[Federal Register Volume 71, Number 164 (Thursday, August 24, 2006)]
[Proposed Rules]
[Pages 50250-50273]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 06-7073]



[[Page 50249]]

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Part V





Department of Agriculture





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Food and Nutrition Service



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7 CFR Part 250



Revisions and Clarifications in Requirements for the Processing of 
Donated Foods; Proposed Rule

  Federal Register / Vol. 71, No. 164 / Thursday, August 24, 2006 / 
Proposed Rules  

[[Page 50250]]


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DEPARTMENT OF AGRICULTURE

Food and Nutrition Service

7 CFR Part 250

RIN 0584-AD76


Revisions and Clarifications in Requirements for the Processing 
of Donated Foods

AGENCY: Food and Nutrition Service, USDA.

ACTION: Proposed rule.

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SUMMARY: This rule proposes to revise and clarify requirements for the 
processing of donated foods, in order to incorporate processing options 
tested in demonstration projects, to more effectively ensure 
accountability for donated foods provided for processing, and to 
streamline current reporting and review requirements. Most 
significantly, it would require multi-State processors to enter into 
National Processing Agreements to process donated foods into end 
products, and would permit processors to substitute donated beef and 
pork with commercially purchased beef and pork of U.S. origin and of 
equal or better quality than the donated food. The rule would also 
rewrite regulatory provisions in plain language, to make them easier to 
read and understand for the general public.

DATES: To be assured of consideration, comments must be received on or 
before November 22, 2006.

ADDRESSES: The Food and Nutrition Service invites interested persons to 
submit comments on this proposed rule. You may submit comments, 
identified by RIN number 0584-AD76, by any of the following methods:
    E-mail: Send comments to [email protected]. Include RIN 
number 0584-AD76 in the subject line of the message.
    Fax: Submit comments by facsimile transmission to (703) 305-2420. 
Disk or CD-ROM: Submit comments on disk or CD-ROM to Lillie F. Ragan, 
Assistant Branch Chief, Policy Branch, Food Distribution Division, Food 
and Nutrition Service, U.S. Department of Agriculture, Room 500, 3101 
Park Center Drive, Alexandria, Virginia 22302-1594.
    Mail: Send comments to Lillie F. Ragan at the above address.
    Hand Delivery or Courier: Deliver comments to the above address.
    Federal eRulemaking Portal: Go to http://www.regulations.gov. 
Follow the online instructions for submitting comments.
    Further information on the submission of comments, or the review of 
comments submitted, may be found under SUPPLEMENTARY INFORMATION, Part 
III, Procedural Matters.

FOR FURTHER INFORMATION CONTACT: Lillie F. Ragan at the above address 
or telephone (703) 305-2662. You may also contact Robert DeLorenzo by 
e-mail at [email protected].

SUPPLEMENTARY INFORMATION: 

I. Background

    The Department of Agriculture (the Department or USDA) provides 
donated foods to State distributing agencies for distribution to school 
food authorities participating in the National School Lunch Program 
(NSLP), and to recipient agencies in other child nutrition or food 
distribution programs. In accordance with Federal regulations in 7 CFR 
Part 250, distributing agencies may provide the donated foods to 
commercial processors for processing into end products that are more 
suitable for use in school lunch programs or other food programs. The 
regulations ensure that State and local agencies, and program 
recipients, receive the full benefit of the donated foods provided to 
such processors for processing into end products. Distributing agencies 
must enter into agreements with processors to ensure compliance with 
the requirements in Federal regulations.
    Over the last 30 years or so, the quantity and variety of donated 
foods provided in the National School Lunch Program has increased 
substantially. Consequently, the processing of the donated foods into 
more useful end products has become an integral part of the successful 
operation of the school lunch program. In the last several years, the 
Department's Food and Nutrition Service (FNS) has taken a number of 
steps to facilitate the use of donated foods by commercial processors 
in the interest of providing more efficient and effective service to 
school food authorities and other recipient agencies. Most of these 
changes have been implemented as a result of discussions with State and 
local program operators, processors, and industry consultants.
    In a final rule published in the Federal Register on October 23, 
2002 at 67 FR 65011, 7 CFR Part 250 was amended to expand the types of 
donated foods that processors were permitted to substitute with 
commercially purchased foods without prior FNS approval. The rule 
permitted processors to substitute donated fruits, vegetables, and eggs 
with commercially purchased foods of the same generic identity, of U.S. 
origin, and of equal or better quality than the donated foods. 
Additionally, limited substitution of donated poultry was permitted, in 
accordance with the processor's approved plan. Substitution allows 
processors to provide finished end products to school food authorities 
in a more efficient manner, which permits the schools to better utilize 
the donated foods in the school food service. Only the substitution of 
donated beef and pork is currently prohibited.
    Since June 30, 2001, FNS has conducted a demonstration project to 
allow selected processors to substitute commercially purchased beef and 
pork for donated beef and pork, in accordance with an approved plan. 
The commercial product must be of U.S. origin, and of equal or better 
quality than the donated food. Since USDA's purchase specifications for 
ground beef and pork are more stringent than commercially available 
ground beef and pork, few processors have chosen to participate in the 
demonstration project. However, FNS has concluded that all processors 
should have the option to substitute commercial beef and pork, as long 
as they can meet the same specifications required of donated beef and 
pork.
    In July 2004, FNS initiated a demonstration project to allow multi-
State processors to submit end product data schedules to FNS for review 
and approval at the national level, rather than submitting them to 
State distributing agencies for their approval. End product data 
schedules indicate the required yield of donated foods that must be 
obtained in their processing into end products. Their review and 
approval, however, is a time and labor-intensive activity for State 
distributing agencies. Since processors are not required to submit end 
product data schedules for approval in each State in which they 
operate, national approval under the demonstration project has reduced 
the time and labor burden considerably for both distributing agencies 
and processors.
    In conjunction with the demonstration project allowing national 
approval of end product data schedules, FNS has provided multi-State 
processors with the option of signing National Processing Agreements. 
Under the National Processing Agreement, FNS monitors the processor's 
national inventory of donated foods, and holds and manages the 
processor's performance bond or letter of credit, which protects the 
value of the processor's donated food inventories. The monitoring and 
protection of donated food inventories held by processors at the 
national level has further reduced the burden on distributing agencies. 
FNS has entered

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into National Processing Agreements with an increasing number of multi-
State processors since the initiation of the demonstration project. 
Under their State processing agreements (called State Participation 
Agreements), distributing agencies select the processor's nationally 
approved end products for sale in the State, and may include other 
State-specific processing requirements.
    The regulatory amendments proposed in this rule would incorporate 
into 7 CFR Part 250 the processing options provided under the 
demonstration projects described above. They would also more 
effectively ensure accountability for donated foods provided for 
processing while streamlining current reporting and review requirements 
imposed on State distributing agencies and processors. Most 
significantly, the rule proposes to:
    (1) Permit substitution of donated beef and pork with commercial 
beef and pork of U.S. origin, and of equal or better quality than the 
donated foods;
    (2) Require multi-State processors to sign National Processing 
Agreements with FNS, and to submit end product data schedules to the 
Department for approval at the national level;
    (3) Require multi-State processors to submit a performance bond or 
letter of credit to FNS to protect the value of the processors' donated 
food inventories;
    (4) Require in-State processors to obtain independent Certified 
Public Accountant (CPA) audits every three years, and revise upward the 
donated food value thresholds that determine the required frequency of 
such audits for multi-State processors; and
    (5) Remove the requirements that the distributing agency conduct an 
on-site review of in-State processors every two years, and develop a 
system to verify sales of end products through commercial distributors.
    As discussed below, we propose to amend current Sec. Sec.  250.3, 
250.13, 250.16, 250.17, 250.19, and 250.24, and to completely revise 
Sec.  250.18, and Sec.  250.30 under Subpart C, Processing and Labeling 
of Donated Foods. The revision of Subpart C would break out the single 
section in that subpart into 10 new sections to more clearly present 
the specific processing requirements. Lastly, we propose to rewrite all 
revised sections in plain language, to make them easier to read and 
understand for the general public. The proposed changes to 7 CFR Part 
250 are discussed in detail below.

II. Discussion of the Rule's Provisions

A. Definitions, Sec.  250.3

    Due to developments in food distribution programs, and for the 
purpose of clarification, we propose to remove, revise, and add 
definitions in current Sec.  250.3 relating to processing of donated 
foods. We propose to remove the definitions of ``Contract value of the 
donated foods'', ``Contracting agency'', ``Discount system'', ``Fee-
for-service'', ``Refund'', ``Refund application'', ``Refund system'', 
and ``Substituted food''. The proposed definition of ``Processing 
agreement value'' would replace the current definition of ``Contract 
value of the donated foods''. The term ``contracting agency'' would be 
replaced throughout the proposed regulatory provisions with the 
specific agency (i.e., distributing and/or recipient agency) that may 
enter into a processing agreement. The meaning of the other terms being 
removed is clear in the context of the proposed regulatory provisions, 
and no longer require separate definitions.
    We propose to revise the definitions of ``Distributor'', ``Multi-
State processor'' and ``Substitution''. The revised definition of 
``Distributor'' would clarify that it is a commercial enterprise that 
may sell and/or deliver finished end products or store and distribute 
donated foods to distributing or recipient agencies. We propose to 
revise the current definition of ``Multi-State processor'' only to 
indicate that such a processor may operate in accordance with an 
agreement with a distributing or recipient agency.
    Lastly, we propose to revise the definition of ``Substitution'' to 
simply indicate that it is the use of commercially purchased foods in 
place of donated foods, in accordance with the requirements in 7 CFR 
Part 250, as we propose to revise them in this rule. The current 
requirement that substitution of donated foods must be with commercial 
foods of the same generic identity, of domestic origin, and of equal or 
better quality than the donated food, would be included in the new 
Sec.  250.34(a), as proposed in this rule.
    The current provision for the substitution of donated nonfat dry 
milk with concentrated skim milk would be removed. Nonfat dry milk is a 
food commonly purchased by the Department under price support 
legislative authority and donated for use in food assistance programs. 
Hence, substitution of this donated food is rarely made at the current 
time, and is not encouraged by the Department. Additionally, it is a 
very complex substitution to make, as the processor must assure that 
the milk solids in the skim milk fully replace the quantity of milk 
solids in the substituted nonfat dry milk. The current stipulation that 
substitution must meet the 100 percent yield requirement would be 
removed, as processing yield requirements for donated foods, as well as 
commercially purchased foods substituted for them, would be included in 
the new Sec.  250.33.
    The provision describing the limited substitution of poultry would 
be removed. As proposed in the new Sec.  250.34, we would allow 
substitution of donated poultry under the same conditions as 
substitution of other donated foods, with the exception of backhauled 
product. All proposed requirements for the substitution of donated 
foods are fully discussed later in section II.H.5 of the preamble.
    We propose to add definitions of ``Backhauling'', ``Commingling'', 
``End product data schedule'', ``In-State processor'', ``National 
Processing Agreement'', ``Processing agreement value'', ``Recipient 
Processing Agreement'', ``Replacement value'', ``7 CFR Part 3052'', 
``Split shipment'', ``State Participation Agreement'', and ``State 
Processing Agreement''. A definition of ``Backhauling'' would describe 
a means of delivery of donated food to a processor that is sometimes 
used by recipient agencies. A definition of ``Commingling'' would 
describe the common storage of donated foods with commercially 
purchased foods, as currently permitted for processors and most 
recipient agencies. A definition of ``End product data schedule'' would 
convey the important function of this document in describing the 
processing of donated foods into finished end products. A definition of 
``In-State processor'' would help the reader distinguish such an 
enterprise from a multi-State processor. Definitions of ``National 
Processing Agreement'', ``Recipient Processing Agreement'', ``State 
Participation Agreement'', and ``State Processing Agreement'' would 
help the reader understand the different types of processing agreements 
permitted. These processing agreements are further described in the new 
Sec.  250.30. A definition of ``Processing agreement value'' would 
clarify the donated food value that must be used by processors in 
crediting for donated foods in finished end products. A definition of 
``7 CFR Part 3052'' would identify the Departmental regulations 
relating to audit requirements for State and local governments and 
nonprofit organizations that receive Federal grants. A definition of 
``Replacement value'' would clarify the donated food

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value that must be used by processors to ensure compensation for 
donated foods lost in processing or other activities, and would 
distinguish it from the processing agreement value. A definition of 
``Split shipment'' would describe a commonly used means of delivering 
donated foods to distributing or recipient agencies, or to processors.

B. Distribution and Control of Donated Foods, Sec.  250.13

    We propose to amend current Sec.  250.13(c), which describes the 
timing of transfer of title to donated foods, and the agency to which 
title is transferred. Currently, title to donated foods transfers to 
the distributing agency upon its acceptance of donated foods at the 
time and place of delivery. However, in many cases, recipient agencies 
receive direct shipments of donated foods from USDA vendors, bypassing 
the distributing agency. In such cases, title should pass directly to 
the recipient agency. Hence, we propose to state that title to donated 
foods passes to the distributing or recipient agency, as appropriate, 
at the time and place of delivery. However, we also propose to add an 
exception to the timing of title transfer, in accordance with the 
requirements under National Processing Agreements proposed in this 
rule. In the new Sec.  250.32(a), we are proposing to require a multi-
State processor to provide a performance bond or letter of credit to 
FNS to protect the value of the processor's donated food inventory, in 
accordance with its National Processing Agreement. However, unless the 
Department retains title to the donated foods held by such a processor, 
FNS would not have the authority to call in the bond if the processor 
failed to comply with processing requirements. Hence, we propose to 
state that title to donated foods provided to a multi-State processor, 
in accordance with its National Processing Agreement, transfers to the 
distributing or recipient agency, as appropriate, upon the acceptance 
of finished end products at the time and place of delivery. We propose 
to stipulate that, notwithstanding transfer of title, the distributing 
agency must ensure that donated foods and end products are used in 
accordance with the requirements of 7 CFR Part 250.

C. Maintenance of Records, Sec.  250.16

    In current Sec.  250.16(a)(3), distributing agencies are required 
to maintain records of refusal of donated foods by school food 
authorities, if a distributing agency permits those school food 
authorities to select a limited variety of donated foods from the full 
list of donated foods that USDA has made available for distribution. 
Such an ``offer and refusal'' system is described in current Sec.  
250.48(f). However, in accordance with a proposed rule published in the 
Federal Register on June 8, 2006 at 71 FR 33344, we would remove the 
``offer and refusal'' system of ordering or selecting donated foods and 
require that the distributing agency permit school food authorities to 
order from the full list of available foods, and to distribute all such 
foods to them that can be distributed in a cost-effective manner. Under 
that proposed revision, refusal of donated foods, and records 
documenting such refusals, would be obsolete. Hence, we propose to 
remove current Sec.  250.16(a)(3).
    In current Sec.  250.16(a)(4), processors, food service management 
companies, warehouses, and other entities must maintain records of 
receipt, distribution, storage, and inventory of donated foods. 
Processors must also maintain records such as formulas, recipes, 
production records, and receipt of shipments to document their use of 
donated foods. As discussed later in the preamble, we are proposing to 
include specific recordkeeping requirements for processors in the new 
Sec.  250.37(d), and in the proposed rule published in the Federal 
Register on June 8, 2006 at 71 FR 33344, we proposed to include 
specific recordkeeping requirements for food service management 
companies. Hence, we propose to revise this section to state that 
processors and food service management companies must comply with the 
applicable recordkeeping requirements in 7 CFR Part 250, and with any 
other recordkeeping requirements included in their agreements or 
contracts. We also propose to require that storage facilities and 
distributors maintain records documenting the receipt, distribution, 
inventory, and disposal of donated foods or end products sufficient to 
ensure compliance with requirements in 7 CFR Part 250, and with any 
other such requirements in their agreements or contracts with 
distributing or recipient agencies. The specific types of records that 
such entities would have to maintain would depend on the agency with 
which they have a contract or agreement, and the specific donated food 
activities they are conducting under the contract or agreement.
    In accordance with the proposed removal of Sec.  250.16(a)(3), we 
would redesignate current Sec.  250.16(a)(4), (a)(5), and (a)(6), as 
Sec.  250.16(a)(3), (a)(4), and (a)(5), respectively.

D. Reports, Sec.  250.17

    Current Sec.  250.17(b) and (c) contains reporting requirements to 
ensure processors' compliance with requirements in 7 CFR Part 250. In 
current Sec.  250.17(b), the distributing agency must submit a report 
of processors' inventories to the FNS Regional Office on a quarterly 
basis (this requirement is also contained in current Sec.  250.30(o)). 
In current Sec.  250.17(c), processors must submit monthly performance 
reports to the distributing agency. We propose to remove Sec.  
250.17(b). FNS Regional Offices do not currently review reports of 
processors' donated food inventories. The distributing agency is 
responsible for monitoring such inventories through the review of 
processors' performance reports, and, in accordance with current Sec.  
250.30(n)(1), to ensure that processors do not maintain excessive 
inventories. As discussed in section II.H.8 of the preamble, we are 
proposing to include more specific reporting requirements for 
processors in the new Sec.  250.37. Under the proposals, multi-State 
processors would be required to submit monthly reports of their 
national donated food inventories to FNS Headquarters for review. 
Accordingly, we propose to revise current Sec.  250.17(c) (redesignated 
as paragraph (b) by this rule) to require processors to submit 
performance reports and other supporting documentation, as required by 
the distributing agency or by FNS. In accordance with the removal of 
Sec.  250.17(b), we would redesignate current Sec.  250.17(c), (d), and 
(e), as Sec.  250.17(b), (c), and (d), respectively. We propose to 
remove current Sec.  250.17(f), which stipulates that the date shown on 
a report submitted by facsimile machine may serve as the submission 
date.

E. Audits, Sec.  250.18

    Currently, Sec.  250.18 describes audit requirements for 
distributing and recipient agencies and for multi-State processors. We 
propose to revise this section to clarify audit requirements for 
distributing and recipient agencies, to include new audit requirements 
for in-State processors, and to amend audit requirements for multi-
State processors.
    In current Sec.  250.18(a), fiscal matters must be reviewed in 
audits conducted under the Single Audit Act, and in accordance with 
Departmental regulations in 7 CFR Part 3015. However, the current 
Departmental regulations establishing audit requirements for State and 
local governments and nonprofit organizations that receive Federal 
grants

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are contained in 7 CFR Part 3052, which incorporates requirements in 
OMB Circular A-133. In accordance with 7 CFR Part 3052 and OMB Circular 
A-133, a State or local government or nonprofit organization that 
expends at least $500,000 in Federal awards in a school or fiscal year 
must obtain a single audit for that year. A program-specific audit may 
be substituted for the single audit if the auditee operates only one 
Federal program, or one recognized cluster of programs (e.g., National 
School Lunch, School Breakfast, and Summer Food Service Programs). A 
State or local government or nonprofit organization that expends less 
than $500,000 in Federal awards in a year is not required to obtain an 
audit for that year. In determining if an audit is required, the value 
of donated foods must be considered, along with other Federal 
expenditures.
    We propose to include these audit requirements in the new Sec.  
250.18(a), as they apply to distributing and recipient agencies, and to 
reference the Departmental regulations in 7 CFR Part 3052. We also 
propose to require that the donated food values established by the 
distributing agency to credit a recipient agency's donated food 
assistance level, in accordance with current Sec.  250.13(a)(5), must 
be used. We would indicate that, for a recipient agency utilizing a 
single inventory management system, the value of donated foods received 
in a year must be considered, rather than the value of donated foods 
used or distributed. Under single inventory management, donated foods 
are commingled with commercially purchased foods, and the amount or 
value used or distributed may not be discernible.
    The requirements contained in 7 CFR Part 3052 and OMB Circular A-
133 do not apply to commercial enterprises providing goods and services 
to distributing or recipient agencies in accordance with agreements or 
contracts. However, in accordance with current Sec.  250.18(b), multi-
State processors must obtain an independent CPA audit at a frequency 
determined by the value of the donated foods they receive for 
processing in a year. Currently, a multi-State processor must obtain an 
independent CPA audit for any year in which it receives more than 
$250,000 in donated foods; every two years, if it receives $75,000 to 
$250,000 in donated foods each year; and every three years, if it 
receives less than $75,000 in donated foods each year. Such audits must 
be paid for by the processor.
    In-State processors are not currently required to obtain an 
independent CPA audit. In order to ensure their compliance with program 
requirements, the distributing agency must conduct an on-site review of 
such processors at least once every two years, in accordance with 
current Sec.  250.19(b)(1)(iii). However, the performance of on-site 
reviews is a costly and time-consuming exercise for distributing 
agencies. Hence, we propose instead to require in-State processors to 
obtain independent CPA audits as well, and, as discussed in section 
II.F of the preamble, to remove the on-site review requirement 
currently imposed on the distributing agency for such processors.
    In the new Sec.  250.18(b), we propose to require that all in-State 
processors obtain an independent CPA audit in the first year that they 
receive donated foods for processing. We propose to require that, after 
the first year, in-State processors obtain an independent CPA audit 
every three years. As currently required for multi-State processors, we 
propose to require that in-State processors pay the cost of the audit. 
We propose to amend the current audit requirement for multi-State 
processors by requiring that a multi-State processor obtain an 
independent CPA audit in each of the first three years that it receives 
donated foods for processing. After the first three years, a multi-
State processor must obtain an audit at a frequency determined by the 
average value of donated foods received for processing per year, as 
currently required. However, we propose to revise upward the current 
thresholds for determining the required frequency of such audits to 
reflect the much larger volume of donated foods provided to such 
processors for processing over the last several years. Hence, we 
propose to require a multi-State processor to obtain an independent CPA 
audit:
    (1) Annually, if it receives, on average, more than $5,000,000 in 
donated foods for processing per year;
    (2) Every two years, if it receives, on average, between $1,000,000 
and $5,000,000 in donated foods for processing per year; and
    (3) Every three years, if it receives, on average, less than 
$1,000,000 in donated foods for processing per year.
    As in audits of distributing and recipient agencies, we propose to 
require that the donated food values established by the distributing 
agency in accordance with current Sec.  250.13(a)(5) must be used to 
determine if an audit is required. We also propose to clarify that 
audits must determine processor compliance with the requirements in 
this part, and must be conducted in accordance with the FNS Audit Guide 
for Processors. However, we propose to remove the current stipulation 
that, at the discretion of FNS, auditors will be required to attend 
training sessions conducted by the Department.
    In the new Sec.  250.18(c), we propose to indicate that a 
distributing or recipient agency must submit reports and corrective 
action plans, and undertake corrective actions in response to the 
audit, in accordance with the requirements in 7 CFR Part 3052. We 
propose to clarify that, by December 31st of each year in which an 
audit is required, a multi-State processor is responsible for ensuring 
that a copy of the audit is provided to FNS, while an in-State 
processor must ensure that a copy of the audit is provided to the 
distributing agency. We also propose to include the requirement in 
current Sec.  250.18(b)(6) that the processor provide verification to 
FNS, or the distributing agency, as appropriate, that all deficiencies 
identified in the audit have been corrected, or provide a corrective 
action plan with timelines for correcting all deficiencies identified 
in the audit.
    In the new Sec.  250.18(d), we propose to indicate that a 
distributing or recipient agency is subject to sanctions for failure to 
obtain the required audit, or for failure to correct deficiencies 
identified in audits. Such sanctions may include the withholding, 
suspension, or termination of a Federal award. In current Sec.  
250.18(b)(5), noncompliance with audit requirements makes the processor 
ineligible to continue to receive donated foods for processing. We 
propose to state that FNS may terminate a processor's National 
Processing Agreement, or prohibit the further distribution of donated 
foods to a processor, for its failure to obtain the required audit, or 
for failure to correct the deficiencies identified in the audit. We 
propose to state that a distributing or recipient agency may 
immediately terminate an agreement with a processor, and must not 
extend or renew such an agreement, for the same reasons, in accordance 
with the new Sec.  250.38(e).
    In current Sec.  250.18(a), the Department, the Comptroller General 
of the United States, or any of their authorized representatives, may 
conduct audits or inspections of distributing, subdistributing, or 
recipient agencies, or with commercial enterprises with which they have 
agreements or contracts, to assure compliance with the requirements of 
this part. We propose to maintain that and move it to new Sec.  
250.18(e).

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F. Reviews, Sec.  250.19

    As previously described, we propose to remove current Sec.  
250.19(b)(1)(iii), which requires the distributing agency to perform an 
on-site review of all in-State processors at least once every two 
years. In accordance with the removal of Sec.  250.19(b)(1)(iii), we 
would redesignate current Sec.  250.19(b)(1)(iv) and (b)(1)(v), as 
Sec.  250.19(b)(1)(iii) and (b)(1)(iv), respectively.
    Currently, in Sec.  250.19(b)(2), the distributing agency must 
develop a system to verify sales of end products when a processor has 
provided end products to a distributor, and the distributor sells such 
end products to recipient agencies at a discount. The sales 
verification system must include a statistically valid sample of such 
sales over a six-month period. If the distributing agency delegates 
this sales verification requirement to the processor, it must select a 
subsample of the processor's findings, and reverify them. Current 
regulations also require the distributing agency to submit sales 
verification findings to the FNS Regional Office. The purpose of such 
sales verification is to assure that the distributor has sold the 
requisite quantity of end products to recipient agencies.
    We propose to remove Sec.  250.19(b)(2), and the requirement that 
the distributing agency develop a sales verification system, as 
described above. In the new Sec. Sec.  250.36(d) and 250.37(d), as 
described later in the preamble, we are proposing to require the 
processor to ensure that the distributor notify it, on a monthly basis, 
of its sale of end products to recipient agencies at a discount, or 
under a fee-for-service, through automated sales reports, or other 
electronic or written submission, and to require the processor to 
maintain records of such notification. These records would be available 
for review by auditors, in conducting the audits required in the 
proposed Sec.  250.18. We are also proposing, in the new Sec.  
250.37(f), to require recipient agencies to maintain records of the 
receipt of end products from processors or distributors. These records 
would also be available for review by the distributing agency or other 
parties, including auditors. Hence, in place of the current burden 
imposed on the distributing agency to develop a system to verify end 
product sales, we would ensure, through appropriate documentation, that 
such sales have been made, and that recipient agencies have received 
the end products that they are due. The distributing agency may still 
require, at its option, that the processor submit documentation to 
support information included in the processor's performance report, 
including sales of end products to recipient agencies. The distributing 
agency may also contact recipient agencies to ensure receipt of end 
products.
    In accordance with the removal of Sec.  250.19(b)(2), we would 
redesignate current Sec.  250.19(b)(3), (b)(4), (b)(5), and (b)(6), as 
Sec.  250.19(b)(2), (b)(3), (b)(4), and (b)(5), respectively. However, 
we propose to remove the last sentence in the redesignated Sec.  
250.19(b)(2), which requires the distributing agency to submit a copy 
of the processor review report to the FNS Regional Office.

G. Distributing Agency Performance Standards, Sec.  250.24

    In current Sec.  250.24(g), distributing agencies must provide for 
the processing of donated foods, in accordance with current Sec.  
250.30, and must inform recipient agencies of the processing options 
available to them. Distributing agencies must also test end products, 
prior to entering into a processing agreement, or may allow recipient 
agencies to test end products, and must monitor acceptability of end 
products. We propose to retain the current requirements in the revised 
Sec.  250.24(g), but to reference requirements under Subpart C, and to 
clarify that the distributing agency must ensure that recipient 
agencies are aware of the processing options available to them. Most of 
the information on processing is available on the FNS Web site or from 
other readily available sources, as indicated in the new Sec.  
250.39(b).

H. Subpart C--Processing of Donated Foods

    As previously mentioned, we propose to completely revise current 
Subpart C, Processing and Labeling of Donated Foods, which currently 
contains only Sec.  250.30. In revising Subpart C, we would restructure 
it into 10 new sections, to more clearly present the specific 
processing requirements, and would rewrite them in plain language. We 
propose to include the requirements for specific processing activities 
more or less in the order in which they occur; i.e., entering into 
processing agreements, processing of donated foods into end products, 
sale of end products, submission of reports, etc. We also propose to 
change the heading of Subpart C to Processing of Donated Foods.  The 
new sections proposed under the revised Subpart C include the 
following:
    250.30, Types of processing agreements.
    250.31, Procurement requirements.
    250.32, Protection of donated food value.
    250.33, Processing yields of donated foods.
    250.34, Substitution of donated foods.
    250.35, Storage, inspection, quality control, and inventory 
management.
    250.36, End product sales and crediting for the value of donated 
foods.
    250.37, Reports, records, and reviews of processor performance.
    250.38, Provisions of agreements.
    250.39, Miscellaneous provisions.
1. Types of Processing Agreements, Sec.  250.30
    In the new Sec.  250.30, we propose to state clearly why donated 
foods are provided to processors for processing, and to describe the 
different types of processing agreements permitted, including National, 
State, and Recipient Processing Agreements. However, we propose to 
include the specific provisions required for each type of agreement in 
the new Sec.  250.38, as the reason for their inclusion will only be 
clear with an understanding of the processing requirements contained in 
the preceding sections.
    In the new Sec.  250.30(a), we propose to describe the benefit of 
providing donated foods to a processor for processing into end 
products, and to clarify that a processor's use of a commercial 
facility to repackage donated foods, or to use donated foods in the 
preparation of meals, is also considered processing in 7 CFR Part 250.
    In current Sec.  250.30(b), a distributing agency may contract with 
a processor to process donated foods, or may permit subdistributing or 
recipient agencies to contract with processors. In current practice, 
such contracting is performed under agreements entered into between the 
parties; hence, in this rule, we use the term agreement, rather than 
contract, to describe any legal compact entered into with a processor 
to process donated foods. Currently, most donated foods are processed 
in accordance with State Processing Agreements. However, some large 
school food authorities currently have agreements with processors to 
process donated foods and purchase the finished end products, as 
permitted by distributing agencies. Additionally, as previously 
described, FNS has permitted multi-State processors to process donated 
foods in accordance with National Processing Agreements under a 
demonstration project initiated in 2004.

[[Page 50255]]

    In the new Sec.  250.30(b), we propose to clarify that processing 
of donated foods must be performed in accordance with an agreement 
between the processor and FNS, between the processor and the 
distributing agency, or, if permitted by the distributing agency, 
between the processor and a recipient agency (or subdistributing 
agency). We propose to include in new Sec.  250.30(b) the stipulation 
in current Sec.  250.30(c)(4)(ix) that an agreement may not obligate 
the distributing or recipient agency, or the Department, to provide 
donated foods to a processor for processing. USDA purchase and donation 
of foods is dependent on market conditions, and specific foods may not 
be available for donation in certain years. Additionally, we propose to 
retain in this new Sec.  250.30(b) the requirement in current Sec.  
250.30(p) that, for processing of donated foods in child nutrition 
programs, the distributing agency must provide the State administering 
agency (if a different agency) with an opportunity to review its 
processing agreements to ensure compliance with nutritional and 
labeling requirements. We propose to remove the stipulation in current 
Sec.  250.30(c)(1) that a processing agreement must be in standard 
written form.
    In accordance with the National Processing Agreements permitted 
under the demonstration project, FNS reviews and approves end product 
data schedules submitted by multi-State processors, and holds and 
manages the processor's performance bond or letter of credit to protect 
the value of donated food inventories. FNS also monitors the 
processor's national donated food inventory through the review of 
performance reports, which processors must submit to FNS on a monthly 
basis. As previously mentioned, FNS' performance of these activities 
has significantly reduced the labor and paperwork burden for both 
processors and distributing agencies. Hence, in the new Sec.  
250.30(c), we propose to require that a multi-State processor enter 
into a National Processing Agreement with FNS to process donated foods 
into end products, in accordance with end product data schedules 
approved by FNS. We would also indicate that, as proposed in the new 
Sec.  250.32, FNS holds and manages the processor's performance bond or 
letter of credit to protect the value of donated food inventories under 
the National Processing Agreement. We would indicate that FNS does not 
itself procure or purchase end products under such agreements, and that 
a multi-State processor must enter into a State Participation Agreement 
with the distributing agency in order to sell nationally approved end 
products in the State, as proposed in the new Sec.  250.30(d). However, 
a distributing agency may still choose to provide donated foods to a 
multi-State processor for processing in accordance with its State 
Processing Agreement, as described below, irrespective of that 
processor's National Processing Agreement.
    In the new Sec.  250.30(d), we propose to require the distributing 
agency to enter into a State Participation Agreement with a multi-State 
processor to permit the sale of end products produced under the 
processor's National Processing Agreement in the State, as previously 
indicated. The State Participation Agreement is currently utilized in 
conjunction with National Processing Agreements in the demonstration 
project. Under the State Participation Agreement, we propose to permit 
the distributing agency to select the processor's nationally approved 
end products for sale to eligible recipient agencies within the State, 
or to directly purchase such end products. The processor may provide a 
list of such nationally approved end products in a summary end product 
data schedule. We also propose to permit the distributing agency to 
include other processing requirements in the State Participation 
Agreement, such as the specific methods of end product sales permitted 
in the State, in accordance with the new Sec.  250.36, (e.g., a refund, 
discount, or indirect discount method of sales), or the use of labels 
attesting to fulfillment of meal pattern requirements in child 
nutrition programs.
    Currently, a distributing agency must enter into a State Processing 
Agreement with a processor to process donated foods into finished end 
products for sale in the State. Under such an agreement, the 
distributing agency may purchase the finished end products for 
distribution to eligible recipient agencies. However, it may also 
select a number of processors with which it enters into such 
agreements, and permit recipient agencies to purchase finished end 
products from them, in accordance with applicable procurement 
requirements. These latter types of State Processing Agreements are 
commonly called ``master agreements''. The distributing agency must 
utilize selection criteria in current Sec.  250.30(c)(1) to select 
processors with which to enter into master agreements. Under all State 
Processing Agreements, the distributing agency must approve end product 
data schedules submitted by the processor, hold and manage the 
processor's performance bond or letter of credit, and assure compliance 
with all processing requirements.
    In the new Sec.  250.30(e), we propose to clarify the distinction 
between master agreements and other State Processing Agreements, and to 
include in this new section the required criteria in current Sec.  
250.30(c)(1) for selecting processors under master agreements. However, 
we propose to remove the statement that selection criteria will be 
reviewed by the FNS Regional Office during its management evaluation of 
the distributing agency. We propose to require that the distributing 
agency enter into a State Processing Agreement with an in-State 
processor to process donated foods, as currently required. We would 
also indicate that the distributing agency may choose to provide 
donated foods for processing under such an agreement with a multi-State 
processor as well, rather than utilize the State Participation 
Agreement, as described above.
    In current Sec.  250.30(b)(3), the distributing agency may permit 
recipient agencies (or subdistributing agencies) to enter into 
agreements with processors to process donated foods and to purchase the 
finished end products. We propose to permit such agreements in the new 
Sec.  250.30(f), and to refer to them as Recipient Processing 
Agreements. We also propose to clarify that, under such agreements, the 
distributing agency may also permit the recipient agency to approve end 
product data schedules or select nationally approved end product data 
schedules, review processor performance reports, and monitor other 
processing activities. All such activities must be performed in 
accordance with the requirements of this part. We propose to clarify 
that a recipient agency may also enter into a Recipient Processing 
Agreement, and perform the activities described above, on behalf of 
other recipient agencies, in accordance with an agreement between the 
parties (such as in a school cooperative, or co-op). We propose to 
include the requirement in current Sec.  250.30(l) that the 
distributing agency approve all Recipient Processing Agreements.
    In current Sec.  250.30(b)(1), the distributing agency must test 
end products with recipient agencies prior to entering into processing 
agreements, to ensure that they will be acceptable to recipient 
agencies. Such testing is not required if end products have previously 
been tested, or have otherwise been determined to be acceptable to 
recipient agencies. We propose to include these requirements in the new 
Sec.  250.30(g), but to clarify that

[[Page 50256]]

the distributing agency may permit recipient agencies to test end 
products. We also propose to amend the current requirement that the 
distributing agency develop a system to monitor product acceptability 
on a periodic basis by requiring instead that the distributing agency, 
or its recipient agencies, must monitor product acceptability on an 
ongoing basis.
    In current Sec.  250.30(c)(4)(xvi), a processor may not assign the 
processing agreement, or subcontract with another entity, to perform 
any aspect of processing without the written consent of the 
distributing agency and the contracting agency. We propose to clarify, 
in the new Sec.  250.30(h), that a processor may not assign any 
processing activities under its processing agreement, or subcontract 
with another entity to perform any aspect of processing, without the 
written consent of the other party to the agreement, which may be the 
distributing, subdistributing, or recipient agency, or FNS. We propose 
to permit the distributing agency to provide the required consent as 
part of its State Participation Agreement with the processor.
    In current Sec.  250.30(c)(1), processing agreements are limited to 
one year, but may provide for an option to extend the agreement for two 
additional one-year periods. In the new Sec.  250.30(i), we propose to 
revise this requirement by permitting all agreements between a 
distributing, subdistributing, or recipient agency and a processor to 
be up to five years in duration. This proposal would permit the 
appropriate agency to determine the length of agreement that would be 
to its best advantage, within the five-year limitation, and would 
reduce the time and labor burden imposed on such agencies. We propose 
to make National Processing Agreements permanent. We propose to 
indicate that amendments to any agreements may be made as needed, with 
the concurrence of the parties to the agreement, and that such 
amendments will be effective for the duration of the agreement, unless 
otherwise indicated.
    We propose to remove the following requirements or statements in 
current Sec.  250.30 relating to processing agreements, as they are 
overly restrictive, or simply unnecessary:
     The requirement in current Sec.  250.30(c)(1) that the FNS 
Regional Office review processing agreements.
     The requirement in current Sec.  250.30(c)(2) that the 
agreement be prepared and reviewed by State legal staff to ensure 
conformance with Federal regulations.
     The statement in current Sec.  250.30(c)(3) indicating 
which official in the processing enterprise must sign the agreement.
     The requirement in current Sec.  250.30(l) that the 
distributing agency provide a copy of the 7 CFR Part 250 regulations to 
processors, and a copy of agreements to the FNS Regional Office.
     The requirement in current Sec.  250.30(q) with respect to 
FNS reviews of processing agreements or reports, and FNS actions 
following from such reviews.
     The stipulation in current Sec.  250.30(r) that FNS will 
provide copies of agreements to persons requesting them.
2. Procurement Requirements, Sec.  250.31
    The requirements for the procurement of goods and services under 
Federal grants are described in 7 CFR Parts 3016 and 3019. 7 CFR Part 
3016 contains the Department's regulations establishing uniform 
administrative requirements for Federal grants and cooperative 
agreements and subawards to State, local, and Indian tribal 
governments; 7 CFR Part 3019 contains the Department's regulations 
establishing uniform administrative requirements for Federal grants and 
cooperative agreements awarded to institutions of higher education, 
hospitals, and other nonprofit organizations. In the new Sec.  
250.31(a), we propose to indicate the applicability of these 
requirements to the procurement of processed end products or of other 
processing services relating to donated foods, and to indicate that 
distributing or recipient agencies may use procurement procedures that 
conform to applicable State or local laws, as appropriate, but must 
ensure compliance with the Federal procurement requirements. We propose 
to remove the reference in current Sec.  250.30(c)(1) to procurement 
standards in Attachment O of OMB Circular A-102, as this circular is 
obsolete.
    In accordance with 7 CFR 3016.36 and 3019.44, procurement of goods 
and services may be performed using small purchase procedures if the 
cost of such procurement does not exceed the simplified acquisition 
threshold, as defined in 41 U.S.C. 403(11), which is currently 
$100,000. Under these procedures, price quotations must be obtained 
from several sources. However, if the cost of such procurement exceeds 
this threshold, sealed bids or competitive proposals must be used. In 
the new Sec.  250.31(b), we propose to indicate the method of 
procurement required in accordance with 7 CFR 3016.36 and 3019.44, and 
the simplified acquisition threshold. We indicate that these methods of 
procurement are more fully described in 7 CFR 3016.36 and 3019.44. We 
also propose to clarify that, if the threshold for determining the 
required method of procurement is lower under State or local laws, as 
applicable, then the distributing or recipient agency is obligated to 
comply with those procedures.
    In the new Sec.  250.31(c), we propose to require specific 
information in procurement documents, to assist recipient agencies in 
ensuring that they receive credit for the value of donated foods in 
finished end products. We propose to require that procurement documents 
include the price to be charged for the finished end product or other 
processing service, the method of end product sales that will be 
utilized, the processing agreement value of the donated food in the 
finished end products, and the location for the delivery of the 
finished end products. We propose to remove current requirements for 
the provision of pricing information outside of the procurement 
process, including:
    (1) The requirement in current Sec.  250.30(c)(4)(ii) that pricing 
information be included with the end product data schedule; and
    (2) The requirements in current Sec.  250.30(d)(3) and (e)(2) that 
the processor provide pricing information summaries to the distributing 
agency, and the distributing agency provide such information to 
recipient agencies, as soon as possible after completion of the 
agreement.
3. Protection of Donated Food Value, Sec.  250.32
    In current Sec.  250.30(c)(4)(viii)(B), the processor is required 
to obtain, and furnish to the distributing agency, financial protection 
to protect the value of donated foods prior to their delivery for 
processing, by means of a performance bond, an irrevocable letter of 
credit, or an escrow account. The distributing agency must determine 
the dollar value of the financial protection, based on the quantity of 
donated foods for which the processor is accountable. In the new Sec.  
250.32(a), we propose to include the current requirement that the 
processor obtain such financial protection, but to remove the option to 
obtain an escrow account, as it is little-used. However, we propose to 
require that a multi-State processor provide the performance bond or 
irrevocable letter of credit to FNS, in accordance with its National 
Processing Agreement. We propose to clarify that the amount of the 
performance bond or letter of credit must be sufficient to cover the

[[Page 50257]]

maximum value of raw or processed donated foods that the processor is 
expected to maintain in inventory at any give time, which is determined 
by the distributing agency or by FNS, as appropriate.
    In the new Sec.  250.32(b), we propose to indicate the conditions 
under which the distributing agency must call in the performance bond 
or letter of credit. We also propose to indicate that FNS will call in 
the performance bond or letter of credit under the same conditions, and 
will ensure that any monies recovered are reimbursed to distributing 
agencies for losses of entitlement foods.
4. Processing Yields of Donated Foods, Sec.  250.33
    In current Sec.  250.30(c)(4), the processor must submit, as part 
of the agreement approval, information regarding the production of an 
end product to ensure that the distributing or recipient agency, as 
appropriate, receives the benefit of the donated food processed. This 
information, which is submitted in a format called the end product data 
schedule, must include the following:
     A description of the end product.
     The types and quantities of donated foods and other 
ingredients needed to produce a specific quantity of end product.
     The yield factor for the donated food.
     The contract value of the donated food.
     Any pricing information in addition to the charge for the 
end product or fee-for-service.
    In the new Sec.  250.33, we propose to retain the required 
submission of the end product data schedule, and to more specifically 
describe the required processing yields of donated food, which is 
currently referred to as the yield factor. In the new Sec.  250.33(a), 
we propose to require submission of the currently required information 
on the end product data schedule, with the exception of the price 
charged for the end product or other pricing information, and the 
contract value of the donated food. As described above, pricing 
information must be included in the procurement of end products or 
other processing services relating to donated foods. Inclusion of such 
information on end product data schedules may be misleading, as it may 
lead some recipient agencies to conclude that procurement has been 
performed by the distributing agency under its State Processing 
Agreement or State Participation Agreement. Prices currently included 
on end product data schedules generally reflect the highest price that 
a processor will charge for the finished end product.
    We also propose to require inclusion of the processing yield of 
donated food, which may be expressed as the quantity of donated food 
(e.g., lbs. or cases) needed to produce a specific quantity of end 
product, or as the percentage of donated food returned in the finished 
end product. We propose to retain the requirement that end product data 
schedules be approved by the distributing agency under State Processing 
Agreements. We propose to clarify that, for donated foods processed 
under guaranteed return or standard yield, the end product data 
schedules must also be approved by the Department. We propose to 
require that, under National Processing Agreements, end product data 
schedules be approved by the Department. Lastly, we propose to clarify 
that an end product data schedule must be submitted, and approved, for 
each new end product that a processor wishes to provide, or for a 
previously approved end product in which the ingredients or other 
pertinent information have been altered.
    In new Sec.  250.33(b) through (e), we propose to describe the 
several different processing yields of donated foods that may be 
approved in end product data schedules. In current Sec.  
250.30(c)(4)(ii), the processor must meet a 100 percent yield in the 
processing of all substitutable donated foods (i.e., all donated foods 
except beef, pork, and poultry). Under 100 percent yield, the processor 
must ensure that 100 percent of the raw donated food is returned in the 
finished end product. Production loss of donated food must be accounted 
for by replacement with commercially purchased food of the same generic 
identity, of U.S. origin, and of equal or better quality than the 
donated food. To demonstrate this, the processor must report reductions 
in donated food inventories on performance reports in the amount of 
donated food contained in the finished end product rather than the 
amount that went into production. We propose to include the current 100 
percent yield requirement in the new Sec.  250.33(b), and to clarify 
that this processing yield is required for all donated foods except 
beef, pork, and poultry. We propose to indicate that FNS may make 
exceptions to the 100 percent yield requirement, on a case-by-case 
basis, if a processor experiences a significant manufacturing loss.
    Processing of donated foods such as beef, pork, and poultry, 
invariably results in significant loss of product, such as the bones in 
chicken. Hence, the processing yield must take such losses into 
account, in the same manner that the processing of commercial product 
accounts for such losses. Currently, the three processing yields 
approved in end product data schedules to account for such losses 
include guaranteed yield, guaranteed minimum yield, and standard yield. 
We propose to describe these processing yields in the following 
sections.
    Under guaranteed yield or return, the processor must ensure that a 
specific quantity of end product will be produced from the specific 
quantity of donated food put into production, as determined by the 
parties to the processing agreement, and, for State Processing 
Agreements, approved by the Department. The guaranteed yield must be 
indicated on the end product data schedule. We propose to describe 
guaranteed yield in the new Sec.  250.33(c).
    Under guaranteed minimum yield or return, the processor must ensure 
that a specific minimum quantity of end product will be produced from 
the specific quantity of donated food in a production run. If a larger 
quantity of end product than the guaranteed minimum is produced, the 
processor must provide the full quantity to the appropriate agency, 
which must pay the processor for the additional end products produced. 
We propose to describe guaranteed minimum yield in the new Sec.  
250.33(d).
    Under standard yield, the processor must ensure that a specific 
quantity of end product, as determined by the Department, will be 
produced from a specific quantity of donated food. The established 
standard yield is higher than the average yield under normal commercial 
production, and serves to reward those processors that can process 
donated foods most efficiently. Like guaranteed yield, standard yield 
ensures that the recipient agency will receive a specific quantity of 
end product, which helps to ensure that it can meet its food service 
needs. It also avoids the paperwork and review needed to ensure that 
guaranteed minimum yield is met. We propose to describe standard yield 
in the new Sec.  250.33(e).
    In the new Sec.  250.33(f), we propose to require that the 
processor compensate the distributing or recipient agency, as 
appropriate, for the loss of donated foods, or for commercially 
purchased foods substituted for donated foods. Loss of donated foods 
may result for a number of reasons, including the processor's failure 
to meet the required processing yield, as described above, or from 
spoilage or damage of donated foods in storage, or improper 
distribution of end products. In order to compensate for such losses of 
donated

[[Page 50258]]

foods, we propose to require that the processor:
    (1) Replace the lost donated food or commercial substitute with 
commercially purchased food of the same generic identity, of U.S. 
origin, and of equal or better quality than the donated food; or
    (2) Pay the distributing or recipient agency, as appropriate, for 
the replacement value of the donated food or commercial substitute.
    Processing of donated foods may sometimes result in finished end 
products that are wholesome, but do not meet the specifications 
required for use in the recipient agency's food service. As this is 
considered production loss, the processor must provide compensation for 
the donated foods processed into such end products. In normal business 
practice, such products are usually returned to production for 
processing into end products that meet required specifications. These 
are often called rework products. In the new Sec.  250.33(g), we 
propose to require that the processor compensate the distributing or 
recipient agency, as appropriate, for such donated foods, or for 
commercially purchased foods substituted for donated foods, by 
returning the end products to production for processing into end 
products that meet the required specifications. However, we also 
propose to permit the processor to make such compensation by paying the 
distributing or recipient agency, as appropriate, for the replacement 
value of the donated food or commercial substitute in the end products, 
and retaining such end products for its own use. This option would not, 
however, be permitted under guaranteed return or standard yield.
    In current Sec.  250.30(c)(4)(viii)(D), the processor must credit 
the distributing or recipient agency, as appropriate, for the sale of 
any by-products resulting from the processing of donated foods, or of 
commercially purchased foods substituted for donated foods. Crediting 
must be achieved through reduction of the processing fee, and must be 
in the amount received from such sale, or the market value of the by-
products. However, such crediting is not required under guaranteed 
return or standard yield. We propose to include this requirement in the 
new Sec.  250.33(h), but propose to require crediting through invoice 
reductions, or another means of crediting. We also propose to clarify 
that the processor must credit the appropriate agency for the net value 
received from the sale of by-products, after subtraction of any 
documented expenses incurred in preparing the by-product for sale. We 
propose to remove the requirement in current Sec.  
250.30(c)(4)(viii)(D) that the processor credit the distributing or 
recipient agency for the sale of donated food containers.
    In current Sec.  250.30(i), the processor must meet applicable 
Federal labeling requirements, and must follow the procedures required 
for approval of labels for end products that claim to meet meal pattern 
requirements in child nutrition programs. We propose to include these 
requirements in the new Sec.  250.33(i).
5. Substitution of Donated Foods, Sec.  250.34
    We propose to include requirements for the substitution of donated 
foods in the new Sec.  250.34. Currently, in Sec.  250.30(f)(1), the 
processing agreement may allow the processor to substitute commercially 
purchased foods for all donated foods except donated beef, pork, and 
poultry without prior approval of the Department. Substitution must be 
with commercially purchased foods of the same generic identity, of U.S. 
origin, and of equal or better quality than the donated foods. 
Substitution of donated poultry is permitted with some limitations in 
accordance with a processor's approved plan. Substitution of donated 
beef and pork is not permitted under the regulations.
    As previously mentioned in the preamble, the Department has waived 
current regulations, since 2001, to conduct a demonstration project 
that has permitted selected processors to substitute commercially 
purchased beef and pork for donated beef and pork, in accordance with 
an approved plan. Substitution must be with commercial beef and pork of 
U.S. origin, and of equal or better quality than the donated food. 
Under the demonstration project, only bulk beef and pork delivered to 
the processor from a USDA vendor may be substituted. Donated beef and 
pork delivered to a processor from a recipient agency facility for 
processing may not be substituted (this process is commonly called 
backhauling). In a similar manner, substitution of backhauled donated 
poultry is prohibited in current Sec.  250.30(f)(1)(ii). In its plan, 
the processor must describe the production and recordkeeping procedures 
that will be utilized to ensure that substitution requirements will be 
met.
    In the new Sec.  250.34(a), we propose to permit a processor to 
substitute any donated food that is delivered to it from a USDA vendor 
with commercially purchased food of the same generic identity, of U.S. 
origin, and of equal or better quality than the donated food. Prior 
approval, or an approved substitution plan, would not be required. 
Hence, we propose to remove the required elements of a processor's plan 
for poultry substitution in current Sec.  250.30(f)(1)(ii)(B).
    In current Sec.  250.30(f)(1)(ii)(A), substitution of commercial 
poultry for donated poultry may be made before the processor actually 
receives a shipment of the donated poultry. In such case, however, the 
processor assumes all risks--i.e., the Department will not be liable 
if, due to changing market conditions or other reasons, it is unable to 
purchase and deliver donated poultry to the processor for processing. 
In the new Sec.  250.34(a), we propose to allow a processor the option 
to substitute any donated food in advance of the receipt of the donated 
food shipment, and to more clearly describe the processor's assumption 
of risk should the Department be unable to purchase and deliver any 
donated food so substituted. Lastly, we propose to require that 
commercially purchased food substituted for donated food meet the same 
processing yield requirements that would be required for the donated 
food, as proposed in the new Sec.  250.33.
    Donated food may be backhauled to a processor from a recipient 
agency facility when a recipient agency determines that, despite 
earlier projections, it is unable to utilize the donated food in its 
current form. Rather than see it go to waste, the recipient agency 
provides the food to a processor to process into a more usable form. 
However, because the food has been sitting in storage for some time, it 
may be approaching the end of its shelf life. Hence, in the interest of 
food safety, it is important to assure that the food is processed and 
used as soon as possible. In the new Sec.  250.34(b), we propose to 
prohibit substitution or commingling of all backhauled donated foods, 
and to require that the processor process them into end products for 
sale and delivery to the recipient agency that provided them, and not 
to any other recipient agency. Additionally, we propose to prohibit the 
processor from providing payment for them in lieu of processing.
    In current Sec.  250.30(g), the processing of donated beef, pork, 
and poultry must occur under Federal acceptance service grading, in 
order to assure that substitution requirements are met. Such grading is 
conducted by the Agricultural Marketing Service (AMS). The grader 
verifies the quality and quantity of food that is put into production, 
and the quantity of end products produced, and includes the pertinent 
information on a

[[Page 50259]]

grading certificate. Federal acceptance service grading is not required 
for substitution of other donated foods, unless specifically requested 
by the Department, or by the distributing agency. In accordance with 
current Sec.  250.30(h), if the distributing agency determines that 
acceptance service grading is to be performed, it must consult with the 
applicable Federal agency in establishing specific grading 
requirements. In all cases, the processor is responsible for paying the 
cost of the acceptance service grading. In current Sec.  250.30(f)(1), 
the processor must maintain records (including grading certificates) 
necessary to document that substitution of all donated foods has been 
conducted in accordance with the requirements in 7 CFR Part 250. We 
propose to include all of these requirements in the new Sec.  
250.34(c).
    In current Sec.  250.30(g), the distributing agency may approve a 
waiver of the grading requirement for donated beef, pork, or poultry 
under certain conditions. We propose to include this contingency, and 
retain the current conditions under which the distributing agency may 
approve such a waiver, in the new Sec.  250.34(d). However, we propose 
to indicate that such waivers may only be approved on a case by case 
basis--i.e., for a specific production run. The distributing agency may 
not approve a blanket waiver of the requirement. We also include the 
current stipulation that a waiver may only be approved if the 
processor's past performance indicates that the quality of the end 
product will not be adversely affected.
    Also, in current Sec.  250.30(f)(1)(ii)(A), the processor may use 
donated poultry that has been substituted with commercially purchased 
poultry in any processing activities conducted at its facilities. 
However, the processor may not sell the donated poultry as an intact 
unit. Additionally, in current Sec.  250.30(f)(2), substituted donated 
food must be used by the processor and may not be sold or disposed of 
in bulk form. In the new Sec.  250.34(e), we propose to include the 
current provision that the processor may use any substituted donated 
food in other processing activities conducted at its facilities. We 
also propose to permit the processor to sell any substituted donated 
food as an intact unit as long as the processor removes all USDA 
labels, as applicable. We propose to remove the stipulation, in current 
Sec.  250.30(f)(4), that title to the substituted donated food passes 
to the processor upon the initiation of processing of the end product 
with the commercial substitute. The transfer of title to donated foods, 
which are part of the Federal grant, is limited to the distributing 
agency or recipient agency, as the recipients of the grant. Subsequent 
donated food activities may be performed, in accordance with Federal 
regulations and the terms of processing agreements, but would not 
include a further transfer of title.
    We propose to remove the requirements in current Sec.  250.30(f) 
that the processor maintain documentation that it has not reduced its 
level of commercial production in exercising the option to substitute 
commercially purchased foods for donated foods, or that it has made 
sufficient purchases to meet the 100 percent yield requirement in 
processing of donated foods. In addition to being virtually impossible 
to determine, it is unlikely that a processor would choose to process 
donated foods if it were to adversely affect its commercial activities. 
The requirement that the processor compensate the distributing or 
recipient agency for failure to meet required processing yields of 
donated foods, as proposed in the new Sec.  250.33, is more 
appropriate, and effective, than a requirement that the processor make 
specific purchases of foods on the commercial market.
    We propose to remove the requirements in current Sec.  250.30(f)(2) 
and (f)(3) relating to the substitution of concentrated skim milk for 
donated nonfat dry milk, in accordance with the proposed removal of 
this substitution option under the revised definition of substitution 
in Sec.  250.3.
6. Storage, Inspection, Quality Control, and Inventory Management, 
Sec.  250.35
    We propose to include requirements for the storage, inspection, 
quality control, and inventory management of donated foods provided for 
processing in the new Sec.  250.35. In current Sec.  250.30(c)(4)(x), 
the processor must describe its quality control system, and assure that 
an effective quality control system will be maintained for the duration 
of its agreement. In the new Sec.  250.35(a), we propose to require the 
processor to ensure the safe and effective storage of donated foods, 
including compliance with the general storage requirements in current 
Sec.  250.14(b), and to maintain an effective quality control system at 
its processing facilities. We propose to require the processor to 
maintain documentation to verify the effectiveness of its quality 
control system, and to provide such documentation upon request.
    In current Sec.  250.30(g), the processing of donated beef, pork, 
and poultry, and of commercial meat products that contain any donated 
foods, must be performed in plants under continuous Federal meat or 
poultry inspection. However, in States certified as having programs at 
least equal to Federal standards, processing of such foods may be 
performed in plants under continuous State meat or poultry inspection 
for processed end products that are utilized in the State, rather than 
the Federal inspection. The inspection requirements assure that 
processing of donated foods is performed in a safe and sanitary 
environment, and that labeling requirements are met. We propose to 
include these inspection requirements without change in the new Sec.  
250.35(b).
    In the new Sec.  250.35(c), we propose to clarify that a processor 
may commingle donated foods and commercially purchased foods, unless 
the processing agreement specifically requires that donated foods and 
commercially purchased foods be stored separately, or the donated foods 
have been backhauled from a recipient agency. However, we propose to 
clarify that such commingling must be performed in a manner that 
ensures the safe and efficient use of donated foods, as well as 
compliance with substitution requirements, and with reporting of 
donated food inventories on performance reports, as required in 7 CFR 
Part 250. We also propose to require processors to ensure that 
commingling of finished end products with other food products by 
distributors ensures the sale to recipient agencies of end products 
that meet substitution requirements. This incorporates the provision in 
current Sec.  250.30(f)(1)(ii)(B) that finished poultry end products 
that have not been produced under AMS acceptance service grading may 
not be substituted for end products containing donated foods. However, 
we propose to remove the requirement in current Sec.  250.30(i) that 
exterior shipping containers or product labels for end products 
containing nonsubstitutable donated foods (i.e., beef, pork, and 
poultry) include such information to ensure their sale to eligible 
recipient agencies. Such assurance may be made through notification of 
the appropriate parties or by other means.
    In current Sec.  250.30(n)(1), a processor is limited in the amount 
of donated foods for which it is accountable at any one time. A 
processor may not have on hand more than a six-month supply of donated 
foods, based on an average amount utilized for that period. However, 
the distributing agency may allow the processor, through written 
approval, to maintain a larger amount of donated foods in inventory if 
it determines that the processor may efficiently store and process such 
an amount. The distributing agency may

[[Page 50260]]

not order donated foods for delivery to a processor if it would result 
in excessive inventories, unless it has granted such approval. We 
propose to include the current limitation on processors' inventories of 
donated foods, and the distributing agency's authority to approve a 
larger inventory, in the new Sec.  250.35(d).
    In current Sec.  250.30(n)(3), a processor must pay the 
distributing agency for the value of donated foods held in excess of 
allowed inventory levels at the end of the year, as indicated on the 
June performance report. However, in practice, the distributing agency 
often allows a processor to carry over such donated foods into the next 
year of the agreement, in accordance with its authority to approve 
donated food inventories in excess of the six-month limitation. The 
distributing agency may also direct the processor, in accordance with 
current Sec.  250.13, to transfer or redonate donated foods held in 
excess of allowed levels to another distributing or recipient agency, 
or processor, if the processor is unable to process such foods. In the 
new Sec.  250.35(e), we propose to clarify that the distributing agency 
may permit the processor to carry over donated foods in excess of 
allowed levels into the next year of its agreement, if it determines 
that the processor may efficiently process such foods. We also propose 
to include the distributing agency's current option to direct the 
processor to transfer or redonate such donated foods to another 
distributing or recipient agency or processor. Lastly, we propose to 
clarify that, if these options are not practical, the distributing 
agency must require the processor to pay it for the donated foods held 
in excess of allowed levels, at the replacement value of the donated 
foods.
    In current Sec.  250.30(j), when an agreement terminates, and is 
not extended or renewed, the distributing agency must direct the 
processor to return donated foods remaining in inventory, or pay the 
distributing or recipient agency for the donated foods at the 
replacement value. For substitutable donated foods, the distributing 
agency may also permit the processor to return commercially purchased 
foods that meet substitution requirements in place of the donated 
foods, or transfer the donated foods to other agencies with which it 
has entered into agreements. In the new Sec.  250.35(f), we propose to 
expand the current options for the disposition of substitutable donated 
foods at the termination of an agreement to all donated foods, in 
accordance with our proposal, in the new Sec.  250.34, to permit 
substitution of all donated foods. We propose to clarify that the 
disposition of donated foods may include a redonation, as well as a 
transfer; i.e., the distributing agency may permit a redonation of 
donated foods to another State distributing agency, with FNS approval, 
in accordance with current Sec.  250.13(h). We also propose to permit 
the transfer or redonation of commercially purchased foods that meet 
the substitution requirements in the new Sec.  250.34 in place of the 
donated foods. If the distributing agency requires the processor to pay 
for donated foods, we propose to require such payment at the processing 
agreement value or replacement value, whichever is higher, rather than 
the several options for assigning the donated food value currently 
included in the regulations. We propose to include the current 
requirement that the processor pay the cost of transporting any donated 
foods when the agreement is terminated at the processor's request, or 
as a result of the processor's failure to comply with the requirements 
of 7 CFR Part 250.
    We propose to remove the stipulation in current Sec.  250.30(j)(3) 
that funds received by distributing agencies from payments for donated 
foods upon termination of an agreement be used in accordance with FNS 
Instruction 410-1. The allowable use of funds accruing from program 
operations is described in current Sec.  250.15(f).
7. End Product Sales and Crediting for the Value of Donated Foods, 
Sec.  250.36
    In current Sec.  250.30(d)(1), a processor must sell end products 
to recipient agencies under a system that assures such agencies receive 
credit or ``value pass-through'' for the contract value of donated food 
contained in the end product. And, in current Sec.  250.30(e), a 
processor must ensure that, when end products are provided to 
commercial distributors for sale and delivery to recipient agencies, 
such sales occur under a system that provides such agencies with a 
credit for the contract value of donated food contained in the end 
product. In the new Sec.  250.36(a), we propose to require that the 
sales of end products, either directly by the processor or through a 
commercial distributor, be performed utilizing one of the methods of 
end product sales contained in this section, to ensure that the 
distributing or recipient agency, as appropriate, receives credit for 
the value of donated foods contained in end products. We also propose 
to require that all systems of sales utilized must provide clear 
documentation of crediting for the value of the donated foods contained 
in the end products.
    In current Sec.  250.30(d)(1)(i), a processor may utilize a refund 
or rebate system, in which the processor sells end products to the 
distributing or recipient agency, as appropriate, at the commercial, or 
gross, price, and provides the appropriate agency with a refund for the 
contract value of donated foods contained in the end products. In 
current Sec.  250.30(e), a distributor may also sell end products 
received from the processor under a refund system, with the processor 
responsible for providing the refund to the appropriate agency. We 
propose to permit end product sales under this system, by either the 
processor or distributor, in the new Sec.  250.36(b). We propose to 
require the processor to remit the refund to the distributing or 
recipient agency, as appropriate, within 30 days of receiving a request 
for a refund from the appropriate agency. We propose to clarify that 
the refund request must be in writing but may be made by e-mail or 
other electronic means. We propose to remove the requirement in current 
Sec.  250.30(k) that the recipient agency submit a refund application 
to receive a refund for the value of donated foods in end products, as 
the term ``refund application'' implies the submittal of a written 
form, which is not necessary. Additionally, we propose to remove the 
30-day, or quarterly, period by which the distributing or recipient 
agency must currently submit such a request. Once end product sales are 
made, we would expect requests for refunds to be made in an expeditious 
manner, in the interest of the program. However, it should be up to the 
appropriate agency to determine how frequently it wishes to receive its 
refunds. To that end, we also propose to remove the option, in current 
Sec.  250.30(k)(3), for the processor to submit refunds that total $25 
or less on a quarterly basis. Lastly, we propose to remove the 
requirement in current Sec.  250.30(k)(3) that the processor submit 
copies of refund payments to the distributing agency; however, the 
distributing agency may choose to require the submission of such 
documentation to support information included in the processor's 
performance reports.
    In current Sec.  250.30(d)(1)(ii), the processor may utilize a 
discount system, in which the processor sells end products at a net 
price that provides a discount from the commercial case price for the 
value of the donated foods contained in the end products. We propose to 
permit end product sales under this system in the new Sec.  250.36(c). 
We propose to refer to this system as a direct discount system to

[[Page 50261]]

distinguish it from the method of end product sales described in the 
following paragraph.
    In current Sec.  250.30(e)(1)(ii), a distributor may sell end 
products to the distributing or recipient agency, as appropriate, at a 
net price that provides a discount from the commercial case price for 
the value of the donated foods contained in the end products. The 
processor then compensates the distributor for the value of the 
discount provided to the distributing or recipient agency. Since the 
distributor has purchased the end products from the processor at the 
commercial price, this system is referred to as the ``hybrid'' system--
i.e., it includes a sale of the end product at both the commercial and 
discounted price. We propose to permit end product sales under this 
system in the new Sec.  250.36(d), and to refer to it as the indirect 
discount system. We propose to require the processor to ensure that the 
distributor notify it of such sales, on a monthly basis, through 
automated sales reports or other electronic or written submission. We 
propose to remove the requirement, in current Sec.  250.30(k)(2), that 
the distributor apply to the processor for a refund under this system.
    In current Sec.  250.30(d)(2), and in accordance with the 
definition in current Sec.  250.3, the processor may sell end products 
to the distributing or recipient agency at a ``fee-for-service''. The 
fee-for-service includes all costs to produce the end product minus the 
value of the donated food put into production. The processor must 
identify any charge for delivery of end products separately from the 
fee-for-service on its invoice. We propose to permit this method of end 
product sales in the new Sec.  250.36(e). In current Sec.  
250.30(e)(1)(iv), the processor may provide end products sold under a 
fee-for-service system to a distributor for delivery to the 
distributing or recipient agency. In such cases, the processor must 
identify the distributor's delivery charge separately from the fee-for-
service on its invoice, or may permit the distributor to bill the 
distributing or recipient agency separately for the delivery of end 
products. As a matter of policy, we have also permitted the processor 
to provide written approval to the distributor to bill the distributing 
or recipient agency for the total case price-i.e., for the fee-for-
service and the delivery charge. In such cases, the processor must 
ensure that the distributor identifies the fee-for-service and delivery 
charge separately on the invoice. The processor must require the 
distributor to notify it of such sales, on a monthly basis, through 
automated sales reports or other submission, which may include e-mail 
or other electronic means. We propose to include these requirements in 
the new Sec.  250.36(e).
    In current Sec.  250.30(d)(1)(iii), the processor may sell end 
products to the distributing or recipient agency under an alternate 
method of end product sales that is approved by FNS and the 
distributing agency. In current Sec.  250.30(e)(1)(iii), the 
distributor may also sell end products under such an approved alternate 
method of sales. Such alternate methods of sale must ensure that the 
distributing or recipient agency, as appropriate, receives credit for 
the value of donated foods contained in the end products. We propose to 
include this option for both processor and distributor in the new Sec.  
250.36(f).
    In the new Sec.  250.36(g), we propose to clarify that the 
processing agreement value of the donated foods must be used in 
crediting for donated foods in end product sales, and to refer to the 
definition of processing agreement value included in Sec.  250.3. In 
the new Sec.  250.36(h), we propose to require that the distributing 
agency provide the processor with a list of recipient agencies eligible 
to purchase end products, along with the quantity of raw donated food 
that is to be delivered to the processor for processing on behalf of 
each recipient agency. This would ensure that only eligible recipient 
agencies receive end products, and in the amounts for which they are 
eligible. For end products sold through distributors, we propose to 
require that the processor provide the distributor with a list of 
eligible recipient agencies, and the quantities of end products that 
they are eligible to receive.
8. Reports, Records, and Reviews of Processor Performance, Sec.  250.37
    In the new Sec.  250.37, we propose to include the reporting and 
recordkeeping requirements for the processing of donated foods, and the 
use of such reports and records to review processor performance. In 
current Sec.  250.30(m), the processor must submit a monthly 
performance report to the distributing agency, including the following 
information for the reporting period, with year-to-date totals:
    (1) A list of all eligible recipient agencies;
    (2) The quantity of donated foods on hand at the beginning of the 
reporting period;
    (3) The quantity of donated foods received;
    (4) The quantity of donated foods transferred to the processor from 
another entity, or transferred by the processor to another entity;
    (5) The quantity of end products delivered to each eligible 
recipient agency; and
    (6) The quantity of donated foods remaining at the end of the 
reporting period.
    In the new Sec.  250.37(a), we propose to retain the requirement 
that the processor submit the performance report to the distributing 
agency on a monthly basis, to describe its processing of donated foods. 
We propose to retain all of the currently required information in the 
report with the exception of a list of eligible recipient agencies, as 
the distributing agency would already have this information. We propose 
to require that the processor also include grading certificates and 
other documentation, as requested by the distributing agency, to 
support the information included in the performance reports. Such 
documentation may include, for example, bills of lading, invoices, or 
copies of refund payments to verify sales and delivery of end products 
to recipient agencies. However, we propose to remove the requirement in 
current Sec.  250.30(m)(1)(viii) that the processor submit sales 
verification findings obtained in accordance with current Sec.  
250.19(b)(2) along with the December and June performance reports. As 
discussed in section II.F of the preamble, we are proposing to remove 
the sales verification requirements in current Sec.  250.19(b)(2). We 
propose to retain the current deadlines for the submission of 
performance reports in the new Sec.  250.37(a). However, we propose to 
remove the requirement in current Sec.  250.30(c)(4)(viii)(I) that the 
processor submit annual reconciliation reports. The June performance 
report serves to reconcile data that may have been submitted 
erroneously earlier in the year.
    In the new Sec.  250.37(b), we propose to prohibit the processor 
from reporting reductions in donated food inventories on performance 
reports until sales of end products have been made, or until sales of 
end products through distributors have been verified. We propose to 
require that, when a distributor sells end products under a refund 
system, such verification must be through receipt of the distributing 
or recipient agency's request for a refund; and, when a distributor 
sells end products under indirect discount or fee-for-service, such 
verification must be through the distributor's automated sales reports 
or other electronic or written submission.
    In the new Sec.  250.37(c), we propose to require that a multi-
State processor submit a summary performance report

[[Page 50262]]

to FNS, on a monthly basis, containing information from the performance 
report that would allow FNS to track the processor's total and State-
by-State donated food inventories, for the purpose of assessing the 
amount of the performance bond or letter of credit required of the 
processor under its National Processing Agreement. However, each 
distributing agency would still be responsible for monitoring the 
multi-State processor's inventory of donated foods received for 
processing in the respective State, in accordance with the new Sec.  
250.37(a).
    As indicated in section II.C of the preamble, we propose to remove 
the specific recordkeeping requirements for processors included in 
current Sec.  250.16(a)(4) (redesignated as paragraph (a)(3) by this 
rule). However, in the new Sec.  250.37(d), we propose to require 
processors to maintain specific records to demonstrate compliance with 
processing requirements in 7 CFR Part 250, including, for example, 
assurance of receipt of donated food shipments, production, sale, and 
delivery of end products, and crediting for donated foods contained in 
end products.
    In accordance with current Sec.  250.16(a)(1)(i), accurate and 
complete records must be maintained with respect to end products 
processed from donated foods, but specific recordkeeping requirements 
for distributing agencies are not included. In the new Sec.  250.37(e), 
we propose to require distributing agencies to maintain specific 
records to demonstrate compliance with processing requirements in 7 CFR 
Part 250, including, for example, end product data schedules, 
performance reports, copies of audits, and documentation of the 
correction of any deficiencies identified in such audits.
    In the new Sec.  250.37(f), we propose to require recipient 
agencies to maintain specific records to demonstrate compliance with 
processing requirements in 7 CFR Part 250, including, for example, the 
receipt of end products purchased from processors or distributors, 
crediting for donated foods included in end products, and procurement 
documents.
    In accordance with current Sec.  250.19(b)(4), the distributing 
agency must make a continuing evaluation of processors and recipient 
agencies, through the review of performance reports and other reports 
and records, to ensure compliance with the requirements of 7 CFR Part 
250. And, in accordance with current Sec.  250.30(m)(3), the 
distributing agency must review and analyze reports submitted by 
processors to ensure compliance with such requirements. We propose to 
clarify the review requirements for the distributing agency in the new 
Sec.  250.37(g), including the review of performance reports to ensure 
that the processor:
    (1) Receives donated food shipments, as applicable;
    (2) Delivers end products to eligible recipient agencies, in the 
types and quantities for which they are eligible;
    (3) Meets the required processing yields for donated foods under 
guaranteed minimum yield; and
    (4) Accurately reports donated food inventory activity and 
maintains inventories within approved levels.
    We propose to remove current requirements for the distributing 
agency to submit the following reports to FNS:
     The final performance report for the year to the FNS 
Regional Office in accordance with current Sec.  250.30(n)(4); and
     The inventory portion of the performance report to the FNS 
Regional Office on a quarterly basis, in accordance with current Sec.  
250.30(o).
    We propose to remove the requirement in current Sec.  
250.30(m)(1)(ix) that the processor provide certification that 
sufficient donated foods are on hand to meet processing obligations 
under its agreements, and that sufficient foods are in inventory to 
meet commercial obligations. We expect that, since a processor's 
failure to meet processing obligations with respect to donated foods 
would result in either the distributing agency or FNS, as appropriate, 
calling in the performance bond or letter of credit, in accordance with 
the new Sec.  250.32(b), a processor would be unlikely to maintain 
inventories insufficient to conduct its processing activities. We 
propose to remove the requirements in current Sec.  250.30(m)(2) and 
(n)(2) relating to the submission of reports and the performance of 
reviews to ensure that substitution of concentrated skim milk for 
donated nonfat dry milk is in compliance with requirements. As 
described in section II.A of the preamble, we are proposing to remove 
this substitution option under the revised definition of substitution 
in Sec.  250.3. Lastly, we propose to remove the provision in current 
Sec.  250.30(n)(5) that prohibits distributing agencies from submitting 
food orders for processors that report no sales of end products during 
the prior year. While this would ordinarily be a good practice, it is 
the distributing agency's decision to determine if a processor may 
effectively receive and process donated foods in a future period.
9. Provisions of Agreements, Sec.  250.38
    In the new Sec.  250.38, we propose to include the required 
provisions for each type of processing agreement included in the new 
Sec.  250.30, to ensure compliance with the requirements in 7 CFR Part 
250. In the new Sec.  250.38(a), we propose to indicate that the 
National Processing Agreement includes provisions to ensure that a 
multi-State processor complies with all applicable requirements 
relating to the processing of donated foods. FNS has developed a 
prototype National Processing Agreement that includes all such required 
provisions.
    In the new Sec.  250.38(b), we propose to require that the State 
Participation Agreement with a multi-State processor contain specific 
provisions or attachments to assure compliance with requirements in 7 
CFR Part 250 that are not included in the multi-State processor's 
National Processing Agreement. Such provisions include, for example, a 
list of recipient agencies eligible to receive end products, summary 
end product data schedules that contain a list of end products that may 
be sold in the State, and the allowed method(s) of end product sales 
implemented by the distributing agency.
    In the new Sec.  250.38(c), we propose to require that the State 
Processing Agreement contain specific provisions or attachments to 
assure compliance with requirements in 7 CFR Part 250. Most of these 
provisions are included in current Sec.  250.30(c)(4) and include, for 
example, assurance that the processor will meet processing yields for 
donated foods and substitution requirements, report donated food 
inventory activity and maintain inventories within approved levels, 
credit recipient agencies for donated foods contained in end products, 
and obtain required audits.
    In accordance with the new Sec.  250.38(d), we propose to require 
that the Recipient Processing Agreement contain the same provisions as 
a State Processing Agreement, to the extent that the distributing 
agency permits the recipient agency to monitor compliance with the 
applicable processing requirements (e.g., approval of end product data 
schedules or review of performance reports). However, a list of 
recipient agencies eligible to receive end products need not be 
included.
    In the new Sec.  250.38(e), we propose to prohibit the distributing 
or recipient agency, as appropriate, from extending or renewing an 
agreement if the processor has not complied with processing 
requirements. We propose to indicate that the distributing or

[[Page 50263]]

recipient agency may immediately terminate the agreement in the event 
of such noncompliance.
10. Miscellaneous Provisions, Sec.  250.39
    In current Sec.  250.30(t), FNS may waive any of the requirements 
in 7 CFR Part 250 for the purpose of conducting demonstration projects 
to determine if processing of donated foods may be performed more 
efficiently or effectively by other means. We propose to include this 
provision without change in the new Sec.  250.39(a).
    In the new Sec.  250.39(b), we propose to clarify that guidance or 
information relating to the processing of donated foods is included on 
the FNS Web site at http://www.fns.usda.gov/fdd, or may otherwise be 
obtained from FNS. Such guidance and information includes program 
regulations and policies, the processing handbook, the FNS Audit Guide, 
and National Processing Agreement and summary end product data schedule 
prototypes.
    We propose to remove the requirement in current Sec.  250.30(s) 
that the distributing agency develop and provide a processing manual or 
similar materials to processors and other parties. The information 
described above should provide sufficient guidance for processors and 
other parties to permit compliance with requirements for the processing 
of donated foods. The distributing agency may provide additional 
information relating to State-specific processing procedures upon 
request.

III. Procedural Matters

A. Public Comment Procedures

    Your written comments on this proposed rule should be specific, 
confined to issues pertinent to the proposed rule, and should explain 
your reasons for any change recommended. Where possible, you should 
reference the specific section or paragraph of the proposal you are 
addressing. Comments received after the close of the comment period 
(see DATES) will not be considered or included in the Administrative 
Record for the final rule.
    The comments, including names, street addresses, and other contact 
information of commenters, will be available for public review at the 
Food and Nutrition Service, Room 500, 3101 Park Center Drive, 
Alexandria, Virginia, during regular business hours (8:30 a.m. to 5 
p.m.), Mondays through Fridays, except Federal holidays.
    Executive Order 12866 requires each agency to write regulations 
that are simple and easy to understand. We invite your comments on how 
to make these regulations easier to understand, including answers to 
questions such as the following:
    (1) Are the requirements in the rule clearly stated?
    (2) Does the rule contain technical language or jargon that 
interferes with its clarity?
    (3) Does the format of the rule (grouping and order of sections, 
use of headings, paragraphing, etc.) make it more or less clear?
    (4) Would the rule be easier to understand if it were divided into 
more (but shorter) sections?
    (5) Is the description of the rule in the preamble sections 
entitled ``Background'' and ``Discussion of the Rule's Provisions'' 
helpful in understanding the rule? How could this description be more 
helpful?

B. Executive Order 12866

    This proposed rule has been determined to be not significant and 
was not reviewed by the Office of Management and Budget (OMB) under 
Executive Order 12866.

C. Regulatory Flexibility Act

    This proposed rule has been reviewed with regard to the 
requirements of the Regulatory Flexibility Act (5 U.S.C. 601-612). 
Roberto Salazar, Administrator of the Food and Nutrition Service, has 
certified that this action will not have a significant impact on a 
substantial number of small entities. Although the rule would require 
specific procedures for processors and distributing and recipient 
agencies to follow in the processing of donated foods, USDA does not 
expect them to have a significant impact on such entities.

D. Public Law 104-4

    Title II of the Unfunded Mandates Reform Act of 1995 (UMRA), Public 
Law 104-4, establishes requirements for Federal agencies to assess the 
effects of their regulatory actions on State, local, and tribal 
governments and the private sector. Under Section 202 of the UMRA, FNS 
generally must prepare a written statement, including a cost-benefit 
analysis, for proposed and final rules with Federal mandates that may 
result in expenditures to State, local, or tribal governments, in the 
aggregate, or to the private sector, of $100 million or more in any one 
year. When such a statement is needed for a rule, section 205 of the 
UMRA generally requires FNS to identify and consider a reasonable 
number of regulatory alternatives and adopt the least costly, more 
cost-effective or least burdensome alternative that achieves the 
objectives of the rule. This rule contains no Federal mandates (under 
the regulatory provisions of Title II of the UMRA) for State, local, 
and tribal governments or the private sector of $100 million or more in 
any one year. This rule is, therefore, not subject to the requirements 
of sections 202 and 205 of the UMRA.

E. Executive Order 12372

    The donation of foods in USDA food distribution and child nutrition 
programs is included in the Catalog of Federal Domestic Assistance 
under 10.550. For the reasons set forth in the final rule in 7 CFR Part 
3015, Subpart V and related Notice (48 FR 29115, June 24, 1983), the 
donation of foods in such programs is included in the scope of 
Executive Order 12372, which requires intergovernmental consultation 
with State and local officials.

F. Executive Order 13132

    Executive Order 13132 requires Federal agencies to consider the 
impact of their regulatory actions on State and local governments. 
Where such actions have federalism implications, agencies are directed 
to provide a statement for inclusion in the preamble to the regulations 
describing the agency's considerations in terms of the three categories 
called for under section (6)(b)(2)(B) of Executive Order 13132.
1. Prior Consultation With State Officials
    The programs affected by the regulatory proposals in this rule are 
all State-administered, Federally-funded programs. Hence, our national 
headquarters office has formal and informal discussions with State and 
local officials, as well as processors, on an ongoing basis regarding 
program issues relating to the processing of donated foods. FNS attends 
annual conferences of the American Commodity Distribution Association, 
a national group with State, local, and industry representation, and 
the School Nutrition Association, as well as other conferences.
2. Nature of Concerns and the Need To Issue This Rule
    The rule addresses the concerns of program operators that use 
donated foods to provide the school lunches and other meals in NSLP and 
other programs, as well as the processors that process the donated 
foods into finished end products on their behalf. The rule would reduce 
the workload for all parties involved in the processing of donated 
foods, and would facilitate the more efficient processing and delivery 
of end products.

[[Page 50264]]

3. Extent To Which We Meet Those Concerns
    FNS has considered the impact of the proposed rule on State and 
local agencies. The overall effect of this rule is to better ensure 
that such agencies receive the greatest benefit from donated foods 
through their processing into end products by commercial processors.

G. Executive Order 12988

    This proposed rule has been reviewed under Executive Order 12988, 
Civil Justice Reform. This proposed rule, when finalized, would have 
preemptive effect with respect to any State or local laws, regulations, 
or policies which conflict with its provisions or which would otherwise 
impede its full implementation. This proposed rule would not have 
retroactive effect. Prior to any judicial challenge to the provisions 
of this rule or the application of its provisions, all applicable 
administrative procedures must be exhausted.

H. Civil Rights Impact Analysis

    FNS has reviewed this rule in accordance with the Department 
Regulation 4300-4, ``Civil Rights Impact Analysis'', to identify and 
address any major civil rights impacts the rule might have on 
minorities, women, and persons with disabilities. After a careful 
review of the rule's intent and provisions, FNS has determined that 
this rule will not in any way limit or reduce the ability of 
participants to receive the benefits of donated foods on the basis of 
an individual's or group's race, color, national origin, sex, age, or 
disability. FNS found no factors that would negatively and 
disproportionately affect any group of individuals.

I. Paperwork Reduction Act

    The Paperwork Reduction Act of 1995 (44 U.S.C. chap. 35; see 5 CFR 
part 1320) requires that OMB approve all collections of information by 
a Federal agency from the public before they can be implemented. 
Respondents are not required to respond to any collection of 
information unless it displays a current valid OMB control number. This 
proposed rule contains information collections that are subject to 
review and approval by OMB; therefore, in accordance with the Paperwork 
Reduction Act of 1995, this notice invites the general public and other 
agencies to comment on the proposed information collections affected by 
the proposals in the rule. Written comments on this proposed 
information collection must be received on or before October 23, 2006.
    Comments concerning the information collection aspects of this 
proposed rule should be sent to the Office of Information and 
Regulatory Affairs, OMB, Room 10235, New Executive Office Building, 
Washington, DC 20503, Attention: Desk Officer for the Food and 
Nutrition Service. A copy of these comments may also be sent to Lillie 
F. Ragan, at the address listed in the ADDRESSES section of this 
preamble. Commenters are asked to separate their comments on the 
information collection requirements from their comments on the 
remainder of the proposed rule.
    OMB is required to make a decision concerning the collection of 
information contained in this proposed regulation between 30 to 60 days 
after the publication of this document in the Federal Register. 
Therefore, a comment to OMB is best assured of having full 
consideration if OMB receives it within 30 days of publication. This 
does not affect the deadline for the public to comment to the 
Department on the proposed regulation.
    Comments are invited on: (a) Whether the proposed collection of 
information is necessary for the proper performance of the functions of 
the agency, including whether the information will have practical 
utility; (b) the accuracy of the agency's estimate of the burden of the 
proposed collection of information, including the validity of the 
methodology and assumptions used; (c) ways to enhance the quality, 
utility, and clarity of the information to be collected; (d) ways to 
minimize the burden of the collection of information on those who are 
to respond, including use of appropriate automated, electronic, 
mechanical, or other technological collection techniques or other forms 
of information technology.
    The title, description, and respondent description of the 
information collections affected by this rule are shown below, with an 
estimate of the annual reporting and recordkeeping burdens. These 
burden hours represent proposed changes to current reporting and 
recordkeeping requirements, and incorporate some additional proposed 
requirements.
    Title: Food Distribution Regulations and Forms.
    OMB Number: 0584-0293.
    Expiration Date: March 31, 2009.
    Type of Request: Revision of a currently approved collection.
    Abstract: This proposed rule would affect only the reporting and 
recordkeeping requirements under 7 CFR Part 250 described in the 
following paragraphs and indicated in the tables.
1. Reporting Requirements
    Section 250.18, Audits. The reporting burden relating to audit 
requirements would be reduced from 240 hours to 170 hours. Although 
distributing agencies would have to review audits required of in-State 
processors, in addition to those currently required of multi-State 
processors, the time required for each response would be reduced from 
the current 4 hours to 2 hours.
    Section 250.30, Processing agreements. The reporting burden 
relating to the execution of processing agreements would be reduced 
from 324 hours to 245 hours. The reduction is the result of our 
proposal, in the new Sec.  250.30(c), to permit distributing agencies 
to sign more abbreviated State Participation Agreements with multi-
State processors (which must have National Processing Agreements), 
rather than the currently required State Processing Agreements. This 
would reduce the estimated time required for each response from 2 hours 
to 0.636 hours. Currently, in Sec.  250.30(l), distributing agencies 
must provide copies of processing agreements to FNS. We are proposing 
to remove this requirement. Hence, the reporting burden for this 
activity would be reduced from 456 hours to 0 hours.
    Section 250.36, End product sales. The reporting burden relating to 
the verification of end product sales would be reduced from 4,018.50 
hours to 1,410 hours. This is a result of our proposal, in the new 
Sec.  250.36(b), to permit distributing or recipient agencies, as 
appropriate, to submit requests for refunds to processors by e-mail or 
other electronic means, rather than by written submission, which would 
reduce the time required for each response from 0.57 hours to 0.20 
hours.
    Section 250.37, Performance reports. The burden relating to the 
review of performance reports submitted by processors would increase 
from 4,500 hours to 10,350 hours. This is the result of the increase in 
the number of processors with which distributing agencies have 
agreements to process donated foods into end products. In the new Sec.  
250.37, we propose to include as respondents the 50 distributing 
agencies that must review the performance reports submitted by 
processors. Each distributing agency has a processing agreement with, 
on average, 23 processors, each of which submits 9 performance reports 
annually. Hence, each distributing agency must review 207 performance 
reports annually, resulting in a total of 10,350 annual responses. As 
each response would take

[[Page 50265]]

1 hour, the reporting burden for this activity would be 10,350 hours.
    In current Sec.  250.30, the submission of forms FNS-519A and FNS-
519B as processor's monthly performance reports and inventory reports 
is listed erroneously. Hence, we propose to remove the 1,560 burden 
hours currently listed under this submission. In current Sec. Sec.  
250.17(b) and 250.30(o), distributing agencies must complete and submit 
a processing inventory report to FNS on a quarterly basis. We are 
proposing to remove this requirement. Hence, the reporting burden for 
this activity would be reduced from 912 hours to 0 hours. In current 
Sec.  250.30(s), distributing agencies are required to develop and 
provide a processing manual or similar material to processors and 
recipient agencies. We are also proposing to remove this requirement. 
Hence, the reporting burden for this activity would be reduced from 
18.81 hours to 0 hours.
2. Recordkeeping Requirements
    Section 250.18, Audits. The recordkeeping burden relating to audit 
requirements would increase from 9.90 hours to 28.1 hours, as 
distributing agencies would have to maintain records of audit findings 
for in-State processors, in addition to the current requirement to 
maintain such records for multi-State processors.
    Section 250.30, Processing agreements. The recordkeeping burden 
relating to the execution of processing agreements would increase from 
13.28 hours to 31 hours, as a result of the increase in the number of 
processors that distributing agencies enter into agreements to process 
donated foods.
    Section 250.37, Records of processing activities. The current 
recordkeeping burden for the receipt of processed end products, 
performance reports, and other records related to the processing of 
donated foods is included under current Sec. Sec.  250.16 and 250.30, 
which also include the burden for the maintenance of other records 
relating to the distribution and management of donated foods. In 
accordance with the new Sec.  250.37(e), we are proposing to clarify 
the specific records that the distributing agency must maintain to 
ensure compliance with processing requirements, including records of 
end product data schedules, performance reports, grading certificates, 
the receipt of end products, etc. In the new Sec.  250.37(f), we are 
clarifying the recordkeeping requirements for recipient agencies, which 
would include records of the receipt of end products and of crediting 
for donated foods included in end products. However, the overall 
recordkeeping burden would remain unchanged from the current 9,200 
hours.
    Respondents: State, local, or Tribal Government; Program 
participants; Business or other for-profit; Nonprofit institutions; 
Federal Government.
    Total Annual Responses: Current: 1,642,762; Proposed: 1,659,358.
    Estimated Total Annual Burden on Respondents: Current: 1,085,814; 
Proposed: 1,104,505.
    The proposed changes in the reporting and recordkeeping 
requirements described above are included in the following tables.

                                                    Reporting
----------------------------------------------------------------------------------------------------------------
                                                               Responses      Total        Hours/       Total
       Current/proposed          Sec.  Sec.      Respondents    per year    responses     response      hours
----------------------------------------------------------------------------------------------------------------
Current......................  250.18(c).......           30            2           60            4          240
Proposed.....................  250.18..........           50          1.7           85            2          170
Current......................  250.12(f) and             166            1          166            2          324
                                250.30(c).
Proposed.....................  250.30..........           50          7.7          385        0.636          245
Current......................  250.30(l).......           19           12          228            2          456
Proposed.....................  ................            0            0            0            0            0
Current......................  250.30(k).......        2,350            3        7,050         0.57     4,018.50
Proposed.....................  250.36..........        2,350            3        7,050         0.20        1,410
Current......................  250.17(c) and             500            9        4,500            1        4,500
                                250.30(m).
Proposed.....................  250.37..........           50          207       10,350            1       10,350
Current......................  250.17(b) and              57            4          228            4          912
                                250.30(o).
Proposed.....................  ................            0            0            0            0            0
Current......................  250.30..........           57            1           57         0.33        18.81
Proposed.....................  ................            0            0            0            0            0
Current......................  250.30(m).......           40           13          520            3        1,560
Proposed.....................  ................            0            0            0            0            0
Total:
    Current..................  ................        3,219         3.97       12,809        0.940    12,037.31
    Proposed.................  ................        2,500         7.15       17,870        0.685       12,175
----------------------------------------------------------------------------------------------------------------


                                                  Recordkeeping
----------------------------------------------------------------------------------------------------------------
                                                               Responses      Total        Hours/       Total
       Current/proposed          Sec.  Sec.      Respondents    per year    responses     response      hours
----------------------------------------------------------------------------------------------------------------
Current......................  250.18(b).......           30            1           30         0.33         9.90
Proposed.....................  250.18..........           50          1.7           85         0.33         28.1
Current......................  250.12(f).......          166            1          166         0.08        13.28
Proposed.....................  250.30..........           50          7.7          385         0.08         30.8
Current......................  250.16 and            115,000            1      115,000         0.08        9,200
                                250.30.
Proposed.....................  250.37..........      115,000            1      115,000         0.08        9,200
Total:
    Current..................  ................      115,196            1      115,196         0.08     9,223.18
    Proposed.................  ................      115,100            1      115,470         0.08        9,259
----------------------------------------------------------------------------------------------------------------


[[Page 50266]]

J. E-Government Act Compliance

    FNS is committed to complying with the E-Government Act, to promote 
the use of the Internet and other information technologies, to provide 
increased opportunities for citizen access to government information 
and services, and for other purposes. In accordance with current 
practice, and as clarified in this rule, distributing and recipient 
agencies, and processors, may, in most cases, submit required 
information electronically, including through e-mail or other means. 
For example, the rule clarifies that recipient agencies may submit 
requests for refunds for the value of donated foods in processed end 
products by e-mail or other electronic submission.

List of Subjects in 7 CFR Part 250

    Administrative practice and procedure, Food assistance programs, 
Grant programs, Social programs, Indians, Reporting and recordkeeping 
requirements, Surplus agricultural commodities.
    Accordingly, 7 CFR Part 250 is proposed to be amended as follows:

PART 250-DONATION OF FOODS FOR USE IN THE UNITED STATES, ITS 
TERRITORIES AND POSSESSIONS AND AREAS UNDER ITS JURISDICTION

    1. The authority citation for Part 250 continues to read as 
follows:

    Authority: 5 U.S.C. 301; 7 U.S.C. 612c, 612c note, 1431, 1431b, 
1431e, 1431 note, 1446a-1, 1859, 2014, 2025; 15 U.S.C. 713c; 22 
U.S.C. 1922; 42 U.S.C. 1751, 1755, 1758, 1760, 1761, 1762a, 1766, 
3030a, 5179, 5180.
    2. In Sec.  250.3:

    a. Remove definitions of Contract value of the donated foods, 
Contracting agency, Discount system, Fee-for-service, Refund, Refund 
application, Refund system, and Substituted food.
    b. Revise definitions of Distributor, Multi-State processor and 
Substitution.
    c. Add definitions, in the appropriate alphabetical order, of 
Backhauling, Commingling, End product data schedule, In-State 
processor, National Processing Agreement, Processing agreement value, 
Recipient Processing Agreement, Replacement value, 7 CFR 3052, Split 
shipment, State Participation Agreement, and State Processing 
Agreement.
    The revisions and additions read as follows:


Sec.  250.3  Definitions.

    Backhauling means the delivery of donated foods to a processor for 
processing from a recipient agency's storage facility.
* * * * *
    Commingling means the storage of donated foods together with 
commercially purchased foods.
* * * * *
    Distributor means a commercial enterprise that sells and/or 
delivers finished end products, or stores and distributes donated 
foods, to distributing or recipient agencies.
* * * * *
    End product data schedule means a processor's description of the 
processing of donated food into a finished end product, including the 
processing yield of donated food.
* * * * *
    In-State processor means a processor that has entered into 
agreements with distributing or recipient agencies that are located 
only in the State in which the processor's facilities or office is 
located.
    Multi-State processor means a processor that has entered into 
agreements with distributing or recipient agencies in more than one 
State, or that has entered into agreements with distributing or 
recipient agencies that are located in a State other than the State in 
which the processor's processing facility is located.
    National Processing Agreement means an agreement between FNS and a 
multi-State processor to process donated foods into end products for 
sale to distributing or recipient agencies.
* * * * *
    Processing agreement value means the specific commodity file value 
for donated food assigned by the Department that reflects the 
Department's cost of purchase, delivery, and processing of the donated 
food, as applicable.
* * * * *
    Recipient Processing Agreement means a recipient agency's agreement 
with a processor to process donated foods and purchase the finished end 
products.
* * * * *
    Replacement value means the specific commodity file value assigned 
by the Department to ensure compensation for donated foods lost in 
processing or other activities.
* * * * *
    7 CFR Part 3052 means the Department's regulations establishing 
audit requirements for State and local governments and nonprofit 
organizations that receive Federal grants.
* * * * *
    Split shipment means a shipment of donated foods with more than one 
stop-off or delivery location, or a shipment to one delivery location 
that is split between two different distributing agencies.
* * * * *
    State Participation Agreement means a distributing agency's 
agreement with a multi-State processor to permit the sale of finished 
end products produced under the processor's National Processing 
Agreement to eligible recipient agencies in the State, or to directly 
purchase such finished end products.
    State Processing Agreement means a distributing agency's agreement 
with a processor to process donated foods into finished end products 
for sale to eligible recipient agencies, or to the distributing agency.
* * * * *
    Substitution means the use of commercially purchased foods in place 
of donated foods in accordance with the requirements of this part.
* * * * *
    3. In Sec.  250.13, revise paragraph (c) to read as follows:


Sec.  250.13  Distribution and control of donated foods.

* * * * *
    (c) Transfer of title. Title to donated foods transfers to the 
distributing agency or recipient agency, as appropriate, upon 
acceptance of the donated foods at the time and place of delivery, with 
the following exception. Title to donated foods provided to a multi-
State processor, in accordance with its National Processing Agreement, 
transfers to the distributing agency or recipient agency, as 
appropriate, upon acceptance of the finished end products at the time 
and place of delivery. Notwithstanding transfer of title, the 
distributing agency must ensure that donated foods and end products are 
used in accordance with the requirements of this part.
* * * * *
    4. In Sec.  250.16:
    a. Remove paragraph (a)(3).
    b. Redesignate paragraphs (a)(4), (a)(5), and (a)(6) as paragraphs 
(a)(3), (a)(4), and (a)(5), respectively.
    c. Revise newly redesignated paragraph (a)(3) to read as follows:


Sec.  250.16  Maintenance of records.

    (a) * * *
    (3) Processors and food service management companies must comply

[[Page 50267]]

with the applicable recordkeeping requirements in this part, and with 
any other recordkeeping requirements included in their agreements or 
contracts. Storage facilities and distributors must maintain records 
documenting the receipt, distribution, inventory, and disposal of 
donated foods sufficient to ensure compliance with requirements in this 
part, and with any other such requirements in their agreements or 
contracts with distributing or recipient agencies.
* * * * *
    5. In Sec.  250.17:
    a. Remove paragraphs (b) and (f).
    b. Redesignate paragraphs (c), (d), and (e), as paragraphs (b), 
(c), and (d), respectively.
    c. Revise newly redesignated paragraph (b) to read as follows:


Sec.  250.17  Reports.

* * * * *
    (b) Processor performance. Processors must submit performance 
reports and other supporting documentation, as required by the 
distributing agency or by FNS, in accordance with Sec.  250.37, to 
ensure compliance with requirements in this part.
* * * * *
    6. Revise Sec.  250.18 to read as follows:


Sec.  250.18  Audits.

    (a) Requirements for distributing and recipient agencies. In 
accordance with Departmental regulations in 7 CFR Part 3052 and OMB 
Circular A-133, a State or local government or nonprofit organization 
that expends at least $500,000 in Federal grants or awards (i.e., funds 
and/or donated foods) in a school or fiscal year must obtain a single 
audit for that year. A program-specific audit may be substituted for a 
single audit if the auditee operates only one Federal program (or one 
recognized cluster of programs). A State or local government or 
nonprofit organization that expends less than $500,000 in Federal 
grants or awards in a school year or fiscal year is not required to 
have an audit for that year. The value of donated foods used in 
determining if an audit is required must be the value assigned by the 
distributing agency, in accordance with Sec.  250.13(a)(5). Recipient 
agencies utilizing a single inventory management system must consider 
the value of all donated foods received for the year, rather than the 
value of donated foods actually used. (For availability of the OMB 
circular mentioned in this paragraph, please refer to 5 CFR 1310.3).
    (b) Requirements for processors. In-State processors must obtain an 
independent certified public accountant (CPA) audit in the first year 
that they receive donated foods for processing, while multi-State 
processors must obtain such an audit in each of the first three years 
that they receive donated foods for processing. After this initial 
requirement period, an in-State processor must obtain an independent 
CPA audit every three years, while a multi-State processor must obtain 
such an audit at a frequency determined by the average value of donated 
foods it receives for processing per year, as indicated in this 
paragraph (b). The value of donated foods used in determining if an 
audit is required must be the value assigned by the distributing 
agency, in accordance with Sec.  250.13(a)(5). The audit must determine 
that the processor's performance is in compliance with the requirements 
in this part, and must be conducted in accordance with procedures in 
the FNS Audit Guide for Processors. All processors must pay for audits 
required in this paragraph (b). A multi-State processor must obtain an 
audit:
    (1) Annually, if it receives, on average, more than $5,000,000 in 
donated foods for processing per year;
    (2) Every two years, if it receives, on average, between $1,000,000 
and $5,000,000 in donated foods for processing per year; or
    (3) Every three years, if it receives, on average, less than 
$1,000,000 in donated foods for processing per year.
    (c) Required actions resulting from audit. The distributing or 
recipient agency, as appropriate, must submit reports and corrective 
action plans, and undertake corrective actions in response to the 
audit, in accordance with the requirements in 7 CFR Part 3052. A multi-
State processor must ensure that a copy of the audit is provided to 
FNS, and an in-State processor must ensure that a copy of the audit is 
provided to the distributing agency, by December 31st of each year in 
which an audit is required. Along with the audit, the processor must 
provide verification to FNS or the distributing agency, as appropriate, 
that all deficiencies identified in the audit have been corrected, or 
must provide a corrective action plan with timelines for correcting all 
deficiencies identified in the audit.
    (d) Failure to meet audit requirements. A distributing or recipient 
agency is subject to sanctions for failure to obtain the required 
audit, or for failure to correct deficiencies identified in the audit, 
including the withholding, suspension, or termination of a Federal 
award. FNS may terminate a processor's National Processing Agreement, 
or prohibit the further distribution of donated foods to a processor, 
for its failure to obtain the required audit, or its failure to correct 
deficiencies identified in the audit. A distributing or recipient 
agency may terminate an agreement with a processor, and must not extend 
or renew such an agreement, for the same reasons, in accordance with 
Sec.  250.38(e).
    (e) Departmental audits or inspections. The Department, the 
Comptroller General of the United States, or any of their authorized 
representatives, may conduct audits or inspections of distributing, 
subdistributing, or recipient agencies, or the commercial enterprises 
with which they have contracts or agreements, to assure compliance with 
the requirements of this part.


Sec.  250.19  [Amended]

    7. In Sec.  250.19:
    a. Remove paragraph (b)(1)(iii), and redesignate paragraphs 
(b)(1)(iv) and (b)(1)(v) as paragraphs (b)(1)(iii) and (b)(1)(iv), 
respectively.
    b. Remove paragraph (b)(2), and redesignate paragraphs (b)(3), 
(b)(4), (b)(5), and (b)(6) as paragraphs (b)(2), (b)(3), (b)(4), and 
(b)(5), respectively.
    c. Remove the undesignated text appearing after newly redesignated 
paragraph (b)(2)(iv).
    8. In Sec.  250.24, revise paragraph (g) to read as follows:


Sec.  250.24  Distributing agency performance standards.

* * * * *
    (g) Processing. The distributing agency must provide for the 
processing of donated foods in accordance with Subpart C of this part, 
and must ensure that recipient agencies are aware of the processing 
options available to them. In accordance with Sec.  250.30(g), the 
distributing agency must provide for testing of end products to ensure 
their acceptability by recipient agencies before entering into 
processing agreements. The distributing agency must develop a system to 
monitor product acceptability on a periodic basis.
    9. Revise Subpart C to read as follows:
Subpart C--Processing of Donated Foods
Sec.
250.30 Types of processing agreements.
250.31 Procurement requirements.
250.32 Protection of donated food value.
250.33 Processing yields of donated foods.
250.34 Substitution of donated foods.
250.35 Storage, inspection, quality control, and inventory 
management.
250.36 End product sales and crediting for the value of donated 
foods.
250.37 Reports, records, and reviews of processor performance.
250.38 Provisions of agreements.
250.39 Miscellaneous provisions.

[[Page 50268]]

Subpart C--Processing of Donated Foods


Sec.  250.30  Types of processing agreements.

    (a) Purpose of processing donated foods. Donated foods are most 
commonly provided to processors to process into approved end products 
that are more suitable for use in school lunch programs or other food 
services provided by recipient agencies. For example, a whole chicken 
or chicken parts may be processed into chicken nuggets for use in the 
National School Lunch Program. However, in some cases donated foods are 
provided to processors to prepare meals, or for repackaging. A 
processor's use of a commercial facility to repackage donated foods, or 
to use donated foods in the preparation of meals, is considered 
processing in this part.
    (b) Agreement requirement. The processing of donated foods must be 
performed in accordance with an agreement between the processor and 
FNS, between the processor and the distributing agency, or, if allowed 
by the distributing agency, between the processor and a recipient 
agency or subdistributing agency. However, a processing agreement will 
not obligate the distributing, subdistributing, or recipient agency, or 
the Department, to provide donated foods to a processor for processing. 
For donated foods received in child nutrition programs, the 
distributing agency must provide the State administering agency (if a 
different agency) with an opportunity to review its processing 
agreements to ensure compliance with nutritional and labeling 
requirements. The different types of processing agreements are 
described in this section.
    (c) National Processing Agreement. A multi-State processor must 
enter into a National Processing Agreement with FNS in order to process 
donated foods into end products in accordance with end product data 
schedules approved by FNS. FNS also holds and manages the processor's 
performance bond or letter of credit under the National Processing 
Agreement, in accordance with Sec.  250.32. FNS does not itself procure 
or purchase end products under a National Processing Agreement. A 
multi-State processor must also enter into a State Participation 
Agreement with the distributing agency in order to sell nationally 
approved end products in the State, in accordance with paragraph (d) of 
this section.
    (d) State Participation Agreement. The distributing agency must 
enter into a State Participation Agreement with a multi-State processor 
to permit the sale of finished end products produced under the 
processor's National Processing Agreement to eligible recipient 
agencies in the State, or to directly purchase such finished end 
products. The distributing agency may include other State-specific 
processing requirements in its State Participation Agreement, such as 
the methods of end product sales permitted, in accordance with Sec.  
250.36, or the use of labels attesting to fulfillment of meal pattern 
requirements in child nutrition programs.
    (e) State Processing Agreement. A distributing agency must enter 
into a State Processing Agreement with an in-State processor to process 
donated foods into finished end products. The distributing agency may 
also choose to provide donated foods for processing to a multi-State 
processor under such an agreement, rather than utilize the National 
Processing Agreement. Under a State Processing Agreement, the 
distributing agency approves end product data schedules submitted by 
the processor, holds and manages the processor's performance bond or 
letter of credit, in accordance with Sec.  250.32, and assures 
compliance with other processing requirements. The distributing agency 
may purchase the finished end products for distribution to eligible 
recipient agencies in the State under a State Processing Agreement, or 
may choose to select a number of processors with which it enters into 
such agreements, and permit recipient agencies to purchase finished end 
products from them, in accordance with applicable procurement 
requirements. The latter type of State Processing Agreement is called a 
master agreement. In selecting processors with which it enters into 
master agreements, the distributing agency must develop selection 
criteria, which must include the following:
    (1) The nutritional contribution provided by end products;
    (2) The marketability or acceptability of end products;
    (3) The means by which end products will be distributed;
    (4) Prices of end products and processing yields of donated foods;
    (5) Any applicable labeling requirements; and
    (6) The processor's record of ethics and integrity, and capacity to 
meet regulatory requirements.
    (f) Recipient Processing Agreement. The distributing agency may 
permit a recipient agency to enter into an agreement with a processor 
to process donated foods and to purchase the finished end products in 
accordance with a Recipient Processing Agreement. A recipient agency 
may also enter into a Recipient Processing Agreement on behalf of other 
recipient agencies, in accordance with an agreement between the 
parties. The distributing agency may also permit a recipient agency to 
approve end product data schedules or select nationally approved end 
product data schedules, review processor performance reports, and 
monitor other processing activities under a Recipient Processing 
Agreement. All such activities must be performed in accordance with the 
requirements of this part. All Recipient Processing Agreements must be 
reviewed and approved by the distributing agency.
    (g) Ensuring acceptability of end products. The distributing agency 
must provide for testing of end products to ensure their acceptability 
by recipient agencies prior to entering into State Processing 
Agreements or State Participation Agreements. End products that have 
previously been tested, or that are otherwise determined to be 
acceptable, need not be tested. The distributing agency, or its 
recipient agencies, must monitor product acceptability on an ongoing 
basis.
    (h) Prohibition against subcontracting. A processor may not assign 
any processing activities under its processing agreement, or 
subcontract with another entity to perform any aspect of processing, 
without the specific written consent of the other party to the 
agreement (i.e., distributing, subdistributing, or recipient agency, or 
FNS, as appropriate). The distributing agency may, for example, provide 
the required consent as part of its State Participation Agreement with 
the processor.
    (i) Duration of agreements. An agreement between a distributing, 
subdistributing, or recipient agency and a processor may be up to five 
years in duration. National Processing Agreements are permanent. 
Amendments to any agreements may be made as needed, with the 
concurrence of the parties to the agreement. Such amendments will be 
effective for the duration of the agreement, unless otherwise 
indicated.


Sec.  250.31  Procurement requirements.

    (a) Applicability of Federal procurement requirements. Federal 
procurement requirements in 7 CFR Parts 3016 and 3019 pertain to the 
purchase of finished end products from processors or other processing 
services relating to donated foods. In conducting such procurements, 
distributing or recipient agencies may use procedures that conform to 
applicable State or local laws, as appropriate, but must ensure

[[Page 50269]]

compliance with Federal regulations in 7 CFR Parts 3016 or 3019, as 
applicable.
    (b) Methods of procurement. In accordance with 7 CFR 3016.36 and 
3019.44, the distributing or recipient agency may use small purchase 
procedures in purchasing finished end products or other processing 
services from processors if the cost of the purchase does not exceed 
the simplified acquisition threshold fixed at 41 U.S.C. 403(11) 
(currently set at $100,000). If the cost of such purchase exceeds that 
amount, the distributing or recipient agency must use sealed bids or 
competitive proposals in conducting the procurement. These methods of 
procurement are more fully explained in 7 CFR 3016.36 and 3019.44. 
Federal requirements do not absolve the distributing or recipient 
agency from its obligation to comply with State or local procurement 
laws or procedures that are more stringent than the Federal 
requirements.
    (c) Required information in procurement documents. The procurement 
documents must include the following information:
    (1) The price to be charged for the finished end product or other 
processing service;
    (2) The method of end product sales that will be utilized;
    (3) The contract value of the donated food in the finished end 
products; and
    (4) The location for the delivery of the finished end products.


Sec.  250.32  Protection of donated food value.

    (a) Performance bond or irrevocable letter of credit. The processor 
must obtain a performance bond or an irrevocable letter of credit to 
protect the value of donated foods that it is to receive for 
processing, prior to the delivery of the donated foods. The processor 
must provide the performance bond or letter of credit to the 
distributing agency, in accordance with its State Processing Agreement. 
The amount of the performance bond or letter of credit must be 
sufficient to cover the maximum value of donated foods, both raw and 
processed, that the processor is expected to maintain in inventory at 
any given time, as determined by the distributing agency. A multi-State 
processor must provide the performance bond or letter of credit to FNS, 
in accordance with its National Processing Agreement. The amount of the 
performance bond or letter of credit must be sufficient to cover the 
maximum value of donated foods that the processor is expected to 
maintain in its national inventory at any given time, as determined by 
FNS. The surety company from which a bond or letter of credit is 
obtained must be listed in the most current Department of Treasury 
Circular 570.
    (b) Calling in the performance bond or letter of credit. The 
distributing agency must call in the performance bond or letter of 
credit whenever a processor's lack of compliance with Federal 
requirements, or with the terms of the State Processing Agreement, 
results in a loss of donated foods to the distributing or recipient 
agency, and the processor fails to make restitution or respond to a 
claim action initiated to recover the loss. FNS will call in the 
performance bond or letter of credit in the same circumstances, in 
accordance with National Processing Agreements, and will ensure that 
any monies recovered are reimbursed to distributing agencies for losses 
of entitlement foods.


Sec.  250.33  Processing yields of donated foods.

    (a) End product data schedules. The processor must submit an end 
product data schedule for approval before it may process donated foods 
into end products. For State Processing Agreements, the end product 
data schedule must be approved by the distributing agency and, for 
donated foods processed under guaranteed return or standard yield, must 
also be approved by the Department. For National Processing Agreements, 
the end product data schedule must be approved by the Department. On 
the end product data schedule, the processor must describe its 
processing of donated food into an end product, including the 
information indicated in this paragraph (a). An end product data 
schedule must be submitted, and approved, for each new end product that 
a processor wishes to provide, or for a previously approved end product 
in which the ingredients (or other pertinent information) have been 
altered. In submitting the end product data schedule, the processor may 
use its own format, as long as all of the required information is 
included. The end product data schedule must include the following 
information:
    (1) A description of the end product;
    (2) The types and quantities of donated foods included;
    (3) The types and quantities of other ingredients included;
    (4) The quantity of end product produced; and
    (5) The processing yield of donated food, which may be expressed as 
the quantity (lbs. or cases) of donated food needed to produce a 
specific quantity of end product, or as the percentage of donated food 
returned in the finished end product.
    (b) 100 per cent yield. Processing of all donated foods except 
beef, pork, and poultry must be performed under 100 percent yield. 
Under 100 percent yield, the processor must ensure that 100 percent of 
the raw donated food is returned in the finished end product. The 
processor must replace any processing loss of donated food with 
commercially purchased food of the same generic identity, of U.S. 
origin, and of equal or better quality than the donated food. The 
processor must demonstrate such replacement by reporting reductions in 
donated food inventories on performance reports by the amount of 
donated food contained in the finished end product, rather than the 
amount that went into production. The Department may approve an 
exception if a processor experiences a significant manufacturing loss.
    (c) Guaranteed yield or return. Under guaranteed yield or return, 
the processor must ensure that a specific quantity of end product will 
be produced from a specific quantity of donated food, as determined by 
the parties to the processing agreement, and, for State Processing 
Agreements, approved by the Department. The guaranteed yield must be 
indicated on the end product data schedule.
    (d) Guaranteed minimum yield or return. Under guaranteed minimum 
yield or return, the processor must ensure that a specific minimum 
quantity of end product will be produced from a specific quantity of 
donated food in a production run, as indicated on the end product data 
schedule. If a larger quantity of end product than the guaranteed 
minimum is produced, the processor must provide the full quantity to 
the distributing or recipient agency, as appropriate, and that agency 
must pay the processor for the additional end products produced.
    (e) Standard yield. Under standard yield, the processor must ensure 
that a specific quantity of end product, as determined by the 
Department, will be produced from a specific quantity of donated food. 
The established standard yield is higher than the average yield under 
normal commercial production, and serves to reward those processors 
that can process donated foods most efficiently. The standard yield 
must be indicated on the end product data schedule.
    (f) Compensation for loss of donated foods. The processor must 
compensate the distributing or recipient agency, as appropriate, for 
the loss of donated foods, or for the loss of commercially purchased 
foods substituted for donated foods. Such loss may occur, for example, 
if the processor fails to meet

[[Page 50270]]

the required processing yield of donated food, if donated foods are 
spoiled, damaged, or otherwise adulterated at a processing facility, or 
if end products are improperly distributed. To compensate for such 
loss, the processor must:
    (1) Replace the lost donated food or commercial substitute with 
commercially purchased food of the same generic identity, of U.S. 
origin, and of equal or better quality than the donated food; or
    (2) Pay the distributing or recipient agency, as appropriate, for 
the replacement value of the donated food or commercial substitute.
    (g) Compensation for end products that are wholesome but not 
suitable for use. The processor must compensate the distributing or 
recipient agency, as appropriate, for donated foods, or for 
commercially purchased foods substituted for donated foods, contained 
in any end products that are wholesome but not suitable for use in the 
recipient agency's food service. To make such compensation, the 
processor must return the end products to production for processing 
into end products that meet the required specifications (which are 
commonly called rework products). However, except under guaranteed 
return or standard yield, the processor may also make such compensation 
by paying the distributing or recipient agency, as appropriate, for the 
replacement value of the donated foods or commercial substitutes 
contained in the end products and retain such end products for its own 
use.
    (h) Credit for sale of by-products. The processor must credit the 
distributing or recipient agency, as appropriate, for the sale of any 
by-products produced in the processing of donated foods, except under 
guaranteed return or standard yield. The processor must credit for the 
net value of such sale, or the market value of the by-products, after 
subtraction of any documented expenses incurred in preparing the by-
product for sale. Crediting must be achieved through invoice reduction 
or by another means of crediting.
    (i) Labeling requirements. The processor must ensure that all end 
product labels meet Federal labeling requirements. If a processor 
claims that an end product contributes to fulfillment of meal pattern 
requirements in child nutrition programs, it must follow the procedures 
required for approval of labels for such end products.


Sec.  250.34  Substitution of donated foods.

    (a) Substitution of commercially purchased foods for donated foods. 
Unless its agreement specifically stipulates that the donated foods 
must be used in processing, the processor may substitute commercially 
purchased foods for donated foods that are delivered to it from a USDA 
vendor. The commercially purchased food must be of the same generic 
identity, of U.S. origin, and of equal or better quality than the 
donated food. At the option of the processor, substitution may be made 
before the actual receipt of the donated food shipment. However, the 
Department may not be held liable if, due to changing market conditions 
or other reasons, the purchase of donated foods and their delivery to 
the processor is not feasible. Commercially purchased food substituted 
for donated food must meet the same processing yield requirements in 
Sec.  250.33 that would be required for the donated food.
    (b) Prohibition against substitution and other requirements for 
backhauled donated foods. The processor may not substitute or commingle 
donated foods that are backhauled to it from a recipient agency's 
storage facility. The processor must process backhauled donated foods 
into end products for sale and delivery to the recipient agency that 
provided them, and not to any other recipient agency. The processor may 
not provide payment for backhauled donated foods in lieu of processing.
    (c) Grading requirements. To assure that substitution requirements 
are met, the processing of donated beef, pork, and poultry must occur 
under Federal acceptance service grading, which is conducted by the 
Agricultural Marketing Service (AMS). Under Federal acceptance service 
grading, the grader verifies the quality and quantity of food that is 
put into production, and the quantity of end products produced. Federal 
acceptance service grading is not required for substitution of other 
donated foods, unless specifically requested by the Department or by 
the distributing agency. If the distributing agency determines that 
acceptance service grading is to be performed, it must consult with the 
applicable Federal agency in establishing specific grading 
requirements. The processor is responsible for paying the cost of 
acceptance service grading, whether required by regulations, or 
requested by the Department or the distributing agency. The processor 
must maintain grading certificates and other records necessary to 
document that substitution of all donated foods has been conducted in 
accordance with the requirements of this subpart.
    (d) Waiver of grading requirements. The distributing agency may 
waive the grading requirement for donated beef, pork, or poultry in 
accordance with one of the conditions listed in this paragraph (d). 
However, grading may only be waived on a case by case basis (i.e., for 
a particular production run); the distributing agency may not approve a 
blanket waiver of the requirement. Additionally, a waiver may only be 
granted if a processor's past performance indicates that the quality of 
the end product will not be adversely affected. The conditions for 
granting a waiver include:
    (1) The processor has insufficient time to secure the services of a 
grader;
    (2) The cost of the grader's service in relation to the value of 
donated beef, pork, or poultry being processed would be excessive; or
    (3) The distributing or recipient agency's urgent need for the 
product leaves insufficient time to secure the services of a grader.
    (e) Use of substituted donated foods. The processor may use donated 
foods that have been substituted with commercially purchased foods in 
other processing activities conducted at its facilities. The processor 
may also sell substituted donated foods as an intact unit, but must 
remove all USDA labels (as applicable) before such sale.


Sec.  250.35  Storage, inspection, quality control, and inventory 
management.

    (a) Storage and quality control. The processor must ensure the safe 
and effective storage of donated foods, including compliance with the 
general storage requirements in Sec.  250.14(b), and must maintain an 
effective quality control system at its processing facilities. The 
processor must maintain documentation to verify the effectiveness of 
its quality control system, and must provide such documentation upon 
request.
    (b) Inspection requirements. The processor must ensure that all 
processing of donated beef, pork, and poultry, and of commercial meat 
products that contain any donated foods, is performed in plants under 
continuous Federal meat or poultry inspection. However, in States 
certified as having programs at least equal to Federal standards, 
processing of such foods may be performed in plants under continuous 
State meat or poultry inspection for processed end products that are 
utilized in the State, rather than the Federal inspection. Such 
inspections assure that plants maintain wholesomeness and sanitation 
requirements, and that labeling requirements are met.
    (c) Commingling of donated foods and commercially purchased foods. 
The processor may commingle donated

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foods and commercially purchased foods, unless the processing agreement 
specifically requires separation of donated foods from commercially 
purchased foods, or the donated foods have been backhauled from a 
recipient agency. However, such commingling must be performed in a 
manner that ensures the safe and efficient use of donated foods, as 
well as compliance with substitution requirements in Sec.  250.34, and 
with reporting of donated food inventories on performance reports, as 
required in Sec.  250.37. The processor must also ensure that 
commingling of processed end products and other food products by the 
distributor ensures the sale and delivery of end products that meet 
substitution requirements.
    (d) Limitations on donated food inventories. The processor may not 
maintain donated food inventories in excess of a six-month supply, 
based on an average amount of donated foods utilized for that period. 
However, the distributing agency may provide written approval to the 
processor to maintain a larger amount of donated foods in inventory if 
it determines that the processor may efficiently store and process such 
an amount. Unless such approval has been granted, the distributing 
agency may not order donated foods for delivery to a processor if it 
would result in excessive donated food inventories.
    (e) Excess donated food inventories. The distributing agency may 
permit the processor to carry over donated food inventories in excess 
of allowed levels into the next year of its agreement, if it determines 
that the processor may efficiently process such foods. The distributing 
agency may also direct the processor to transfer or redonate such 
donated foods to other distributing or recipient agencies or 
processors, in accordance with Sec.  250.13. Redonation of donated 
foods may not be performed without FNS approval, in accordance with 
Sec.  250.13(h). However, if these actions are not practical, the 
distributing agency must require the processor to pay it for the 
donated foods held in excess of allowed levels, at the replacement 
value of the donated foods.
    (f) Disposition of donated food inventories upon agreement 
termination. When an agreement terminates, and is not extended or 
renewed, the processor must take one of the actions indicated in this 
paragraph (f) with respect to remaining donated food inventories, as 
directed by the distributing agency. The processor must pay the cost of 
transporting any donated foods when the agreement is terminated at the 
processor's request, or as a result of the processor's failure to 
comply with the requirements of this part. The processor must:
    (1) Return the donated foods, or commercially purchased foods that 
meet the substitution requirements in Sec.  250.34, to the distributing 
or recipient agency, as appropriate;
    (2) Transfer or redonate the donated foods, or commercially 
purchased foods that meet the substitution requirements in Sec.  
250.34, to another distributing or recipient agency with which it has a 
processing agreement; or
    (3) Pay the distributing or recipient agency, as appropriate, for 
the donated foods, at the processing agreement value or replacement 
value of the donated foods, whichever is higher.


Sec.  250.36  End product sales and crediting for the value of donated 
foods.

    (a) Methods of end product sales. To ensure that the distributing 
or recipient agency, as appropriate, receives credit for the value of 
donated foods contained in end products, the sale of end products must 
be performed using one of the systems of end product sales described in 
this section. All systems of sales utilized must provide clear 
documentation of crediting for the value of the donated foods contained 
in the end products.
    (b) Refund or rebate. Under this system, the processor sells end 
products to the distributing or recipient agency, as appropriate, at 
the commercial, or gross, price, and must provide a refund or rebate 
for the value of the donated food contained in the end products. The 
processor may also deliver end products to a commercial distributor for 
sale to distributing or recipient agencies under this system. In both 
cases, the processor must provide a refund to the appropriate agency 
within 30 days of receiving a request for a refund from that agency. 
The refund request must be in writing but may be by e-mail or other 
electronic submission.
    (c) Direct discount. Under this system, the processor must sell end 
products to the distributing or recipient agency, as appropriate, at a 
net price that provides a discount from the commercial case price for 
the value of donated food contained in the end products.
    (d) Indirect discount. Under this system, the processor delivers 
end products to a commercial distributor, which must sell the end 
products to an eligible distributing or recipient agency, as 
appropriate, at a net price that provides a discount from the 
commercial case price for the value of donated food contained in the 
end products. The processor must require the distributor to notify it 
of such sales, on a monthly basis, through automated sales reports or 
other electronic or written submission. The processor then compensates 
the distributor for the value of the discount provided to the 
distributing or recipient agency.
    (e) Fee-for-service. Under this system, the processor must sell end 
products to the distributing or recipient agency, as appropriate, at a 
fee-for-service, which includes all costs to produce the end products 
minus the value of the donated food used in production. The processor 
must identify any charge for delivery of end products separately from 
the fee-for-service on its invoice. If the processor provides end 
products sold under fee-for-service to a distributor for delivery to 
the distributing or recipient agency, the processor must identify the 
distributor's delivery charge separately from the fee-for-service on 
its invoice, or may permit the distributor to bill the appropriate 
agency separately for the delivery of end products. The processor may 
also provide written approval to the distributor to bill the 
distributing or recipient agency for the total case price (i.e., 
including the fee-for-service and the delivery charge), but must ensure 
that the distributor identifies the fee-for-service and delivery charge 
separately on the invoice. The processor must require the distributor 
to notify it of such sales in writing, on a monthly basis, through 
automated sales reports, e-mail, or other electronic submission.
    (f) Approved alternate method. The processor or distributor may 
sell end products under an alternate method approved by FNS and the 
distributing agency that ensures crediting for the value of donated 
foods.
    (g) Donated food value used in crediting. In crediting for donated 
foods in end product sales, the processing agreement value of the 
donated foods, as defined in Sec.  250.3, must be used.
    (h) Ensuring sale and delivery of end products to eligible 
recipient agencies. In order to ensure the sale of end products to 
eligible recipient agencies, the distributing agency must provide the 
processor with a list of recipient agencies eligible to purchase end 
products, along with the quantity of raw donated food that is to be 
delivered to the processor for processing on behalf of each recipient 
agency. In order to ensure that the distributor sells end products only 
to eligible recipient agencies, the processor must provide the 
distributor with a list of eligible recipient agencies and the 
quantities of end products that they are eligible to receive.

[[Page 50272]]

Sec.  250.37  Reports, records, and reviews of processor performance.

    (a) Performance reports. The processor must submit a performance 
report to the distributing agency on a monthly basis to describe its 
processing of donated foods. The report must include the information 
listed in this paragraph (a). Performance reports must be submitted not 
later than 30 days after the end of the reporting period; however, the 
final performance report must be submitted within 60 days of the end of 
the reporting period. The performance report must include the following 
information for the reporting period, with year-to-date totals:
    (1) The quantity of donated foods in inventory at the beginning of 
the reporting period;
    (2) The quantity of donated foods received;
    (3) The quantity of donated foods transferred to the processor from 
another entity, or transferred by the processor to another entity;
    (4) The quantity of end products delivered to each eligible 
recipient agency;
    (5) The quantity of donated foods remaining at the end of the 
reporting period;
    (6) Grading certificates, as applicable; and
    (7) Other supporting documentation, as required by the distributing 
agency.
    (b) Reporting reductions in donated food inventories. The processor 
may not report reductions in donated food inventories on performance 
reports until sales of end products have been made, or until sales of 
end products through distributors have been verified. When a 
distributor sells end products under a refund system, verification 
consists of the distributing or recipient agency's request for a 
refund. When a distributor sells end products under indirect discount 
or fee-for-service, verification consists of the receipt of the 
distributor's automated sales reports or other electronic or written 
reports submitted to the processor.
    (c) Summary performance report. Along with the submission of 
performance reports to the distributing agency, a multi-State processor 
must submit a summary performance report to FNS, on a monthly basis, in 
accordance with its National Processing Agreement. The summary report 
must include an accounting of the processor's national inventory of 
donated foods, including the information listed in this paragraph (c). 
The report must be submitted not later than 30 days after the end of 
the reporting period; however, the final performance report must be 
submitted within 60 days of the end of the reporting period. The 
summary performance report must include the following information for 
the reporting period:
    (1) The total donated food inventory by State and the national 
total at the beginning of the reporting period;
    (2) The total quantity of donated food received by State, with 
year-to-date totals, and the national total of donated food received;
    (3) The total quantity of donated food reduced from inventory by 
State, with year-to-date totals, and the national total of donated 
foods reduced from inventory; and
    (4) The total quantity of donated foods remaining in inventory by 
State, and the national total, at the end of the reporting period.
    (d) Recordkeeping requirements for processors. The processor must 
maintain the following records relating to the processing of donated 
foods:
    (1) End product data schedules and summary end product data 
schedules, as applicable;
    (2) Receipt of donated food shipments;
    (3) Production, sale, and delivery of end products, including sales 
through distributors;
    (4) Remittance of refunds, invoices, or other records that assure 
crediting for donated foods in end products, and for sale of 
byproducts;
    (5) Documentation of Federal or State inspection of processing 
facilities, as appropriate, and of the maintenance of an effective 
quality control system;
    (6) Documentation of substitution of commercial foods for donated 
foods, including grading certificates, as applicable;
    (7) Waivers of grading requirements, as applicable; and
    (8) Required reports.
    (e) Recordkeeping requirements for the distributing agency. The 
distributing agency must maintain the following records relating to the 
processing of donated foods:
    (1) Processing agreements;
    (2) End product data schedules or summary end product data 
schedules, as applicable;
    (3) Performance reports;
    (4) Grading certificates, as applicable;
    (5) Documentation that supports information on the performance 
report, including sales of end products and crediting for donated 
foods, as required by the distributing agency;
    (6) Copies of audits of in-State processors and documentation of 
the correction of any deficiencies identified in such audits;
    (7) The receipt of end products, as applicable; and
    (8) Procurement documents, as applicable.
    (f) Recordkeeping requirements for the recipient agency. The 
recipient agency must maintain the following records relating to the 
processing of donated foods:
    (1) The receipt of end products purchased from processors or 
distributors;
    (2) Crediting for donated foods included in end products;
    (3) Recipient Processing Agreements, as applicable, and, in 
accordance with such agreements, other records included in paragraph 
(d) of this section, if not retained by the distributing agency; and
    (4) Procurement documents, as applicable.
    (g) Review requirements for the distributing agency. The 
distributing agency must review performance reports and its own 
records, as required in paragraph (e) of this section, and any other 
supporting documentation, to ensure that the processor:
    (1) Receives donated food shipments;
    (2) Delivers end products to eligible recipient agencies, in the 
types and quantities for which they are eligible;
    (3) Meets the required processing yields for donated foods under 
guaranteed minimum yield; and
    (4) Accurately reports donated food inventory activity, and 
maintains inventories within approved levels.


Sec.  250.38  Provisions of agreements.

    (a) National Processing Agreement. A National Processing Agreement 
includes provisions to ensure that a multi-State processor complies 
with all of the applicable requirements in this part relating to the 
processing of donated foods.
    (b) Required provisions for State Participation Agreement. A State 
Participation Agreement with a multi-State processor must include the 
following provisions:
    (1) Contact information for all appropriate parties to the 
agreement;
    (2) The effective dates of the agreement;
    (3) A list of recipient agencies eligible to receive end products;
    (4) Summary end product data schedules, with end products that may 
be sold in the State;
    (5) Assurance that the processor will not substitute or commingle 
backhauled donated foods, and will provide end products processed from 
such donated foods only to the recipient agency from which the foods 
were received;
    (6) Any applicable labeling requirements;
    (7) Other processing requirements implemented by the distributing 
agency,

[[Page 50273]]

in accordance with the requirements in 7 CFR Part 250, such as the 
specific method(s) of end product sales permitted;
    (8) A statement that the agreement may be terminated by either 
party upon 30 days' written notice; and
    (9) A statement that the agreement may be terminated immediately if 
the processor has not complied with its terms and conditions.
    (c) Required provisions for State Processing Agreement. A State 
Processing Agreement must include the following provisions or 
attachments:
    (1) Contact information for all appropriate parties to the 
agreement;
    (2) The effective dates of the agreement;
    (3) A list of recipient agencies eligible to receive end products, 
as applicable;
    (4) In the event that subcontracting is allowed, the specific 
activities that will be performed under subcontracts;
    (5) Assurance that the processor will provide a performance bond or 
irrevocable letter of credit to protect the value of donated foods it 
is expected to maintain in inventory, in accordance with Sec.  250.32;
    (6) End product data schedules for all end products, with all 
required information, in accordance with Sec.  250.33;
    (7) Assurance that the processor will meet processing yields for 
donated foods, in accordance with Sec.  250.33;
    (8) Assurance that the processor will compensate the distributing 
or recipient agency, as appropriate, for any loss of donated foods, in 
accordance with Sec.  250.33;
    (9) Any applicable labeling requirements;
    (10) Assurance that the processor will meet requirements for the 
substitution of commercially purchased foods for donated foods, 
including grading requirements, in accordance with Sec.  250.34;
    (11) Assurance that the processor will not substitute or commingle 
backhauled donated foods, and will provide end products processed from 
such donated foods only to the recipient agency from which the foods 
were received, as applicable;
    (12) Assurance that the processor will provide for the safe and 
effective storage of donated foods, meet inspection requirements, and 
maintain an effective quality control system at its processing 
facilities;
    (13) Assurance that the processor will report donated food 
inventory activity and maintain inventories within approved levels;
    (14) Assurance that the processor will return, transfer, or pay 
for, donated food inventories remaining upon termination of the 
agreement, in accordance with Sec.  250.35;
    (15) The specific method(s) of end product sales permitted, in 
accordance with Sec.  250.36;
    (16) Assurance that the processor will credit recipient agencies 
for all donated foods, in accordance with Sec.  250.36;
    (17) Assurance that the processor will submit performance reports 
and meet other reporting and recordkeeping requirements, in accordance 
with Sec.  250.37;
    (18) Assurance that the processor will obtain independent CPA 
audits, and will correct any deficiencies identified in such audits, in 
accordance with Sec.  250.18;
    (19) A statement that the distributing agency, subdistributing 
agency, or recipient agency, the Comptroller General, the Department of 
Agriculture, or their duly authorized representatives, may perform on-
site reviews of the processor's operation to ensure that all activities 
relating to donated foods are performed in accordance with the 
requirements in 7 CFR Part 250;
    (20) A statement that the agreement may be terminated by either 
party upon 30 days' written notice;
    (21) A statement that the agreement may be terminated immediately 
if the processor has not complied with its terms and conditions; and
    (22) A statement that extensions or renewals of the agreement, if 
applicable, are contingent upon the fulfillment of all agreement 
provisions.
    (d) Required provisions for Recipient Processing Agreement. The 
Recipient Processing Agreement must contain the same provisions as a 
State Processing Agreement, to the extent that the distributing agency 
permits the recipient agency to monitor compliance with the applicable 
processing requirements (e.g., approval of end product data schedules 
or review of performance reports). However, a list of recipient 
agencies eligible to receive end products need not be included.
    (e) Noncompliance with processing requirements. If the processor 
has not complied with processing requirements, the distributing or 
recipient agency, as appropriate, must not extend or renew the 
agreement, and may immediately terminate it.


Sec.  250.39  Miscellaneous provisions.

    (a) Waiver of processing requirements. The Department may waive any 
of the requirements of this part for the purpose of conducting 
demonstration projects to determine if processing of donated foods may 
be performed more efficiently or effectively by other means.
    (b) Guidance or information. Guidance or information relating to 
the processing of donated foods is included on the FNS Web site at 
http://www.fns.usda.gov/fdd, or may otherwise be obtained from FNS. 
Such guidance or information includes, for example, program regulations 
and policies, the processing handbook, the FNS Audit Guide, National 
Processing Agreement prototypes, and summary end product data schedule 
prototypes.

    Dated: August 11, 2006.
Roberto Salazar,
Administrator, Food and Nutrition Service.
[FR Doc. 06-7073 Filed 8-23-06; 8:45 am]
BILLING CODE 3410-30-P