Originally published on Forbes.com.
It looks like I will be getting smacked on the side of my head with one of my own laws. Reilly’s Third Law of Tax Planning – Any clever idea that pops into your head probably has (or will have) a corresponding rule that makes it not work.
All my scheming on behalf of worker-owned cooperatives will be as naught if the fix to what is called the “grain glitch” is inserted in the omnibus bill scheduled for March 23. There has been an immense amount of coverage on the “grain glitch”, but you may have missed it, since most of the coverage is inside the agriculture bubble.
The Grain Glitch Drama
I spoke with Paul Neiffer of CliftonLarsonAllen whose piece for the Agribusiness Blog – Will the Section 199A Cooperative “Fix” Get Passed on March 23 – can bring you up to date on the controversy. Paul was able to share with me the actual legislative language of the fix, all 19 pages of it.
On net, I think it will add a page or two to the Code. If you wonder why the Internal Revenue Code is so long (It is not 70,000 pages. More like 2,500 and only about half of them dedicated to the income tax. Still it is long.), you need look no further than than Section 199A.
The real short version of the “grain glitch” story is that, they wanted to make sure that agricultural cooperatives had a similar deal as they had had with the now-repealed Section 199, which allowed them to pass through a 9% deduction to their patrons or hold onto it. Not a lot of thought went into the provision that was airdropped into the final bill .
While Section 199A gives business of all sorts a 20% deduction on net income (subject to a host of restrictions), farmers who sold to cooperatives would get a deduction of 20% of their gross.
There are some farmers who have come to love this new provision thinking it is more of a feature than a bug, but the problems is that a lot of agricultural production is sold to businesses, like Cargill, that are not cooperatives. All of a sudden there is a strong incentive to not sell to them.
The National Council of Farmers Cooperatives, in accordance with Reilly’s Eleventh Law of Tax Planning – Pigs get fed. Hogs get slaughtered – recognized that the cooperatives had gotten way more than they asked for and agreed to sit down with the National Grain and Feed Association to work out a more modest proposal that would not lead to a large number of empty grain elevators.
CliftonLarsonAllen was there at the table as kind of a neutral third party. If I were cynical I would say what they got out of the negotiation is a provision that nobody else will understand locking their clients in more firmly, but given how nice Mr. Neiffer was to me, I’m not going there.
But What About The House Cleaners?
I actually did not find the “grain glitch” all that interesting. Not a lot of amber waves of grain near North Oxford MA. What I found exciting was that the provision dropped into 199A was for cooperatives – not just agricultural cooperatives. So the provision would provide a benefit to worker owned cooperatives.
There are people in a variety of trades that have organized as worker owned cooperatives – construction trades, bicycle mechanics and even house cleaners. There was even an accounting firm organized as a worker owned cooperative, but they were merged into CliftonLarsonAllen.
You have to distinguish between worker owned cooperatives as represented by the United States Federation of Worker Cooperatives and the tax concept of cooperatives. A group might organize as an S corporation or an LLC taxed as a partnership and meet the idealistic standards of USFWC and not be a cooperative under the tax law.
A tax law cooperative, using recommended best practices, will pay reasonable wages and then distribute a patronage dividend. (An aggressive practice is to only pay patronage dividends). Although there is some dispute about the matter the patronage dividends are generally thought to be exempt from payroll taxes (but not income tax).
There is not a lot of guidance on worker owned cooperatives probably because, despite sharing similar Progressive Era ideological roots, they have not taken off as well as agricultural cooperatives.
The so called “grain glitch” would have allowed the 20% 199A deduction on the patronage dividends of worker owned cooperatives. That would have been a fairly modest benefit for people who probably could use a break – especially the house cleaners.
And My Evil Scheme
People who provide services in a number of fields including medicine, law and even accounting have the 20% deduction phased out if their taxable income is over $157,500 (twice that for married filing joint). And for everybody there is a W-2 paid or capital asset employed test to pass over that level. As the law was written, people could have reorganized their firms as worker owned cooperatives and dodged those restrictions.
I think it might have worked pretty well for physicians and dentists who tend to be more egalitarian within their specialties and have compensation schemes based on actual work. Public accounting might have been more challenging as in that field the relationship between actual work done and compensation tends to be inverse.
No House Cleaners Or Dentists At The Table
The revision makes it so the special treatment only applies to agricultural cooperatives. And it makes it much less generous, so as to not upset agricultural markets.
I ran my theory by Paul Neiffer that when the original, not well thought out, provision was airdropped into the bill, it had been crafted by people who were not aware that there were cooperatives other than agricultural cooperatives. He thought there might be something to that and he was clear that the only affected taxpayers represented at the negotiations were the agricultural interests.
And that may be the most troubling lesson of the “grain glitch” story. The tax law, at least in this case, is not being written by Congress. It is being written by lobbyists. House cleaners and bicycle mechanics don’t have lobbyists , so there was nobody there to ask why their patronage dividends should be different than the ones that go to farmers.
Still Up In The Air
There are two things that might prevent the fix going through on March 23. The Democrats might insist on other parts of the bill being up for grabs and there are a lot of farmers who think 199A is fine just the way it is.
Stormy Daniels Update
I decided that I will not replace my Kent Hovind obsession with Stormy Daniels, attractive as such an option might be. Nonetheless, there has been one development this week that does require tax comment. According to the New York Times, Stormy has offered to pay back the $130,000 that she received under the non-disclosure agreement.
Remember that her lawyer’s argument, which I think is pretty weak, is that the agreement was invalid because Trump did not sign it. Accepting that theory, I think that Stormy could take a “claim of right” credit on her 2018 return. Under Code Section 1341 she would get to recompute her 2016 return without the $130,000 and claim the difference as a credit. Otherwise, I think she might have to capitalize the payment, which is not a good result.