Cooperatives
    Final regulations Sec.  1.199A-7(c) and (d) provide that, when a 
patron conducts a trade or business that receives distributions from a 
Cooperative, the Cooperative is required to provide the patron with 
qualified items of income, gain, deduction, and loss and specified 
service trade or business (SSTB) determinations with

[[Page 5564]]

respect to those distributions. This increases the compliance burden on 
such Cooperatives. However, in the absence of these regulations, the 
burden for determining of the amount of distributions from a 
Cooperative that constitute qualified items of income, gain, deduction, 
and loss from a non-SSTB and an SSTB would lie with the patron. Because 
patrons are less well positioned to acquire the relevant information to 
determine whether distributions from a Cooperative are qualified items 
of income, gain, deduction, and loss and whether items that would 
otherwise qualify are from an SSTB, the Treasury Department and the IRS 
expect that these regulations will reduce overall compliance costs 
relative to an alternative approach of not introducing a reporting 
requirement. After consideration of comments, the reporting 
requirements of Cooperatives have been modified to simplify the 
Cooperatives' reporting obligations in order to balance the burden on 
the Cooperatives and the patrons' need to receive information to 
determine their section 199A(a) deduction.
v. Allocation Safe Harbor
    If a patron receives both income or gain related to qualified 
payments and income or gain that is not related to qualified payments 
in a qualified trade or business, the patron must allocate those items 
and related deductions, losses, and W-2 wages using a reasonable method 
based on all of the facts and circumstances. The final regulations 
provide a safe harbor that allows patrons who receive income or gain 
related to qualified payments in addition to income or gain that is not 
related to qualified payments to use a simpler method to allocate 
deductions, losses, and W-2 wages between income or gain related to 
qualified payments and income or gain that is not related to qualified 
payments to calculate the section 199A(b)(7) reduction to the section 
199A(a) deduction. The safe harbor allocation method allows patrons to 
allocate by ratably apportioning deductions, losses, and W-2 wages 
based on the proportion that the amount of income or gain related to 
qualified payments bears to the total income or gain used to determine 
QBI. This safe harbor is available to patrons with taxable incomes 
below the threshold amounts set forth in section 199A(e)(2).
    The Treasury Department and the IRS considered an alternative of 
not allowing a safe harbor but determined that a safe harbor could 
reduce compliance costs and simplify tax filing. The threshold was set 
at amounts set forth in section 199A(e)(2) to avoid a proliferation of 
thresholds applicable to taxpayers claiming a section 199A(a) 
deduction. Because the threshold amounts are relatively low, the 
Treasury Department and the IRS expect that the safe harbor would not 
distort business decisions or reduce revenue to any meaningful extent.
i. Patrons May Allocate Expenses to Specified Service Trade or Business 
Items of Income Reported by Cooperative
    A commenter asked the Treasury Department and the IRS to revise 
proposed reporting requirements in circumstances where a Cooperative 
engages in a specified service trade or business (SSTB) business with 
patrons. In response to the commenter's request, the final regulations 
allow patrons to allocate expenses between qualified trade or business 
income and any SSTB income received from the Cooperative up to the 
amount of the income from the SSTB. The final regulations more 
accurately track the substance of the transaction. In the absence of 
these regulations, the patron may calculate lower qualified business 
income, resulting in a lower section 199A(a) deduction.
ii. Specified Cooperatives May Pass Through All, Some, or None of the 
Section 199A(g) Deduction
    Section 199A(g) permits Specified Cooperatives to pass through 
their section 199A(g) deduction, and allows eligible taxpayers to claim 
the deduction passed through. The proposed regulations required 
Specified Cooperatives to identify whether the patrons are eligible 
taxpayers and only pass through the deduction to those patrons. 
Commenters requested that the rule be modified so that patrons, and not 
Specified Cooperatives, have to identify whether the patrons are 
eligible taxpayers for purposes of using the section 199A(g) deduction. 
The rules have been modified in the final regulations to provide 
Specified Cooperatives with maximum flexibility. If a Specified 
Cooperative does not identify the eligibility status of all of its 
patrons, it may pass through all, some, or none of the section 199A(g) 
deduction. Only patrons that are eligible taxpayers may use the section 
199A(g) deduction passed through to them. If a Specified Cooperative 
does determine the eligibility status of its patrons, it has the 
discretion to retain the section 199A(g) deduction attributable to any 
ineligible taxpayer, and pass out the remainder to eligible taxpayers.
    In the absence of these regulations, a Specified Cooperative may 
have uncertainty as to whether to distribute the section 199A(g) 
deduction to eligible taxpayers. The final regulations provide 
Specified Cooperatives with the option of retaining and using the 
amounts equal to the section 199A(g) deduction attributable to 
ineligible taxpayers, or passing out the deduction, which only eligible 
taxpayers may claim. This allows Specified Cooperatives to choose 
whether to engage in information gathering regarding patrons' 
eligibility to use the deduction. The Treasury Department and the IRS 
have determined that this increased flexibility promotes a more 
efficient allocation of resources by allowing Specified Cooperatives to 
choose the extent to which they engage in information gathering in 
relation to the use of the section 199A(g) deduction at the Specified 
Cooperative level or the patron level.
iii. Special Rule for Specified Cooperative Partners
    The final regulations provide special rules for Specified 
Cooperatives that are partners in a partnership. A commenter 
recommended that the proposed regulations be modified to permit 
partnerships to pass through W-2 wages to Specified Cooperative 
partners, thereby increasing the Specified Cooperatives' section 
199A(g) deduction. A commenter also recommended that, to the extent a 
partnership conducts activities that result in gross receipts, a 
Specified Cooperative partner in that partnership should be permitted 
to treat those activities as conducted directed by the Specified 
Cooperative. The Treasury Department and the IRS agree with these 
comments. The final regulations permit the partnerships to pass through 
W-2 wages and COGS to Specified Cooperative partners. Additionally, the 
final regulations allow for two-way attribution, meaning: (1) A 
partnership's activities alone with respect to an agricultural or 
horticultural product can qualify as gross receipts for the Specified 
Cooperative partner and (2) a partnership can be attributed the 
activities of the Specified Cooperative partner. These rules permit 
additional activities and the resulting income, as well as additional 
W-2 wages and COGS, to be considered in the calculation of the section 
199A(g) deduction.
    This stipulation allows for greater flexibility in determining 
deductions when Specified Cooperatives are partners. Flexibility will 
increase economic efficiency by making it more likely that Specified 
Cooperatives

[[Page 5565]]

comply with regulations by lowering the compliance burden.
    The Treasury Department and the IRS anticipate that these 
regulations in aggregate will have a marginal impact on economic 
activity. Compared to the economic impacts resulting from the 2018 Act, 
the final regulations' primary impact will be through increasing 
comprehension of the tax code. Increased understanding will reduce the 
risk that firms and the IRS will disagree on tax reporting and 
allocation and therefore engage in costly legal transactions. Increased 
comprehension will also reduce the possibility that firms will engage 
in activities that would yield negative economic impacts if clarity 
were stronger. These final regulations also respond to commenters by 
adding additional examples to further increase comprehension.

II. Paperwork Reduction Act

    The collection of information contained in these regulations has 
been revised and approved by the Office of Management and Budget for 
review in accordance with the Paperwork Reduction Act of 1995 (44 
U.S.C. 3507) under control numbers 1545-0118 and 1545-0123.
    Regulations in Sec.  1.199A-7(c)(3), (d)(3), (f)(3), and (h)(3), as 
well as Sec.  1.199A-8(d)(3) and (f), require the collection of 
information. The collections of information in Sec.  1.199A-7(c)(3), 
(d)(3), (f)(3), and (h)(3), as well as Sec.  1.199A-8(d)(3) will be 
conducted through Form 1099-PATR, Taxable Distributions Received From 
Cooperatives, while the collection of information in Sec.  1.199A-8(f) 
will be conducted through Schedule K-1 to Form 1065, U.S. Return of 
Partnership Income.

A. Collections of Information Conducted Through Form 1099-PATR

    Section 1.199A-7(c)(3) requires the Cooperative to inform its 
patron of the amount of any distribution to the patron that constitutes 
qualified items of income, gain, deduction, and loss from a non-
specified service trade or business (SSTB) conducted directly by the 
Cooperative. Not all distributions to patrons are qualified items of 
income, gain, deduction, and loss because the source of the 
distribution may not be effectively connected with the conduct of a 
trade or business within the United States or may include interest 
income that is not properly allocable to the patron's trade or 
business. The Cooperative directly conducting the trade or business 
from which the distribution to the patron originates is in the best 
position to know how much of the distribution is qualified items of 
income, gain, deduction, and loss. The Cooperative is also in the best 
position to know if it is generating income from an SSTB. Accordingly, 
the collection of information is necessary for the patron to calculate 
correctly the patron's section 199A(a) deduction for the patron's trade 
or business.
    Section 1.199A-7(d)(3) requires the Cooperative to inform its 
patron of the amount of any distributions to the patron that 
constitutes qualified items of income, gain, deduction, and loss from 
an SSTB conducted directly by the Cooperative. Accordingly, the 
collection of information is necessary for the patron to correctly 
calculate the patron's section 199A(a) deduction for the patron's 
qualified trade or business.
    The collection of information in Sec.  1.199A-7(f)(3) is essential 
for the eligible taxpayer's calculation of the reduction in the 
eligible taxpayer's section 199A(a) deduction for the eligible 
taxpayer's trade or business that is required by section 199A(b)(7). 
Section 199A(g)(2)(A) requires the Specified Cooperative to identify 
the amount of qualified payments being distributed to an eligible 
taxpayer and identify the portion of the section 199A(g) deduction 
allowed in a notice mailed to the eligible taxpayer during the payment 
period described in section 1382(d). Section 199A(b)(7) provides that 
an eligible taxpayer who receives qualified payments from a Specified 
Cooperative must reduce the eligible taxpayer's section 199A(a) 
deduction by an amount set forth in this section. Without the notice 
described in Sec.  1.199A-7(f)(3), the eligible taxpayer cannot 
calculate the reduction required by section 199A(b)(7).
    The collection of information in Sec.  1.199A-8(d)(3) is 
necessitated by section 199A(g)(2)(A). Section 199A(g)(2)(A) permits a 
Specified Cooperative to pass through an amount of its section 199A(g) 
deduction to an eligible taxpayer. The amount of the section 199A(g) 
deduction that the Specified Cooperative is permitted to pass through 
is an amount that is allocable to the qualified production activities 
income (QPAI) generated from qualified payments distributed to the 
eligible taxpayer and identified by such cooperative in a written 
notice mailed to such taxpayer during the payment period described in 
section 1382(d). Without the notice required in Sec.  1.199A-8(d)(3) 
the eligible taxpayer would not know that the Specified Cooperative is 
passing a portion of its section 199A(g) deduction to the eligible 
taxpayer.
    The collections of information in Sec.  1.199A-7(h)(3) are 
necessitated by a special transition rule in section 101 of the 2018 
Act. Under this transition rule, the repeal of former section 199 for 
taxable years beginning after December 31, 2017, does not apply to a 
qualified payment received by a patron from a Specified Cooperative in 
a taxable year beginning after December 31, 2017, to the extent such 
qualified payment is attributable to QPAI with respect to which a 
deduction is allowable to the Specified Cooperative under former 
section 199 for a taxable year of the Specified Cooperative beginning 
before January 1, 2018. Such qualified payment remains subject to 
former section 199 and no deduction is allowed under section 199A(a) or 
(g) with respect to such qualified payment. Without these collections 
of information by the Specified Cooperative, the patron has no way of 
knowing that the patron is barred by the transition rule from using a 
qualified payment received that is QBI for the patron's trade or 
business to claim a section 199A(a) deduction for the patron's trade or 
business.
    The collections of information in Sec.  1.199A-7(c)(3), (d)(3), 
(f)(3), and (h)(3) as well as Sec.  1.199A-8(d)(3) are satisfied by 
providing information about qualified items of income, SSTB 
determinations, qualified payments, the section 199A(g) deduction, and 
the use of qualified payments tied to the former section 199 deduction, 
as applicable, on an attachment to or on the Form 1099-PATR (or any 
successor form) issued by the Cooperative to the patron, unless 
otherwise provided by the instructions to the Form.
    For purposes of the Paperwork Reduction Act of 1995, (44 U.S.C. 
3507(d)) (PRA), the reporting burden associated with proposed Sec.  
1.199A-7(c)(3), (d)(3), (f)(3), and (h)(3) as well as proposed Sec.  
1.199A-8(d)(3) will be reflected in the PRA Submission associated with 
Form 1099-PATR (OMB control number 1545-0118). As further discussed in 
this section, the estimated number of respondents for the reporting 
burden associated with these information collections is 9,200 based on 
2018 tax filings.

B. Collections of Information Conducted Through Schedule K-1, Form 1065

    The collection of information in Sec.  1.199A-8(f) is required by 
section 199A(g)(5)(B). This section allows a Specified Cooperative that 
is a partner in a partnership to use its allocable share of gross 
receipts and related deductions, W-2 wages, and cost of goods sold to 
calculate its section 199A(g) deduction. Under these

[[Page 5566]]

regulations, the partnership must separately identify and report the 
allocable share of gross receipts and related deductions, W-2 wages, 
and cost of goods sold on or attached to the Schedule K-1 to the Form 
1065 (or any successor form) issued to a Specified Cooperative partner, 
unless otherwise provided by the instructions to the Form. Without this 
reporting, the Specified Cooperative partner would not have the 
information necessary to calculate its section 199A(g) deduction from 
its activities with the partnership.
    The Schedule K-1 to the Form 1065 will be modified to include a 
mechanism to report the Specified Cooperative partner's allocable share 
of gross receipts and related deductions. The collection of information 
in Sec.  1.199A-8(f) is satisfied when the partnership provides the 
required information to its Specified Cooperative partners on or 
attached to the Schedule K-1 of Form 1065 (or any successor form), 
unless otherwise provided by the instructions to the Form. For purposes 
of the PRA, the reporting burden associated with proposed Sec.  1.199A-
8(f) will be reflected in the PRA Submission associated with Form 1065 
(OMB control number 1545-0123). As provided in this section, the 
estimated number of respondents for the reporting burden associated 
with these information collections is 750 based on 2018 tax filings.

C. Revised Tax Forms

    The revised tax forms are as follows:

----------------------------------------------------------------------------------------------------------------
                                                                                    Revision of      Number of
                                                      OMB No.           New        existing form    respondents
----------------------------------------------------------------------------------------------------------------
Form 1099-PATR..................................       1545-0118  ..............         [check]           9,200
Schedule K-1 (Form 1065)........................       1545-0123  ..............         [check]             750
----------------------------------------------------------------------------------------------------------------

    The current status of the PRA submissions related to the tax forms 
that will be revised as a result of the information collections in the 
final regulations is provided in the accompanying table. As described 
previously, the burdens associated with Sec.  1.199A-7(c)(3), (d)(3), 
(f)(3), and (h)(3) as well as Sec.  1.199A-8(d)(3) will be included in 
the aggregated burden estimates for OMB control number 1545-0118, which 
represents a new total estimated burden time of 564,200 hours and total 
estimated monetized costs of $49.497 million ($2018). The burdens 
associated with the information collection in Sec.  1.199A-8(f) will be 
included in the aggregated burden estimates for OMB control number 
1545-0123, which represents a total estimated burden time for all forms 
and schedules of 3.344 billion hours and total estimated monetized 
costs of $61.558 billion ($2018). The overall burden estimates provided 
for 1545-0118 and 1545-0123 are aggregate amounts that relate to all 
information collections associated with the applicable OMB control 
number. These estimates are therefore unrelated to the future 
calculations needed to assess the burden imposed by these regulations. 
To guard against over-counting the burden imposed, the Treasury 
Department and the IRS urge readers to recognize that these burden 
estimates are aggregates for the applicable types of filers. With 
respect to the final regulations, the only relevant burden estimates 
are those associated with OMB control number 1545-0118. Future 
estimates under OMB control number 1545-0123 would capture both changes 
made by the 2018 Act and those that arise out of discretionary 
authority exercised in the regulations. In addition, when available, 
drafts of IRS forms are posted for comment at www.irs.gov/draftforms.
    One comment on the burden related to the Form 1099-PATR reporting 
requirements suggested the Proposed Regulations may have understated 
the regulatory burden, but provided no specific estimates. Without an 
alternative estimate to evaluate, the final regulations will rely on 
the new aggregated burden estimates for OMB control number 1545-0118. 
The Treasury Department and the IRS request comments on all aspects of 
information collection burdens related to the final regulations, 
including estimates for how much time it would take to comply with the 
paperwork burdens described above for each relevant form and ways for 
the IRS to minimize the paperwork burden.

----------------------------------------------------------------------------------------------------------------
                  Form                           Type of filer          OMB No.(s)              Status
----------------------------------------------------------------------------------------------------------------
Form 1099-PATR..........................  [Business (Legacy Model)].       1545-0118  Approved by OIRA through 6/
                                                                                       30/2023.
                                         -----------------------------------------------------------------------
                                          Link: https://www.reginfo.gov/public/do/PRAViewICR?ref_nbr=201602-1545-024 024
                                         -----------------------------------------------------------------------
Form 1065, Schedule K-1.................  Business (NEW Model)......       1545-0123  Approved by OIRA through 1/
                                                                                       31/2021.
                                         -----------------------------------------------------------------------
                                          Link: https://www.federalregister.gov/documents/2018/10/09/2018-21846/proposed-collection-comment- request-for-forms-1065-1065-b-1066-1120-
                                           1120-c-1120-f-1120-h-1120-nd.
----------------------------------------------------------------------------------------------------------------

    An agency may not conduct or sponsor, and a person is not required 
to respond to, a collection of information unless it displays a valid 
control number assigned by the Office of Management and Budget.
    Books or records relating to a collection of information must be 
retained as long as their contents may become material in the 
administration of any internal revenue law. Generally, tax returns and 
tax return information are confidential, as required by section 6103.

III. Regulatory Flexibility Act

    As described in more detail in this section, pursuant to the 
Regulatory Flexibility Act (RFA), 5 U.S.C. chapter 6, the Treasury 
Department and the IRS hereby certify that these regulations will not 
have a significant economic impact on a substantial number of small 
entities. In addition to the economic impact described, affected 
taxpayers, regardless of size will also need to spend time and 
resources to read and understand these regulations.

A. Sec.  1.199A-7(c)(3) and (d)(3)

    Although Sec.  1.199A-7(c)(3) and (d)(3) will have an impact on a 
substantial number of small entities, the economic impact will not be 
significant. The IRS creates the Business Master File which

[[Page 5567]]

contains data from Form 1120-C, U.S. Income Tax Return for Cooperative 
Associations. According to the Business Master File data, in 2018, the 
IRS received approximately 9,200 Forms 1120-C from Cooperatives. The 
small business size standards of the U.S. Small Business Association 
(SBA) under 13 CFR 121.201 matched to the North American Industry 
Classification System (NAICS) were used in estimating the number of 
Cooperatives that are considered small businesses. Approximately 8,200 
(90 percent) of the 9,200 filers of Forms 1120-C were estimated to be 
small businesses. Therefore, a substantial number of small entities are 
affected by the requirements in Sec.  1.199A-7(c)(3) and (d)(3).
    Section 1.199A-7 provides rules similar to those provided in Sec.  
1.199A-6. In Sec.  1.199A-6, relevant passthrough entities (RPEs) are 
not permitted to take the section 199A deduction but are required to 
determine and report the information necessary for their direct and 
indirect owners to determine their individual section 199A(a) 
deductions. Section 1.199A-6 requires RPEs to determine and report on 
or attach to the RPEs' Schedule K-1s to the Form 1065 for each trade or 
business in which the RPE was directly engaged four items: (1) The 
amount of QBI, (2) W-2 wages, (3) UBIA of qualified property, and (4) 
SSTBs.
    Although Cooperatives are not RPEs, Cooperatives make distributions 
to patrons that such patrons are permitted to include in calculating 
their individual section 199A(a) deductions. Section 1.199A-7(c) and 
(d) require the Cooperatives to determine and report to their patrons 
whether the distributions for which the Cooperatives take deductions 
under section 1382(b) and/or (c)(2), as applicable, constitute 
qualified items of income, gain, deduction, and loss and whether they 
are from an SSTB in which the Cooperative was directly engaged.
    In TD 9847 the Treasury Department and the IRS determined that the 
reporting burden in Sec.  1.199A-6 was estimated at 30 minutes to 20 
hours, depending on individual circumstances, with an estimated average 
of 2.5 hours for all affected entities, regardless of size. The burden 
on entities with business receipts below $10 million was expected to be 
at the lower end of the range (30 minutes to 2.5 hours). The estimated 
compliance burden for passthrough entities that issue Schedules K-1 is 
$53 per hour. This estimate was derived from the Business Taxpayer 
Burden model developed by the IRS's Office of Research, Applied 
Analytics, and Statistics (RAAS), which relates time and out-of-pocket 
costs of business tax preparation, derived from survey data, to assets 
and receipts of affected taxpayers along with other relevant variables. 
See Tax Compliance Burden (John Guyton, et al., July 2018) at https://www.irs.gov/pub/irs-soi/d13315.pdf. Thus, the annual aggregate burden 
on businesses with gross receipts below $10 million was estimated to be 
between $19.50 and $132.50 per business. The Treasury Department and 
the IRS determined in TD 9847 that the requirements in Sec.  1.199A-6 
imposed no significant economic impact on affected entities.
    The reporting requirements under Sec.  1.199A-7(c)(3) and (d)(3) 
require Specified Cooperatives to report only two of the four pieces of 
information RPEs are required to report under Sec.  1.199A-6: the 
amount of qualified items of income, gain, deduction, and loss and 
whether the distributions are from an SSTB in which the Cooperative was 
directly engaged. In addition, these final regulations, in response to 
comments, revise the proposed reporting requirements under Sec.  
1.199A-7(c)(3) and (d)(3) to reduce the Specified Cooperative's burden 
by requiring the Cooperative to report the total net amount of 
qualified items from non-SSTBs and SSTBs in distributions to patrons 
without delineating these amounts business by business.
    Furthermore, the burden imposed by Sec.  1.199A-7(c)(3) and (d)(3) 
only occurs when a Cooperative has net income that it may distribute to 
its patrons such that the income will qualify for the income tax 
deductions under section 1382(b) and/or (c), as applicable. With 
respect to this net income, Cooperatives already know the source of 
their income and deductions without which information they would not be 
able to determine the correct distributions to their patrons and to 
claim the income tax deduction for these distributions under section 
1382(b) and/or (c)(2), as applicable. Finally, assuming that the 
approximately 8,200 filers of Forms 1120-C were estimated to be small 
businesses in 2018 and that each business incurred half of the higher 
figure of $132.50 ($66.25) determined for the Sec.  1.199A-6 
regulations to satisfy the reporting requirements under Sec.  1.199A-
7(c)(3) and (d)(3), the annual burden imposed by the reporting 
requirements would not exceed $66.25 per business. Accordingly, the 
Treasury Department and the IRS conclude that the requirements in Sec.  
1.199A-7(c)(3) and (d)(3) will not impose a significant economic impact 
on small entities.

B. Sec.  1.199A-7(h)(3)

    Although Sec.  1.199A-7(h)(3) will have an impact on a substantial 
number of small entities, this economic impact will not be significant. 
As previously noted, in 2018, approximately 90 percent of Cooperatives 
filing Form 1120-C were estimated to be small businesses. Therefore, a 
substantial number of small entities are affected by Sec.  1.199A-
7(h)(3).
    Section 1.199A-7(h)(3) requires Cooperatives to notify patrons if, 
pursuant to the transition rule in section 101 of the 2018 Act, the 
patron is barred from using certain qualified payments from a 
Cooperative to claim a section 199A(a) deduction in a taxable year 
because these qualified payments are attributable to QPAI with respect 
to which a deduction is allowable to the Cooperative under former 
section 199 in a taxable year beginning before January 1, 2018. The 
Cooperative knows which patrons are impacted since, in order to claim 
its deduction under former section 199, the Cooperative must identify 
which qualified payments to use. The Treasury Department and the IRS 
estimate that the annual burden imposed by the requirement in Sec.  
1.199A-7(h)(3) will be far less than the $66.25 per business estimated 
for the requirements in Sec.  1.199A-7(c)(3) and (d)(3) discussed 
above, since the Cooperatives know which patrons are impacted and the 
reporting is limited to informing these patrons that they cannot use 
such qualified payments to calculate their section 199A(a) deduction. 
Further, the requirements under Sec.  1.199A-7(h)(3), in response to a 
comment, have been revised to allow more flexibility by allowing the 
reporting to be made using any reasonable method.
    In addition, absent notice from the Cooperatives, patrons would 
have no way of determining whether they were barred from claiming the 
section 199A(a) deduction using such qualified payments. Finally, 
Cooperatives are not able to claim a deduction under former section 199 
for taxable years beginning after December 31, 2017. Therefore, the 
reporting required by Sec.  1.199A-7(h)(3) will be for a short duration 
and have a limited impact on Cooperatives. Accordingly, for all these 
reasons, the requirements in Sec.  1.199A-7(h)(3) will not impose a 
significant economic impact on small entities.

C. Sec. Sec.  1.199A-7(f)(3) and 1.199A-8(d)(3)

    Sections 1.199A-7(f)(3) and 1.199A-8(d)(3) will not have a 
significant economic impact on a substantial number of small entities. 
According to

[[Page 5568]]

the Business Master File filing data from the transcribed fields from 
the Forms 1120-C for 2018, of the approximately 9,200 Forms 1120-C 
filed by Cooperatives, approximately 2,000 filers identified their 
Cooperatives as involving agriculture or horticulture using the NAICS 
codes. Of the 2,000 filers of Forms 1120-C identifying as Specified 
Cooperatives, approximately 1,600 filers (80 percent) would qualify as 
small business under the SBA thresholds. However, the requirement under 
Sec.  1.199A-7(f)(3) involving reporting of qualified payments should 
not impose a significant burden because qualified payments overlap with 
the section 1382 distributions a Cooperative uses to calculate the 
section 199A(g) deduction. Further, the notice requirement in Sec.  
1.199A-8(d)(3), which is imposed under section 199A(g)(2)(A)(ii), 
follows the same procedures that Cooperatives used under former section 
199 so Cooperatives should already have a process in place. 
Accordingly, Sec. Sec.  1.199A-7(f)(3) and 1.199A-8(d)(3) will not 
impose a significant economic impact on a substantial number of small 
entities.

D. Sec.  1.199A-8(f)

    Although Sec.  1.199A-8(f) will have an impact on a substantial 
number of small entities, this impact will not be economically 
significant. According to the Business Master File filing data from the 
transcribed fields from the Forms 1065 for 2018, the IRS estimates that 
there were 4,100,000 partnerships reporting their partners' share of 
partnership items on Schedules K-1 (Form 1065). The IRS also identified 
763 different partnerships that issued a Schedule K-1 to 654 different 
Cooperatives in 2018. The IRS does not have information as to whether 
the 654 Cooperatives all qualified as Specified Cooperatives.
    Of the 763 different partnerships, the IRS estimated that 215 of 
the partnerships conducted activities in 2018 that would have required 
the partnerships to file under Sec.  1.199A-8(f). The IRS does not have 
sufficient data to determine the type of business activities of the 
remaining partnerships. To be as comprehensive and transparent as 
possible in analyzing the potential impact of the final regulations, it 
is assumed that all of these partnerships would be required to file 
under Sec.  1.199A-8(f) and would be considered small entities.
    Of the 215 partnerships identified as having both issued a Schedule 
K-1 to a Cooperative and conducting eligible activities in 2018, the 
IRS determined that 158 of these partnerships conducted activities for 
which the SBA uses the number of employees to determine if an entity is 
a small entity using the NAICS. The IRS determined that 95 of these 97 
partnerships would be small entities, while two would not be small 
entities based on the reported number of Forms W-2 filed in connection 
with the Forms 1065 the partnerships filed in 2018.
    The SBA uses income to determine if an entity is a small entity for 
the reported business activities of the remaining 118 partnerships 
using the NAICS. Based upon the reported income for 2018, 84 of the 
remaining 118 partnerships are small entities, while 34 partnerships 
are not small entities. Therefore, a substantial number of small 
entities are affected by requirements in Sec.  1.199A-8(f).
    The economic impact of Sec.  1.199A-8(f), however, will not be 
significant because the information required to be reported is gross 
receipts and related deductions. This information is readily available 
to each partnership and already known for the purpose of determining 
Federal income and other tax obligations. A commenter also requested 
that the partnerships be allowed to report further information, and the 
rules in Sec.  1.199A-8(f) were broadened consistent with the request. 
Because the information required to be reported is already available 
and familiar to each partnership, the reporting required by Sec.  
1.199A-8(f) will not impose a significant economic impact on small 
entities.
    Accordingly, the Treasury Department and the IRS hereby certify 
that these regulations will not have a significant economic impact on a 
substantial number of small entities.
    Pursuant to section 7805(f) of the Code, the Proposed Regulation 
preceding this regulation was submitted to the Chief Counsel for 
Advocacy of the Small Business Administration for comment on its impact 
on small business and no comments were received.

IV. Unfunded Mandates Reform Act

    Section 202 of the Unfunded Mandates Reform Act of 1995 (UMRA) 
requires that agencies assess anticipated costs and benefits and take 
certain other actions before issuing a final rule that includes any 
Federal mandate that may result in expenditures in any one year by a 
state, local, or tribal government, in the aggregate, or by the private 
sector, of $100 million in 1995 dollars, updated annually for 
inflation. In 2019, that threshold is approximately $154 million. This 
rule does not include any Federal mandate that may result in 
expenditures by state, local, or tribal governments, or by the private 
sector in excess of that threshold.

V. Executive Order 13132: Federalism

    Executive Order 13132 (titled Federalism) prohibits an agency from 
publishing any rule that has federalism implications if the rule either 
imposes substantial, direct compliance costs on state and local 
governments, and is not required by statute, or preempts state law, 
unless the agency meets the consultation and funding requirements of 
section 6 of the Executive Order. These rules do not have federalism 
implications, and do not impose substantial direct compliance costs on 
state and local governments or preempt state law, within the meaning of 
the Executive Order.

VI. Congressional Review Act

    Pursuant to the Congressional Review Act (5 U.S.C. 801 et seq.), 
the Office of lnformation and Regulatory Affairs designated this rule 
as not a `major rule', as defined by 5 U.S.C. 804(2).

Statement of Availability of IRS Documents

    IRS Revenue Procedures, Revenue Rulings, Notices and other guidance 
cited in this document are published in the Internal Revenue Bulletin 
and are available from the Superintendent of Documents, U.S. Government 
Publishing Office, Washington, DC 20402, or by visiting the IRS website 
at http://www.irs.gov.

Drafting Information

    The principal author of these regulations is Jason Deirmenjian, 
Office of Associate Chief Counsel (Passthroughs and Special 
Industries). Other personnel from the Treasury Department and the IRS 
participated in their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Amendments to the Regulations

    Accordingly, 26 CFR parts 1 is amended as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 is amended by:
0
1. Removing the entries for Sec. Sec.  1.199-0 through 1.199-9.
0
2. Adding entries in numerical order to read in part as follows:

    Authority: 26 U.S.C. 7805.
* * * * *

[[Page 5569]]

    Section 1.199A-7 also issued under 26 U.S.C. 199A(f)(4) and 
(g)(6).
    Section 1.199A-8 also issued under 26 U.S.C. 199A(g)(6).
    Section 1.199A-9 also issued under 26 U.S.C. 199A(g)(6).
    Section 1.199A-10 also issued under 26 U.S.C. 199A(g)(6).
    Section 1.199A-11 also issued under 26 U.S.C. 199A(g)(6).
    Section 1.199A-12 also issued under 26 U.S.C. 199A(g)(6).
* * * * *


Sec.  Sec.  1.199-0 through 1.199-9  [Removed]

0
Par. 2. Sections 1.199-0 through 1.199-9 are removed.
0
Par. 3. Sections 1.199A-7 through 1.199A-12 are added to read as 
follows:
* * * * *


Sec.  1.199A-7  Section 199A(a) Rules for Cooperatives and their 
Patrons.

    (a) Overview--(1) In general. This section provides guidance and 
special rules on the application of the rules of Sec. Sec.  1.199A-1 
through 1.199A-6 regarding the deduction for qualified business income 
(QBI) under section 199A(a) (section 199A(a) deduction) of the Internal 
Revenue Code (Code) by patrons (patrons) of cooperatives to which Part 
I of subchapter T of chapter 1 of the Code (subchapter T) applies 
(Cooperatives). Unless otherwise provided in this section, all the 
rules in Sec. Sec.  1.199A-1 through 1.199A-6 relating to calculating 
the section 199A(a) deduction apply to patrons and Cooperatives. 
Paragraph (b) of this section provides special rules for patrons 
relating to trades or businesses. Paragraph (c) of this section 
provides special rules for patrons and Cooperatives relating to the 
definition of QBI. Paragraph (d) of this section provides special rules 
for patrons and Cooperatives relating to specified service trades or 
businesses (SSTBs). Paragraph (e) of this section provides special 
rules for patrons relating to the statutory limitations based on W-2 
wages and unadjusted basis immediately after acquisition (UBIA) of 
qualified property. Paragraph (f) of this section provides special 
rules for specified agricultural or horticultural cooperatives 
(Specified Cooperatives) and paragraph (g) of this section provides 
examples for Specified Cooperatives and their patrons. Paragraph (h) of 
this section sets forth the applicability date of this section and a 
special transition rule relating to Specified Cooperatives and their 
patrons.
    (2) At patron level. The section 199A(a) deduction is applied at 
the patron level, and patrons who are individuals (as defined in Sec.  
1.199A-1(a)(2)) may take the section 199A(a) deduction.
    (3) Definitions. For purposes of section 199A and Sec.  1.199A-7, 
the following definitions apply--
    (i) Individual is defined in Sec.  1.199A-1(a)(2).
    (ii) Patron is defined in Sec.  1.1388-1(e).
    (iii) Patronage and nonpatronage is defined in Sec.  1.1388-1(f).
    (iv) Relevant Passthrough Entity (RPE) is defined in Sec.  1.199A-
1(a)(9).
    (v) Qualified payment is defined in Sec.  1.199A-8(d)(2)(ii).
    (vi) Specified Cooperative is defined in Sec.  1.199A-8(a)(2) and 
is a subset of Cooperatives defined in Sec.  1.199A-7(a)(1).
    (b) Trade or business. A patron (whether the patron is an RPE or an 
individual), and not a Cooperative, must determine whether it has one 
or more trades or businesses that it directly conducts as defined in 
Sec.  1.199A-1(b)(14). To the extent a patron operating a trade or 
business has income directly from that business, the patron must follow 
the rules of Sec. Sec.  1.199A-1 through 1.199A-6 to calculate the 
section 199A(a) deduction. Patronage dividends or similar payments are 
considered to be generated from the trade or business the Cooperative 
conducts on behalf of or with the patron. A Cooperative that 
distributes patronage dividends or similar payments, as described in 
paragraph (c)(1) of this section, must determine and report information 
to its patrons relating to qualified items of income, gain, deduction, 
and loss in accordance with paragraphs (c)(3) and (d)(3) of this 
section. A patron that receives patronage dividends or similar 
payments, as described in paragraph (c)(1) of this section, from a 
Cooperative must follow the rules of paragraphs (c) through (e) of this 
section to calculate the section 199A(a) deduction.
    (c) Qualified Business Income--(1) In general. QBI means the net 
amount of qualified items of income, gain, deduction, and loss with 
respect to any trade or business as determined under the rules of Sec.  
199A(c)(3) and Sec.  1.199A-3(b). A qualified item of income includes 
distributions for which the Cooperative is allowed a deduction under 
section 1382(b) and (c)(2) (including patronage dividends or similar 
payments, such as money, property, qualified written notices of 
allocations, and qualified per-unit retain certificates, as well as 
money or property paid in redemption of a nonqualified written notice 
of allocation (collectively patronage dividends or similar payments)), 
provided such distribution is otherwise a qualified item of income, 
gain, deduction, or loss. See special rule in paragraph (d)(3) of this 
section relating to SSTBs that may affect QBI.
    (2) QBI determinations made by patron. A patron must determine QBI 
for each trade or business it directly conducts. In situations where 
the patron receives distributions described in paragraph (c)(1) of this 
section, the Cooperative must determine whether those distributions 
include qualified items of income, gain, deduction, and loss as 
determined under rules of Sec.  199A(c)(3) and Sec.  1.199A-3(b). These 
distributions may be included in the QBI of the patron's trade or 
business to the extent that:
    (i) The distributions are related to the patron's trade or business 
as defined in Sec.  1.199A-1(b)(14);
    (ii) The distributions are qualified items of income, gain, 
deduction, and loss as determined under rules of Sec.  199A(c)(3) and 
Sec.  1.199A-3(b) at the Cooperative's trade or business level;
    (iii) The distributions are not items from an SSTB as defined in 
Sec.  199A(d)(2) at the Cooperative's trade or business level (except 
as permitted by the threshold rules in Sec.  199A(d)(3) and Sec.  
1.199A-5(a)(2)); and
    (iv) Certain information is reported by the Cooperative about these 
payments as provided in paragraphs (c)(3) and (d)(3) of this section.
    (3) Qualified items of income, gain, deduction, and loss 
determinations made and reported by Cooperatives. In the case of a 
Cooperative that makes distributions described in paragraph (c)(1) of 
this section to a patron, the Cooperative must determine the amount of 
qualified items of income, gain, deduction, and loss as determined 
under the rules of Sec.  199A(c)(3) and Sec.  1.199A-3(b) in those 
distributions. A patron must determine whether these qualified items 
relate to one or more trades or businesses that it directly conducts as 
defined in Sec.  1.199A-1(b)(14). Pursuant to this paragraph (c)(3), 
the Cooperative must report the net amount of qualified items with 
respect to non-SSTBs of the Cooperative in the distributions made to 
the patron on an attachment to or on the Form 1099-PATR, Taxable 
Distributions Received From Cooperatives, (or any successor form) 
issued by the Cooperative to the patron, unless otherwise provided by 
the instructions to the Form. If the Cooperative does not report on or 
before the due date of the Form 1099-PATR the amount of such qualified 
items of income, gain, deduction, and loss in the distributions to the 
patron, the amount of distributions from the Cooperative that

[[Page 5570]]

may be included in the patron's QBI is presumed to be zero. See special 
rule in paragraph (d)(3) of this section relating to reporting of 
qualified items of income, gain, deduction, and loss with respect to 
SSTBs of the Cooperative.
    (d) Specified Service Trades or Businesses--(1) In general. This 
section provides guidance on the determination of SSTBs as defined in 
Sec.  199A(d)(2) and Sec.  1.199A-5. Unless otherwise provided in this 
section, all of the rules in Sec.  1.199A-5 relating to SSTBs apply to 
patrons of Cooperatives.
    (2) SSTB determinations made by patron. A patron (whether an RPE or 
an individual) must determine whether each trade or business it 
directly conducts is an SSTB.
    (3) SSTB determinations made and reported by Cooperatives--(i) In 
general. In the case of a Cooperative that makes distributions 
described in paragraph (c)(1) of this section to a patron, the 
Cooperative must determine the amount of qualified items of income, 
gain, deduction, and loss as determined under the rules of Sec.  
199A(c)(3) and Sec.  1.199A-3(b) with respect to SSTBs directly 
conducted by the Cooperative. A patron must determine whether these 
qualified items relate to one or more trades or businesses that it 
directly conducts as defined in Sec.  1.199A-1(b)(14). The Cooperative 
must report the net amount of qualified items with respect to the SSTBs 
of the Cooperative in the distributions made to the patron on an 
attachment to or on the Form 1099-PATR, Taxable Distributions Received 
from Cooperatives, (or any successor form) issued by the Cooperative to 
the patron, unless otherwise provided by the instructions to the Form. 
If the Cooperative does not report the amount on or before the due date 
of the Form 1099-PATR, then only the amount that a Cooperative reports 
as qualified items of income, gain, deduction, and loss under Sec.  
1.199A-7(c)(3) may be included in the patron's QBI, and the remaining 
amount of distributions from the Cooperative that may be included in 
the patron's QBI is presumed to be zero.
    (ii) Patron allocation of expenses paid to Cooperative for SSTB 
items of income reported by Cooperative--(A) In general. When a 
Cooperative reports SSTB items to a patron, a patron may allocate a 
deductible expense that was paid to the Cooperative in connection with 
the patron's qualified trade or business between a patron's qualified 
trade or business income and the SSTB income reported to it by the 
Cooperative only if the SSTB income directly relates to the deductible 
expense. A patron can allocate the deductible expense paid by the 
patron to the Cooperative only up to the amount of SSTB income reported 
by the Cooperative.
    (B) Example. Patron allocating expenses between qualified trade or 
business and SSTB income from a Cooperative. (1) Cooperative provides 
to its patrons a service that is an SSTB under section 199A(d)(2). P, a 
patron, runs a qualified trade or business under section 199A(d)(1) and 
incurs expenses for the service from the Cooperative in P's qualified 
trade or business. P pays the Cooperative $1,000 for the service. 
Cooperative later pays P a patronage dividend of $50 related to the 
service.
    (i2) Cooperative reports the $50 as SSTB income on the Form 1099-
PATR issued to P.
    (3) Since P's deductible expense for services from the Cooperative 
was in connection with a qualified trade or business and the SSTB 
income directly relates to that expense, P may allocate the expense 
under paragraph (d)(3)(ii) of this section. Accordingly, $50 of the 
$1,000 expense is allocated to P's SSTB income, and $950 of the expense 
is allocated to P's qualified trade or business and is included in P's 
QBI calculation.
    (e) W-2 wages and unadjusted basis immediately after acquisition of 
qualified property--(1) In general. This section provides guidance on 
calculating a trade or business's W-2 wages and the UBIA of qualified 
property properly allocable to QBI.
    (2) Determinations made by patron. The determination of W-2 wages 
and UBIA of qualified property must be made for each trade or business 
by the patron (whether an RPE or individual) that directly conducts the 
trade or business before applying the aggregation rules of Sec.  
1.199A-4. Unlike RPEs, Cooperatives do not compute and allocate their 
W-2 wages and UBIA of qualified property to patrons.
    (f) Special rules for patrons of Specified Cooperatives--(1) 
Section 199A(b)(7) reduction. A patron of a Specified Cooperative that 
receives a qualified payment must reduce its section 199A(a) deduction 
as provided in Sec.  1.199A-1(e)(7). This reduction applies whether the 
Specified Cooperative passes through all, some, or none of the 
Specified Cooperative's section 199A(g) deduction to the patron in that 
taxable year. The rules relating to the section 199A(g) deduction can 
be found in Sec. Sec.  1.199A-8 through 1.199A-12.
    (2) Reduction calculation--(i) Allocation method. If in any taxable 
year, a patron receives income or gain related to qualified payments 
and income or gain that is not related to qualified payments in a trade 
or business, the patron must allocate the income or gain and related 
deductions, losses and W-2 wages using a reasonable method based on all 
the facts and circumstances for purposes of calculating the reduction 
in Sec.  1.199A-1(e)(7). Different reasonable methods may be used for 
different items and related deductions of income, gain, deduction, and 
loss. The chosen reasonable method for each item must be consistently 
applied from one taxable year of the patron to another, and must 
clearly reflect the income and expenses of each trade or business. The 
overall combination of methods must also be reasonable based on all the 
facts and circumstances. The books and records maintained for a trade 
or business must be consistent with any allocations under this 
paragraph (f)(2)(i).
    (ii) Safe harbor. A patron with taxable income under the threshold 
amount set forth in section 199A(e)(2) is eligible to use the safe 
harbor set forth in this paragraph (f)(2)(ii) to apportion its 
deductions, losses and W-2 wages instead of the allocation method set 
forth in paragraph (f)(2)(i) of this section for any taxable year in 
which the patron receives income or gain related to qualified payments 
and income or gain not related to qualified payments in a trade or 
business. Under the safe harbor the patron may apportion its 
deductions, losses and W-2 wages ratably between income or gain related 
to qualified payments and income or gain that is not related to 
qualified payments for purposes of calculating the reduction in 
paragraph (f)(1) of this section. Accordingly, the amount of deductions 
and losses apportioned to determine QBI allocable to qualified payments 
is equal to the proportion of the total deductions and losses that the 
amount of income or gain related to qualified payments bears to total 
income or gain used to determine QBI. The same proportion applies to 
determine the amount of W-2 wages allocable to the portion of the trade 
or business that received qualified payments.
    (3) Qualified payments notice requirement. A Specified Cooperative 
must report the amount of the qualified payments made to the eligible 
taxpayer, as defined in section 199A(g)(2)(D), on an attachment to or 
on the Form 1099-PATR (or any successor form) issued by the Cooperative 
to the patron, unless otherwise provided by the instructions to the 
Form.
    (g) Examples. The following examples illustrate the provisions of 
paragraph (f) of this section. For purposes of these examples, assume 
that the Specified Cooperative has satisfied the applicable

[[Page 5571]]

written notice requirements in paragraphs (c)(3), (d)(3) and (f)(3) of 
this section.
    (1) Example 1. Patron of Specified Cooperative with W-2 wages. (i) 
P, a grain farmer and patron of nonexempt Specified Cooperative C, 
delivered to C during 2020 2% of all grain marketed through C during 
such year. During 2021, P receives $20,000 in patronage dividends and 
$1,000 of allocated section 199A(g) deduction from C related to the 
grain delivered to C during 2020.
    (ii) P has taxable income of $75,000 for 2021 (determined without 
regard to section 199A) and has a filing status of married filing 
jointly. P's QBI related to its grain trade or business for 2021 is 
$50,000, which consists of gross receipts of $150,000 from sales to an 
independent grain elevator, per-unit retain allocations received from C 
during 2021 of $80,000, patronage dividends received from C during 2021 
related to C's 2020 net earnings of $20,000, and expenses of $200,000 
(including $50,000 of W-2 wages).
    (iii) The portion of QBI from P's grain trade or business related 
to qualified payments received from C during 2021 is $10,000, which 
consists of per-unit retain allocations received from C during 2021 of 
$80,000, patronage dividends received from C during 2021 related to C's 
2020 net earnings of $20,000, and properly allocable expenses of 
$90,000 (including $25,000 of W-2 wages).
    (iv) P's deductible amount related to the grain trade or business 
is 20% of QBI ($10,000) reduced by the lesser of 9% of QBI related to 
qualified payments received from C ($900) or 50% of W-2 wages related 
to qualified payments received from C ($12,500), or $9,100. As P does 
not have any other trades or businesses, the combined QBI amount is 
also $9,100.
    (v) P's deduction under section 199A for 2021 is $10,100, which 
consists of the combined QBI amount of $9,100, plus P's deduction 
passed through from C of $1,000.
    (2) Example 2. Patron of Specified Cooperative without W-2 wages. 
(i) C and P have the same facts for 2020 and 2021 as Example 1, except 
that P has expenses of $200,000 that include zero W-2 wages during 
2021.
    (ii) P's deductible amount related to the grain trade or business 
is 20% of QBI ($10,000) reduced by the lesser of 9% of QBI related to 
qualified payments received from C ($900) or 50% of W-2 wages related 
to qualified payments received from C ($0), or $10,000.
    (iii) P's deduction under section 199A for 2021 is $11,000, which 
consists of the combined QBI amount of $10,000, plus P's deduction 
passed through from C of $1,000.
    (3) Example 3. Patron of Specified Cooperative--Qualified Payments 
do not equal QBI and no section 199A(g) passthrough. (i) P, a grain 
farmer and a patron of a nonexempt Specified Cooperative C, during 
2020, receives $60,000 in patronage dividends, $100,000 in per-unit 
retain allocations, and $0 of allocated section 199A(g) deduction from 
C related to the grain delivered to C. C notifies P that only $150,000 
of the patronage dividends and per-unit retain allocations are 
qualified payments because $10,000 of the payments are not attributable 
to C's QPAI.
    (ii) P has taxable income of $90,000 (determined without regard to 
section 199A) and has a filing status of married filing jointly. P's 
QBI related to its grain trade or business is $45,000, which consists 
of gross receipts of $95,000 from sales to an independent grain 
elevator, plus $160,000 from C (all payments from C qualify as 
qualified items of income, gain, deduction, and loss), less expenses of 
$210,000 (including $30,000 of W-2 wages).
    (iii) The portion of QBI from P's grain trade or business related 
to qualified payments received from C is $25,000, which consists of the 
qualified payments received from C of $150,000, less the properly 
allocable expenses of $125,000 (including $18,000 of W-2 wages), which 
were determined using a reasonable method under paragraph (f)(2)(ii) of 
this section.
    (iv) P's patron reduction is $2,250, which is the lesser of 9% of 
QBI related to qualified payments received from C, $2,250 (9% x 
$25,000), or 50% of W-2 wages related to qualified payments received 
from C, $9,000 (50% x $18,000). As P does not have any other trades or 
businesses, the combined QBI amount is $6,750 (20% of P's total QBI, 
$9,000 (20% x $45,000), reduced by the patron reduction of $2,250).
    (v) P's deduction under section 199A is $6,750, which consists of 
the combined QBI amount of $6,750.
    (4) Example 4. Patron of Specified Cooperative--Reasonable Method 
under paragraph (f)(2)(i) of this section. P is a grain farmer that has 
$45,000 of QBI related to P's grain trade or business in 2020. P's QBI 
consists of $105,000 of sales to an independent grain elevator, 
$100,000 of per-unit retain allocations, and $50,000 of patronage 
dividends from a nonexempt Specified Cooperative C, for which C reports 
$150,000 of qualified payments to P as required by paragraph (f)(3) of 
this section. P's grain trade or business has $210,000 of expenses 
(including $30,000 of W-2 wages). P delivered 65x bushels of grain to C 
and sold 35x bushels of comparable grain to the independent grain 
elevator. To allocate the expenses between qualified payments 
($150,000) and other income ($105,000), P compares the bushels of grain 
delivered to C (65x) to the total bushels of grain delivered to C and 
sold to the independent grain elevator (100x). P determines $136,500 
(65% x $210,000) of expenses (including $19,500 of W-2 wages) are 
properly allocable to the qualified payments. The portion of QBI from 
P's grain trade or business related to qualified payments received from 
C is $13,500, which consists of qualified payments of $150,000 less the 
properly allocable expenses of $136,500 (including $19,500 of W-2 
wages). P's method of allocating expenses is a reasonable method under 
paragraph (f)(2)(i) of this section.
    (5) Example 5. Patron of Specified Cooperative using safe harbor to 
allocate. (i) P is a grain farmer with taxable income of $100,000 for 
2021 (determined without regard to section 199A) and has a filing 
status of married filing jointly. P's QBI related to P's grain trade or 
business for 2021 is $50,000, which consists of gross receipts of 
$180,000 from sales to an independent grain elevator, per-unit retain 
allocations received from a Specified Cooperative C during 2021 of 
$15,000, patronage dividends received from C during 2021 related to C's 
2020 net earnings of $5,000, and expenses of $150,000 (including 
$50,000 of W-2 wages). C also passed through $1,800 of the section 
199A(g) deduction to P, which related to the grain delivered by P to 
the Specified Cooperative during 2020. P uses the safe harbor in 
paragraph (f)(2)(ii) of this section to determine the expenses 
(including W-2 wages) allocable to the qualified payments.
    (ii) Using the safe harbor to allocate P's $150,000 of expenses, P 
allocates $15,000 of the expenses to the qualified payments ($150,000 
of expenses multiplied by the ratio (0.10) of qualified payments 
($20,000) to total gross receipts ($200,000)). Using the same ratio, P 
also determines there are $5,000 of W-2 wages allocable ($50,000 
multiplied by 0.10) to the qualified payments.
    (iii) The portion of QBI from P's grain trade or business related 
to qualified payments received from C during 2021 is $5,000, which 
consists of per-unit retain allocations received from C during 2021 of 
$15,000, patronage dividends of $5,000, and properly

[[Page 5572]]

allocable expenses of $15,000 (including $5,000 of W-2 wages).
    (iv) P's QBI related to the grain trade or business is 20% of QBI 
($10,000) reduced by the lesser of 9% of QBI related to qualified 
payments received from C ($450) or 50% of W-2 wages related to 
qualified payments received from C ($2,500), or $9,550. As P does not 
have any other trades or businesses, the combined QBI amount is also 
$9,550.
    (v) P's deduction under section 199A for 2021 is $11,350, which 
consists of the combined QBI amount of $9,550, plus P's deduction 
passed through from C of $1,800.
    (h) Applicability date--(1) General rule. Except as provided in 
paragraph (h)(2) of this section, the provisions of this section apply 
to taxable years beginning after January 19, 2021. Taxpayers, however, 
may choose to apply the rules of Sec. Sec.  1.199A-7 through 1.199A-12 
for taxable years beginning on or before that date, provided taxpayers 
apply the rules in their entirety and in a consistent manner.
    (2) Transition rule for qualified payments of patrons of 
Cooperatives. See the transition rule for qualified payments of patrons 
of Cooperatives for a taxable year of a Cooperative beginning before 
January 1, 2018 in the Consolidated Appropriations Act, 2018 (Pub. L. 
115-141, 132 Stat. 348) Division T, section 101(c).
    (3) Notice from the Cooperative. If a patron of a Cooperative 
cannot claim a deduction under section 199A for any qualified payments 
described in the transition rule set forth in paragraph (h)(2) of this 
section, the Cooperative must use a reasonable method to identify the 
qualified payments to its patrons. A reasonable method includes 
reporting this information on an attachment to or on the Form 1099-PATR 
(or any successor form) issued by the Cooperative to the patron, unless 
otherwise provided by the instructions to the Form.


Sec.  1.199A-8  Deduction for income attributable to domestic 
production activities of specified agricultural or horticultural 
cooperatives

    (a) Overview--(1) In general. This section provides rules relating 
to the deduction for income attributable to domestic production 
activities of a specified agricultural or horticultural cooperative 
(Specified Cooperative). This paragraph (a) provides an overview and 
definitions of certain terms. Paragraph (b) of this section provides 
rules explaining the steps a nonexempt Specified Cooperative performs 
to calculate its section 199A(g) deduction and includes definitions of 
relevant terms. Paragraph (c) of this section provides rules explaining 
the steps an exempt Specified Cooperative performs to calculate its 
section 199A(g) deduction. Paragraph (d) of this section provides rules 
for Specified Cooperatives passing through the section 199A(g) 
deduction to patrons. Paragraph (e) of this section provides examples 
that illustrate the provisions of paragraphs (b), (c), and (d) of this 
section. Paragraph (f) of this section provides guidance for Specified 
Cooperatives that are partners in a partnership. Paragraph (g) of this 
section provides guidance on the recapture of a claimed section 199A(g) 
deduction. Paragraph (h) of this section provides effective dates. For 
additional rules addressing an expanded affiliated group (EAG), to 
which the principles of this section apply, see Sec.  1.199A-12. The 
provisions of this section apply solely for purposes of section 199A of 
the Internal Revenue Code (Code).
    (2) Specified Cooperative--(i) In general. Specified Cooperative 
means a cooperative to which Part I of subchapter T of chapter 1 of the 
Code applies and which--
    (A) Manufactures, produces, grows, or extracts (MPGE) in whole or 
significant part within the United States any agricultural or 
horticultural product, or
    (B) Is engaged in the marketing of agricultural or horticultural 
products that have been MPGE in whole or significant part within the 
United States by the patrons of the cooperative.
    (C) See Sec.  1.199A-9 for rules to determine if a Specified 
Cooperative has MPGE an agricultural or horticultural product in whole 
or significant part within the United States.
    (ii) Types of Specified Cooperatives. A Specified Cooperative that 
is qualified as a farmer's cooperative organization under section 521 
is an exempt Specified Cooperative, while a Specified Cooperative not 
so qualified is a nonexempt Specified Cooperative.
    (3) Patron is defined in Sec.  1.1388-1(e).
    (4) Agricultural or horticultural products are agricultural, 
horticultural, viticultural, and dairy products, livestock and the 
products thereof, the products of poultry and bee raising, the edible 
products of forestry, and any and all products raised or produced on 
farms and processed or manufactured products thereof within the meaning 
of the Cooperative Marketing Act of 1926, 44 Stat. 802 (1926). 
Agricultural or horticultural products also include aquatic products 
that are farmed. Some examples of agricultural or horticultural 
products include, but are not limited to, fruits, grains, oilseeds, 
rice, vegetables, legumes, grasses (including hay), plants of all 
kinds, flowers (including hops), seeds, tobacco, cotton, sugar cane and 
sugar beets. Some examples of livestock products include, but are not 
limited to, wool, fur, hides, eggs, down, honey, and silk. Some 
examples of edible forestry products include, but are not limited to, 
fruits, nuts, berries and mushrooms. Some examples of aquatic products 
include, but are not limited to, fish, crustaceans, shellfish and 
seaweed. In addition, agricultural or horticultural products include 
fertilizer, diesel fuel, and other supplies (for example, seed, feed, 
herbicides, and pesticides) used in agricultural or horticultural 
production that are MPGE by a Specified Cooperative. Agricultural or 
horticultural products, however, do not include intangible property 
other than when incorporated into a tangible agricultural or 
horticultural product (other than as provided in the exception in Sec.  
1.199A-9(b)(2)). Intangible property for this purpose includes, for 
example, the rights to MPGE and sell an agricultural or horticultural 
product with certain characteristics protected by a patent, or the 
rights to a trademark or tradename. This exclusion of intangible 
property does not apply to intangible characteristics of any particular 
agricultural or horticultural product. For example, gross receipts from 
the sale of different varieties of oranges would be considered from the 
disposition of agricultural or horticultural products. However, gross 
receipts from the license of the right to produce and sell a certain 
variety of an orange would be considered separate from the orange and 
not from an agricultural or horticultural product.
    (b) Steps for a nonexempt Specified Cooperative in calculating 
deduction--(1) In general. Except as provided in paragraph (c)(3) of 
this section, this paragraph (b) applies only to nonexempt Specified 
Cooperatives.
    (2) Step 1--Gross receipts and related deductions--(i) Identify. To 
determine the section 199A(g) deduction, a Specified Cooperative first 
identifies its patronage and nonpatronage gross receipts and related 
cost of goods sold (COGS), deductible expenses, W-2 wages, etc. 
(deductions) and allocates them between patronage and nonpatronage. A 
single definition for the term patronage and nonpatronage is found in 
Sec.  1.1388-1(f).
    (ii) Applicable gross receipts and deductions. Except as described 
in this paragraph (b)(ii), for all purposes of the section 199A(g) 
deduction, a Specified Cooperative can use only patronage gross 
receipts and related deductions to calculate qualified production 
activities

[[Page 5573]]

income (QPAI) as defined in paragraph (b)(4)(ii) of this section, oil-
related QPAI as defined in paragraph (b)(7)(ii) of this section, the W-
2 wage limitation in paragraph (b)(5)(ii)(B) of this section, or 
taxable income as defined in paragraph (b)(5)(ii)(C) of this section. A 
Specified Cooperative cannot use its nonpatronage gross receipts and 
related deductions to calculate its section 199A(g) deduction, other 
than treating all of its nonpatronage gross receipts as patronage non-
DPGR for purposes of applying the de minimis rules in Sec.  1.199A-
9(c)(3). If a Specified Cooperative treats all nonpatronage gross 
receipts as DPGR under Sec.  1.199A-9(c)(3)(i), then a Specified 
Cooperative shall also treat its deductions related to the nonpatronage 
gross receipts as patronage in calculating QPAI, oil-related QPAI, the 
W-2 wage limitation, or taxable income for purposes of the section 
199A(g) deduction.
    (iii) Gross receipts are the Specified Cooperative's receipts for 
the taxable year that are recognized under the Specified Cooperative's 
methods of accounting used for Federal income tax purposes for the 
taxable year. See Sec.  1.199A-12 if the gross receipts are recognized 
in an intercompany transaction within the meaning of Sec.  1.1502-13. 
Gross receipts include total sales (net of returns and allowances) and 
all amounts received for services. In addition, gross receipts include 
any income from investments and from incidental or outside sources. For 
example, gross receipts include interest (except interest under section 
103 but including original issue discount), dividends, rents, 
royalties, and annuities, regardless of whether the amounts are derived 
in the ordinary course of the Specified Cooperative's trade or 
business. Gross receipts are not reduced by COGS or by the cost of 
property sold if such property is described in section 1221(a)(1), (2), 
(3), (4), or (5). Finally, gross receipts do not include amounts 
received by the Specified Cooperative with respect to sales tax or 
other similar state or local taxes if, under the applicable state or 
local law, the tax is legally imposed on the purchaser of the good or 
service and the Specified Cooperative merely collects and remits the 
tax to the taxing authority. If, in contrast, the tax is imposed on the 
Specified Cooperative under the applicable law, then gross receipts 
include the amounts received that are allocable to the payment of such 
tax.
    (3) Step 2--Determine gross receipts that are DPGR--(i) In general. 
A Specified Cooperative examines its patronage gross receipts to 
determine which of these are DPGR. A Specified Cooperative does not use 
nonpatronage gross receipts to determine DPGR.
    (ii) DPGR are the gross receipts of the Specified Cooperative that 
are derived from any lease, rental, license, sale, exchange, or other 
disposition of an agricultural or horticultural product that is MPGE by 
the Specified Cooperative or its patrons in whole or significant part 
within the United States. DPGR does not include gross receipts derived 
from services or the lease, rental, license, sale, exchange, or other 
disposition of land unless a de minimis or other exception applies. See 
Sec.  1.199A-9 for additional rules on determining if gross receipts 
are DPGR.
    (4) Step 3--Determine QPAI--(i) In general. A Specified Cooperative 
determines QPAI from patronage DPGR and patronage deductions identified 
in paragraphs (b)(3)(ii) and (b)(2)(i) of this section, respectively. A 
Specified Cooperative does not use nonpatronage gross receipts or 
deductions to determine QPAI.
    (ii) QPAI for the taxable year means an amount equal to the excess 
(if any) of--
    (A) DPGR for the taxable year, over
    (B) The sum of--
    (1) COGS that are allocable to DPGR, and
    (2) Other expenses, losses, or deductions (other than the section 
199A(g) deduction) that are properly allocable to DPGR.
    (C) QPAI computational rules. QPAI is computed without taking into 
account the section 199A(g) deduction or any deduction allowed under 
section 1382(b). See Sec.  1.199A-10 for additional rules on 
calculating QPAI.
    (5) Step 4--Calculate deduction--(i) In general. From QPAI and 
taxable income, a Specified Cooperative calculates its section 199A(g) 
deduction as provided in paragraph (b)(5)(ii) of this section.
    (ii) Deduction--(A) In general. A Specified Cooperative is allowed 
a deduction equal to 9 percent of the lesser of--
    (1) QPAI of the Specified Cooperative for the taxable year, or
    (2) Taxable income of the Specified Cooperative for the taxable 
year.
    (B) W-2 wage limitation. The deduction allowed under paragraph 
(b)(5)(ii)(A) of this section for any taxable year cannot exceed 50 
percent of the patronage W-2 wages attributable to DPGR for the taxable 
year. See Sec.  1.199A-11 for additional rules on calculating the 
patronage W-2 wage limitation.
    (C) Taxable income. Taxable income is defined in section 63, and 
adjusted under section 1382 and Sec.  1.1382-1 and Sec.  1.1382-2. For 
purposes of determining the amount of the deduction allowed under 
paragraph (b)(5)(ii) of this section, taxable income is limited to 
taxable income and related deductions from patronage sources, other 
than as allowed under paragraph (b)(2)(ii) of this section. Taxable 
income is computed without taking into account the section 199A(g) 
deduction or any deduction allowable under section 1382(b). Patronage 
net operating losses (NOLs) reduce taxable income in the amount that 
the Specified Cooperative would use to reduce taxable income (no lower 
than zero) before using the section 199A(g) deduction, but do not 
reduce taxable income that is the result of not taking into account any 
deduction allowable under section 1382(b).
    (6) Use of patronage section 199A(g) deduction. Except as provided 
in Sec.  1.199A-12(c)(2) related to the rules for EAGs, the patronage 
section 199A(g) deduction cannot create or increase a patronage or 
nonpatronage NOL or the amount of a patronage or nonpatronage NOL 
carryover or carryback, if applicable, in accordance with section 172. 
A patronage section 199A(g) deduction can be applied only against 
patronage income and deductions. A patronage section 199A(g) deduction 
that is not used in the appropriate taxable year is lost. To the extent 
that a Specified Cooperative passes through the section 199A(g) 
deduction to patrons and appropriately adjusts the section 1382 
deduction under Sec.  1.199A-8(d), the amount passed through is not 
considered to create or increase a patronage or nonpatronage NOL or the 
amount of a patronage or nonpatronage NOL carryover or carryback, if 
applicable, in accordance with section 172.
    (7) Special rules for nonexempt Specified Cooperatives that have 
oil-related QPAI--(i) Reduction of section 199A(g) deduction. If a 
Specified Cooperative has oil-related QPAI for any taxable year, the 
amount otherwise allowable as a deduction under paragraph (b)(5)(ii) of 
this section must be reduced by 3 percent of the least of--
    (A) Oil-related QPAI of the Specified Cooperative for the taxable 
year,
    (B) QPAI of the Specified Cooperative for the taxable year, or
    (C) Taxable income of the Specified Cooperative for the taxable 
year.
    (ii) Oil-related QPAI means, for any taxable year, the patronage 
QPAI that is attributable to the production, refining, processing, 
transportation, or distribution of oil, gas, or any primary product 
thereof (within the meaning of section 927(a)(2)(C), as in effect 
before

[[Page 5574]]

its repeal) during such taxable year. Oil-related QPAI for any taxable 
year is an amount equal to the excess (if any) of patronage DPGR 
derived from the production, refining or processing of oil, gas, or any 
primary product thereof (oil-related DPGR) over the sum of--
    (A) COGS of the Specified Cooperative that is allocable to such 
receipts; and
    (B) Other expenses, losses, or deductions (other than the section 
199A(g) deduction) that are properly allocable to such receipts.
    (iii) Special rule for patronage oil-related DPGR. Oil-related DPGR 
does not include gross receipts derived from the transportation or 
distribution of oil, gas, or any primary product thereof. However, to 
the extent that the nonexempt Specified Cooperative treats gross 
receipts derived from transportation or distribution of oil, gas, or 
any primary product thereof as part of DPGR under Sec.  1.199A-
9(c)(3)(i), or under Sec.  1.199A-9(j)(3)(i)(B), then the Specified 
Cooperative must treat those patronage gross receipts as oil-related 
DGPR.
    (iv) Oil includes oil recovered from both conventional and non-
conventional recovery methods, including crude oil, shale oil, and oil 
recovered from tar/oil sands. The primary product from oil includes all 
products derived from the destructive distillation of oil, including 
volatile products, light oils such as motor fuel and kerosene, 
distillates such as naphtha, lubricating oils, greases and waxes, and 
residues such as fuel oil. The primary product from gas means all gas 
and associated hydrocarbon components from gas wells or oil wells, 
whether recovered at the lease or upon further processing, including 
natural gas, condensates, liquefied petroleum gases such as ethane, 
propane, and butane, and liquid products such as natural gasoline. The 
primary products from oil and gas provided in this paragraph (b)(7)(iv) 
are not intended to represent either the only primary products from oil 
or gas, or the only processes from which primary products may be 
derived under existing and future technologies. Examples of non-primary 
products include, but are not limited to, petrochemicals, medicinal 
products, insecticides, and alcohols.
    (c) Exempt Specified Cooperatives--(1) In general. This paragraph 
(c) applies only to exempt Specified Cooperatives.
    (2) Two section 199A(g) deductions. The Specified Cooperative must 
calculate two separate section 199A(g) deductions, one patronage 
sourced and the other nonpatronage sourced, unless a Specified 
Cooperative treats all of its nonpatronage gross receipts and related 
deductions as patronage as described in paragraph (b)(2)(ii) of this 
section. Patronage and nonpatronage gross receipts, related COGS that 
are allocable to DPGR, and other expenses, losses, or deductions (other 
than the section 199A(g) deduction) that are properly allocable to DPGR 
(deductions), DPGR, QPAI, NOLs, W-2 wages, etc. are not netted to 
calculate these two separate section 199A(g) deductions.
    (3) Exempt Specified Cooperative patronage section 199A(g) 
deduction. The Specified Cooperative calculates its patronage section 
199A(g) deduction following steps 1 through 4 in paragraphs (b)(2) 
through (5) of this section as if it were a nonexempt Specified 
Cooperative.
    (4) Exempt Specified Cooperative nonpatronage section 199A(g) 
deduction--(i) In general. The Specified Cooperative calculates its 
nonpatronage section 199A(g) deduction following steps 2 through 4 in 
paragraphs (b)(2) through (5) of this section using only nonpatronage 
gross receipts and related nonpatronage deductions, unless a Specified 
Cooperative treats all of its nonpatronage gross receipts and related 
deductions as patronage as described in paragraph (b)(2)(ii) of this 
section. For purposes of determining the amount of the nonpatronage 
section 199A(g) deduction allowed under paragraph (b)(5)(ii) of this 
section, taxable income is limited to taxable income and related 
deductions from nonpatronage sources. Nonpatronage NOLs reduce taxable 
income. Taxable income is computed without taking into account the 
section 199A(g) deduction or any deduction allowable under section 
1382(c).
    (ii) Use of nonpatronage section 199A(g) deduction. Except as 
provided in Sec.  1.199A-12(c)(2) related to the rules for EAGs, the 
nonpatronage section 199A(g) deduction cannot create or increase a 
nonpatronage NOL or the amount of nonpatronage NOL carryover or 
carryback, if applicable, in accordance with section 172. A Specified 
Cooperative cannot pass through its nonpatronage section 199A(g) 
deduction under paragraph (d) of this section and can apply the 
nonpatronage section 199A(g) deduction only against its nonpatronage 
income and deductions. As is the case for the patronage section 199A(g) 
deduction, the nonpatronage section 199A(g) deduction that a Specified 
Cooperative does not use in the appropriate taxable year is lost.
    (d) Discretion to pass through deduction--(1)(i) In general. A 
Specified Cooperative may, at its discretion, pass through all, some, 
or none of its patronage section 199A(g) deduction to all patrons. Only 
eligible taxpayers as defined in section 199A(g)(2)(D) may claim the 
section 199A(g) deduction that is passed through. A Specified 
Cooperative member of a federated cooperative may pass through the 
patronage section 199A(g) deduction it receives from the federated 
cooperative to its member patrons.
    (ii) Specified Cooperative identifies eligibility of patron. If a 
Specified Cooperative determines that a patron is not an eligible 
taxpayer, then the Specified Cooperative may, at its discretion, retain 
any of the patronage section 199A(g) deduction attributable to the 
patron that would otherwise be passed through and lost under the 
general rule in paragraph (d)(1)(i) of this section.
    (2) Amount of deduction being passed through--(i) In general. A 
Specified Cooperative is permitted to pass through an amount equal to 
the portion of the Specified Cooperative's section 199A(g) deduction 
that is allowed with respect to the portion of the cooperative's QPAI 
that is attributable to the qualified payments the Specified 
Cooperative distributed to the patron during the taxable year and 
identified on the notice required in Sec.  1.199A-7(f)(3) on an 
attachment to or on the Form 1099-PATR, Taxable Distributions Received 
From Cooperatives (Form 1099-PATR), (or any successor form) issued by 
the Specified Cooperative to the patron, unless otherwise provided by 
the instructions to the Form. The notice requirement to pass through 
the section 199A(g) deduction is in paragraph (d)(3) of this section.
    (ii) Qualified payment means any amount of a patronage dividend or 
per-unit retain allocation, as described in section 1385(a)(1) or (3) 
received by a patron from a Specified Cooperative that is attributable 
to the portion of the Specified Cooperative's QPAI, for which the 
cooperative is allowed a section 199A(g) deduction. For this purpose, 
patronage dividends include any advances on patronage and per-unit 
retain allocations include per-unit retains paid in money during the 
taxable year.
    (3) Notice requirement to pass through deduction. A Specified 
Cooperative must identify in a written notice the amount of the section 
199A(g) deduction being passed through to its patrons. This written 
notice must be mailed by the Specified Cooperative to the patron no 
later than the 15th day of the ninth month following the close of the 
taxable year of the Specified Cooperative. The Specified Cooperative 
may use the same written notice, if any,

[[Page 5575]]

that it uses to notify the patron of the patron's respective 
allocations of patronage distributions, or may use a separate timely 
written notice(s) to comply with this section. The Specified 
Cooperative must report the amount of section 199A(g) deduction passed 
through to the patron on an attachment to or on the Form 1099-PATR (or 
any successor form) issued by the Specified Cooperative to the patron, 
unless otherwise provided by the instructions to the Form.
    (4) Section 199A(g) deduction allocated to eligible taxpayer. An 
eligible taxpayer may deduct the lesser of the section 199A(g) 
deduction identified on the notice described in paragraph (d)(3) of 
this section or the eligible taxpayer's taxable income in the taxable 
year in which the eligible taxpayer receives the timely written notice 
described in paragraph (d)(3) of this section. For this purpose, the 
eligible taxpayer's taxable income is determined without taking into 
account the section 199A(g) deduction being passed through to the 
eligible taxpayer and after taking into account any section 199A(a) 
deduction allowed to the eligible taxpayer. Any section 199A(g) 
deduction the eligible taxpayer does not use in the taxable year in 
which the eligible taxpayer receives the notice (received on or before 
the due date of the Form 1099-PATR) is lost and cannot be carried 
forward or back to other taxable years. The taxable income limitation 
for the section 199A(a) deduction set forth in section 199A(b)(3) and 
Sec.  1.199A-1(a) and (b) does not apply to limit the deductibility of 
the section 199A(g) deduction passed through to the eligible taxpayer.
    (5) Special rules for eligible taxpayers that are Specified 
Cooperatives. Any Specified Cooperative that receives a section 199A(g) 
deduction as an eligible taxpayer can take the deduction against 
patronage gross income and related deductions to the extent it relates 
to its patronage gross income and related deductions. Only a patron 
that is an exempt Specified Cooperative may take a section 199A(g) 
deduction passed through from another Specified Cooperative if the 
deduction relates to the patron Specified Cooperative's nonpatronage 
gross income and related deductions.
    (6) W-2 wage limitation. The W-2 wage limitation described in 
paragraph (b)(5)(ii)(B) of this section is applied at the cooperative 
level whether or not the Specified Cooperative chooses to pass through 
some or all of the section 199A(g) deduction. Any section 199A(g) 
deduction that has been passed through by a Specified Cooperative to an 
eligible taxpayer is not subject to the W-2 wage limitation a second 
time at the eligible taxpayer's level.
    (7) Specified Cooperative denied section 1382 deduction for portion 
of qualified payments. A Specified Cooperative must reduce its section 
1382 deduction by an amount equal to the portion of any qualified 
payment that is attributable to the Specified Cooperative's section 
199A(g) deduction passed through. This means the Specified Cooperative 
must reduce its section 1382 deduction in an amount equal to the 
section 199A(g) deduction passed through.
    (8) No double counting. A qualified payment received by a Specified 
Cooperative that is a patron of a Specified Cooperative is not taken 
into account by the patron for purposes of section 199A(g).
    (e) Examples. The following examples illustrate the application of 
paragraphs (a), (b), (c), and (d) of this section. The examples of this 
section apply solely for purposes of section 199A of the Code. Assume 
for each example that the Specified Cooperative sent all required 
notices to patrons on or before the due date of the Form 1099-PATR.
    (1) Example 1. Nonexempt Specified Cooperative calculating section 
199A(g) deduction. (i) C is a grain marketing nonexempt Specified 
Cooperative, with $5,250,000 in gross receipts during 2020 from the 
sale of grain grown by its patrons. C paid $4,000,000 to its patrons at 
the time the grain was delivered in the form of per-unit retain 
allocations and another $1,000,000 in patronage dividends after the 
close of the 2020 taxable year. C has other expenses of $250,000 during 
2020, including $100,000 of W-2 wages.
    (ii) C has DPGR of $5,250,000 and QPAI as defined in Sec.  1.199A-
8(b)(4)(ii) of $5,000,000 for 2020. C's section 199A(g) deduction is 
equal to the least of 9% of QPAI ($450,000), 9% of taxable income 
($450,000), or 50% of W-2 wages ($50,000). C passes through the entire 
section 199A(g) deduction to its patrons. Accordingly, C reduces its 
$5,000,000 deduction allowable under section 1382(b) (relating to the 
$1,000,000 patronage dividends and $4,000,000 per-unit retain 
allocations) by $50,000.
    (2) Example 2. Nonexempt Specified Cooperative determines amounts 
included in QPAI and taxable income. (i) C, a nonexempt Specified 
Cooperative, offers harvesting services and markets the grain of 
patrons and nonpatrons. C had gross receipts from harvesting services 
and grain sales, and expenses related to both. All of C's harvesting 
services were performed for their patrons, and 75% of the grain sales 
were for patrons.
    (ii) C identifies 75% of the gross receipts and related expenses 
from grain sales and 100% of the gross receipts and related expenses 
from the harvesting services as patronage sourced. C identifies 25% of 
the gross receipts and related expenses from grain sales as 
nonpatronage sourced.
    (iii) C does not include any nonpatronage gross receipts or related 
expenses from grain sales in either QPAI or taxable income when 
calculating the section 199A(g) deduction. C's QPAI includes the 
patronage DPGR, less related expenses (allocable COGS, wages and other 
expenses). C's taxable income includes the patronage gross receipts, 
whether such gross receipts are DPGR or non-DPGR.
    (iv) C allocates and reports patronage dividends to its harvesting 
patrons and grain marketing patrons. C also notifies its grain 
marketing patrons (in accordance with the requirements of Sec.  1.199A-
7(f)(3)) that their patronage dividends are qualified payments used in 
C's section 199A(g) computation. The patrons must use this information 
for purposes of computing their section 199A(b)(7) reduction to their 
section 199A(a) deduction (see Sec.  1.199A-7(f)).
    (3) Example 3. Nonexempt Specified Cooperative with patronage and 
nonpatronage gross receipts and related deductions. (i) C, a nonexempt 
Specified Cooperative, markets corn grown by its patrons in the United 
States. For the calendar year ending December 31, 2020, C derives gross 
receipts from the marketing activity of $1,800. Such gross receipts 
qualify as DPGR. Assume C has $800 of expenses (including COGS, other 
expenses, and $400 of W-2 wages) properly allocable to DPGR, and a 
$1,000 deduction allowed under section 1382(b). C also derives gross 
receipts from nonpatronage sources in the amount of $500, and has 
nonpatronage deductions in the amount of $400 (including COGS, other 
expenses, and $100 of W-2 wages).
    (ii) C does not include any gross receipts or deductions from 
nonpatronage sources when calculating the deduction under paragraph 
(b)(5)(ii) of this section. C's QPAI and taxable income both equal 
$1,000 ($1,800-800). C's deduction under paragraph (b)(5)(ii) of this 
section for the taxable year is equal to $90 (9% of $1,000), which does 
not exceed $200 (50% of C's W-2 wages properly allocable to DPGR). C 
passes through $90 of the deduction to patrons and C reduces its 
section 1382(b) deduction by $90.

[[Page 5576]]

    (4) Example 4. Exempt Specified Cooperative with patronage and 
nonpatronage income and deductions. (i) C, an exempt Specified 
Cooperative, markets corn MPGE by its patrons in the United States. For 
the calendar year ending December 31, 2020, C derives gross receipts 
from the marketing activity of $1,800. For this activity assume C has 
$800 of expenses (including COGS, other expenses, and $400 of W-2 
wages) properly allocable to DPGR, and a $1,000 deduction under section 
1382(b). C also derives gross receipts from nonpatronage sources in the 
amount of $500. Assume the gross receipts qualify as DPGR. For this 
activity assume C has $400 of expenses (including COGS, other expenses, 
and $20 of W-2 wages) properly allocable to DPGR and no deduction under 
section 1382(c).
    (ii) C calculates two separate section 199A(g) deduction amounts. 
C's section 199A(g) deduction attributable to patronage sources is the 
same as the deduction calculated by the nonexempt Specified Cooperative 
in Example 1 in paragraph (e)(1) of this section.
    (iii) C's nonpatronage QPAI and taxable income is equal to $100 
($500-$400). C's deduction under paragraph (c)(4) of this section that 
directs C to use paragraph (b)(5)(ii) of this section attributable to 
nonpatronage sources is equal to $9 (9% of $100), which does not exceed 
$10 (50% of C's W-2 wages properly allocable to DPGR). C cannot pass 
through any of the nonpatronage section 199A(g) deduction amount to its 
patrons.
    (5) Example 5. NOL. (i) In 2021, E, a nonexempt Specified 
Cooperative that is not part of an EAG, generates QPAI and taxable 
income of $100 (without taking into account any section 1382(b) 
deductions, NOLs, or the section 199A(g) deduction). E pays out 
patronage dividends of $91 that are deductible under section 1382(b). E 
has an NOL carryover of $500 attributable to losses incurred prior to 
2018. While taxable income and QPAI do not take into account the 
section 1382(b) deduction, taxable income does take into account NOLs. 
When calculating its section 199A(g) deduction, E must take into 
account the NOL carryover when calculating taxable income, unless the 
taxable income is the result of not taking into account any deduction 
allowable under section 1382(b). In this case $91 of taxable income is 
the result of not taking into account the deduction allowed under 
section 1382(b) and the remaining $9 should be reduced by the NOL 
carryover so that taxable income equals $91. E calculates a section 
199A(g) deduction of $8.19 (.09 x $91 (which is the lesser of $100 QPAI 
or $91 taxable income)).
    (ii) E may pass through the entire $8.19 of section 199A(g) 
deduction to patrons (which will reduce its section 1382(b) deduction 
from $91 to $82.81). However, if E does not pass the deduction through, 
paragraph (b)(6) of this section prohibits E from claiming any of the 
section 199A(g) deduction in 2021.
    (iii) If E passes through the deduction to patrons, E's taxable 
income under section 172(b)(2) for NOL absorption purposes is $9 ($100-
$82.81-$9 NOL-$8.19 section 199A(g) deduction). If E does not pass 
through the deduction, then E's taxable income under section 172(b)(2) 
for NOL absorption purposes is $9 ($100-$91-$9 NOL).
    (iv) Assuming E passes through the deduction to patrons, E would 
use $9 of the NOL carryover and have a $491 NOL carryover remaining. To 
the extent E does not pass through the deduction, E would still use $9 
of the NOL carryover and have a $491 NOL carryover remaining.
    (6) Example 6. Nonexempt Specified Cooperative not passing through 
the section 199A(g) deduction to patrons. (i) D, a nonexempt Specified 
Cooperative, markets corn grown by its patrons within the United 
States. For its calendar year ended December 31, 2020, D has gross 
receipts of $1,500,000, all derived from the sale of corn grown by its 
patrons within the United States. D pays $300,000 for its patrons' corn 
at the time the grain was delivered in the form of per-unit retain 
allocations and its W-2 wages (as defined in Sec.  1.199A-11)) for 2020 
total $200,000. D has no other costs. Patron A is a patron of D. Patron 
A is a cash basis taxpayer and files Federal income tax returns on a 
calendar year basis. All corn grown by Patron A in 2020 is sold through 
D and Patron A is eligible to share in patronage dividends paid by D 
for that year.
    (ii) All of D's gross receipts from the sale of its patrons' corn 
qualify as DPGR (as defined paragraph (8)(b)(3)(ii) of this section). 
D's QPAI and taxable income is $1,300,000. D's section 199A(g) 
deduction for its taxable year 2020 is $117,000 (.09 x $1,300,000). 
Because this amount is less than 50% of Cooperative X's W-2 wages, the 
entire amount is allowed as a section 199A(g) deduction. D decides not 
to pass any of its section 199A(g) deduction to its patrons. The 
section 199A(g) deduction of $117,000 is applied to, and reduces, D's 
taxable income.
    (7) Example 7. Nonexempt Specified Cooperative passing through the 
section 199A(g) deduction to patrons paid a patronage dividend. (i) The 
facts are the same as in Example 6 except that D decides to pass its 
entire section 199A(g) deduction through to its patrons. D declares a 
patronage dividend for its 2020 taxable year of $1,000,000, which it 
pays on March 15, 2021. Pursuant to paragraph (d)(3) of this section, D 
notifies patrons in written notices that accompany the patronage 
dividend notification that D is allocating to them the section 199A(g) 
deduction D is entitled to claim in the calendar year 2020. On March 
15, 2021, Patron A receives a $10,000 patronage dividend that is a 
qualified payment under paragraph (d)(2)(ii) of this section from D. In 
the notice that accompanies the patronage dividend, Patron A is 
designated a $1,170 section 199A(g) deduction. Under paragraph (a) of 
this section, Patron A may claim a $1,170 section 199A(g) deduction for 
the taxable year ending December 31, 2021, subject to the limitations 
set forth under paragraph (d)(4) of this section. D must report the 
allowable amount of Patron A's section 199A(g) deduction on Form 1099-
PATR, ``Taxable Distributions Received From Cooperatives,'' issued to 
Patron A for the calendar year 2021.
    (ii) Under paragraph (d)(7) of this section, D is required to 
reduce its section 1382 deduction of $1,300,000 by the $117,000 section 
199A(g) deduction passed through to patrons (whether D pays patronage 
dividends on book or Federal income tax net earnings). As a 
consequence, D is entitled to a section 1382 deduction for the taxable 
year ending December 31, 2020, in the amount of $1,183,000 ($1,300,000-
$117,000) and to a section 199A(g) deduction in the amount of $117,000 
($1,300,000 x .09). Its taxable income for 2020 is $0.
    (8) Example 8. Nonexempt Specified Cooperative passing through the 
section 199A(g) deduction to patrons paid a patronage dividend and 
advances on expected patronage net earnings. (i) The facts are the same 
as in Example 6 except that D paid out $500,000 to its patrons as 
advances on expected patronage net earnings. In 2020, D pays its 
patrons a $500,000 ($1,000,000-$500,000 already paid) patronage 
dividend in cash or a combination of cash and qualified written notices 
of allocation. Under paragraph (d)(7) of this section and section 1382, 
D is allowed a deduction of $1,183,000 ($1,300,000-$117,000 section 
199A(g) deduction), whether patronage net earnings are distributed on 
book or Federal income tax net earnings.
    (ii) The patrons will have received a gross amount of $1,300,000 in 
qualified

[[Page 5577]]

payments under paragraph (d)(2)(ii) of this section from Cooperative D 
($300,000 paid as per-unit retain allocations, $500,000 paid during the 
taxable year as advances, and the additional $800,000 paid as patronage 
dividends). If D passes through its entire section 199A(g) deduction to 
its patrons by providing the notice required by paragraph (d)(3) of 
this section, then the patrons will be allowed a $117,000 section 
199A(g) deduction, resulting in a net $1,183,000 taxable distribution 
from D. Pursuant to paragraph (d)(8) of this section, any of the 
$1,300,000 received by patrons that are Specified Cooperatives from D 
is not taken into account for purposes of calculating the patrons' 
section 199A(g) deduction. Patrons that are not Specified Cooperatives 
must include those payments in the section 199A(b)(7) reduction when 
calculating a section 199A(a) deduction as applicable.
    (9) Example 9. Intangible property transaction as part of 
disposition of agricultural or horticultural products. F, a Specified 
Cooperative, markets patrons' oranges by processing the oranges into 
orange juice, and then bottling and selling the orange juice to 
customers. F markets the orange juice under its own brand name, but F 
also licenses from G, an unrelated third party, the rights to use G's 
brand name on the bottled orange juice. F's gross receipts from the 
sale of both brands of orange juice qualify as DPGR, assuming all other 
requirements of this section are met.
    (10) Example 10. Intangible property transaction that is not a 
disposition of an agricultural or horticultural product. H, a Specified 
Cooperative, licenses H's brand name to J, an unrelated third party. J 
purchases oranges, produces orange juice, and then bottles and sells 
the orange juice to customers. Gross receipts that H derives from the 
license of the brand name to J are not DPGR from the disposition of an 
agricultural or horticultural product.
    (11) Example 11. Allocation rules when Specified Cooperative 
retains the section 199A(g) deduction attributable to non-eligible 
taxpayers. K, a Specified Cooperative, for the taxable year has $200 of 
taxable income and QPAI ($100 is attributable to business done for 
patrons that are C corporation patrons and $100 is attributable to 
business done for patrons that are eligible taxpayers). K calculates an 
$18 section 199A(g) deduction. K passes through $9 to its patrons that 
are eligible taxpayers, distributes $191 to patrons in distributions 
that are deductible under section 1382(b) (including patronage 
dividends that were paid out in the same amounts to C corporation 
patrons and eligible taxpayer patrons because the value of their 
business,$100 each, was the same), and adjusts its deduction under 
section 1382 by $9 (the amount of the section 199A(g) deduction passed 
through). K's taxable income after the section 199A deduction and 
distributions is $0.
    (f) Special rule for Specified Cooperative partners. In the case 
described in section 199A(g)(5)(B), where a Specified Cooperative is a 
partner in a partnership, the partnership must separately identify and 
report on the Schedule K-1 of the Form 1065, U.S. Return of Partnership 
Income (or any successor form) issued to the Specified Cooperative 
partner the cooperative's share of gross receipts and related 
deductions, unless otherwise provided by the instructions to the Form. 
The Specified Cooperative partner determines what gross receipts 
reported by the partnership qualify as DPGR and includes these gross 
receipts and related deductions, W-2 wages, and COGS to calculate one 
section 199A(g) deduction (in the case of a nonexempt Specified 
Cooperative) or two section 199A(g) deductions (in the case of an 
exempt Specified Cooperative) using the steps set forth in paragraphs 
(b) and (c) of this section. For purposes of determining whether gross 
receipts are DPGR, the MPGE activities of the Specified Cooperative 
partner may be attributed to the partnership, and the partnership's 
MPGE activities may be attributed to the Specified Cooperative partner.
    (g) Recapture of section 199A(g) deduction. If the amount of the 
section 199A(g) deduction that was passed through to eligible taxpayers 
exceeds the amount allowable as a section 199A(g) deduction as 
determined on examination or reported on an amended return, then 
recapture of the excess will occur at the Specified Cooperative level 
in the taxable year the Specified Cooperative took the excess section 
199A(g) deduction.
    (h) Applicability date. Except as provided in paragraph (h)(2) of 
Sec.  1.199A-7, the provisions of this section apply to taxable years 
beginning after January 19, 2021. Taxpayers, however, may choose to 
apply the rules of Sec. Sec.  1.199A-7 through 1.199A-12 for taxable 
years beginning on or before that date, provided the taxpayers apply 
the rules in their entirety and in a consistent manner.


Sec.  1.199A-9   Domestic production gross receipts.

    (a) Domestic production gross receipts--(1) In general. The 
provisions of this section apply solely for purposes of section 199A(g) 
of the Internal Revenue Code (Code). The provisions of this section 
provide guidance to determine what gross receipts (defined in Sec.  
1.199A-8(b)(2)(iii)) are domestic production gross receipts (DPGR) 
(defined in Sec.  1.199A-8(b)(3)(ii)). DPGR does not include gross 
receipts derived from services or the lease, rental, license, sale, 
exchange, or other disposition of land unless a de minimis or other 
exception applies. Partners, including partners in an EAG partnership 
described in Sec.  1.199A-12(i)(1), may not treat guaranteed payments 
under section 707(c) as DPGR.
    (2) Application to marketing cooperatives. For purposes of 
determining DPGR, a Specified Cooperative (defined in Sec.  1.199A-
8(a)(2)) will be treated as having manufactured, produced, grown, or 
extracted (MPGE) (defined in paragraph (f) of this section) in whole or 
significant part (defined in paragraph (h) of this section) any 
agricultural or horticultural product (defined in Sec.  1.199A-8(a)(4)) 
within the United States (defined in paragraph (i) of this section) 
marketed by the Specified Cooperative which its patrons (defined in 
Sec.  1.1388-1(e)) have so MPGE.
    (b) Related persons--(1) In general. Pursuant to section 
199A(g)(3)(D)(ii), DPGR does not include any gross receipts derived 
from agricultural or horticultural products leased, licensed, or rented 
by the Specified Cooperative for use by any related person. A person is 
treated as related to another person if both persons are treated as a 
single employer under either section 52(a) or (b) (without regard to 
section 1563(b)), or section 414(m) or (o). Any other person is an 
unrelated person for purposes of the section 199A(g) deduction.
    (2) Exceptions. Notwithstanding paragraph (b)(1) of this section, 
gross receipts derived from any agricultural or horticultural product 
leased or rented by the Specified Cooperative to a related person may 
qualify as DPGR if the agricultural or horticultural product is held 
for sublease or rent, or is subleased or rented, by the related person 
to an unrelated person for the ultimate use of the unrelated person. 
Similarly, notwithstanding paragraph (b)(1) of this section, gross 
receipts derived from a license of the right to reproduce an 
agricultural or horticultural product to a related person for 
reproduction and sale, exchange, lease, or rental to an unrelated 
person for the ultimate use of the unrelated person are treated as 
gross receipts from a disposition of an

[[Page 5578]]

agricultural or horticultural product and may qualify as DPGR.
    (c) Allocating gross receipts--(1) In general. A Specified 
Cooperative must determine the portion of its gross receipts for the 
taxable year that is DPGR and the portion of its gross receipts that is 
non-DPGR using a reasonable method based on all the facts and 
circumstances. Applicable Federal income tax principles apply to 
determine whether a transaction is, in substance, a lease, rental, 
license, sale, exchange, or other disposition the gross receipts of 
which may constitute DPGR, whether it is a service the gross receipts 
of which may constitute non-DPGR, or some combination thereof. For 
example, if a Specified Cooperative sells an agricultural or 
horticultural product and, in connection with that sale, also provides 
services, the Specified Cooperative must allocate its gross receipts 
from the transaction using a reasonable method based on all the facts 
and circumstances that accurately identifies the gross receipts that 
constitute DPGR and non-DPGR in accordance with the requirements of 
Sec.  1.199A-8(b) and/or (c). The chosen reasonable method must be 
consistently applied from one taxable year to another and must clearly 
reflect the portion of gross receipts for the taxable year that is DPGR 
and the portion of gross receipts that is non-DPGR. The books and 
records maintained for gross receipts must be consistent with any 
allocations under this paragraph (c)(1).
    (2) Reasonable method of allocation. If a Specified Cooperative has 
the information readily available and can, without undue burden or 
expense, specifically identify whether the gross receipts are derived 
from an item (and thus, are DPGR), then the Specified Cooperative must 
use that specific identification to determine DPGR. If the Specified 
Cooperative does not have information readily available to specifically 
identify whether gross receipts are derived from an item or cannot, 
without undue burden or expense, specifically identify whether gross 
receipts are derived from an item, then the Specified Cooperative is 
not required to use a method that specifically identifies whether the 
gross receipts are derived from an item but can use a reasonable 
allocation method. Factors taken into consideration in determining 
whether the Specified Cooperative's method of allocating gross receipts 
between DPGR and non-DPGR is reasonable include whether the Specified 
Cooperative uses the most accurate information available; the 
relationship between the gross receipts and the method used; the 
accuracy of the method chosen as compared with other possible methods; 
whether the method is used by the Specified Cooperative for internal 
management or other business purposes; whether the method is used for 
other Federal or state income tax purposes; the time, burden, and cost 
of using alternative methods; and whether the Specified Cooperative 
applies the method consistently from year to year.
    (3) De minimis rules--(i) DPGR. A Specified Cooperative's 
applicable gross receipts as provided in Sec.  1.199A-8(b) and/or (c) 
may be treated as DPGR if less than 10 percent of the Specified 
Cooperative's total gross receipts are non-DPGR (after application of 
the exceptions provided in Sec.  1.199A-9(j)(3)). If the amount of the 
Specified Cooperative's gross receipts that are non-DPGR equals or 
exceeds 10 percent of the Specified Cooperative's total gross receipts, 
then, except as provided in paragraph (c)(3)(ii) of this section, the 
Specified Cooperative is required to allocate all gross receipts 
between DPGR and non-DPGR in accordance with paragraph (c)(1) of this 
section. If a Specified Cooperative is a member of an expanded 
affiliated group (EAG) (defined in Sec.  1.199A-12), but is not a 
member of a consolidated group, then the determination of whether less 
than 10 percent of the Specified Cooperative's total gross receipts are 
non-DPGR is made at the Specified Cooperative level. If a Specified 
Cooperative is a member of a consolidated group, then the determination 
of whether less than 10 percent of the Specified Cooperative's total 
gross receipts are non-DPGR is made at the consolidated group level. 
See Sec.  1.199A-12(d).
    (ii) Non-DPGR. A Specified Cooperative's applicable gross receipts 
as provided in Sec. Sec.  1.199A-8(b) and/or (c) may be treated as non-
DPGR if less than 10 percent of the Specified Cooperative's total gross 
receipts are DPGR. If a Specified Cooperative is a member of an EAG, 
but is not a member of a consolidated group, then the determination of 
whether less than 10 percent of the Specified Cooperative's total gross 
receipts are DPGR is made at the Specified Cooperative level. If a 
Specified Cooperative is a member of a consolidated group, then the 
determination of whether less than 10 percent of the Specified 
Cooperative's total gross receipts are DPGR is made at the consolidated 
group level.
    (d) Use of historical data for multiple-year transactions. If a 
Specified Cooperative recognizes and reports gross receipts from 
upfront payments or other similar payments on a Federal income tax 
return for a taxable year, then the Specified Cooperative's use of 
historical data in making an allocation of gross receipts from the 
transaction between DPGR and non-DPGR may constitute a reasonable 
method. If a Specified Cooperative makes allocations using historical 
data, and subsequently updates the data, then the Specified Cooperative 
must use the more recent or updated data, starting in the taxable year 
in which the update is made.
    (e) Determining DPGR item-by-item--(1) In general. For purposes of 
the section 199A(g) deduction, a Specified Cooperative determines, 
using a reasonable method based on all the facts and circumstances, 
whether gross receipts qualify as DPGR on an item-by-item basis (and 
not, for example, on a division-by-division, product line-by-product 
line, or transaction-by-transaction basis). The chosen reasonable 
method must be consistently applied from one taxable year to another 
and must clearly reflect the portion of gross receipts that is DPGR. 
The books and records maintained for gross receipts must be consistent 
with any allocations under this paragraph (e)(1).
    (i) The term item means the agricultural or horticultural product 
offered by the Specified Cooperative in the normal course of its trade 
or business for lease, rental, license, sale, exchange, or other 
disposition (for purposes of this paragraph (e), collectively referred 
to as disposition) to customers, if the gross receipts from the 
disposition of such product qualify as DPGR; or
    (ii) If paragraph (e)(1)(i) of this section does not apply to the 
product, then any component of the product described in paragraph 
(e)(1)(i) of this section is treated as the item, provided that the 
gross receipts from the disposition of the product described in 
paragraph (e)(1)(i) of this section that are attributable to such 
component qualify as DPGR. Each component that meets the requirements 
under this paragraph (e)(1)(ii) must be treated as a separate item and 
a component that meets the requirements under this paragraph (e)(1)(ii) 
may not be combined with a component that does not meet these 
requirements.
    (2) Special rules. (i) For purposes of paragraph (e)(1)(i) of this 
section, in no event may a single item consist of two or more products 
unless those products are offered for disposition, in the normal course 
of the Specified Cooperative's trade or business, as a single item 
(regardless of how the products are packaged).
    (ii) In the case of agricultural or horticultural products 
customarily sold

[[Page 5579]]

by weight or by volume, the item is determined using the most common 
custom of the industry (for example, barrels of oil).
    (3) Exception. If the Specified Cooperative MPGE agricultural or 
horticultural products within the United States that it disposes of, 
and the Specified Cooperative leases, rents, licenses, purchases, or 
otherwise acquires property that contains or may contain the 
agricultural or horticultural products (or a portion thereof), and the 
Specified Cooperative cannot reasonably determine, without undue burden 
and expense, whether the acquired property contains any of the original 
agricultural or horticultural products MPGE by the Specified 
Cooperative, then the Specified Cooperative is not required to 
determine whether any portion of the acquired property qualifies as an 
item for purposes of paragraph (e)(1) of this section. Therefore, the 
gross receipts derived from the disposition of the acquired property 
may be treated as non-DPGR. Similarly, the preceding sentences apply if 
the Specified Cooperative can reasonably determine that the acquired 
property contains agricultural or horticultural products (or a portion 
thereof) MPGE by the Specified Cooperative, but cannot reasonably 
determine, without undue burden or expense, how much, or what type, 
grade, etc., of the agricultural or horticultural MPGE by the Specified 
Cooperative the acquired property contains.
    (f) Definition of manufactured, produced, grown, or extracted 
(MPGE)--(1) In general. Except as provided in paragraphs (f)(2) and (3) 
of this section, the term MPGE includes manufacturing, producing, 
growing, extracting, installing, developing, improving, and creating 
agricultural or horticultural products; making agricultural or 
horticultural products out of material by processing, manipulating, 
refining, or changing the form of an article, or by combining or 
assembling two or more articles; cultivating soil, raising livestock, 
and farming aquatic products. The term MPGE also includes storage, 
handling, or other processing activities (other than transportation 
activities) within the United States related to the sale, exchange, or 
other disposition of agricultural or horticultural products only if the 
products are consumed in connection with or incorporated into the MPGE 
of agricultural or horticultural products, whether or not by the 
Specified Cooperative. The Specified Cooperative (or the patron if 
Sec.  1.199A-9(a)(2) applies) must have the benefits and burdens of 
ownership of the agricultural or horticultural products under Federal 
income tax principles during the period the MPGE activity occurs for 
the gross receipts derived from the MPGE of the agricultural or 
horticultural products to qualify as DPGR.
    (2) Packaging, repackaging, or labeling. If the Specified 
Cooperative packages, repackages, or labels agricultural or 
horticultural products and engages in no other MPGE activity with 
respect to those agricultural or horticultural products, the packaging, 
repackaging, or labeling does not qualify as MPGE with respect to those 
agricultural or horticultural products.
    (3) Installing. If a Specified Cooperative installs agricultural or 
horticultural products and engages in no other MPGE activity with 
respect to the agricultural or horticultural products, the Specified 
Cooperative's installing activity does not qualify as an MPGE activity. 
Notwithstanding paragraph (j)(3)(i)(A) of this section, if the 
Specified Cooperative installs agricultural or horticultural products 
MPGE by the Specified Cooperative and the Specified Cooperative has the 
benefits and burdens of ownership of the agricultural or horticultural 
products under Federal income tax principles during the period the 
installing activity occurs, then the portion of the installing activity 
that relates to the agricultural or horticultural products is an MPGE 
activity.
    (4) Consistency with section 263A. A Specified Cooperative that has 
MPGE agricultural or horticultural products for the taxable year must 
treat itself as a producer under section 263A with respect to the 
agricultural or horticultural products unless the Specified Cooperative 
is not subject to section 263A. A Specified Cooperative that currently 
is not properly accounting for its production activities under section 
263A, and wishes to change its method of accounting to comply with the 
producer requirements of section 263A, must follow the applicable 
administrative procedures issued under Sec.  1.446-1(e)(3)(ii) for 
obtaining the Commissioner's consent to a change in accounting method 
(for further guidance, for example, see Rev. Proc. 2015-13, 2015-5 IRB 
419, or any applicable subsequent guidance (see Sec.  601.601(d)(2) of 
this chapter)).
    (5) Examples. The following examples illustrate the application of 
paragraphs (f)(1), (2), and (3) of this section.
    (i) Example 1. MPGE activities conducted within United States. A, 
B, and C are unrelated persons. A is a Specified Cooperative, B is an 
individual patron of A, and C is a C corporation. B grows agricultural 
products outside of the United States and A markets those agricultural 
products for B. A stores the agricultural products in agricultural 
storage bins in the United States and has the benefits and burdens of 
ownership under Federal income tax principles of the agricultural 
products while they are being stored. A sells the agricultural products 
to C, who processes them into refined agricultural products in the 
United States. The gross receipts from A's activities are DPGR from the 
MPGE of agricultural products.
    (ii) Example 2. MPGE activities conducted within and outside United 
States. The facts are the same as in Example 1 except that B grows the 
agricultural products outside the United States and C processes them 
into refined agricultural products outside the United States. Pursuant 
to paragraph (f)(1) of this section, the gross receipts derived by A 
from its sale of the agricultural products to C are DPGR from the MPGE 
of agricultural products within the United States.
    (g) By the taxpayer. With respect to the exception of the rules 
applicable to an EAG and EAG partnerships under Sec.  1.199A-12, only 
one Specified Cooperative may claim the section 199A(g) deduction with 
respect to any qualifying activity under paragraph (f) of this section 
performed in connection with the same agricultural or horticultural 
product. If an unrelated party performs a qualifying activity under 
paragraph (f) of this section pursuant to a contract with a Specified 
Cooperative (or its patron as relevant under paragraph (a)(2) of this 
section), then only if the Specified Cooperative (or its patron) has 
the benefits and burdens of ownership of the agricultural or 
horticultural product under Federal income tax principles during the 
period in which the qualifying activity occurs is the Specified 
Cooperative (or its patron) treated as engaging in the qualifying 
activity.
    (h) In whole or significant part defined--(1) In general. 
Agricultural or horticultural products must be MPGE in whole or 
significant part by the Specified Cooperative (or its patrons in the 
case described in paragraph (a)(2) of this section) and in whole or 
significant part within the United States to qualify under section 
199A(g)(3)(D)(i). If a Specified Cooperative enters into a contract 
with an unrelated person for the unrelated person to MPGE agricultural 
or horticultural products for the Specified Cooperative and the 
Specified Cooperative has the benefits and burdens of ownership of the

[[Page 5580]]

agricultural or horticultural products under applicable Federal income 
tax principles during the period the MPGE activity occurs, then, 
pursuant to paragraph (g) of this section, the Specified Cooperative is 
considered to MPGE the agricultural or horticultural products under 
this section. The unrelated person must perform the MPGE activity on 
behalf of the Specified Cooperative in whole or significant part within 
the United States in order for the Specified Cooperative to satisfy the 
requirements of this paragraph (h)(1).
    (2) Substantial in nature. Agricultural or horticultural products 
will be treated as MPGE in whole or in significant part by the 
Specified Cooperative (or its patrons in the case described in 
paragraph (a)(2) of this section) within the United States for purposes 
of paragraph (h)(1) of this section. However, MPGE of the agricultural 
or horticultural products by the Specified Cooperative within the 
United States must be substantial in nature taking into account all the 
facts and circumstances, including the relative value added by, and 
relative cost of, the Specified Cooperative's MPGE within the United 
States, the nature of the agricultural or horticultural products, and 
the nature of the MPGE activity that the Specified Cooperative performs 
within the United States. The MPGE of a key component of an 
agricultural or horticultural product does not, in itself, meet the 
substantial-in-nature requirement with respect to an agricultural or 
horticultural product under this paragraph (h)(2). In the case of an 
agricultural or horticultural product, research and experimental 
activities under section 174 and the creation of intangible assets are 
not taken into account in determining whether the MPGE of the 
agricultural or horticultural product is substantial in nature.
    (3) Safe harbor--(i) In general. A Specified Cooperative (or its 
patrons in the case described in paragraph (a)(2) of this section) will 
be treated as having MPGE an agricultural or horticultural product in 
whole or in significant part within the United States for purposes of 
paragraph (h)(1) of this section if the direct labor and overhead of 
such Specified Cooperative to MPGE the agricultural or horticultural 
product within the United States account for 20 percent or more of the 
Specified Cooperative's COGS of the agricultural or horticultural 
product, or in a transaction without COGS (for example, a lease, 
rental, or license), account for 20 percent or more of the Specified 
Cooperative's unadjusted depreciable basis (as defined in paragraph 
(h)(3)(ii) of this section) in property included in the definition of 
agricultural or horticultural products. For Specified Cooperatives 
subject to section 263A, overhead is all costs required to be 
capitalized under section 263A except direct materials and direct 
labor. For Specified Cooperatives not subject to section 263A, overhead 
may be computed using a reasonable method based on all the facts and 
circumstances, but may not include any cost, or amount of any cost, 
that would not be required to be capitalized under section 263A if the 
Specified Cooperative were subject to section 263A. Research and 
experimental expenditures under section 174 and the costs of creating 
intangible assets are not taken into account in determining direct 
labor or overhead for any agricultural or horticultural product. In the 
case of agricultural or horticultural products, research and 
experimental expenditures under section 174 and any other costs 
incurred in the creation of intangible assets may be excluded from COGS 
or unadjusted depreciable basis for purposes of determining whether the 
Specified Cooperative meets the safe harbor under this paragraph 
(h)(3). For Specified Cooperatives not subject to section 263A, the 
chosen reasonable method to compute overhead must be consistently 
applied from one taxable year to another and must clearly reflect the 
Specified Cooperative's portion of overhead not subject to section 
263A. The method must also be reasonable based on all the facts and 
circumstances. The books and records maintained for overhead must be 
consistent with any allocations under this paragraph (h)(3)(i).
    (ii) Unadjusted depreciable basis. The term unadjusted depreciable 
basis means the basis of property for purposes of section 1011 without 
regard to any adjustments described in section 1016(a)(2) and (3). This 
basis does not reflect the reduction in basis for--
    (A) Any portion of the basis the Specified Cooperative properly 
elects to treat as an expense under sections 179 or 179C; or
    (B) Any adjustments to basis provided by other provisions of the 
Code and the regulations under the Code (for example, a reduction in 
basis by the amount of the disabled access credit pursuant to section 
44(d)(7)).
    (4) Special rules--(i) Contract with an unrelated person. If a 
Specified Cooperative enters into a contract with an unrelated person 
for the unrelated person to MPGE an agricultural or horticultural 
product within the United States for the Specified Cooperative, and the 
Specified Cooperative is considered to MPGE the agricultural or 
horticultural product pursuant to paragraph (f)(1) of this section, 
then, for purposes of the substantial-in-nature requirement under 
paragraph (h)(2) of this section and the safe harbor under paragraph 
(h)(3)(i) of this section, the Specified Cooperative's MPGE activities 
or direct labor and overhead must include both the Specified 
Cooperative's MPGE activities or direct labor and overhead to MPGE the 
agricultural or horticultural product within the United States as well 
as the MPGE activities or direct labor and overhead of the unrelated 
person to MPGE the agricultural or horticultural product within the 
United States under the contract.
    (ii) Aggregation. In determining whether the substantial-in-nature 
requirement under paragraph (h)(2) of this section or the safe harbor 
under paragraph (h)(3)(i) of this section is met at the time the 
Specified Cooperative disposes of an agricultural or horticultural 
product--
    (A) An EAG member must take into account all the previous MPGE 
activities or direct labor and overhead of the other members of the 
EAG;
    (B) An EAG partnership as defined in Sec.  1.199A-12(i)(1) must 
take into account all of the previous MPGE activities or direct labor 
and overhead of all members of the EAG in which the partners of the EAG 
partnership are members (as well as the previous MPGE activities of any 
other EAG partnerships owned by members of the same EAG); and
    (C) A member of an EAG in which the partners of an EAG partnership 
are members must take into account all of the previous MPGE activities 
or direct labor and overhead of the EAG partnership (as well as those 
of any other members of the EAG and any previous MPGE activities of any 
other EAG partnerships owned by members of the same EAG).
    (i) United States defined. For purposes of section 199A(g), the 
term United States includes the 50 states, the District of Columbia, 
the territorial waters of the United States, and the seabed and subsoil 
of those submarine areas that are adjacent to the territorial waters of 
the United States and over which the United States has exclusive 
rights, in accordance with international law, with respect to the 
exploration and exploitation of natural resources. Consistent with its 
definition in section 7701(a)(9), the term United States does not 
include possessions and territories of the United States or the 
airspace or space over the United States and these areas.

[[Page 5581]]

    (j) Derived from the lease, rental, license, sale, exchange, or 
other disposition--(1) In general--(i) Definition. The term derived 
from the lease, rental, license, sale, exchange, or other disposition 
is defined as, and limited to, the gross receipts directly derived from 
the lease, rental, license, sale, exchange, or other disposition of 
agricultural or horticultural products even if the Specified 
Cooperative has already recognized receipts from a previous lease, 
rental, license, sale, exchange, or other disposition of the same 
agricultural or horticultural products. Applicable Federal income tax 
principles apply to determine whether a transaction is, in substance, a 
lease, rental, license, sale, exchange, or other disposition, whether 
it is a service, or whether it is some combination thereof.
    (ii) Lease income. The financing and interest components of a lease 
of agricultural or horticultural products are considered to be derived 
from the lease of such agricultural or horticultural products. However, 
any portion of the lease income that is attributable to services or 
non-qualified property as defined in paragraph (j)(3) of this section 
is not derived from the lease of agricultural or horticultural 
products.
    (iii) Income substitutes. The proceeds from business interruption 
insurance, governmental subsidies, and governmental payments not to 
produce are treated as gross receipts derived from the lease, rental, 
license, sale, exchange, or other disposition to the extent they are 
substitutes for gross receipts that would qualify as DPGR.
    (iv) Exchange of property--(A) Taxable exchanges. The value of 
property received by the Specified Cooperative in a taxable exchange of 
agricultural or horticultural products MPGE in whole or in significant 
part by the Specified Cooperative within the United States is DPGR for 
the Specified Cooperative (assuming all the other requirements of this 
section are met). However, unless the Specified Cooperative meets all 
of the requirements under this section with respect to any additional 
MPGE by the Specified Cooperative of the agricultural or horticultural 
products received in the taxable exchange, any gross receipts derived 
from the sale by the Specified Cooperative of the property received in 
the taxable exchange are non-DPGR, because the Specified Cooperative 
did not MPGE such property, even if the property was an agricultural or 
horticultural product in the hands of the other party to the 
transaction.
    (B) Safe harbor. For purposes of paragraph (j)(1)(iv)(A) of this 
section, the gross receipts derived by the Specified Cooperative from 
the sale of eligible property (as defined in paragraph (j)(1)(iv)(C) of 
this section) received in a taxable exchange, net of any adjustments 
between the parties involved in the taxable exchange to account for 
differences in the eligible property exchanged (for example, location 
differentials and product differentials), may be treated as the value 
of the eligible property received by the Specified Cooperative in the 
taxable exchange. For purposes of the preceding sentence, the taxable 
exchange is deemed to occur on the date of the sale of the eligible 
property received in the taxable exchange by the Specified Cooperative, 
to the extent the sale occurs no later than the last day of the month 
following the month in which the exchanged eligible property is 
received by the Specified Cooperative. In addition, if the Specified 
Cooperative engages in any further MPGE activity with respect to the 
eligible property received in the taxable exchange, then, unless the 
Specified Cooperative meets the in-whole-or-in-significant-part 
requirement under paragraph (h)(1) of this section with respect to the 
property sold, for purposes of this paragraph (j)(1)(iv)(B), the 
Specified Cooperative must also value the property sold without taking 
into account the gross receipts attributable to the further MPGE 
activity.
    (C) Eligible property. For purposes of paragraph (j)(1)(iv)(B) of 
this section, eligible property is--
    (1) Oil, natural gas, or petrochemicals, or products derived from 
oil, natural gas, or petrochemicals; or
    (2) Any other property or product designated by publication in the 
Internal Revenue Bulletin (see Sec.  601.601(d)(2)(ii)(b) of this 
chapter).
    (3) For this purpose, the term natural gas includes only natural 
gas extracted from a natural deposit and does not include, for example, 
methane gas extracted from a landfill. In the case of natural gas, 
production activities include all activities involved in extracting 
natural gas from the ground and processing the gas into pipeline 
quality gas.
    (2) Hedging transactions--(i) In general. For purposes of this 
section, if a transaction is a hedging transaction within the meaning 
of section 1221(b)(2)(A) and Sec.  1.1221-2(b), is properly identified 
as a hedging transaction in accordance with Sec.  1.1221-2(f), and the 
risk being hedged relates to property described in section 1221(a)(1) 
that gives rise to DPGR or to property described in section 1221(a)(8) 
that is consumed in an activity that gives rise to DPGR, then--
    (A) In the case of a hedge of purchases of property described in 
section 1221(a)(1), income, deduction, gain, or loss on the hedging 
transaction must be taken into account in determining COGS;
    (B) In the case of a hedge of sales of property described in 
section 1221(a)(1), income, deduction, gain, or loss on the hedging 
transaction must be taken into account in determining DPGR; and
    (C) In the case of a hedge of purchases of property described in 
section 1221(a)(8), income, deduction, gain, or loss on the hedging 
transaction must be taken into account in determining DPGR.
    (ii) Allocation. The income, deduction, gain and loss from hedging 
transactions described in paragraph (j)(2) of this section must be 
allocated between the patronage and nonpatronage (defined in Sec.  
1.1388-1(f)) sourced income and related deductions of the Specified 
Cooperatives consistent with the cooperative's method for determining 
patronage and nonpatronage income and deductions.
    (iii) Effect of identification and nonidentification. The 
principles of Sec.  1.1221-2(g) apply to a Specified Cooperative that 
identifies or fails to identify a transaction as a hedging transaction, 
except that the consequence of identifying as a hedging transaction a 
transaction that is not in fact a hedging transaction described in 
paragraph (j)(2) of this section, or of failing to identify a 
transaction that the Specified Cooperative has no reasonable grounds 
for treating as other than a hedging transaction described in paragraph 
(j)(2) of this section, is that deduction or loss (but not income or 
gain) from the transaction is taken into account under paragraph (j)(2) 
of this section.
    (iv) Other rules. See Sec.  1.1221-2(e) for rules applicable to 
hedging by members of a consolidated group and Sec.  1.446-4 for rules 
regarding the timing of income, deductions, gains or losses with 
respect to hedging transactions.
    (3) Allocation of gross receipts to embedded services and non-
qualified property--(i) Embedded services and non-qualified property--
(A) In general. Except as otherwise provided in paragraph (j)(3)(i)(B) 
of this section, gross receipts derived from the performance of 
services do not qualify as DPGR. In the case of an embedded service, 
that is, a service the price of which, in the normal course of the 
business, is not separately stated from the amount charged for the 
lease, rental, license, sale, exchange, or other disposition of 
agricultural or

[[Page 5582]]

horticultural products, DPGR includes only the gross receipts derived 
from the lease, rental, license, sale, exchange, or other disposition 
of agricultural or horticultural products (assuming all the other 
requirements of this section are met) and not any receipts attributable 
to the embedded service. In addition, DPGR does not include gross 
receipts derived from the lease, rental, license, sale, exchange, or 
other disposition of property that does not meet all of the 
requirements under this section (non-qualified property). The 
allocation of the gross receipts attributable to the embedded services 
or non-qualified property will be deemed to be reasonable if the 
allocation reflects the fair market value of the embedded services or 
non-qualified property.
    (B) Exceptions. There are five exceptions to the rules under 
paragraph (j)(3)(i)(A) of this section regarding embedded services and 
non-qualified property. A Specified Cooperative may include in DPGR, if 
all the other requirements of this section are met with respect to the 
underlying item of agricultural or horticultural products to which the 
embedded services or non-qualified property relate, the gross receipts 
derived from--
    (1) A qualified warranty, that is, a warranty that is provided in 
connection with the lease, rental, license, sale, exchange, or other 
disposition of agricultural or horticultural products if, in the normal 
course of the Specified Cooperative's business--
    (i) The price for the warranty is not separately stated from the 
amount charged for the lease, rental, license, sale, exchange, or other 
disposition of the agricultural or horticultural products; and
    (ii) The warranty is neither separately offered by the Specified 
Cooperative nor separately bargained for with customers (that is, a 
customer cannot purchase the agricultural or horticultural products 
without the warranty);
    (2) A qualified delivery, that is, a delivery or distribution 
service that is provided in connection with the lease, rental, license, 
sale, exchange, or other disposition of agricultural or horticultural 
products if, in the normal course of the Specified Cooperative's 
business--
    (i) The price for the delivery or distribution service is not 
separately stated from the amount charged for the lease, rental, 
license, sale, exchange, or other disposition of the agricultural or 
horticultural products; and
    (ii) The delivery or distribution service is neither separately 
offered by the Specified Cooperative nor separately bargained for with 
customers (that is, a customer cannot purchase the agricultural or 
horticultural products without the delivery or distribution service).
    (3) A qualified operating manual, that is, a manual of instructions 
that is provided in connection with the lease, rental, license, sale, 
exchange, or other disposition of the agricultural or horticultural 
products if, in the normal course of the Specified Cooperative's 
business--
    (i) The price for the manual is not separately stated from the 
amount charged for the lease, rental, license, sale, exchange, or other 
disposition of the agricultural or horticultural products;
    (ii) The manual is neither separately offered by the Specified 
Cooperative nor separately bargained for with customers (that is, a 
customer cannot purchase the agricultural or horticultural products 
without the manual); and
    (iii) The manual is not provided in connection with a training 
course for customers.
    (4) A qualified installation, that is, an installation service for 
agricultural or horticultural products that is provided in connection 
with the lease, rental, license, sale, exchange, or other disposition 
of the agricultural or horticultural products if, in the normal course 
of the Specified Cooperative's business--
    (i) The price for the installation service is not separately stated 
from the amount charged for the lease, rental, license, sale, exchange, 
or other disposition of the agricultural or horticultural products; and
    (ii) The installation is neither separately offered by the 
Specified Cooperative nor separately bargained for with customers (that 
is, a customer cannot purchase the agricultural or horticultural 
products without the installation service).
    (5) A de minimis amount of gross receipts from embedded services 
and non-qualified property for each item of agricultural or 
horticultural products may qualify. For purposes of this exception, a 
de minimis amount of gross receipts from embedded services and non-
qualified property is less than 5 percent of the total gross receipts 
derived from the lease, rental, license, sale, exchange, or other 
disposition of each item of agricultural or horticultural products. In 
the case of gross receipts derived from the lease, rental, license, 
sale, exchange, or other disposition of agricultural or horticultural 
products that are received over a period of time (for example, a multi-
year lease or installment sale), this de minimis exception is applied 
by taking into account the total gross receipts for the entire period 
derived (and to be derived) from the lease, rental, license, sale, 
exchange, or other disposition of the item of agricultural or 
horticultural products. For purposes of the preceding sentence, if a 
Specified Cooperative treats gross receipts as DPGR under this de 
minimis exception, then the Specified Cooperative must treat the gross 
receipts recognized in each taxable year consistently as DPGR. The 
gross receipts that the Specified Cooperative treats as DPGR under 
paragraphs (j)(3)(i)(B)(1) through (4) of this section are treated as 
DPGR for purposes of applying this de minimis exception. This de 
minimis exception does not apply if the price of a service or non-
qualified property is separately stated by the Specified Cooperative, 
or if the service or non-qualified property is separately offered or 
separately bargained for with the customer (that is, the customer can 
purchase the agricultural or horticultural products without the service 
or non-qualified property).
    (ii) Non-DPGR. Applicable gross receipts as provided in Sec. Sec.  
1.199A-8(b) and/or (c) derived from the lease, rental, license, sale, 
exchange or other disposition of an item of agricultural or 
horticultural products may be treated as non-DPGR if less than 5 
percent of the Specified Cooperative's total gross receipts derived 
from the lease, rental, license, sale, exchange or other disposition of 
that item are DPGR (taking into account embedded services and non-
qualified property included in such disposition, but not part of the 
item). In the case of gross receipts derived from the lease, rental, 
license, sale, exchange, or other disposition of agricultural or 
horticultural products that are received over a period of time (for 
example, a multi-year lease or installment sale), this paragraph 
(j)(5)(ii) is applied by taking into account the total gross receipts 
for the entire period derived (and to be derived) from the lease, 
rental, license, sale, exchange, or other disposition of the item of 
agricultural or horticultural products. For purposes of the preceding 
sentence, if the Specified Cooperative treats gross receipts as non-
DPGR under this de minimis exception, then the Specified Cooperative 
must treat the gross receipts recognized in each taxable year 
consistently as non-DPGR.
    (k) Applicability date. The provisions of this section apply to 
taxable years beginning after January 19, 2021. Taxpayers, however, may 
choose to apply the rules of Sec. Sec.  1.199A-7 through 1.199A-12 for 
taxable years beginning on or before that date, provided the

[[Page 5583]]

taxpayers apply the rules in their entirety and in a consistent manner.


Sec.  1.199A-10   Allocation of cost of goods sold (COGS) and other 
deductions to domestic production gross receipts (DPGR), and other 
rules.

    (a) In general. The provisions of this section apply solely for 
purposes of section 199A(g) of the Internal Revenue Code (Code). The 
provisions of this section provide additional guidance on determining 
qualified production activities income (QPAI) as described and defined 
in Sec.  1.199A-8(b)(4)(ii).
    (b) COGS allocable to DPGR--(1) In general. When determining its 
QPAI, the Specified Cooperative (defined in Sec.  1.199A-8(a)(2)) must 
subtract from its DPGR (defined in Sec.  1.199A-8(b)(3)(ii)) the COGS 
allocable to its DPGR. The Specified Cooperative determines its COGS 
allocable to DPGR in accordance with this paragraph (b)(1) or, if 
applicable, paragraph (f) of this section. In the case of a sale, 
exchange, or other disposition of inventory, COGS is equal to beginning 
inventory of the Specified Cooperative plus purchases and production 
costs incurred during the taxable year and included in inventory costs 
by the Specified Cooperative, less ending inventory of the Specified 
Cooperative. In determining its QPAI, the Specified Cooperative does 
not include in COGS any payment made, whether during the taxable year, 
or included in beginning inventory, for which a deduction is allowed 
under section 1382(b) and/or (c), as applicable. See Sec.  1.199A-
8(b)(4)(ii)(C). COGS is determined under the methods of accounting that 
the Specified Cooperative uses to compute taxable income. See sections 
263A, 471, and 472. If section 263A requires the Specified Cooperative 
to include additional section 263A costs (as defined in Sec.  1.263A-
1(d)(3)) in inventory, additional section 263A costs must be included 
in determining COGS. COGS also include the Specified Cooperative's 
inventory valuation adjustments such as write-downs under the lower of 
cost or market method. In the case of a sale, exchange, or other 
disposition (including, for example, theft, casualty, or abandonment) 
by the Specified Cooperative of non-inventory property, COGS for 
purposes of this section includes the adjusted basis of the property.
    (2) Allocating COGS--(i) In general. A Specified Cooperative must 
use a reasonable method based on all the facts and circumstances to 
allocate COGS between DPGR and non-DPGR. Whether an allocation method 
is reasonable is based on all the facts and circumstances, including 
whether the Specified Cooperative uses the most accurate information 
available; the relationship between COGS and the method used; the 
accuracy of the method chosen as compared with other possible methods; 
whether the method is used by the Specified Cooperative for internal 
management or other business purposes; whether the method is used for 
other Federal or state income tax purposes; the availability of costing 
information; the time, burden, and cost of using alternative methods; 
and whether the Specified Cooperative applies the method consistently 
from year to year. Depending on the facts and circumstances, reasonable 
methods may include methods based on gross receipts (defined in Sec.  
1.199A-8(b)(2)(iii)), number of units sold, number of units produced, 
or total production costs. Ordinarily, if a Specified Cooperative uses 
a method to allocate gross receipts between DPGR and non-DPGR, then the 
use of a different method to allocate COGS that is not demonstrably 
more accurate than the method used to allocate gross receipts will not 
be considered reasonable. However, if a Specified Cooperative has 
information readily available to specifically identify COGS allocable 
to DPGR and can specifically identify that amount without undue burden 
or expense, COGS allocable to DPGR is that amount irrespective of 
whether the Specified Cooperative uses another allocation method to 
allocate gross receipts between DPGR and non-DPGR. A Specified 
Cooperative that does not have information readily available to 
specifically identify COGS allocable to DPGR and that cannot, without 
undue burden or expense, specifically identify that amount is not 
required to use a method that specifically identifies COGS allocable to 
DPGR. The chosen reasonable method must be consistently applied from 
one taxable year to another and must clearly reflect the portion of 
COGS between DPGR and non-DPGR. The method must also be reasonable 
based on all the facts and circumstances. The books and records 
maintained for COGS must be consistent with any allocations under this 
paragraph (b)(2).
    (ii) Gross receipts recognized in an earlier taxable year. If the 
Specified Cooperative (other than a Specified Cooperative that uses the 
small business simplified overall method of paragraph (f) of this 
section) recognizes and reports gross receipts on a Federal income tax 
return for a taxable year, and incurs COGS related to such gross 
receipts in a subsequent taxable year, then regardless of whether the 
gross receipts ultimately qualify as DPGR, the Specified Cooperative 
must allocate the COGS to--
    (A) DPGR if the Specified Cooperative identified the related gross 
receipts as DPGR in the prior taxable year; or
    (B) Non-DPGR if the Specified Cooperative identified the related 
gross receipts as non-DPGR in the prior taxable year or if the 
Specified Cooperative recognized under the Specified Cooperative's 
methods of accounting those gross receipts in a taxable year to which 
section 199A(g) does not apply.
    (iii) COGS associated with activities undertaken in an earlier 
taxable year--(A) In general. A Specified Cooperative must allocate its 
COGS between DPGR and non-DPGR under the rules provided in paragraphs 
(b)(2)(i) and (iii) of this section, regardless of whether certain 
costs included in its COGS can be associated with activities undertaken 
in an earlier taxable year (including a year prior to the effective 
date of section 199A(g)). A Specified Cooperative may not segregate its 
COGS into component costs and allocate those component costs between 
DPGR and non-DPGR.
    (B) Example. The following example illustrates an application of 
paragraph (b)(2)(iii)(A) of this section.
    (1) Example 1. During the 2020 taxable year, nonexempt Specified 
Cooperative X grew and sold Horticultural Product A. All of the 
patronage gross receipts from sales recognized by X in 2020 were from 
the sale of Horticultural Product A and qualified as DPGR. Employee 1 
of X was involved in X's production process until he retired in 2013. 
In 2020, X paid $30 directly from its general assets for Employee 1's 
medical expenses pursuant to an unfunded, self-insured plan for retired 
X employees. For purposes of computing X's 2020 taxable income, X 
capitalized those medical costs to inventory under section 263A. In 
2020, the COGS for a unit of Horticultural Product A was $100 
(including the applicable portion of the $30 paid for Employee 1's 
medical costs that was allocated to COGS under X's allocation method 
for additional section 263A costs). X has information readily available 
to specifically identify COGS allocable to DPGR and can identify that 
amount without undue burden and expense because all of X's gross 
receipts from sales in 2020 are attributable to the sale of 
Horticultural Product A and qualify as DPGR. The inventory cost of each 
unit of Horticultural Product A sold in 2020, including the applicable 
portion of retiree medical costs, is related to X's gross receipts from 
the

[[Page 5584]]

sale of Horticultural Product A in 2020. X may not segregate the 2020 
COGS by separately allocating the retiree medical costs, which are 
components of COGS, to DPGR and non-DPGR. Thus, even though the retiree 
medical costs can be associated with activities undertaken in prior 
years, $100 of inventory cost of each unit of Horticultural Product A 
sold in 2020, including the applicable portion of the retiree medical 
expense cost component, is allocable to DPGR in 2020.
    (3) Special allocation rules. Section 199A(g)(3)(C) provides the 
following two special rules--
    (i) For purposes of determining the COGS that are allocable to 
DPGR, any item or service brought into the United States (defined in 
Sec.  1.199A-9(i)) is treated as acquired by purchase, and its cost is 
treated as not less than its value immediately after it entered the 
United States. A similar rule applies in determining the adjusted basis 
of leased or rented property where the lease or rental gives rise to 
DPGR.
    (ii) In the case of any property described in paragraph (b)(3)(i) 
of this section that has been exported by the Specified Cooperative for 
further manufacture, the increase in cost or adjusted basis under 
paragraph (b)(3)(i) of this section cannot exceed the difference 
between the value of the property when exported and the value of the 
property when brought back into the United States after the further 
manufacture. For the purposes of this paragraph (b)(3), the value of 
property is its customs value as defined in section 1059A(b)(1).
    (4) Rules for inventories valued at market or bona fide selling 
prices. If part of COGS is attributable to the Specified Cooperative's 
inventory valuation adjustments, then COGS allocable to DPGR includes 
inventory adjustments to agricultural or horticultural products that 
are MPGE in whole or significant part within the United States. 
Accordingly, a Specified Cooperative that values its inventory under 
Sec.  1.471-4 (inventories at cost or market, whichever is lower) or 
Sec.  1.471-2(c) (subnormal goods at bona fide selling prices) must 
allocate a proper share of such adjustments (for example, write-downs) 
to DPGR based on a reasonable method based on all the facts and 
circumstances. Factors taken into account in determining whether the 
method is reasonable include whether the Specified Cooperative uses the 
most accurate information available; the relationship between the 
adjustment and the allocation base chosen; the accuracy of the method 
chosen as compared with other possible methods; whether the method is 
used by the Specified Cooperative for internal management or other 
business purposes; whether the method is used for other Federal or 
state income tax purposes; the time, burden, and cost of using 
alternative methods; and whether the Specified Cooperative applies the 
method consistently from year to year. If the Specified Cooperative has 
information readily available to specifically identify the proper 
amount of inventory valuation adjustments allocable to DPGR, then the 
Specified Cooperative must allocate that amount to DPGR. The Specified 
Cooperative that does not have information readily available to 
specifically identify the proper amount of its inventory valuation 
adjustments allocable to DPGR and that cannot, without undue burden or 
expense, specifically identify the proper amount of its inventory 
valuation adjustments allocable to DPGR, is not required to use a 
method that specifically identifies inventory valuation adjustments to 
DPGR. The chosen reasonable method must be consistently applied from 
one taxable year to another and must clearly reflect inventory 
adjustments. The method must also be reasonable based on all the facts 
and circumstances. The books and records maintained for inventory 
adjustments must be consistent with any allocations under this 
paragraph (b)(4).
    (5) Rules applicable to inventories accounted for under the last-
in, first-out inventory method--(i) In general. This paragraph (b)(5) 
applies to inventories accounted for using the specific goods last-in, 
first-out (LIFO) method or the dollar-value LIFO method. Whenever a 
specific goods grouping or a dollar-value pool contains agricultural or 
horticultural products that produce DPGR and goods that do not, the 
Specified Cooperative must allocate COGS attributable to that grouping 
or pool between DPGR and non-DPGR using a reasonable method based on 
all the facts and circumstances. Whether a method of allocating COGS 
between DPGR and non-DPGR is reasonable must be determined in 
accordance with paragraph (b)(2) of this section. In addition, this 
paragraph (b)(5) provides methods that a Specified Cooperative may use 
to allocate COGS for a Specified Cooperative's inventories accounted 
for using the LIFO method. If the Specified Cooperative uses the LIFO/
FIFO ratio method provided in paragraph (b)(5)(ii) of this section or 
the change in relative base-year cost method provided in paragraph 
(b)(5)(iii) of this section, then the Specified Cooperative must use 
that method for all of the Specified Cooperative's inventory accounted 
for under the LIFO method. The chosen reasonable method must be 
consistently applied from one taxable year to another and must clearly 
reflect the inventory method. The method must also be reasonable based 
on all the facts and circumstances. The books and records maintained 
for the inventory method must be consistent with any allocations under 
this paragraph (b)(5).
    (ii) LIFO/FIFO ratio method. The LIFO/FIFO ratio method is applied 
with respect to the LIFO inventory on a grouping-by-grouping or pool-
by-pool basis. Under the LIFO/FIFO ratio method, a Specified 
Cooperative computes the COGS of a grouping or pool allocable to DPGR 
by multiplying the COGS of agricultural or horticultural products 
(defined in Sec.  1.199A-8(a)(4)) in the grouping or pool that produced 
DPGR computed using the FIFO method by the LIFO/FIFO ratio of the 
grouping or pool. The LIFO/FIFO ratio of a grouping or pool is equal to 
the total COGS of the grouping or pool computed using the LIFO method 
over the total COGS of the grouping or pool computed using the FIFO 
method.
    (iii) Change in relative base-year cost method. A Specified 
Cooperative using the dollar-value LIFO method may use the change in 
relative base-year cost method. The change in relative base-year cost 
method for a Specified Cooperative using the dollar-value LIFO method 
is applied to all LIFO inventory on a pool-by-pool basis. The change in 
relative base-year cost method determines the COGS allocable to DPGR by 
increasing or decreasing the total production costs (section 471 costs 
and additional section 263A costs) of agricultural or horticultural 
products that generate DPGR by a portion of any increment or 
liquidation of the dollar-value pool. The portion of an increment or 
liquidation allocable to DPGR is determined by multiplying the LIFO 
value of the increment or liquidation (expressed as a positive number) 
by the ratio of the change in total base-year cost (expressed as a 
positive number) of agricultural or horticultural products that will 
generate DPGR in ending inventory to the change in total base-year cost 
(expressed as a positive number) of all goods in ending inventory. The 
portion of an increment or liquidation allocable to DPGR may be zero 
but cannot exceed the amount of the increment or liquidation. Thus, a 
ratio in excess of 1.0 must be treated as 1.0.
    (6) Specified Cooperative using a simplified method for additional 
section 263A costs to ending inventory. A

[[Page 5585]]

Specified Cooperative that uses a simplified method specifically 
described in the section 263A regulations to allocate additional 
section 263A costs to ending inventory must follow the rules in 
paragraph (b)(2) of this section to determine the amount of additional 
section 263A costs allocable to DPGR. Allocable additional section 263A 
costs include additional section 263A costs included in the Specified 
Cooperative's beginning inventory as well as additional section 263A 
costs incurred during the taxable year by the Specified Cooperative. 
Ordinarily, if the Specified Cooperative uses a simplified method 
specifically described in the section 263A regulations to allocate its 
additional section 263A costs to its ending inventory, the additional 
section 263A costs must be allocated in the same proportion as section 
471 costs are allocated.
    (c) Other deductions properly allocable to DPGR or gross income 
attributable to DPGR--(1) In general. In determining its QPAI, the 
Specified Cooperative must subtract from its DPGR (in addition to the 
COGS), the deductions that are properly allocable and apportioned to 
DPGR. A Specified Cooperative generally must allocate and apportion 
these deductions using the rules of the section 861 method provided in 
paragraph (d) of this section. In lieu of the section 861 method, an 
eligible Specified Cooperative may apportion these deductions using the 
simplified deduction method provided in paragraph (e) of this section. 
Paragraph (f) of this section provides a small business simplified 
overall method that may be used by a qualifying small Specified 
Cooperative. A Specified Cooperative using the simplified deduction 
method or the small business simplified overall method must use that 
method for all deductions. A Specified Cooperative eligible to use the 
small business simplified overall method may choose at any time for any 
taxable year to use the small business simplified overall method or the 
simplified deduction method for a taxable year.
    (2) Treatment of net operating losses. A deduction under section 
172 for a net operating loss (NOL) is not allocated or apportioned to 
DPGR or gross income attributable to DPGR.
    (3) W-2 wages. Although only W-2 wages as described in Sec.  
1.199A-11 are taken into account in computing the W-2 wage limitation, 
all wages paid (or incurred in the case of an accrual method taxpayer) 
in the taxable year are taken into account in computing QPAI for that 
taxable year.
    (d) Section 861 method. Under the section 861 method, the Specified 
Cooperative must allocate and apportion its deductions using the 
allocation and apportionment rules provided under the section 861 
regulations under which section 199A(g) is treated as an operative 
section described in Sec.  1.861-8(f). Accordingly, the Specified 
Cooperative applies the rules of the section 861 regulations to 
allocate and apportion deductions (including, if applicable, its 
distributive share of deductions from passthrough entities) to gross 
income attributable to DPGR. If the Specified Cooperative applies the 
allocation and apportionment rules of the section 861 regulations for 
section 199A(g) and another operative section, then the Specified 
Cooperative must use the same method of allocation and the same 
principles of apportionment for purposes of all operative sections. 
Research and experimental expenditures must be allocated and 
apportioned in accordance with Sec.  1.861-17 without taking into 
account the exclusive apportionment rule of Sec.  1.861-17(b). 
Deductions for charitable contributions (as allowed under section 170 
and section 873(b)(2) or 882(c)(1)(B)) must be ratably apportioned 
between gross income attributable to DPGR and gross income attributable 
to non-DPGR based on the relative amounts of gross income.
    (e) Simplified deduction method--(1) In general. An eligible 
Specified Cooperative (defined in paragraph (e)(2) of this section) may 
use the simplified deduction method to apportion business deductions 
between DPGR and non-DPGR. The simplified deduction method does not 
apply to COGS. Under the simplified deduction method, the business 
deductions (except the NOL deduction) are ratably apportioned between 
DPGR and non-DPGR based on relative gross receipts. Accordingly, the 
amount of deductions for the current taxable year apportioned to DPGR 
is equal to the proportion of the total business deductions for the 
current taxable year that the amount of DPGR bears to total gross 
receipts.
    (2) Eligible Specified Cooperative. For purposes of this paragraph 
(e), an eligible Specified Cooperative is--
    (i) A Specified Cooperative that has average annual total gross 
receipts (as defined in paragraph (g) of this section) of $100,000,000 
or less; or
    (ii) A Specified Cooperative that has total assets (as defined in 
paragraph (e)(3) of this section) of $10,000,000 or less.
    (3) Total assets.--(i) In general. For purposes of the simplified 
deduction method, total assets mean the total assets the Specified 
Cooperative has at the end of the taxable year.
    (ii) Members of an expanded affiliated group. To compute the total 
assets of an expanded affiliated group (EAG) at the end of the taxable 
year, the total assets at the end of the taxable year of each member of 
the EAG at the end of the taxable year that ends with or within the 
taxable year of the computing member (as described in Sec.  1.199A-
12(g)) are aggregated.
    (4) Members of an expanded affiliated group--(i) In general. 
Whether the members of an EAG may use the simplified deduction method 
is determined by reference to all the members of the EAG. If the 
average annual gross receipts of the EAG are less than or equal to 
$100,000,000 or the total assets of the EAG are less than or equal to 
$10,000,000, then each member of the EAG may individually determine 
whether to use the simplified deduction method, regardless of the cost 
allocation method used by the other members.
    (ii) Exception. Notwithstanding paragraph (e)(4)(i) of this 
section, all members of the same consolidated group must use the same 
cost allocation method.
    (f) Small business simplified overall method--(1) In general. A 
qualifying small Specified Cooperative may use the small business 
simplified overall method to apportion COGS and deductions between DPGR 
and non-DPGR. Under the small business simplified overall method, a 
Specified Cooperative's total costs for the current taxable year (as 
defined in paragraph (f)(3) of this section) are apportioned between 
DPGR and non-DPGR based on relative gross receipts. Accordingly, the 
amount of total costs for the current taxable year apportioned to DPGR 
is equal to the proportion of total costs for the current taxable year 
that the amount of DPGR bears to total gross receipts.
    (2) Qualifying small Specified Cooperative. For purposes of this 
paragraph (f), a qualifying small Specified Cooperative is a Specified 
Cooperative that has average annual total gross receipts (as defined in 
paragraph (g) of this section) of $25,000,000 or less.
    (3) Total costs for the current taxable year. For purposes of the 
small business simplified overall method, total costs for the current 
taxable year means the total COGS and deductions for the current 
taxable year. Total costs for the current taxable year are determined 
under the methods of accounting that the Specified Cooperative uses to 
compute taxable income.
    (4) Members of an expanded affiliated group--(i) In general. 
Whether the

[[Page 5586]]

members of an EAG may use the small business simplified overall method 
is determined by reference to all the members of the EAG. If the 
average annual gross receipts of the EAG are less than or equal to 
$25,000,000 then each member of the EAG may individually determine 
whether to use the small business simplified overall method, regardless 
of the cost allocation method used by the other members.
    (ii) Exception. Notwithstanding paragraph (f)(4)(i) of this 
section, all members of the same consolidated group must use the same 
cost allocation method.
    (g) Average annual gross receipts--(1) In general. For purposes of 
the simplified deduction method and the small business simplified 
overall method, average annual gross receipts means the average annual 
gross receipts of the Specified Cooperative for the 3 taxable years 
(or, if fewer, the taxable years during which the taxpayer was in 
existence) preceding the current taxable year, even if one or more of 
such taxable years began before the effective date of section 199A(g). 
In the case of any taxable year of less than 12 months (a short taxable 
year), the gross receipts of the Specified Cooperative are annualized 
by multiplying the gross receipts for the short period by 12 and 
dividing the result by the number of months in the short period.
    (2) Members of an expanded affiliated group--(i) In general. To 
compute the average annual gross receipts of an EAG, the gross receipts 
for the entire taxable year of each member that is a member of the EAG 
at the end of its taxable year that ends with or within the taxable 
year are aggregated. For purposes of this paragraph (g)(2), a 
consolidated group is treated as one member of an EAG.
    (ii) Exception. Notwithstanding paragraph (g)(1)(i) of this 
section, all members of the same consolidated group must use the same 
cost allocation method.
    (h) Cost allocation methods for determining oil-related QPAI--(1) 
Section 861 method. A Specified Cooperative that uses the section 861 
method to determine deductions that are allocated and apportioned to 
gross income attributable to DPGR must use the section 861 method to 
determine deductions that are allocated and apportioned to gross income 
attributable to oil-related DPGR.
    (2) Simplified deduction method. A Specified Cooperative that uses 
the simplified deduction method to apportion deductions between DPGR 
and non-DPGR must determine the portion of deductions allocable to oil-
related DPGR by multiplying the deductions allocable to DPGR by the 
ratio of oil-related DPGR to DPGR from all activities.
    (3) Small business simplified overall method. A Specified 
Cooperative that uses the small business simplified overall method to 
apportion total costs (COGS and deductions) between DPGR and non-DPGR 
must determine the portion of total costs allocable to oil-related DPGR 
by multiplying the total costs allocable to DPGR by the ratio of oil-
related DPGR to DPGR from all activities.
    (i) Applicability date. The provisions of this section apply to 
taxable years beginning after January 19, 2021. Taxpayers, however, may 
choose to apply the rules of Sec. Sec.  1.199A-7 through 1.199A-12 for 
taxable years beginning on or before that date, provided the taxpayers 
apply the rules in their entirety and in a consistent manner.


Sec.  1.199A-11   Wage limitation for the section 199A(g) deduction.

    (a) Rules of application--(1) In general. The provisions of this 
section apply solely for purposes of section 199A(g) of the Internal 
Revenue Code (Code). The provisions of this section provide guidance on 
determining the W-2 wage limitation as defined in Sec.  1.199A-
8(b)(5)(ii)(B). Except as provided in paragraph (d)(2) of this section, 
the Form W-2, Wage and Tax Statement, or any subsequent form or 
document used in determining the amount of W-2 wages, are those issued 
for the calendar year ending during the taxable year of the Specified 
Cooperative (defined in Sec.  1.199A-8(a)(2)) for wages paid to 
employees (or former employees) of the Specified Cooperative for 
employment by the Specified Cooperative. Employees are limited to 
employees defined in section 3121(d)(1) and (2) (that is, officers of a 
corporate taxpayer and employees of the taxpayer under the common law 
rules). See paragraph (a)(5) of this section for the requirement that 
W-2 wages must have been included in a return filed with the Social 
Security Administration (SSA) within 60 days after the due date 
(including extensions) of the return. See also section 199A(a)(4)(C).
    (2) Wage limitation for section 199A(g) deduction. The amount of 
the deduction allowable under section 199A(g) to the Specified 
Cooperative for any taxable year cannot exceed 50 percent of the W-2 
wages (as defined in section 199A(g)(1)(B)(ii) and paragraph (b) of 
this section) for the taxable year that are attributable to domestic 
production gross receipts (DPGR), defined in Sec.  1.199A-8(b)(3)(ii), 
of agricultural or horticultural products defined in Sec.  1.199A-
8(a)(4).
    (3) Wages paid by entity other than common law employer. In 
determining W-2 wages, the Specified Cooperative may take into account 
any W-2 wages paid by another entity and reported by the other entity 
on Forms W-2 with the other entity as the employer listed in Box c of 
the Forms W-2, provided that the W-2 wages were paid to common law 
employees or officers of the Specified Cooperative for employment by 
the Specified Cooperative. In such cases, the entity paying the W-2 
wages and reporting the W-2 wages on Forms W-2 is precluded from taking 
into account such wages for purposes of determining W-2 wages with 
respect to that entity. For purposes of this paragraph (a)(4), entities 
that pay and report W-2 wages on behalf of or with respect to other 
taxpayers can include, but are not limited to, certified professional 
employer organizations under section 7705, statutory employers under 
section 3401(d)(1), and agents under section 3504.
    (4) Requirement that wages must be reported on return filed with 
the Social Security Administration--(i) In general. Pursuant to section 
199A(g)(1)(B)(ii) and section 199A(b)(4)(C), the term W-2 wages does 
not include any amount that is not properly included in a return filed 
with SSA on or before the 60th day after the due date (including 
extensions) for such return. Under Sec.  31.6051-2 of this chapter, 
each Form W-2 and the transmittal Form W-3, Transmittal of Wage and Tax 
Statements, together constitute an information return to be filed with 
SSA. Similarly, each Form W-2c, Corrected Wage and Tax Statement, and 
the transmittal Form W-3 or W-3c, Transmittal of Corrected Wage and Tax 
Statements, together constitute an information return to be filed with 
SSA. In determining whether any amount has been properly included in a 
return filed with SSA on or before the 60th day after the due date 
(including extensions) for such return, each Form W-2 together with its 
accompanying Form W-3 is considered a separate information return and 
each Form W-2c together with its accompanying Form W-3 or Form W-3c is 
considered a separate information return. Section 6071(c) provides that 
Forms W-2 and W-3 must be filed on or before January 31 of the year 
following the calendar year to which such returns relate (but see the 
special rule in Sec.  31.6071(a)-1T(a)(3)(1) of this chapter for 
monthly returns filed under Sec.  31.6011(a)-5(a) of this chapter). 
Corrected Forms W-2 are required to be filed with SSA on or before 
January 31

[[Page 5587]]

of the year following the year in which the correction is made.
    (ii) Corrected return filed to correct a return that was filed 
within 60 days of the due date. If a corrected information return 
(Return B) is filed with SSA on or before the 60th day after the due 
date (including extensions) of Return B to correct an information 
return (Return A) that was filed with SSA on or before the 60th day 
after the due date (including extensions) of the information return 
(Return A) and paragraph (a)(5)(iii) of this section does not apply, 
then the wage information on Return B must be included in determining 
W-2 wages. If a corrected information return (Return D) is filed with 
SSA later than the 60th day after the due date (including extensions) 
of Return D to correct an information return (Return C) that was filed 
with SSA on or before the 60th day after the due date (including 
extensions) of the information return (Return C), then if Return D 
reports an increase (or increases) in wages included in determining W-2 
wages from the wage amounts reported on Return C, such increase (or 
increases) on Return D is disregarded in determining W-2 wages (and 
only the wage amounts on Return C may be included in determining W-2 
wages). If Return D reports a decrease (or decreases) in wages included 
in determining W-2 wages from the amounts reported on Return C, then, 
in determining W-2 wages, the wages reported on Return C must be 
reduced by the decrease (or decreases) reflected on Return D.
    (iii) Corrected return filed to correct a return that was filed 
later than 60 days after the due date. If an information return (Return 
F) is filed to correct an information return (Return E) that was not 
filed with SSA on or before the 60th day after the due date (including 
extensions) of Return E, then Return F (and any subsequent information 
returns filed with respect to Return E) will not be considered filed on 
or before the 60th day after the due date (including extensions) of 
Return F (or the subsequent corrected information return). Thus, if a 
Form W-2c is filed to correct a Form W-2 that was not filed with SSA on 
or before the 60th day after the due date (including extensions) of the 
Form W-2 (or to correct a Form W-2c relating to a Form W-2 that had not 
been filed with SSA on or before the 60th day after the due date 
(including extensions) of the Form W-2), then this Form W-2c is not to 
be considered to have been filed with SSA on or before the 60th day 
after the due date (including extensions) for this Form W-2c, 
regardless of when the Form W-2c is filed.
    (b) Definition of W-2 wages--(1) In general. Section 
199A(g)(1)(B)(ii) provides that the W-2 wages of the Specified 
Cooperative must be determined in the same manner as under section 
199A(b)(4) (without regard to section 199A(b)(4)(B) and after 
application of section 199A(b)(5)). Section 199A(b)(4)(A) provides that 
the term W-2 wages means with respect to any person for any taxable 
year of such person, the amounts described in paragraphs (3) and (8) of 
section 6051(a) paid by such person with respect to employment of 
employees by such person during the calendar year ending during such 
taxable year. Thus, the term W-2 wages includes the total amount of 
wages as defined in section 3401(a); the total amount of elective 
deferrals (within the meaning of section 402(g)(3)); the compensation 
deferred under section 457; and the amount of designated Roth 
contributions (as defined in section 402A).
    (2) Section 199A(g) deduction. Pursuant to section 199A(g)(3)(A), 
W-2 wages do not include any amount which is not properly allocable to 
DPGR for purposes of calculating qualified production activities income 
(QPAI) as defined in Sec.  1.199A-8(b)(4)(ii). The Specified 
Cooperative may determine the amount of wages that is properly 
allocable to DPGR using a reasonable method based on all the facts and 
circumstances. The chosen reasonable method must be consistently 
applied from one taxable year to another and must clearly reflect the 
wages allocable to DPGR for purposes of QPAI. The books and records 
maintained for wages allocable to DPGR for purposes of QPAI must be 
consistent with any allocations under this paragraph (b)(2).
    (c) Methods for calculating W-2 wages. The Secretary may provide 
for methods that may be used in calculating W-2 wages, including W-2 
wages for short taxable years by publication in the Internal Revenue 
Bulletin (see Sec.  601.601(d)(2)(ii)(b) of this chapter).
    (d) Wage limitation--acquisitions, dispositions, and short taxable 
years--(1) In general. For purposes of computing the deduction under 
section 199A(g) of the Specified Cooperative, in the case of an 
acquisition or disposition (as defined in section 199A(b)(5) and 
paragraph (d)(3) of this section) that causes more than one Specified 
Cooperative to be an employer of the employees of the acquired or 
disposed of Specified Cooperative during the calendar year, the W-2 
wages of the Specified Cooperative for the calendar year of the 
acquisition or disposition are allocated between or among each 
Specified Cooperative based on the period during which the employees of 
the acquired or disposed of Specified Cooperatives were employed by the 
Specified Cooperative, regardless of which permissible method is used 
for reporting predecessor and successor wages on Form W-2, Wage and Tax 
Statement.
    (2) Short taxable year that does not include December 31. If the 
Specified Cooperative has a short taxable year that does not contain a 
calendar year ending during such short taxable year, wages paid to 
employees for employment by the Specified Cooperative during the short 
taxable year are treated as W-2 wages for such short taxable year for 
purposes of paragraph (a) of this section (if the wages would otherwise 
meet the requirements to be W-2 wages under this section but for the 
requirement that a calendar year must end during the short taxable 
year).
    (3) Acquisition or disposition. For purposes of paragraph (d)(1) 
and (2) of this section, the terms acquisition and disposition include 
an incorporation, a liquidation, a reorganization, or a purchase or 
sale of assets.
    (e) Application in the case of a Specified Cooperative with a short 
taxable year. In the case of a Specified Cooperative with a short 
taxable year, subject to the rules of paragraph (a) of this section, 
the W-2 wages of the Specified Cooperative for the short taxable year 
can include only those wages paid during the short taxable year to 
employees of the Specified Cooperative, only those elective deferrals 
(within the meaning of section 402(g)(3)) made during the short taxable 
year by employees of the Specified Cooperative, and only compensation 
actually deferred under section 457 during the short taxable year with 
respect to employees of the Specified Cooperative.
    (f) Non-duplication rule. Amounts that are treated as W-2 wages for 
a taxable year under any method cannot be treated as W-2 wages of any 
other taxable year. Also, an amount cannot be treated as W-2 wages by 
more than one taxpayer. Finally, an amount cannot be treated as W-2 
wages by the Specified Cooperative both in determining patronage and 
nonpatronage W-2 wages.
    (g) Wage expense safe harbor--(1) In general. A Specified 
Cooperative using either the section 861 method of cost allocation 
under Sec.  1.199A-10(d) or the simplified deduction method under Sec.  
1.199A-10(e) may determine the amount of W-2 wages that are properly 
allocable to DPGR for a taxable year by multiplying the amount of W-2 
wages determined under paragraph (b)(1) of

[[Page 5588]]

this section for the taxable year by the ratio of the Specified 
Cooperative's wage expense included in calculating QPAI for the taxable 
year to the Specified Cooperative's total wage expense used in 
calculating the Specified Cooperative's taxable income for the taxable 
year, without regard to any wage expense disallowed by section 465, 
469, 704(d), or 1366(d). A Specified Cooperative that uses either the 
section 861 method of cost allocation or the simplified deduction 
method to determine QPAI must use the same expense allocation and 
apportionment methods that it uses to determine QPAI to allocate and 
apportion wage expense for purposes of this safe harbor. For purposes 
of this paragraph (g)(1), the term wage expense means wages (that is, 
compensation paid by the employer in the active conduct of a trade or 
business to its employees) that are properly taken into account under 
the Specified Cooperative's method of accounting.
    (2) Wage expense included in cost of goods sold. For purposes of 
paragraph (g)(1) of this section, a Specified Cooperative may determine 
its wage expense included in cost of goods sold (COGS) using a 
reasonable method based on all the facts and circumstances, such as 
using the amount of direct labor included in COGS or using section 263A 
labor costs (as defined in Sec.  1.263A-1(h)(4)(ii)) included in COGS. 
The chosen reasonable method must be consistently applied from one 
taxable year to another and must clearly reflect the portion of wage 
expense included in COGS. The method must also be reasonable based on 
all the facts and circumstances. The books and records maintained for 
wage expense included in COGS must be consistent with any allocations 
under this paragraph (g)(2).
    (3) Small business simplified overall method safe harbor. The 
Specified Cooperative that uses the small business simplified overall 
method under Sec.  1.199A-10(f) may use the small business simplified 
overall method safe harbor for determining the amount of W-2 wages 
determined under paragraph (b)(1) of this section that is properly 
allocable to DPGR. Under this safe harbor, the amount of W-2 wages 
determined under paragraph (b)(1) of this section that is properly 
allocable to DPGR is equal to the same proportion of W-2 wages 
determined under paragraph (b)(1) of this section that the amount of 
DPGR bears to the Specified Cooperative's total gross receipts.
    (h) Applicability date. The provisions of this section apply to 
taxable years beginning after January 19, 2021. Taxpayers, however, may 
choose to apply the rules of Sec. Sec.  1.199A-7 through 1.199A-12 for 
taxable years beginning on or before that date, provided the taxpayers 
apply the rules in their entirety and in a consistent manner.


Sec.  1.199A-12   Expanded affiliated groups.

    (a) In general. The provisions of this section apply solely for 
purposes of section 199A(g) of the Internal Revenue Code (Code). Except 
as otherwise provided in the Code or regulations issued under the 
relevant section of the Code (for example, sections 199A(g)(3)(D)(ii) 
and 267, Sec.  1.199A-8(c), paragraph (a)(3) of this section, and the 
consolidated return regulations under section 1502), each nonexempt 
Specified Cooperative (defined in Sec.  1.199A-8(a)(2)(ii)) that is a 
member of an expanded affiliated group (EAG) (defined in paragraph 
(a)(1) of this section) computes its own taxable income or loss, 
qualified production activities income (QPAI) (defined in Sec.  1.199A-
8(b)(4)(ii)), and W-2 wages (defined in Sec.  1.199A-11(b)). For 
purposes of this section unless otherwise specified, the term Specified 
Cooperative means a nonexempt Specified Cooperative. If a Specified 
Cooperative is also a member of a consolidated group, see paragraph (d) 
of this section.
    (1) Definition of an expanded affiliated group. An EAG is an 
affiliated group as defined in section 1504(a), determined by 
substituting ``more than 50 percent'' for ``at least 80 percent'' in 
each place it appears and without regard to section 1504(b)(2) and (4).
    (2) Identification of members of an expanded affiliated group--(i) 
In general. Each Specified Cooperative must determine if it is a member 
of an EAG on a daily basis.
    (ii) Becoming or ceasing to be a member of an expanded affiliated 
group. If a Specified Cooperative becomes or ceases to be a member of 
an EAG, the Specified Cooperative is treated as becoming or ceasing to 
be a member of the EAG at the end of the day on which its status as a 
member changes.
    (3) Attribution of activities--(i) In general. Except as provided 
in paragraph (a)(3)(iv) of this section, if a Specified Cooperative 
that is a member of an EAG (disposing member) derives gross receipts 
(defined in Sec.  1.199A-8(b)(2)(iii)) from the lease, rental, license, 
sale, exchange, or other disposition (defined in Sec.  1.199A-9(j)) of 
agricultural or horticultural products (defined in Sec.  1.199A-
8(a)(4)) that were manufactured, produced, grown or extracted (MPGE) 
(defined in Sec.  1.199A-9(f)), in whole or significant part (defined 
in Sec.  1.199A-9(h)), in the United States (defined in Sec.  1.199A-
9(i)) by another Specified Cooperative, then the disposing member is 
treated as conducting the previous activities conducted by such other 
Specified Cooperative with respect to the agricultural or horticultural 
products in determining whether its gross receipts are domestic 
production gross receipts (DPGR) (defined in Sec.  1.199A-8(b)(3)(ii)) 
if--
    (A) Such property was MPGE by such other Specified Cooperative, and
    (B) The disposing member is a member of the same EAG as such other 
Specified Cooperative at the time that the disposing member disposes of 
the agricultural or horticultural products.
    (ii) Date of disposition for leases, rentals, or licenses. Except 
as provided in paragraph (a)(3)(iv) of this section, with respect to a 
lease, rental, or license, the disposing member described in paragraph 
(a)(3)(i) of this section is treated as having disposed of the 
agricultural or horticultural products on the date or dates on which it 
takes into account the gross receipts derived from the lease, rental, 
or license under its methods of accounting.
    (iii) Date of disposition for sales, exchanges, or other 
dispositions. Except as provided in paragraph (a)(3)(iv) of this 
section, with respect to a sale, exchange, or other disposition, the 
disposing member is treated as having disposed of the agricultural or 
horticultural products on the date on which it ceases to own the 
agricultural or horticultural products for Federal income tax purposes, 
even if no gain or loss is taken into account.
    (iv) Exception. A Specified Cooperative is not attributed 
nonpatronage activities conducted by another Specified Cooperative. See 
Sec.  1.199A-8(b)(2)(ii).
    (4) Marketing Specified Cooperatives. A Specified Cooperative is 
treated as having MPGE in whole or significant part any agricultural or 
horticultural product within the United States marketed by the 
Specified Cooperative which its patrons have so MPGE. Patrons are 
defined in Sec.  1.1388-1(e).
    (5) Anti-avoidance rule. If a transaction between members of an EAG 
is engaged in or structured with a principal purpose of qualifying for, 
or increasing the amount of, the section 199A(g) deduction of the EAG 
or the portion of the section 199A(g) deduction allocated to one or 
more members of the EAG, the Secretary may make adjustments to 
eliminate the effect of the transaction on the computation of the 
section 199A(g) deduction.

[[Page 5589]]

    (b) Computation of EAG's section 199A(g) deduction.--(1) In 
general. The section 199A(g) deduction for an EAG is determined by 
separately computing the section 199A(g) deduction from the patronage 
sources of Specified Cooperatives that are members of the EAG. The 
section 199A(g) deduction from patronage sources of Specified 
Cooperatives is determined by aggregating the income or loss, QPAI, and 
W-2 wages, if any, of each patronage source of a Specified Cooperative 
that is a member of the EAG. For purposes of this determination, a 
member's QPAI may be positive or negative. A Specified Cooperative's 
taxable income or loss and QPAI is determined by reference to the 
Specified Cooperative's method of accounting. For purposes of 
determining the section 199A(g) deduction for an EAG, taxable income or 
loss, QPAI, and W-2 wages of a Specified Cooperative from nonpatronage 
sources are considered to be zero, other than as allowed under Sec.  
1.199A-8(b)(2)(ii).
    (2) Example. The following example illustrates the application of 
paragraph (b)(1) of this section.
    (i) Facts. Nonexempt Specified Cooperatives X, Y, and Z, calendar 
year taxpayers, are the only members of an EAG and are not members of a 
consolidated group. X has patronage source taxable income of $50,000, 
QPAI of $15,000, and W-2 wages of $0. Y has patronage source taxable 
income of ($20,000), QPAI of ($1,000), and W-2 wages of $750. Z has 
patronage source taxable income of $0, QPAI of $0, and W-2 wages of 
$3,000.
    (ii) Analysis. In determining the EAG's section 199A(g) deduction, 
the EAG aggregates each member's patronage source taxable income or 
loss, QPAI, and W-2 wages. Thus, the EAG has patronage source taxable 
income of $30,000, the sum of X's patronage source taxable income of 
$50,000, Y's patronage source taxable income of ($20,000), and Z's 
patronage source taxable income of $0. The EAG has QPAI of $14,000, the 
sum of X's QPAI of $15,000, Y's QPAI of ($1,000), and Z's QPAI of $0. 
The EAG has W-2 wages of $3,750, the sum of X's W-2 wages of $0, Y's W-
2 wages of $750, and Z's W-2 wages of $3,000. Accordingly, the EAG's 
section 199A(g) deduction equals $1,260, 9% of $14,000, the lesser of 
the QPAI and patronage source taxable income, but not greater than 
$1,875, 50% of its W-2 wages of $3,750. This result would be the same 
if X had a nonpatronage source income or loss, because nonpatronage 
source income of a nonexempt Specified Cooperative is not taken into 
account in determining the section 199A(g) deduction.
    (3) Net operating loss carryovers/carrybacks. In determining the 
taxable income of an EAG, if a Specified Cooperative has a net 
operating loss (NOL) from its patronage sources that may be carried 
over or carried back (in accordance with section 172) to the taxable 
year, then for purposes of determining the taxable income of the 
Specified Cooperative, the amount of the NOL used to offset taxable 
income cannot exceed the taxable income of the patronage source of that 
Specified Cooperative.
    (4) Losses used to reduce taxable income of an expanded affiliated 
group. The amount of an NOL sustained by a Specified Cooperative member 
of an EAG that is used in the year sustained in determining an EAG's 
taxable income limitation under Sec.  1.199A-8(b)(5)(ii)(C) is not 
treated as an NOL carryover to any taxable year in determining the 
taxable income limitation under Sec.  1.199A-8(b)(5)(ii)(C). For 
purposes of this paragraph (b)(4), an NOL is considered to be used if 
it reduces an EAG's aggregate taxable income from patronage sources or 
nonpatronage sources, as the case may be, regardless of whether the use 
of the NOL actually reduces the amount of the section 199A(g) deduction 
that the EAG would otherwise derive. An NOL is not considered to be 
used to the extent that it reduces an EAG's aggregate taxable income 
from patronage sources to an amount less than zero. If more than one 
Specified Cooperative has an NOL used in the same taxable year to 
reduce the EAG's taxable income from patronage sources, the respective 
NOLs are deemed used in proportion to the amount of each Specified 
Cooperative's NOL.
    (5) Example. The following example illustrates the application of 
paragraph (b)(4) of this section.
    (i) Facts. Nonexempt Specified Cooperatives A and B are the only 
two members of an EAG. A and B are both calendar year taxpayers and 
they do not join in the filing of a consolidated Federal income tax 
return. Neither A nor B had taxable income or loss prior to 2020. In 
2020, A has patronage QPAI and patronage taxable income of $1,000 and B 
has patronage QPAI of $1,000 and a patronage NOL of $1,500. A also has 
nonpatronage income of $3,000. B has no activities other than from its 
patronage activities. In 2021, A has patronage QPAI of $2,000 and 
patronage taxable income of $1,000 and B has patronage QPAI of $2,000 
and patronage taxable income prior to the NOL deduction allowed under 
section 172 of $2,000. Neither A nor B has nonpatronage activities in 
2021. A's and B's patronage activities have aggregate W-2 wages in 
excess of the section 199A(g)(1)(B) wage limitation in both 2020 and 
2021.
    (ii) Section 199A(g) deduction for 2020. In determining the EAG's 
section 199A(g) deduction for 2020, A's $1,000 of QPAI and B's $1,000 
of QPAI are aggregated, as are A's $1,000 of taxable income from its 
patronage activities and B's $1,500 NOL from its patronage activities. 
A's nonpatronage income is not included. Thus, for 2020, the EAG has 
patronage QPAI of $2,000 and patronage taxable income of ($500). The 
EAG's section 199A(g) deduction for 2020 is 9% of the lesser of its 
patronage QPAI or its patronage taxable income. Because the EAG has a 
taxable loss from patronage sources in 2020, the EAG's section 199A(g) 
deduction is $0.
    (iii) Section 199A(a) deduction for 2021. In determining the EAG's 
section 199A deduction for 2021, A's patronage QPAI of $2,000 and B's 
patronage QPAI of $2,000 are aggregated, resulting in the EAG having 
patronage QPAI of $4,000. Also, $1,000 of B's patronage NOL from 2020 
was used in 2020 to reduce the EAG's taxable income from patronage 
sources to $0. The remaining $500 of B's patronage NOL from 2020 is not 
considered to have been used in 2020 because it reduced the EAG's 
patronage taxable income to less than $0. Accordingly, for purposes of 
determining the EAG's taxable income limitation under Sec.  1.199A-
8(b)(5) in 2021, B is deemed to have only a $500 NOL carryover from its 
patronage sources from 2020 to offset a portion of its 2021 taxable 
income from its patronage sources. Thus, B's taxable income from its 
patronage sources in 2021 is $1,500, which is aggregated with A's 
$1,000 of taxable income from its patronage sources. The EAG's taxable 
income limitation in 2021 is $2,500. The EAG's section 199A(g) 
deduction is 9% of the lesser of its patronage sourced QPAI of $4,000 
and its taxable income from patronage sources of $2,500. Thus, the 
EAG's section 199A(g) deduction in 2021 is 9% of $2,500, or $225. The 
results for 2021 would be the same if neither A nor B had patronage 
sourced QPAI in 2020.
    (c) Allocation of an expanded affiliated group's section 199A(g) 
deduction among members of the expanded affiliated group--(1) In 
general. An EAG's section 199A(g) deduction from its patronage sources, 
as determined in paragraph (b) of this section, is allocated among the 
Specified Cooperatives that are members of the EAG in proportion to

[[Page 5590]]

each Specified Cooperative's patronage QPAI, regardless of whether the 
Specified Cooperative has patronage taxable income or W-2 wages for the 
taxable year. For these purposes, if a Specified Cooperative has 
negative patronage QPAI, such QPAI is treated as zero. Pursuant to 
Sec.  1.199A-8(b)(6), a patronage section 199A(g) deduction can be 
applied only against patronage income and deductions.
    (2) Use of section 199A(g) deduction to create or increase a net 
operating loss. If a Specified Cooperative that is a member of an EAG 
has some or all of the EAG's section 199A(g) deduction allocated to it 
under paragraph (c)(1) of this section and the amount allocated exceeds 
patronage taxable income, determined as described in this section and 
prior to allocation of the section 199A(g) deduction, the section 
199A(g) deduction will create an NOL for the patronage source. 
Similarly, if a Specified Cooperative that is a member of an EAG, prior 
to the allocation of some or all of the EAG's section 199A(g) deduction 
to the member, has a patronage NOL for the taxable year, the portion of 
the EAG's section 199A(g) deduction allocated to the member will 
increase such NOL.
    (d) Special rules for members of the same consolidated group--(1) 
Intercompany transactions. In the case of an intercompany transaction 
between consolidated group members S and B (as the terms intercompany 
transaction, S, and B are defined in Sec.  1.1502-13(b)(1)), S takes 
the intercompany transaction into account in computing the section 
199A(g) deduction at the same time and in the same proportion as S 
takes into account the income, gain, deduction, or loss from the 
intercompany transaction under Sec.  1.1502-13.
    (2) Application of the simplified deduction method and the small 
business simplified overall method. For purposes of applying the 
simplified deduction method under Sec.  1.199A-10(e) and the small 
business simplified overall method under Sec.  1.199A-10(f), a 
Specified Cooperative that is part of a consolidated group determines 
its QPAI using its members' DPGR, non-DPGR, cost of goods sold (COGS), 
and all other deductions, expenses, or losses (hereinafter deductions), 
determined after the application of Sec.  1.1502-13.
    (3) Determining the section 199A(g) deduction--(i) Expanded 
affiliated group consists of consolidated group and non-consolidated 
group members. In determining the section 199A(g) deduction, if an EAG 
includes Specified Cooperatives that are members of the same 
consolidated group and Specified Cooperatives that are not members of 
the same consolidated group, the consolidated taxable income or loss, 
QPAI, and W-2 wages, from patronage sources, if any, of the 
consolidated group (and not the separate taxable income or loss, QPAI, 
and W-2 wages from patronage sources of the members of the consolidated 
group), are aggregated with the taxable income or loss, QPAI, and W-2 
wages, from patronage sources, if any, of the non-consolidated group 
members. For example, if A, B, C, S1, and S2 are Specified Cooperatives 
that are members of the same EAG, and A, S1, and S2 are members of the 
same consolidated group (the A consolidated group), then the A 
consolidated group is treated as one member of the EAG. Accordingly, 
the EAG is considered to have three members--the A consolidated group, 
B, and C. The consolidated taxable income or loss, QPAI, and W-2 wages 
from patronage sources, if any, of the A consolidated group are 
aggregated with the taxable income or loss from patronage sources, 
QPAI, and W-2 wages, if any, of B and C in determining the EAG's 
section 199A(g) deduction from patronage sources. Pursuant to Sec.  
1.199A-8(b)(6), a patronage section 199A(g) deduction can be applied 
only against patronage income and deductions.
    (ii) Expanded affiliated group consists only of members of a single 
consolidated group. If all of the Specified Cooperatives that are 
members of an EAG are also members of the same consolidated group, the 
consolidated group's section 199A(g) deduction is determined using the 
consolidated group's consolidated taxable income or loss, QPAI, and W-2 
wages, from patronage sources rather than the separate taxable income 
or loss, QPAI, and W-2 wages from patronage sources of its members.
    (4) Allocation of the section 199A(g) deduction of a consolidated 
group among its members. The section 199A(g) deduction from patronage 
sources of a consolidated group (or the section 199A(g) deduction 
allocated to a consolidated group that is a member of an EAG) is 
allocated among the patronage sources of Specified Cooperatives in 
proportion to each Specified Cooperative's patronage QPAI, regardless 
of whether the Specified Cooperative has patronage separate taxable 
income or W-2 wages for the taxable year. In allocating the section 
199A(g) deduction of a patronage source of a Specified Cooperative that 
is part of a consolidated group among patronage sources of other 
members of the same group, any redetermination of a member's patronage 
receipts, COGS, or other deductions from an intercompany transaction 
under Sec.  1.1502-13(c)(1)(i) or (c)(4) is not taken into account for 
purposes of section 199A(g). Also, for purposes of this allocation, if 
a patronage source of a Specified Cooperative that is a member of a 
consolidated group has negative QPAI, the QPAI of the patronage source 
is treated as zero.
    (e) Examples. The following examples illustrate the application of 
paragraphs (a) through (d) of this section.
    (i) Example 1. Specified Cooperatives X, Y, and Z are members of 
the same EAG but are not members of a consolidated group. X, Y, and Z 
each files Federal income tax returns on a calendar year basis. None of 
X, Y, or Z have activities other than from its patronage sources. Prior 
to 2020, X had no taxable income or loss. In 2020, X has taxable income 
of $0, QPAI of $2,000, and W-2 wages of $0, Y has taxable income of 
$4,000, QPAI of $3,000, and W-2 wages of $500, and Z has taxable income 
of $4,000, QPAI of $5,000, and W-2 wages of $2,500. Accordingly, the 
EAG's patronage source taxable income is $8,000, the sum of X's taxable 
income of $0, Y's taxable income of $4,000, and Z's taxable income of 
$4,000. The EAG has QPAI of $10,000, the sum of X's QPAI of $2,000, Y's 
QPAI of $3,000, and Z's QPAI of $5,000. The EAG's W-2 wages are $3,000, 
the sum of X's W-2 wages of $0, Y's W-2 wages of $500, and Z's W-2 
wages of $2,500. Thus, the EAG's section 199A(g) deduction for 2020 is 
$720 (9% of the lesser of the EAG's patronage source taxable income of 
$8,000 and the EAG's QPAI of $10,000, but no greater than 50% of its W-
2 wages of $3,000, that is $1,500). Pursuant to paragraph (c)(1) of 
this section, the $720 section 199A(g) deduction is allocated to X, Y, 
and Z in proportion to their respective amounts of QPAI, that is $144 
to X ($720 x $2,000/$10,000), $216 to Y ($720 x $3,000/$10,000), and 
$360 to Z ($720 x $5,000/$10,000). Although X's patronage source 
taxable income for 2020 determined prior to allocation of a portion of 
the EAG's section 199A(g) deduction to it was $0, pursuant to paragraph 
(c)(2) of this section, X will have an NOL from its patronage source 
for 2020 equal to $144, which will be a carryover to 2021.
    (ii) Example 2. (A) Facts. Corporation X is the common parent of a 
consolidated group, consisting of X and Y, which has filed a 
consolidated Federal income tax return for many years. Corporation P is 
the common parent of a consolidated group, consisting of P and S, which 
has filed

[[Page 5591]]

a consolidated Federal income tax return for many years. The X and P 
consolidated groups each file their consolidated Federal income tax 
returns on a calendar year basis. X, Y, P, and S are each Specified 
Cooperatives, and none of X, Y, P, or S has ever had activities other 
than from its patronage sources. The X consolidated group and the P 
consolidated group are members of the same EAG in 2021. In 2020, the X 
consolidated group incurred a consolidated net operating loss (CNOL) of 
$25,000. Neither P nor S (nor the P consolidated group) has ever 
incurred an NOL. In 2021, the X consolidated group has (prior to the 
deduction under section 172) taxable income of $8,000 and the P 
consolidated group has taxable income of $20,000. X's QPAI is $8,000, 
Y's QPAI is ($13,000), P's QPAI is $16,000 and S's QPAI is $4,000. 
There are sufficient W-2 wages to exceed the section 199A(g)(1)(B) 
limitation.
    (B) Analysis. The X consolidated group uses $8,000 of its CNOL from 
2020 to offset the X consolidated group's taxable income in 2021. None 
of the X consolidated group's remaining CNOL may be used to offset 
taxable income of the P consolidated group under paragraph (b)(3) of 
this section. Accordingly, for purposes of determining the EAG's 
section 199A(g) deduction for 2021, the EAG has taxable income of 
$20,000 (the X consolidated group's taxable income, after the deduction 
under section 172, of $0 plus the P consolidated group's taxable income 
of $20,000). The EAG has QPAI of $15,000 (the X consolidated group's 
QPAI of ($5,000) (X's $8,000 + Y's ($13,000)), and the P consolidated 
group's QPAI of $20,000 (P's $16,000 + S's $4,000)). The EAG's section 
199A(g) deduction equals $1,350, 9% of the lesser of its taxable income 
of $20,000 and its QPAI of $15,000. The section 199A(g) deduction is 
allocated between the X and P consolidated groups in proportion to 
their respective QPAI. Because the X consolidated group has negative 
QPAI, all of the section 199A(g) deduction of $1,350 is allocated to 
the P consolidated group. This $1,350 is allocated between P and S, the 
members of the P consolidated group, in proportion to their QPAI. 
Accordingly, P is allocated $1,080 ($1,350 x ($16,000/$20,000) and S is 
allocated $270 ($1,350 x $4,000/$20,000)).
    (f) Allocation of patronage income and loss by a Specified 
Cooperative that is a member of the expanded affiliated group for only 
a portion of the year--(1) In general. A Specified Cooperative that 
becomes or ceases to be a member of an EAG during its taxable year must 
allocate its taxable income or loss, QPAI, and W-2 wages between the 
portion of the taxable year that the Specified Cooperative is a member 
of the EAG and the portion of the taxable year that the Specified 
Cooperative is not a member of the EAG. This allocation of items is 
made by using the pro rata allocation method described in this 
paragraph (f)(1). Under the pro rata allocation method, an equal 
portion of patronage taxable income or loss, QPAI, and W-2 wages is 
assigned to each day of the Specified Cooperative's taxable year. Those 
items assigned to those days that the Specified Cooperative was a 
member of the EAG are then aggregated.
    (2) Coordination with rules relating to the allocation of income 
under Sec.  1.1502-76(b). If Sec.  1.1502-76(b) (relating to items 
included in a consolidated return) applies to a Specified Cooperative 
that is a member of an EAG, then any allocation of items required under 
this paragraph (f) is made only after the allocation of the items 
pursuant to Sec.  1.1502-76(b).
    (g) Total section 199A(g) deduction for a Specified Cooperative 
that is a member of an expanded affiliated group for some or all of its 
taxable year--(1) Member of the same EAG for the entire taxable year. 
If a Specified Cooperative is a member of the same EAG for its entire 
taxable year, the Specified Cooperative's section 199A(g) deduction for 
the taxable year is the amount of the section 199A(g) deduction 
allocated to it by the EAG under paragraph (c)(1) of this section.
    (2) Member of the expanded affiliated group for a portion of the 
taxable year. If a Specified Cooperative is a member of an EAG for only 
a portion of its taxable year and is either not a member of any EAG or 
is a member of another EAG, or both, for another portion of the taxable 
year, the Specified Cooperative's section 199A(g) deduction for the 
taxable year is the sum of its section 199A(g) deductions for each 
portion of the taxable year.
    (3) Example. The following example illustrates the application of 
paragraphs (f) and (g) of this section.
    (i) Facts. Specified Cooperatives X and Y, calendar year taxpayers, 
are members of the same EAG for the entire 2020 taxable year. Specified 
Cooperative Z, also a calendar year taxpayer, is a member of the EAG of 
which X and Y are members for the first half of 2020 and not a member 
of any EAG for the second half of 2020. None of X, Y, or Z have 
activities other than from its patronage sources. Assume that X, Y, and 
Z each has W-2 wages in excess of the section 199A(g)(1)(B) wage 
limitation for all relevant periods. In 2020, X has taxable income of 
$2,000 and QPAI of $600, Y has taxable loss of $400 and QPAI of ($200), 
and Z has taxable income of $1,400 and QPAI of $2,400.
    (ii) Analysis. Pursuant to the pro rata allocation method, $700 of 
Z's 2020 taxable income and $1,200 of its QPAI are allocated to the 
first half of the 2020 taxable year (the period in which Z is a member 
of the EAG) and $700 of Z's 2020 taxable income and $1,200 of its QPAI 
are allocated to the second half of the 2020 taxable year (the period 
in which Z is not a member of any EAG). Accordingly, in 2020, the EAG 
has taxable income from patronage sources of $2,300 ($2,000 + ($400) + 
$700) and QPAI of $1,600 ($600 + ($200) + $1,200). The EAG's section 
199A(g) deduction for 2020 is $144 (9% of the lesser of the EAG's 
taxable income of $2,300 or QPAI of $1,600). Pursuant to Sec.  1.199A-
12(c)(1), this $144 deduction is allocated to X, Y, and Z in proportion 
to their respective QPAI. Accordingly, X is allocated $48 of the EAG's 
section 199A(g) deduction ($144 x ($600/($600 + $0 + $1,200))), Y is 
allocated $0 of the EAG's section 199A(g) deduction ($144 x ($0/($600 + 
$0 + $1,200))), and Z is allocated $96 of the EAG's section 199A(g) 
deduction ($144 x ($1,200/($600 + $0 + $1,200))). For the second half 
of 2020, Z has taxable income of $700 and QPAI of $1,200. Therefore, 
for the second half of 2020, Z has a section 199A(g) deduction of $63 
(9% of the lesser of its taxable income of $700 or its QPAI of $1,200). 
Accordingly, X's 2020 section 199A(g) deduction is $48 and Y's 2020 
section 199A(g) deduction is $0. Z's 2020 section 199A(g) deduction is 
$159, the sum of $96, the portion of the EAG's section 199A(g) 
deduction allocated to Z for the first half of 2020 and Z's $63 section 
199A(g) deduction for the second half of 2020.
    (h) Computation of section 199A(g) deduction for members of an 
expanded affiliated group with different taxable years--(1) In general. 
If Specified Cooperatives that are members of an EAG have different 
taxable years, in determining the section 199A(g) deduction of a member 
(the computing member), the computing member is required to take into 
account the taxable income or loss, determined without regard to the 
section 199A(g) deduction, QPAI, and W-2 wages of each other group 
member that are both--
    (i) Attributable to the period that each other member of the EAG 
and the computing member are members of the EAG; and
    (ii) Taken into account in a taxable year that begins after the 
effective date of section 199A(g) and ends with or within the taxable 
year of the computing

[[Page 5592]]

member with respect to which the section 199A(g) deduction is computed.
    (2) Example. The following example illustrates the application of 
this paragraph (h).
    (i) Facts. Specified Cooperatives X, Y, and Z are members of the 
same EAG. Neither X, Y, nor Z is a member of a consolidated group. X 
and Y are calendar year taxpayers and Z is a June 30 fiscal year 
taxpayer. Z came into existence on July 1, 2020. None of X, Y, or Z 
have activities other than from its patronage sources. Each Specified 
Cooperative has taxable income that exceeds its QPAI and W-2 wages in 
excess of the section 199A(g)(1)(B) wage limitation. For the taxable 
year ending December 31, 2020, X's QPAI is $8,000 and Y's QPAI is 
($6,000). For its taxable year ending June 30, 2021, Z's QPAI is 
$2,000.
    (ii) 2020 Computation. In computing X's and Y's respective section 
199A(g) deductions for their taxable years ending December 31, 2020, 
X's taxable income or loss, QPAI and W-2 wages and Y's taxable income 
or loss, QPAI, and W-2 wages from their respective taxable years ending 
December 31, 2020, are aggregated. The EAG's QPAI for this purpose is 
$2,000 (X's QPAI of $8,000 + Y's QPAI of ($6,000)). Accordingly, the 
EAG's section 199A(g) deduction is $180 (9% x $2,000). The $180 
deduction is allocated to each of X and Y in proportion to their 
respective QPAI as a percentage of the QPAI of each member of the EAG 
that was taken into account in computing the EAG's section 199A(g) 
deduction. Pursuant to paragraph (c)(1) of this section, in allocating 
the section 199A(g) deduction between X and Y, because Y's QPAI is 
negative, Y's QPAI is treated as being $0. Accordingly, X's section 
199A(g) deduction for its taxable year ending December 31, 2020, is 
$180 ($180 x $8,000/($8,000 + $0)). Y's section 199A(g) deduction for 
its taxable year ending December 31, 2020, is $0 ($180 x $0/($8,000 + 
$0)).
    (iii) 2021 Computation. In computing Z's section 199A(g) deduction 
for its taxable year ending June 30, 2021, X's and Y's items from their 
respective taxable years ending December 31, 2020, are taken into 
account. Therefore, X's taxable income or loss and Y's taxable income 
or loss, determined without regard to the section 199A(g) deduction, 
QPAI, and W-2 wages from their taxable years ending December 31, 2020, 
are aggregated with Z's taxable income or loss, QPAI, and W-2 wages 
from its taxable year ending June 30, 2021. The EAG's QPAI is $4,000 
(X's QPAI of $8,000 + Y's QPAI of ($6,000) + Z's QPAI of $2,000). The 
EAG's section 199A(g) deduction is $360 (9% x $4,000). A portion of the 
$360 deduction is allocated to Z in proportion to its QPAI as a 
percentage of the QPAI of each member of the EAG that was taken into 
account in computing the EAG's section 199A(g) deduction. Pursuant to 
paragraph (c)(1) of this section, in allocating a portion of the $360 
deduction to Z, Y's QPAI is treated as being $0 because Y's QPAI is 
negative. Z's section 199A(g) deduction for its taxable year ending 
June 30, 2021, is $72 ($360 x ($2,000/($8,000 + $0 + $2,000))).
    (i) Partnership owned by expanded affiliated group--(1) In general. 
For purposes of section 199A(g)(3)(D) relating to DPGR, if all of the 
interests in the capital and profits of a partnership are owned by 
members of a single EAG at all times during the taxable year of such 
partnership (EAG partnership), then the EAG partnership and all members 
of that EAG are treated as a single taxpayer during such period.
    (2) Attribution of activities--(i) In general. If a Specified 
Cooperative which is a member of an EAG (disposing member) derives 
gross receipts from the lease, rental, license, sale, exchange, or 
other disposition of property that was MPGE by an EAG partnership, all 
the partners of which are members of the same EAG to which the 
disposing member belongs at the time that the disposing member disposes 
of such property, then the disposing member is treated as conducting 
the MPGE activities previously conducted by the EAG partnership with 
respect to that property. The previous sentence applies only for those 
taxable years in which the disposing member is a member of the EAG of 
which all the partners of the EAG partnership are members for the 
entire taxable year of the EAG partnership. With respect to a lease, 
rental, or license, the disposing member is treated as having disposed 
of the property on the date or dates on which it takes into account its 
gross receipts from the lease, rental, or license under its method of 
accounting. With respect to a sale, exchange, or other disposition, the 
disposing member is treated as having disposed of the property on the 
date it ceases to own the property for Federal income tax purposes, 
even if no gain or loss is taken into account. Likewise, if an EAG 
partnership derives gross receipts from the lease, rental, license, 
sale, exchange, or other disposition of property that was MPGE by a 
member (or members) of the same EAG (the producing member) to which all 
the partners of the EAG partnership belong at the time that the EAG 
partnership disposes of such property, then the EAG partnership is 
treated as conducting the MPGE activities previously conducted by the 
producing member with respect to that property. The previous sentence 
applies only for those taxable years in which the producing member is a 
member of the EAG of which all the partners of the EAG partnership are 
members for the entire taxable year of the EAG partnership. With 
respect to a lease, rental, or license, the EAG partnership is treated 
as having disposed of the property on the date or dates on which it 
takes into account its gross receipts derived from the lease, rental, 
or license under its method of accounting. With respect to a sale, 
exchange, or other disposition, the EAG partnership is treated as 
having disposed of the property on the date it ceases to own the 
property for Federal income tax purposes, even if no gain or loss is 
taken into account.
    (ii) Attribution between expanded affiliated group partnerships. If 
an EAG partnership (disposing partnership) derives gross receipts from 
the lease, rental, license, sale, exchange, or other disposition of 
property that was MPGE by another EAG partnership (producing 
partnership), then the disposing partnership is treated as conducting 
the MPGE activities previously conducted by the producing partnership 
with respect to that property, provided that each of these partnerships 
(the producing partnership and the disposing partnership) is owned for 
its entire taxable year in which the disposing partnership disposes of 
such property by members of the same EAG. With respect to a lease, 
rental, or license, the disposing partnership is treated as having 
disposed of the property on the date or dates on which it takes into 
account its gross receipts from the lease, rental, or license under its 
method of accounting. With respect to a sale, exchange, or other 
disposition, the disposing partnership is treated as having disposed of 
the property on the date it ceases to own the property for Federal 
income tax purposes, even if no gain or loss is taken into account.
    (j) Applicability date. The provisions of this section apply to 
taxable years beginning after January 19, 2021. Taxpayers, however, may 
choose to apply the rules of Sec. Sec.  1.199A-7 through 1.199A-12 for 
taxable years beginning on or before that date, provided the taxpayers 
apply the rules in their entirety and in a consistent manner.

0
Par. 5. Section 1.1382-3 is amended by
0
1. Revising paragraph (c)(2).
0
2. Adding paragraph (e).

[[Page 5593]]

    The revisions and additions read as follows:


Sec.  1.1382-3   Taxable income of cooperatives; special deductions for 
exempt farmers' cooperatives.

* * * * *
    (c) * * *
    (2) Definition. The term income derived from sources other than 
patronage used in this paragraph (c) means income from nonpatronage 
sources within the meaning of Sec.  1.1388-1(f)(3).
* * * * *
    (e) Applicability date. Paragraph (c)(2) of this section applies to 
taxable years beginning after January 19, 2021. For taxable years 
beginning on or before January 19, 2021, taxpayers, however, may choose 
to apply the rules of paragraph (c)(2) of this section, provided the 
taxpayers apply the rules in their entirety and in a consistent manner.

0
Par. 6. Section 1.1388-1 is amended by adding paragraphs (f) and (g).
    The additions read as follows:


Sec.  1.1388-1   Definitions and special rules.

* * * * *
    (f) Patronage and nonpatronage sourced items--(1) Directly related 
use test. Whether an item of income or deduction is patronage or 
nonpatronage sourced is determined by applying the directly related use 
test.
    (2) Patronage sourced income or deductions. If the income or 
deduction is produced by a transaction that actually facilitates the 
accomplishment of the cooperative's marketing, purchasing, or services 
activities, the income or deduction is from patronage sources.
    (3) Nonpatronage sourced income or deductions. If the transaction 
producing the income or deduction does not actually facilitate the 
accomplishment of the cooperative's marketing, purchasing, or services 
activities but merely enhances the overall profitability of the 
cooperative, being merely incidental to the association's cooperative 
operation, the income or deduction is from nonpatronage sources.
    (g) Applicability date. Paragraph (f) of this section applies to 
taxable years beginning after January 19, 2021. Taxpayers, however, may 
choose to apply the rules of paragraph (f) of this section for taxable 
years beginning on or before that date, provided the taxpayers apply 
the rules in their entirety and in a consistent manner.

Sunita Lough,
Deputy Commissioner for Services and Enforcement.
    Approved: January 8, 2021.
David J. Kautter,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2021-00667 Filed 1-14-21; 8:45 am]
BILLING CODE 4830-01-P