capital planning

In addition to capital required for facilities, capital will be

Mr. VOORHIS. I would just like to point out that there was one piece of information which was not given to the committee in connection with the business of Consumers Cooperative Association. The committee was told that CCA had done $3,758,000 of business with the Government, that it sold petroleum products to the Government. But what the committee was not informed was that on this business a full tax at the 52-percent corporation rate was paid in the amount of $127,000 which was 52 percent of the net margin that Consumers Cooperative Association made on that transaction.

In 1959, the same thing happened. A tax of $1,205,000 was paid, Federal income tax, and in 1960, a tax of $1,274,000 was paid by Consumers Cooperative Association. This represented full tax on all income of CCA that was not returned to patrons.

Well, I just think we ought to have the whole story. These taxes were paid because on some of the business done by this cooperative it did not pay patronage refunds, nor was it obligated by a prior obligation to pay them. On all such business it paid a full corporation income tax as other cooperatives do as well.

Now then, another witness this morning made the statement, if I understood him correctly, that cooperative boards of directors have discretion as to whether or not patronage refunds will be paid.

Well, gentlemen of the committee, if that is the case in any cooperative that cooperative should be taxable and is taxable on the full amount of its net margins.

The only circumstance where a cooperative is not taxed on the money that passes through its hands is where part of that money or all of it is under obligation not subject to discretion of the Board but under obligation to be paid either in cash or in certificate to its patrons.

What I think the gentleman meant to say was that the board of directors could decide whether the patronage refund was to be paid in cash or whether it was to be paid in a noncash form.

Now, it is true that the Board probably has a right to decide whether it is to pay in cash or in noncash form and if this cooperative is properly set up-and most of them are and if they are not they ought to be they will have in their bylaws a provision that establishes a contractual relationship, a mutual contractual relationship. This is the heart of what a cooperative business actually is and unless we keep this in mind we cannot understand the real facts about the taxation problem. In the bylaws the member and patron agrees that if a patronage refund is paid in a noncash form to him that he regards this as having been received in cash and reinvested in his cooperative. The patron owns the patronage refund. It is his property. Does it have market value? Not in the ordinary sense. It just cannot have and I will quote the Secretary of the Treasury in a little bit to show why that is true. Cooperative's shares of stock are of value only to people in that community who can use the services of the cooperative. That is the kind of business a cooperative is and you cannot expect to take a piece of paper that represents that kind of ownership and sell it on the New York Stock Exchange. It does not have ordinary market value and to try to say that the noncash patronage refund must have such a market value in order to be excludable by the cooperative is just not sensible.

From our point of view the taxation proposals of the President and the Secretary of the Treasury are, on the whole, excellent ones.

As I understand it, their general tax program is about as follows: Let us offer tax incentives to American enterprise to encourage its growth and expansion. At the same time, let us put an end to abuses of the tax system wherever they exist. Let us see that the taxation of individuals is fair and equitable for all, because when all is said and done it is the American people as individual and family taxpayers who pay all the taxes that are paid.

Ideally, if all income taxes upon business could be repealed it would in our opinion be salutary. The only reason we are not here advocating exactly that is because we recognize that the needs of our Government for revenue today are such as to make such a proposal politically if not economically impractical.

But it should even under present circumstances be borne heavily in mind that income taxes upon business enterprises are a basically unsound kind of tax. Its incidence is unpredictable.

Such taxes are paid by consumers of the services and products of the businesses regardless of ability to pay or benefits received; and the effect of such taxes upon economic growth is at best a dubious one.

The fact should probably be faced that we the people as individuals pay all the taxes that are paid, directly or indirectly. The closer we can come to paying them directly, the better.

Coming now to specific consideration of the taxation of cooperatives, I can be relatively brief. In large part, I can cast my testimony in the form of quotations from the President and the Secretary of the Treasury. Both of them have recognized clearly and wisely the value of cooperative enterprise in the United States, especially to our agriculture. Both of them have recognized the handicaps under which cooperatives must always operate relative to their competitors. The Secretary made plain the fact that the stock of cooperatives is never allowed to rise above par, is never redeemed at more than par value, has its return limited by law or by the articles, and has indeterminable market value in the ordinary sense of that word because its market is limited to people in position to use directly the services of the cooperative.

The Secretary put it this way:

A cooperative has special problems in raising capital, which it, like other businesses needs. Reinvestment by patrons of part of their share of the cooperatives' net margins is necessary to fulfill the cooperatives' capital requirements.

There has been a suggestion made by another witness that these have to have a "legal quality." I can recognize the plausibility of that argument but, if you require all noncash refunds to have legal quality, it means that none of them can be equity investment. They all have to be debt instruments and this obviously would be very difficult. Co-ops do not have access to the ordinary capital markets for the reasons I have given. They are mutual membership contractual types of enterprise and they depend necessarily for their capitalization upon the members' reinvestment of patronage refunds.

And the President himself stated the obviously equitable conclusion in these words:

The cooperative should not be penalized by the assessment of a patronage tax upon dividends or refunds taxable to the patron, but left in the business as a substitute for the sale of securities to obtain additional equity capital.

Nobody regards the money that is invested in the shares of stock of a company as being taxable income to that company and neither should the investment of patronage refunds in a cooperative be regarded as such income.

As to the present status of cooperatives, the Secretary of the Treasury presented one of the clearest statements of the facts I have ever read. I commend it to those people and organizations who say "cooperatives don't pay taxes" or that they have tax privileges and I quote herewith two paragraphs from the Secretary's statement, where he is discussing the general principles of taxation of cooperatives:

A taxable cooperative, irrespective of its exact legal form, is considered a corporation for Federal income tax purposes. Its income and expenses are computed in the same manner as those of an ordinary corporation with the very important exception of the treatment of patronage dividends. The excess of receipts over costs constitutes the income of the organization and is taxable at ordinary income tax rates. Thus any dividends paid on capital stock must be paid from income previously subject to corporate income tax. Income from sources not directly related to the business carried on with patrons, such as capital gains, interest, rents, dividends on stock, and business done with the United States, also is taxable at the cooperative level. Income derived from business carried on with or for patrons is taxable at the cooperative level unless it is paid or allocated as a patronage dividend pursuant to a pre-existing obligation in the year in which earned or by the time the corporate income tax return must be filed for such year.

As previously indicated, ever since 1914, cooperative organizations have been allowed to exclude from gross income, patronage dividends paid or allocated to patrons on the basis of business done with the cooperative if such payments or allocations are made pursuant to preexisting contractual obligations. At the cooperative level, no attempt has been made by the Treasury to draw a destinetion between patronage dividends paid in cash and in the form of stock, revolving fund certificates, or other scrip allocations.

Neither the President nor the Secretary proposes any changes whatever in the present tax status of rural electric and telephone cooperatives or credit unions. They are quite right in this. These cooperatives are forbidden by law to deal with anyone except their members. All the capital they employ is either members' investments or pledges of members' credit and promises to pay. The members' money provides services to the members. And the members' cooperative or credit union cannot provide services of loans or electricity to anyone except members. Whatever earnings are made as a result of business done with these members belongs to the members and must be paid or allocated to them or held in reserve for their benefit. Hence the specific income tax exemption which is accorded rural electric cooperatives and credit unions is no more than a simple recognition of the fact that they cannot in the nature of their form of organization have income to tax.

With respect to all other cooperative businesses, the Secretary made. it perfectly clear that the administration proposes no change in the clearly justified right of cooperatives to exclude from computation of income all patronage refunds in whatever form paid.

The Secretary proceeded to point out the one problem of consequence that exists with respect to taxation affecting cooperatives.