[Federal Register Volume 84, Number 118 (Wednesday, June 19, 2019)]
[Proposed Rules]
[Pages 28668-28706]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-11501]



[[Page 28667]]

Vol. 84

Wednesday,

No. 118

June 19, 2019

Part III





Department of the Treasury





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Internal Revenue Service





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26 CFR Part 1





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

  Federal Register / Vol. 84, No. 118 / Wednesday, June 19, 2019 / 
Proposed Rules  

[[Page 28668]]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-118425-18]
RIN 1545-B090


Section 199A Rules for Cooperatives and Their Patrons

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking; withdrawal of notice of proposed 
rulemaking.

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SUMMARY: These proposed regulations provide guidance to cooperatives to 
which sections 1381 through 1388 of the Internal Revenue Code (Code) 
apply (Cooperatives) and their patrons regarding the deduction for 
qualified business income (QBI) under section 199A(a) of the Code as 
well as guidance to specified agricultural or horticultural 
cooperatives (Specified Cooperatives) and their patrons regarding the 
deduction for domestic production activities under section 199A(g) of 
the Code. These proposed regulations also provide guidance on section 
199A(b)(7), the rule requiring patrons of Specified Cooperatives to 
reduce their deduction for QBI under section 199A(a). In addition, 
these proposed regulations include a single definition of patronage and 
nonpatronage under section 1388 of the Code. Finally, these proposed 
regulations propose to remove the final regulations, and withdraw the 
proposed regulations that have not been finalized, under former section 
199. These proposed regulations affect Cooperatives as well as patrons 
that are individuals, partnerships, S corporations, trusts, and estates 
engaged in domestic trades or businesses.

DATES: Written (including electronic) comments and requests for a 
public hearing must be received by August 19, 2019. As of June 19, 
2019, the proposed rule published on August 27, 2015 (80 FR 51978), is 
withdrawn.

ADDRESSES: Submit electronic submissions via the Federal eRulemaking 
Portal at www.regulations.gov (indicate IRS and REG-118425-18) by 
following the online instructions for submitting comments. Once 
submitted to the Federal eRulemaking Portal, comments cannot be edited 
or withdrawn. The Department of the Treasury (Treasury Department) and 
the IRS will publish for public availability any comment received to 
its public docket, whether submitted electronically or in hard copy. 
Send hard copy submissions to: CC:PA:LPD:PR (REG-118425-18), Room 5203, 
Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, 
Washington, DC 20044. Submissions may be hand-delivered Monday through 
Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-
1118425-18), Courier's Desk, Internal Revenue Service, 1111 
Constitution Avenue NW, Washington, DC 20224.

FOR FURTHER INFORMATION CONTACT: Concerning the proposed regulations, 
James Holmes at (202) 317-4137; concerning submissions of comments and 
requests for hearing, Regina L. Johnson at (202) 317-6901 (not toll-
free numbers).

SUPPLEMENTARY INFORMATION:

Background

    This document contains proposed amendments to the Income Tax 
Regulations (26 CFR part 1) under sections 199A and 1388 of the Code.
    Section 199A was enacted on December 22, 2017, by section 11011 of 
``An Act to provide for reconciliation pursuant to titles II and V of 
the concurrent resolution on the budget for fiscal year 2018,'' Public 
Law 115-97, 131 Stat. 2054, 2063 (TCJA). Parts of section 199A were 
amended on March 23, 2018, as if included in TCJA, by section 101 of 
Division T of the Consolidated Appropriations Act, 2018, Public Law 
115-141, 132 Stat. 348, 1151 (2018 Act). Section 199A applies to 
taxable years beginning after 2017 and before 2026. Unless otherwise 
indicated, all references to section 199A are to section 199A as 
amended by the 2018 Act.
    In addition, section 13305 of the TCJA repealed section 199 (former 
section 199), which provided a deduction for income attributable to 
domestic production activities (section 199 deduction). Public Law 115-
97, 131 Stat. 2054, 2126. The repeal of former section 199 is effective 
for all taxable years beginning after 2017. This notice of proposed 
rulemaking therefore proposes to remove the final regulations under 
former section 199, and withdraws proposed regulations under former 
section 199.
    Section 199A(a) provides taxpayers a deduction of up to 20 percent 
of QBI from a domestic business operated as a sole proprietorship or 
through a partnership, S corporation, trust, or estate, and up to 20 
percent of qualified real estate investment trust (REIT) dividends and 
publicly traded partnership (PTP) income (section 199A(a) deduction). 
Section 199A(b)(7) requires patrons of Specified Cooperatives to reduce 
their section 199A(a) deduction if those patrons receive certain 
payments from such cooperatives. Section 199A(g) provides a deduction 
for Specified Cooperatives and their patrons (section 199A(g) 
deduction) that is based on the former section 199 deduction. Before 
the amendments of the 2018 Act, section 199A(g) provided a modified 
version of the section 199A(a) deduction for Specified Cooperatives.
    The Treasury Department and the IRS published proposed regulations 
(REG-107892-18) providing guidance on the section 199A(a) deduction in 
the Federal Register (83 FR 40884) on August 16, 2018 (August 2018 
NPRM). The final regulations were published in the Federal Register (84 
FR 2952) on February 8, 2019 (TD 9847).
    TD 9847 did not address patrons' treatment of payments received 
from Cooperatives for purposes of section 199A(a) or the section 
199A(g) deduction for Specified Cooperatives, though it did restate the 
reduction required under section 199A(b)(7). See Sec.  1.199A-1(e)(7). 
The August 2018 NPRM preamble stated that the Treasury Department and 
the IRS would continue to study the area and intended to issue separate 
proposed regulations describing rules for applying section 199A to 
Specified Cooperatives and their patrons. This notice of proposed 
rulemaking sets forth those proposed regulations and provides 
additional guidance to patrons calculating their 199A(a) deduction.

Explanation of Provisions

    The purpose of these proposed regulations is to provide guidance 
regarding the application of sections 199A(a), 199A(b)(7), and 199A(g) 
to Cooperatives and their patrons as well as to Specified Cooperatives 
and their patrons. Whereas section 199A(a) is generally available to 
patrons of all Cooperatives, sections 199A(b)(7) and 199A(g) apply only 
to Specified Cooperatives and their patrons.
    These proposed regulations are organized into six sections: 
Proposed Sec. Sec.  1.199A-7 through 1.199A-12. Proposed Sec.  1.199A-7 
describes rules for patrons of Cooperatives to calculate their section 
199A(a) deduction and rules for patrons of Specified Cooperatives to 
calculate the reduction to their section 199A(a) deduction as required 
by section 199A(b)(7). Unless otherwise provided in these proposed 
regulations, all of the rules set forth in TD 9847 relating to the 
section 199A(a) deduction apply to Cooperatives and their patrons. 
Specified Cooperatives are a subset of Cooperatives; therefore, the

[[Page 28669]]

requirements of proposed Sec.  1.199A-7 also apply to Specified 
Cooperatives.
    Proposed Sec.  1.199A-8 sets out the criteria that Specified 
Cooperatives must satisfy to qualify for the section 199A(g) deduction, 
and sets forth four steps necessary to calculate this deduction. These 
proposed regulations provide that the section 199A(g) deduction 
available to Specified Cooperatives and their patrons is generally 
computed only with respect to patronage gross receipts and related 
deductions. Exempt Specified Cooperatives (those that qualify under 
section 521) may compute their section 199A(g) deductions with respect 
to both patronage and nonpatronage gross receipts and related 
deductions.
    Proposed Sec. Sec.  1.199A-9 through 1.199A-11 provide additional 
guidance, based on the regulations under former section 199, regarding 
the four steps set forth in proposed Sec.  1.199A-8. Proposed Sec.  
1.199A-9 provides additional rules for determining a Specified 
Cooperative's domestic production gross receipts (DPGR). Proposed Sec.  
1.199A-10 provides additional rules for calculating costs (including 
cost of goods sold (COGS) and other expenses, losses, and deductions) 
allocable to a Specified Cooperative's DPGR. Proposed Sec.  1.199A-11 
provides additional rules for determining the W-2 wage limitation in 
section 199A(g)(1)(B). Proposed Sec.  1.199A-12 details rules for 
applying section 199A(g) in the context of an expanded affiliated group 
(EAG) and other special rules contained in section 199A(g)(5) that are 
not otherwise addressed in these proposed regulations.
    These proposed regulations also include, under section 1388, a 
single definition of patronage and nonpatronage in proposed Sec.  
1.1388-1(f), which is intended to reflect the current case law under 
section 1388. This Explanation of Provisions describes each section of 
the proposed regulations in more detail.

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

A. In General

    As noted in the Background, section 199A(a) may allow a taxpayer a 
deduction of up to 20 percent of QBI from a domestic business operated 
as a sole proprietorship or through a partnership, S corporation, 
trust, or estate, and up to 20 percent of qualified REIT dividends and 
PTP income. A section 199A(a) deduction is not available for wage 
income or for business income earned through a C corporation.
    C corporations are not eligible for the section 199A(a) deduction. 
Cooperatives are C corporations for Federal income tax purposes and, 
therefore, are not eligible for the section 199A(a) deduction. 
Similarly, patrons that are C corporations are also not eligible for 
the section 199A(a) deduction. However, patrons that are individuals 
are eligible for the section 199A(a) deduction. Section 1.199A-1(a)(2) 
provides that, for purposes of applying the rules of Sec. Sec.  1.199A-
1 through 1.199A-6, a reference to an individual includes a reference 
to a trust (other than a grantor trust) or an estate to the extent that 
the section 199A(a) deduction is determined by the trust or estate 
under the rules of Sec.  1.199A-6. These proposed regulations apply 
this same usage of the term individual.
    The benefits of section 199A(a) are limited to individuals with 
income from a trade or business as defined in section 199A(d)(1) and 
Sec.  1.199A-1(b)(14) (trade or business) with QBI. To the extent a 
patron operating a trade or business has income directly from that 
business (as opposed to receiving a patronage dividend from a 
Cooperative), the patron must follow the rules of Sec. Sec.  1.199A-1 
through 1.199A-6 to calculate the section 199A deduction. However, to 
the extent a patron receives patronage dividends or similar payments 
from a Cooperative, the patron must follow the additional special rules 
and clarification in proposed Sec.  1.199A-7 to calculate the section 
199A deduction.
    For these purposes, patronage dividends or similar payments include 
money, property, qualified written notices of allocations, and 
qualified per-unit retain certificates for which an exempt or nonexempt 
Cooperative receives a deduction under section 1382(b), and 
nonpatronage distributions paid in money, property, qualified written 
notices of allocation as well as money or property paid in redemption 
of a nonqualified written notice of allocation for which an exempt 
Cooperative receives a deduction under section 1382(c)(2) (hereinafter 
collectively referred to as patronage dividends or similar payments).
    Section 1.199A-7(c) and (d) of these proposed regulations provide 
that these patronage dividends or similar payments may be included in 
the patron's QBI: (i) To the extent that these payments are related to 
the patron's trade or business, (ii) are qualified items of income, 
gain, deduction, or loss at the Cooperative's trade or business level, 
(iii) are not income from a specified service trade or business (SSTB), 
as defined in section 199A(d)(2), at the Cooperative's trade or 
business level (except as permitted by the threshold rules, see Sec.  
1.199A-5(a)(2)), and (iv) provided the patron receives certain 
information from the Cooperative about these payments (see proposed 
Sec.  1.199A-7(c)(3) and (d)(3)). Proposed Sec.  1.199A-7(e) provides 
that in situations in which a patron conducts a trade or business that 
receives patronage dividends or similar payments from a Cooperative, 
the W-2 wages and unadjusted basis immediately after acquisition (UBIA) 
of qualified property considered are those of the patron's trade or 
business and not of the Cooperative that directly conducts the trade or 
business from which the payments arise. All of these proposed rules are 
discussed further in this section.

B. QBI of Patrons

    Although Cooperatives are C corporations for Federal income tax 
purposes, section 1382(b) and (c) allow Cooperatives to determine 
taxable income after deducting distributions of patronage dividends or 
similar payments to patrons. The effect of these deductions is to 
remove the distributions from income taxed at the Cooperative level 
leaving it subject to income tax only at the patron level. Exempt and 
nonexempt Cooperatives are both permitted to deduct patronage 
distributions if they satisfy the requirements described in section 
1382(b). Only exempt Cooperatives are permitted to also deduct 
nonpatronage distributions if the requirements under section 1382(c) 
are met. Cooperatives are subject to Federal income tax on income for 
which no deduction may be taken under section 1382(b) or (c), in the 
same manner as any C corporation.
    Section 1.199A-3(b) contains the general rules regarding QBI. QBI 
is the net amount of qualified items of income, gain, deduction, and 
loss with respect to any trade or business as determined under those 
rules. While income from the ownership of a C corporation is generally 
not QBI, section 199A provides a special rule for patrons receiving 
patronage dividends from a Cooperative.
    Section 199A(c)(3)(B)(ii) provides that any amount described in 
section 1385(a)(1), which concerns patronage dividends, is not treated 
as an exclusion to a patron's QBI. The Joint Committee on Taxation 
Report (JCX-6-18, released March 22, 2018) (Joint Committee Report) 
states that QBI includes any patronage dividend (as defined in section 
1388(a)), per-unit retain allocation (as defined in section 1388(f)), 
qualified written notice of allocation (as defined in section

[[Page 28670]]

1388(c)), or any other similar amount received from a Cooperative, 
provided such amount is otherwise a qualified item of income, gain, 
deduction, or loss (that is, such amount is (i) effectively connected 
with the conduct of a trade or business within the United States, and 
(ii) included or allowed in determining taxable income for the taxable 
year). Joint Committee Report, pages 24-25. As a result, the rules of 
proposed Sec.  1.199A-7(c) provide that patronage dividends or similar 
payments (as previously discussed) are included in calculating QBI for 
purposes of the patrons' section 199A(a) deduction provided the amounts 
are otherwise qualified items. To be otherwise qualified, these amounts 
must be qualified items of income, gain, deduction, and loss under 
section 199A(c)(3).
    Unlike nonexempt Cooperatives, exempt Cooperatives are permitted to 
deduct nonpatronage distributions under section 1382(c). As a result, 
this income is subject to taxation only at the patron level. The rules 
of proposed Sec.  1.199A-7(c) provide that a patron's QBI can include 
payments to patrons for which the exempt Cooperative receives a 
deduction under section 1382(c)(2) in addition to payments for which 
the exempt Cooperative receives a deduction under section 1382(b). That 
is, amounts paid under section 1382(c)(2) are treated by a patron as 
equivalent to patronage dividends under section 1382(b) for purposes of 
QBI. Amounts paid under section 1382(c)(1) (dividends on capital 
stock), however, are dividends from ownership of C corporations, which 
are not included in QBI.
    TD 9847 generally provides that income is tested at the trade or 
business level where it is directly generated. Accordingly, these 
proposed regulations provide that patronage dividends or similar 
payments are considered to be generated from the trade or business the 
Cooperative conducts on behalf of or with the patron, and are tested by 
the Cooperative at its trade or business level.
    A patron must determine QBI for each trade or business it directly 
conducts. However, in situations where the patron receives a 
distribution from a Cooperative that is a patronage dividend or similar 
payment, the Cooperative determines whether that distribution contains 
qualified items of income, as defined under section Sec.  1.199A-3(b), 
and reports that information to the patron. The patron needs this 
information to determine its section 199A(a) deduction, and the 
Cooperative directly conducting the trade or business from which the 
distribution is derived is in the best position to know whether the 
patronage dividend or similar payment contains qualified items. The 
Cooperative must report this information regardless of whether the 
patron's taxable income does not exceed the threshold amount ($315,000 
in the case of joint returns and $157,500 for all other taxpayers for 
any taxable year beginning before 2019). For taxable years beginning 
after 2018, see Rev. Proc. 2018-57, 2018-49 IRB 827, or its successor 
(relating to inflation adjustments).
    A patron must use that information when determining the patron's 
section 199A(a) deduction. For example, if the Cooperative determines 
an entire distribution does not contain any qualified item of income, 
gain, deduction, and loss because it is not effectively connected with 
the conduct of the Cooperative's trade or business within the United 
States, the Cooperative does not include such amount when reporting 
qualified items to the patron, and the patron does not include the 
distribution in the patron's QBI. In addition, to the extent the 
distribution includes interest income that is not properly allocable to 
the Cooperative's trade or business on behalf of, or with, its patrons, 
the distribution is not a qualified item of income, gain, deduction, 
and loss. As a result, the Cooperative does not include such amount 
when reporting qualified items to the patron, and the patron does not 
include the income in the patron's QBI.
    Proposed Sec.  1.199A-7(c)(3) provides that the Cooperative must 
report the amount of qualified items of income, gain, deduction, or 
loss in the distributions made to the patron on an attachment to or on 
the Form 1099-PATR, Taxable Distributions Received From Cooperatives 
(Form 1099-PATR) (or any successor form), issued by the Cooperative to 
the patron, unless otherwise provided by the instructions to the Form. 
The Cooperative does not include any items from an SSTB in reporting 
the amount of qualified items of income, gain, deduction, and loss and 
must instead follow the rules in proposed Sec.  1.199A-7(d) for income 
from an SSTB. If a patron does not receive such information from the 
Cooperative on or before the due date of the Form 1099-PATR, the amount 
of distributions from the Cooperative that may be included in the 
patron's QBI is presumed to be zero. This presumption does not apply to 
amounts of qualified items of income, gain, deduction and loss to the 
extent that they were not reported on the Form 1099-PATR or attachment 
thereto before the publication of these proposed regulations in the 
Federal Register. These rules apply to both exempt and nonexempt 
Cooperatives as well as patronage and nonpatronage distributions. The 
Treasury Department and the IRS request comments on these reporting 
requirements and whether any additional information from Cooperatives 
that make distributions to their patrons is needed for their patrons to 
determine their section 199A(a) deduction.

C. Specified Service Trade or Business

    Section 199A(c)(1) provides that only items attributable to a 
qualified trade or business are taken into account in determining the 
section 199A(a) deduction for QBI. Under section 199A(d)(1) a 
``qualified trade or business'' excludes (A) an SSTB or (B) the trade 
or business of performing services as an employee. TD 9847 provides 
that, unless an exception applies, if a trade or business is an SSTB, 
none of its items are to be taken into account for purposes of 
determining a taxpayer's QBI.
    Under section 199A(d)(3), individuals with taxable income not 
exceeding the threshold amount ($315,000 in the case of joint returns 
and $157,500 for all other taxpayers for any taxable year beginning 
before 2019), are not subject to a restriction with respect to SSTBs. 
For taxable years beginning after 2018, see Rev. Proc. 2018-57, 2018-49 
IRB 827, or its successor. Therefore, if an individual has taxable 
income not exceeding the threshold amount, the individual is eligible 
for the section 199A(a) deduction with respect to qualified items of 
income, gain, deduction, and loss from the SSTB notwithstanding that 
the trade or business is an SSTB. The inapplicability of the SSTB 
rules, W-2 wage limitation, and UBIA of qualified property limitation 
in computing the section 199A(a) deduction is subject to a phase-in for 
individuals with taxable income within the phase-in range. See the 
rules in Sec.  1.199A-5 for the rules relating to SSTBs.
    The rules in proposed Sec.  1.199A-7(d) clarify that a patron 
(whether the patron is a relevant passthrough entity (RPE) or an 
individual) must determine whether the trades or businesses it directly 
conducts are SSTBs. These proposed rules also provide that in the case 
of a patron's trade or business that receives patronage dividends or 
similar payments distributed from a Cooperative, the Cooperative must 
determine whether the distributions from the Cooperative include items 
of

[[Page 28671]]

income, gain, deduction, and loss from an SSTB directly conducted by 
the Cooperative, and whether such items are qualified items with 
respect to such SSTB. The Cooperative must report to the patron the 
amount of qualified items of income, gain, deduction, and loss from an 
SSTB directly conducted by the Cooperative. The patron then determines 
if the distribution may be included in the patron's QBI depending on 
the patron's taxable income and the statutory phase-in and threshold 
amounts. Because the Cooperative may not know whether the patron's 
taxable income exceeds the threshold amount, the Cooperative must 
report this information to all patrons. Without this information, a 
patron with taxable income within the phase-in range or below the 
threshold amount would not have the information necessary to take into 
account the amount of qualified items of income, gain, deduction, and 
loss from an SSTB in determining the patron's section 199A(a) deduction 
for QBI. The rules in Sec.  1.199A-5 are applied by the Cooperative to 
determine if the trade or business is an SSTB. For example, the 
Cooperative will apply the gross receipts de minimis rules in Sec.  
1.199A-5(c)(1) to determine if the trade or business is an SSTB.
    Proposed Sec.  1.199A-7(d)(3) provides that the Cooperative must 
report to the patron the amount of SSTB income, gain, deduction, and 
loss in distributions that is qualified with respect to any SSTB 
directly conducted by the Cooperative on an attachment to or on the 
Form 1099-PATR (or any successor form) issued by the Cooperative to the 
patron, unless otherwise provided by the instructions to the Form. If 
the Cooperative does not report the amount on or before the due date of 
the Form 1099-PATR, then only the amount that a Cooperative reports as 
qualified items of income, gain, deduction, and loss under Sec.  
1.199A-7(c)(3) may be included in the patron's QBI, and the remaining 
amount of distributions from the Cooperative that may be included in 
the patron's QBI is presumed to be zero. This presumption does not 
apply to amounts of qualified items of income, gain, deduction and loss 
to the extent that they were not reported on the Form 1099-PATR or 
attachment thereto before the publication of these proposed regulations 
in the Federal Register. These rules apply to both exempt and nonexempt 
Cooperatives as well as to patronage and nonpatronage distributions. 
The Treasury Department and the IRS request comments on these reporting 
requirements and whether any additional information from Cooperatives 
that make distributions to their patrons is needed for their patrons to 
determine their section 199A(a) deduction.

D. Determination of W-2 Wages and UBIA of Qualified Property

    Section Sec.  1.199A-1(d) addresses the calculation of the section 
199A(a) deduction for individuals with taxable income exceeding the 
threshold amount and provides guidance on the application of these 
limitations. All of the rules relating to the REIT dividends and 
qualified PTP income component of the section 199A(a) deduction 
applicable to individuals with taxable income not exceeding the 
threshold amount also apply to individuals with taxable income 
exceeding the threshold amount. The QBI component of the section 
199A(a) deduction, however, is subject to limitations for individuals 
with taxable income exceeding the threshold amount. These include the 
limitations based on the W-2 wages of the trade or business or a 
combination of the W-2 wages and the UBIA of qualified property.
    Under Sec.  1.199A-2, W-2 wages and UBIA of qualified property are 
determined by the individual or RPE that directly conducts the trade or 
business. Section 199A(f)(1)(A)(2)(iii) requires that S corporations 
and partnerships allocate W-2 wages and UBIA of qualified property to 
their owners in accordance with each owner's applicable share, and 
Sec.  1.199A-6 contains additional information regarding these 
reporting requirements. Section 199A does not provide a similar rule 
for Cooperatives.
    Section 199A(c)(3)(B)(ii) provides that patronage dividends or 
similar payments may be treated as qualified items of income. Only the 
Cooperative knows the origin and character of the patronage dividends 
or similar payments. As a result, the Cooperative must determine if 
these payments meet the statutory requirements in section 199A(c)(3), 
and must provide information to the patron for it to compute its 
section 199A(a) deduction. In contrast, section 199A contains special 
rules for W-2 wages and UBIA of qualified property. To provide that 
Cooperatives allocate their W-2 wages and UBIA of qualified property to 
their patrons would be to treat the Cooperatives as RPEs when they are 
C corporations. Therefore, the rules in proposed Sec.  1.199A-7(e) 
provide that patrons directly conducting trades or businesses that 
receive patronage dividends or similar payments from a Cooperative 
calculate the W-2 wage and UBIA of qualified property limitations at 
the patron level based on the patrons' trades or businesses, without 
any regard to the Cooperative's W-2 wages or UBIA of qualified 
property.
    In summary, a Cooperative must report to patrons: (i) Whether the 
patronage dividends or similar payments include qualified items of 
income, gain, deduction, and loss from a non-SSTB and (ii) whether the 
distributions from the Cooperative include qualified items of income, 
gain, deduction, and loss from an SSTB directly conducted by the 
Cooperative, but a Cooperative does not report any W-2 wages or UBIA of 
qualified property to patrons. The Treasury Department and the IRS 
request comments on these proposed rules regarding W-2 wages and UBIA 
of qualified property and whether it would be appropriate for 
Cooperatives to be required to report such amounts to patrons to 
determine their section 199A(a) deduction.

E. Special Rules for Patrons of Specified Cooperatives

    Section 199A provides special rules for patrons of Specified 
Cooperatives. Because patrons of Specified Cooperatives may be eligible 
to take both a section 199A(a) and section 199A(g) deduction, section 
199A(b)(7) provides that if a trade or business of a patron of a 
Specified Cooperative receives qualified payments (as defined in 
section 199A(g)(2)(e) and proposed Sec.  1.199A-8(d)(2)(ii)) from such 
Specified Cooperative that are included in the patron's QBI, the patron 
must reduce its section 199A(a) deduction by the lesser of (i) 9 
percent of so much of the QBI with respect to such trade or business 
that is properly allocable to qualified payments from the Specified 
Cooperative, or (ii) 50 percent of so much of the patrons' W-2 wages 
(determined under section 199A(b)(4)) with respect to such trade or 
business as are so allocable. This reduction is required by section 
199A(b)(7) whether the Specified Cooperative passes through all, some, 
or none of the Specified Cooperative's section 199A(g) deduction to the 
patron in that taxable year.
    Section 1.199A-3(b)(5) provides an allocation method for items of 
QBI attributable to more than one trade or business. That allocation 
method also applies to patrons with multiple trades or businesses. The 
rules in proposed Sec.  1.199A-7(f)(2) provide an additional similar 
allocation method in situations where a patron receives qualified 
payments and income that is not a qualified payment in a trade or

[[Page 28672]]

business. The patron must allocate those items using a reasonable 
method based on all the facts and circumstances. Different reasonable 
methods may be used for different items of income, gain, deduction, and 
loss. The chosen reasonable method for each item must be consistently 
applied from one taxable year to another and must clearly reflect the 
income and expenses of each trade or business. The overall combination 
of methods must also be reasonably based on all the facts and 
circumstances. The books and records maintained for a trade or business 
must be consistent with any allocations. The Treasury Department and 
the IRS are open to considering whether a permissible ``reasonable 
method'' should be specified in regulations or permitted to include 
methods based on direct tracing, allocations based on gross income, or 
other methods, within appropriate parameters. The Treasury Department 
and the IRS request comments on possible reasonable methods for the 
allocation of items not clearly attributable to a single trade or 
business, and whether any safe harbors may be appropriate.
    Because the section 199A(b)(7) reduction applies to the portion of 
a patron's QBI that relates to qualified payments from a Specified 
Cooperative, these proposed rules provide a safe harbor allocation 
method for patrons with taxable income not exceeding the threshold 
amounts set forth in section 199A(e)(2) to determine how to calculate 
the section 199A(b)(7) reduction. The safe harbor allocation method is 
intended to provide a straightforward method for patrons if their trade 
or business receives qualified payments from a Specified Cooperative in 
addition to other income. To calculate the required section 199A(b)(7) 
reduction, the patron must allocate the aggregate business expenses and 
W-2 wages between qualified payments and other gross receipts. The safe 
harbor allocation method allows patrons to allocate by ratably 
apportioning business expenses and W-2 wages based on the proportion 
that the amount of qualified payments bears to the total gross receipts 
used to determine QBI. The Treasury Department and the IRS request 
comments on this safe harbor rule and whether there are additional or 
alternative safe harbors that may be appropriate.
    Further, to make the calculation required by section 199A(b)(7), 
the patron will need to know the qualified payments allocable to the 
patron that were used in calculating a Specified Cooperative's section 
199A(g) deduction. In order to enable the patron to make this 
calculation, proposed Sec.  1.199A-7(f)(3) requires the Specified 
Cooperative to report the amount of such qualified payments on an 
attachment to or on the Form 1099-PATR, (or any successor form) issued 
by the Cooperative to the patron, unless otherwise provided by the 
instructions to the Form.

F. Transition Rule

    Congress provided a special transition rule relating to qualified 
payments under former section 199 made by Specified Cooperatives in 
section 101 of the 2018 Act. Under this transition rule, the repeal of 
former section 199 for taxable years beginning after December 31, 2017, 
does not apply to former section 199 qualified payments received by a 
patron from Specified Cooperatives in a taxable year beginning after 
December 31, 2017, to the extent such qualified payments are 
attributable to qualified production activities income (QPAI) with 
respect to which a deduction is allowable to the Specified Cooperatives 
under former section 199 for a taxable year of the Specified 
Cooperatives beginning before January 1, 2018. Such qualified payments 
remain subject to former section 199, and any deduction under former 
section 199 allocated by the Specified Cooperatives to their patrons 
related to such qualified payments may be deducted by such patrons in 
accordance with former section 199. In addition, no deduction is 
allowed under section 199A(a) and (g) with respect to such qualified 
payments. See Public Law 115-97, title I, Sec.  13305(c), Dec. 22, 
2017, 131 Stat. 2054, 2126 (codified as amended at I.R.C. Sec.  74 
Note), as amended by Public Law 115-141, div. T, Sec.  101(c), Mar. 23, 
2018, 132 Stat. 348, 1151, providing a transitional rule for qualified 
payments of patrons of Cooperatives.
    Proposed Sec.  1.199A-7(h)(3) and Sec.  1.199A-8(h)(3) provide that 
the Cooperative must identify in a written notice to its patrons that a 
section 199A(a) deduction cannot be claimed for qualified payments that 
otherwise would constitute QBI in the patron's trade or business in a 
taxable year in which the qualified payments remain subject to former 
section 199. The Cooperative must report this information on an 
attachment to or on the Form 1099-PATR (or any successor form) issued 
by the Cooperative to the patron, unless otherwise provided by the 
instructions to the Form.

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

A. In General

    Section 199A(g) provides a deduction for Specified Cooperatives and 
their patrons that is similar in many respects to the deduction under 
former section 199. Proposed Sec.  1.199A-8 provides definitions 
relating to the section 199A(g) deduction, establishes the criteria 
that a Specified Cooperative must satisfy to be eligible to claim the 
section 199A(g) deduction, and sets forth the necessary steps for a 
Specified Cooperative to calculate the section 199A(g) deduction.

B. Definitions

    Proposed Sec.  1.199A-8 defines the terms patron, Specified 
Cooperative, and agricultural or horticultural products. In defining 
patron, the Treasury Department and the IRS sought consistency with the 
rules under subchapter T of chapter 1 of subtitle A of the Code. Thus, 
the rules in proposed Sec.  1.199A-8 cross-reference the definition of 
patron found in Sec.  1.1388-1(e).
    The definition of Specified Cooperative is consistent with the 
definition set forth in section 199A(g)(4). This definition is 
different from the definition of Specified Cooperative as originally 
provided by section 11011(a) of the TCJA (former section 199A(g)(3)), 
as it no longer includes a Cooperative solely engaged in the provision 
of supplies, equipment, or services to farmers or other Specified 
Cooperatives (former section 199A(g)(3)(C)).
    Proposed Sec.  1.199A-8(a)(4) defines agricultural or horticultural 
products as agricultural, horticultural, viticultural, and dairy 
products, livestock and the products thereof, the products of poultry 
and bee raising, the edible products of forestry, and any and all 
products raised or produced on farms and processed or manufactured 
products thereof within the meaning of the Cooperative Marketing Act of 
1926, 44 Stat. 802 (1926). Agricultural or horticultural products also 
include aquatic products that are farmed whether by exempt or nonexempt 
Specified Cooperatives. See Rev. Rul. 64-246, 1964-2 C.B. 154. In 
addition, agricultural or horticultural products include fertilizer, 
diesel fuel, and other supplies used in agricultural or horticultural 
production that are manufactured, produced, grown, or extracted (MPGE) 
by the Specified

[[Page 28673]]

Cooperative. See Joint Committee Report, at 23, footnote 120.
    Agricultural or horticultural products do not include intangible 
property. For example, an agricultural or horticultural product 
includes a seed that is grown, but does not include an intangible 
property right to reproduce a seed for sale. This exclusion of 
intangible property does not apply to intangible characteristics of any 
particular agricultural or horticultural product. For example, gross 
receipts from the sale of different varieties of oranges would all 
qualify as DPGR from the disposition of agricultural or horticultural 
products (assuming all other requirements of section 199A(g) are met). 
However, gross receipts from the license of the right to produce and 
sell a certain variety of oranges would be considered separate from the 
tangible oranges themselves and therefore not gross receipts from an 
agricultural or horticultural product. This exclusion is consistent 
with former section 199, which excluded intangible property other than 
computer software, any property described in section 168(f)(4) (sound 
recordings), and qualified film products.
    The Treasury Department and the IRS considered a similar but 
alternative definition of agricultural or horticultural products as 
agricultural, horticultural, viticultural, and dairy products, 
livestock and poultry, bees, forest products, fish and shellfish, and 
any products thereof, including processed and manufactured products, 
and any and all products raised or produced on farms and any processed 
or manufactured product thereof within the meaning of the Agricultural 
Marketing Act of 1946, 60 Stat. 1091 (1946). While very similar to the 
definition set forth in these proposed rules, the Treasury Department 
and the IRS proposed using the definition based on the Cooperative 
Marketing Act of 1926, which specifically concerns cooperatives, unlike 
the Agricultural Marketing Act of 1946, which concerns the marketing 
and distribution of agricultural products.
    The Treasury Department and the IRS also considered an alternative 
definition of agricultural or horticultural products based on general 
regulations under the Commodity Exchange Act. The Commodity Futures 
Trading Commission defines agricultural commodities as wheat, cotton, 
rice, corn, oats, barley, rye, flaxseed, grain sorghums, mill feeds, 
butter, eggs, Solanum tuberosum (Irish potatoes), wool, wool tops, fats 
and oils (including lard, tallow, cottonseed oil, peanut oil, soybean 
oil and all other fats and oils), cottonseed meal, cottonseed, peanuts, 
soybeans, soybean meal, livestock, livestock products, and frozen 
concentrated orange juice, but not onions; other commodities that are, 
or once were, or are derived from, living organisms, including plant, 
animal and aquatic life, which are generally fungible, within their 
respective classes, and are used primarily for human food, shelter, 
animal feed or natural fiber; tobacco, products of horticulture, and 
such other commodities used or consumed by animals or humans. 17 CFR 
1.3. The Treasury Department and the IRS concluded that this definition 
was too narrow, because it is limited to products that can be 
commodities.
    The Treasury Department and the IRS are considering alternative 
definitions of agricultural or horticultural products to address 
concerns that the definition could be interpreted inconsistently with 
the ordinary meaning of agricultural or horticultural products. A 
clarification of the definition that is under consideration is the 
limitation of agricultural or horticultural products to products 
acquired from original producers, such as farmers, planters, ranchers, 
dairy farmers, or nut or fruit growers, and products thereof that are 
MPGE by Specified Cooperatives. The Treasury Department and the IRS 
request comments on whether the original producer approach being 
considered would be appropriate, as well as other approaches to 
defining agricultural or horticultural products. The Treasury 
Department and the IRS also request comments on the impact, if any, of 
the proposed definition on which products are MPGE by Specified 
Cooperatives.
    A Specified Cooperative's gross receipts from the disposition of 
agricultural or horticultural products qualify as DPGR if the products 
were MPGE by the Specified Cooperative in whole or significant part 
within the United States. The proposed regulations define in whole or 
significant part for these purposes in proposed Sec.  1.199A-9(h) and 
provide a 20 percent safe harbor for such determination in proposed 
Sec.  1.199A-9(h)(3).
    The definition of gross receipts in proposed Sec.  1.199A-
8(b)(2)(iii) is essentially the same as in Sec.  1.199-3(c) issued 
under former section 199, except that this definition has been modified 
by removing references to section 1031 (exchange of real property held 
for productive use or investment) and tax-exempt interest within the 
meaning of section 103 (interest on State and local bonds). The 
reference to section 1031 is removed because that provision now applies 
only to real property. The section 199A(g) deduction is based on gross 
receipts derived from the disposition of agricultural or horticultural 
products and section 199A(g)(3)(D)(i) expressly excludes gross receipts 
derived from the disposition of land from DPGR. The reference to tax-
exempt interest under section 103 is removed because it is appropriate 
for the definition of gross receipts to include only gross receipts 
that are taken into account in computing gross income under the 
Cooperative's methods of accounting used for Federal income tax 
purposes for the taxable year.
    The Treasury Department and the IRS welcome comments regarding all 
aspects of these proposed definitions, including whether there is an 
alternative or more appropriate definition of Specified Cooperative or 
agricultural or horticultural products, and clarification of when MPGE 
is performed in whole or significant part in the United States that 
would provide greater certainty for taxpayers in complying with, and 
the IRS in administering, the requirements for claiming the section 
199A(g) deduction. The Treasury Department and the IRS also welcome 
comments on the appropriateness of the 20 percent safe harbor in 
proposed Sec.  1.199A-9(h)(3).

C. Steps for Calculating Section 199A(g) Deduction

    Proposed Sec.  1.199A-8 sets forth four required steps to determine 
the amount of a nonexempt Specified Cooperative's section 199A(g) 
deduction and provides rules to determine the amount of an exempt 
Specified Cooperative's section 199A(g) deduction.
i. Patronage/Nonpatronage Split
    The first step under the rules of proposed Sec.  1.199A-8 for 
calculating the section 199A(g) deduction requires nonexempt Specified 
Cooperatives to identify the gross receipts and related deductions 
(other than a deduction under section 199A(g)) that are from patronage 
sources and from nonpatronage sources. Specified Cooperatives must 
separate their patronage and nonpatronage gross receipts and related 
deductions when determining taxable income and allocating expenses 
between patronage and nonpatronage income to claim the tax deductions 
under section 1382(b) and (c). Cooperatives that have gross receipts 
only from patronage sources will be unaffected. Accordingly, the 
proposed regulations' requirement to divide patronage/nonpatronage 
gross receipts and related deductions should not significantly impact 
the existing

[[Page 28674]]

allocation requirements applicable to Specified Cooperatives.
    This step is expressly included in these proposed rules because 
proposed Sec.  1.199A-8 provides that for all purposes of the section 
199A(g) deduction, nonexempt Specified Cooperatives may use only 
patronage gross receipts and related deductions to calculate DPGR, QPAI 
(including oil-related QPAI), taxable income, and the W-2 wage 
limitation.
    Separating a nonexempt Specified Cooperative's patronage items from 
its nonpatronage items is consistent with the structure and intent of 
section 199A. Section 199A in its entirety is structured to give 
businesses that are not operating as C corporations a deduction that 
corresponds to the TCJA's reduction of the top corporate rate of tax 
under section 11. C corporations are expressly prohibited under section 
199A(a) from claiming a section 199A(a) deduction, and under section 
199A(g)(2)(D)(i) from claiming a section 199A(g) deduction. Although 
section 199A(g) provides a deduction for Specified Cooperatives, the 
statutory prohibitions preventing C corporations from benefiting under 
section 199A(g) (which were absent from the statutory text of former 
section 199) are in conflict with permitting a section 199A(g) 
deduction for the nonpatronage business of a nonexempt Specified 
Cooperative. Instead, nonpatronage source income of a nonexempt 
Specified Cooperative receives an alternate benefit shared by other C 
corporations: The TCJA's reduction of the top rate of tax under section 
11 from 35 percent to 21 percent.
    Moreover, the 2018 Act amended section 199A to address concerns 
that the TCJA created an unintended incentive for farmers and other 
producers to sell their agricultural or horticultural products to 
Cooperatives over independent buyers. The amendment to section 199A was 
intended to ensure a level playing field between Cooperatives and 
independent buyers. Without the split between patronage and 
nonpatronage businesses, Specified Cooperatives that may benefit from 
both a section 199A(g) deduction (from which taxpayers other than 
Specified Cooperatives cannot benefit) and the reduced corporate tax 
rate on nonpatronage business would be significantly advantaged over 
independent buyers who could benefit only from the reduced corporate 
tax rate under section 11.
    Accordingly, the Treasury Department and the IRS have determined 
that it is appropriate to limit the source of the gross receipts and 
related deductions taken into account for purposes of the section 
199A(g) deduction for nonexempt Specified Cooperatives to items 
properly allocated to a nonexempt Specified Cooperative's patronage 
business. The Treasury Department and the IRS request comments 
regarding these proposed rules, including comments explaining any 
policy rationale that would justify treating the nonpatronage business 
of a nonexempt Specified Cooperative differently from the business 
operations of any other C corporation subject to the tax imposed under 
section 11.
ii. Identifying Patronage DPGR
    The second step set forth in proposed Sec.  1.199A-8 is for 
nonexempt Specified Cooperatives to identify patronage gross receipts 
that qualify as DPGR. The rules in proposed Sec.  1.199A-8 point 
nonexempt Specified Cooperatives to proposed Sec.  1.199A-9 for 
additional information on DPGR. The rules in proposed Sec.  1.199A-9 do 
not refer to gross receipts from patronage or nonpatronage business 
because the rules only provide additional information supplementing the 
determination of DPGR from dispositions of agricultural or 
horticultural products. When applying Sec.  1.199A-9, which occurs 
after step 1 in Sec.  1.199A-8, the only gross receipts of a nonexempt 
Specified Cooperative considered would be those derived from patronage 
sources. Proposed Sec.  1.199A-9 is essentially the same as Sec. Sec.  
1.199-1 and 1.199-3 issued under former section 199, adjusted to apply 
to Specified Cooperatives.
iii. Calculating Patronage QPAI
    The third step set forth in proposed Sec.  1.199A-8 is for 
nonexempt Specified Cooperatives to calculate QPAI (including oil-
related QPAI) from only their patronage DPGR. To do this, nonexempt 
Specified Cooperatives must determine COGS and other expenses, losses, 
or deductions that are allocable to patronage DPGR. Nonexempt Specified 
Cooperatives are directed to consult proposed Sec.  1.199A-10 for 
additional information on making these allocations. Proposed Sec.  
1.199A-10 does not refer to patronage or nonpatronage QPAI or DPGR 
because it only provides additional information supplementing the QPAI 
calculation. Proposed Sec.  1.199A-10 is essentially the same as Sec.  
1.199-4 issued under former section 199, adjusted to apply to Specified 
Cooperatives.
iv. Calculating Patronage Section 199A(g) Deduction
    The fourth and final step set forth in proposed Sec.  1.199A-8 is 
for nonexempt Specified Cooperatives to calculate their section 199A(g) 
deduction, which is equal to 9 percent of the lesser of QPAI or taxable 
income, and subject to the W-2 wage limitation. Nonexempt Specified 
Cooperatives are directed to consult proposed Sec.  1.199A-11 for 
additional information on the W-2 wage limitation. Proposed Sec.  
1.199A-11 does not refer to patronage or nonpatronage QPAI, taxable 
income, or W-2 wages because it only provides additional information 
supplementing the W-2 wage limitation. Proposed Sec.  1.199A-11 is 
essentially the same as Sec.  1.199-2 issued under former section 199, 
adjusted to apply to Specified Cooperatives.
v. Exempt Specified Cooperatives
    Proposed Sec.  1.199A-8(c) provides that exempt Specified 
Cooperatives calculate two separate section 199A(g) deductions, one 
based on gross receipts and related deductions from patronage sources, 
and one based on gross receipts and related deductions from 
nonpatronage sources. Like a nonexempt Specified Cooperative, an exempt 
Specified Cooperative earns patronage income that is not taxed to the 
extent of any section 1382(b) deduction for patronage distributions 
made to patrons. Exempt Specified Cooperatives are also not taxed on 
any nonpatronage income to the extent of any section 1382(c) deduction 
for nonpatronage distributions. Unlike the usual taxation of C 
corporations, the section 1382 deductions allow an exempt Specified 
Cooperative to be treated more like a passthrough entity by reducing 
the exempt Specified Cooperative's patronage and nonpatronage income. 
It is therefore appropriate that the exempt Specified Cooperatives may 
take a section 199A(g) deduction on both patronage and nonpatronage 
income that could be deducted under section 1382(b) and (c)(2).
    As described earlier, calculating two section 199A(g) deductions is 
consistent with the administration of former section 199. To calculate 
the two section 199A(g) deductions, an exempt Specified Cooperative is 
required under proposed Sec.  1.199A-8 to perform steps two through 
four twice, first using only its patronage gross receipts and related 
deductions and second using only its nonpatronage gross receipts and 
related deductions. An exempt Specified Cooperative cannot combine, 
merge, or net patronage and nonpatronage items at any step in 
determining its patronage section 199A(g) deduction and its 
nonpatronage section 199A(g) deduction.

[[Page 28675]]

D. Special Rule for Oil-Related QPAI

    Section 199A(g)(5)(E) contains a special rule for Specified 
Cooperatives with oil-related QPAI, which requires a reduction by 3 
percent of the least of oil-related QPAI, QPAI, or taxable income of 
the Specified Cooperative for the taxable year. The language of this 
rule is the same as the language used in former section 199(d)(9). 
Former section 199(d)(9), which applied to taxable years beginning 
after December 31, 2008, was added by section 401(a), Division B of the 
Energy Extension Act of 2008, Public Law 110-343, 122 Stat. 3765 
(2008). These proposed rules include rules for oil-related QPAI that 
are similar to those contained in proposed regulations (REG-136459-09) 
relating to the section 199 deduction published in the Federal Register 
(80 FR 51978) on August 27, 2015 (2015 Proposed Regulations).
    The 2015 Proposed Regulations included rules related to a 
taxpayer's determination of oil-related QPAI (with respect to which no 
comments were received). Although not finalized, the 2015 Proposed 
Regulations are the only existing guidance concerning a taxpayer's 
determination of oil-related QPAI. The preamble to the 2015 Proposed 
Regulations includes an explanation of the reasons supporting the 
proposed provisions, and these reasons continue to apply. These include 
the determination that gross receipts from transportation and 
distribution of oil are not included in the calculation of oil-related 
QPAI, unless the gross receipts are considered DPGR under the de 
minimis rule or an exception for embedded services now contained in 
proposed Sec.  1.199A-9. Gross receipts from transportation and 
distribution are not included in QPAI and DPGR (unless an exception 
applies), and therefore it is appropriate to exclude such gross 
receipts when calculating oil-related QPAI.

E. Rules for Passing Section 199A(g) Deduction to Patrons

    Once a Specified Cooperative calculates the section 199A(g) 
deduction, it may pass on the section 199A(g) deduction to patrons who 
are eligible taxpayers as defined in section 199A(g)(2)(D), that is, 
(i) a patron that is other than a C corporation or (ii) a patron that 
is a Specified Cooperative. Section 199A(g)(2)(A) requires the 
Specified Cooperative to identify the amount of the section 199A(g) 
deduction being passed to a patron in a notice (required by proposed 
Sec.  1.199A-8(d)(3)) mailed to the eligible patron during the payment 
period described in section 1382(d). The amount of the section 199A(g) 
deduction that a Specified Cooperative can pass through to an eligible 
taxpayer is limited to the portion of the section 199A(g) deduction 
that is allowed with respect to the QPAI to which the qualified 
payments made to the eligible taxpayer are attributable. Section 
199A(g)(2)(E) defines qualified payments as those that are included in 
the eligible taxpayer's income under section 1385(a)(1) and (3) 
(referencing patronage dividends and per-unit retain allocations). 
Proposed Sec.  1.199A-8 further provides that a Specified Cooperative 
that receives a section 199A(g) deduction as an eligible taxpayer can 
take the deduction only against patronage gross income and related 
deductions, or pass on the deduction to its patrons that are eligible 
taxpayers. The proposed rules do not allow an exempt Specified 
Cooperative to pass through any of the section 199A(g) deduction 
attributable to nonpatronage activities because no QPAI is attributable 
to any qualified payments. The rules of proposed Sec.  1.199A-8 are 
essentially the same as the rules of Sec.  1.199-6, adjusted to include 
other provisions of the section 199 final regulations as well as 
proposed rules set forth in the 2015 Proposed Regulations.

F. Cooperative as a Partner in a Partnership

    Proposed Sec.  1.199A-8(f) provides guidance regarding 
circumstances in which a Specified Cooperative is a partner in a 
partnership as described under section 199A(g)(5)(B). The proposed 
rules provide that the partnership must separately identify and report 
on the Schedule K-1 to the Form 1065, U.S. Return of Partnership 
Income, (or any successor form) issued to its partner, unless otherwise 
provided by the instructions to the Form, the Specified Cooperative's 
allocable share of gross receipts and related deductions. This allows 
the Specified Cooperative partner to apply the four steps in proposed 
Sec.  1.199A-8 required to calculate its patronage section 199A(g) 
deduction (or patronage and nonpatronage section 199A(g) deductions in 
the case of an exempt Specified Cooperative).

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

A. In General

    Section 199A(g)(3)(D) defines the term domestic production gross 
receipts to mean gross receipts of a Specified Cooperative derived from 
any lease, rental, license, sale, exchange, or other disposition 
(collectively, a ``disposition'') of any agricultural or horticultural 
product which was MPGE (determined after application of section 
199A(g)(4)(B)) by the Specified Cooperative in whole or significant 
part within the United States. Such term does not include gross 
receipts of the Specified Cooperative derived from a disposition of 
land or from services. These proposed regulations are based on Sec.  
1.199-3 issued under former section 199, but remove provisions that 
would not apply to the disposition of agricultural or horticultural 
products.
    DPGR includes the gross receipts that a Specified Cooperative 
derives from marketing agricultural or horticultural products for 
patrons. Section 199A(g)(4)(B) treats marketing Specified Cooperatives 
as having MPGE any agricultural or horticultural product in whole or 
significant part within the United States if their patrons have done 
so. The Treasury Department and the IRS considered whether this rule 
should apply between Specified Cooperatives and patrons taxed as C 
corporations. These proposed regulations allow attribution to apply as 
provided in section 199A(g)(4)(B) because the statute does not 
distinguish between types of patrons. However, these proposed 
regulations do not allow a Specified Cooperative to pass through to a C 
corporation any of the section 199A(g) deduction of the Specified 
Cooperative attributable to the disposition of such agricultural or 
horticultural products. This is because, under section 199A(g)(2)(D), 
taxpayers taxed as C corporations are not eligible to claim a section 
199A(g) deduction from the Specified Cooperative. These proposed 
regulations incorporate the rules from Sec.  1.199-1(d)(1) through (3) 
and (e), issued under former section 199, as applicable. These rules 
relate to the allocation of gross receipts between DPGR and non-DPGR, 
and the determination of whether an allocation method is reasonable. 
Further, the rules include provisions permitting Specified Cooperatives 
to treat de minimis gross receipts as DPGR or non-DPGR without 
allocating such gross receipts, and a provision permitting the use of 
historical data to allocate gross receipts for certain multiple-year 
transactions. The Treasury Department and the IRS welcome comments 
regarding all aspects of these proposed rules. When incorporating these 
concepts from the former section 199 regulations, the Treasury 
Department and the IRS determined that the appropriate section of these 
proposed regulations in which to include such guidance was proposed

[[Page 28676]]

Sec.  1.199A-9. This is not a substantive change, but rather a 
reorganization to improve clarity.

B. Definition of Manufactured, Produced, Grown, Extracted

    The definition of the term MPGE is included in proposed Sec.  
1.199A-9 and is generally consistent with the definition in Sec.  
1.199-3(e)(1). However, these proposed regulations revise the rule in 
Sec.  1.199-3(e)(2) by removing the concept of minor assembly. In the 
2015 Proposed Regulations, the Treasury Department and the IRS 
requested comments on defining the term minor assembly because of the 
difficulty in identifying a widely applicable objective test. Based on 
the comments received and the restriction on the section 199A(g) 
deduction to agricultural or horticultural products, proposed Sec.  
1.199A-9 does not include the term minor assembly included in Sec.  
1.199-3(e)(2). This exclusion does not impact a taxpayer's obligation 
to meet all of the other requirements to qualify for the section 
199A(g) deduction. The Treasury Department and the IRS request comments 
on whether the concept of minor assembly should be retained and, if so, 
how this term should be defined.

C. By the Taxpayer

    With respect to the phrase ``by the taxpayer'' as used in section 
199A(g)(3)(D)(i), these proposed regulations adopt the rule from Sec.  
1.199-3(f)(1) as applicable, rather than the rule in the 2015 Proposed 
Regulations. In a contract manufacturing arrangement, this means that a 
Specified Cooperative must have the benefits and burdens of ownership 
of the agricultural or horticultural product during the period in which 
the MPGE activity occurs in order for the Specified Cooperative to be 
treated as engaging in such MPGE activity. The 2015 Proposed 
Regulations provided a different rule for contract manufacturing 
arrangements. The 2015 Proposed Regulations provided that if a 
qualifying activity is performed under a contract, then the party that 
performs the qualifying activity is the taxpayer for purposes of 
section 199(c)(4)(A)(i). Under the rule in the 2015 Proposed 
Regulations, a Specified Cooperative that contracts with another party 
for the MPGE of an agricultural or horticultural product would never 
qualify as ``the taxpayer'' for purposes of the section 199A(g) 
deduction. This result fails to provide any incentive for Specified 
Cooperatives to retain the benefits and burdens of ownership and to 
ensure that production occurs within the United States. Therefore, to 
maintain such an incentive, the proposed regulations maintain the rule 
from Sec.  1.199-3(f)(1). The Treasury Department and the IRS request 
comments on the continued use of the rule from Sec.  1.199-3(f)(1).

D. Other Provisions in Proposed Sec.  1.199A-9

    The remainder of the rules in proposed Sec.  1.199A-9 are based on 
the existing regulations in Sec.  1.199-3. These rules should be 
interpreted in a manner consistent with the interpretation under former 
section 199. The Treasury Department and the IRS request comments on 
any conception or definition that in application would be over or 
under-inclusive under the proposed regulations, or any instances where 
they should interpret the rules differently from the interpretation 
under former section 199.

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

    Proposed Sec.  1.199A-10 provides guidance on the allocation of 
costs to DPGR. This section provides rules for allocating a taxpayer's 
COGS, as well as other expenses, losses, and deductions properly 
allocable to DPGR. These proposed regulations are based on and follow 
the section 199 regulations in Sec.  1.199-4.

V. Proposed Sec.  1.199A-11, Wage Limitation

    Proposed Sec.  1.199A-11 provides guidance regarding the W-2 wage 
limitation on the section 199A(g) deduction. A notice of proposed 
revenue procedure, Notice 2019-27, 2019-16 IRB, which proposes a draft 
revenue procedure providing three proposed methods that Specified 
Cooperatives may use for calculating W-2 wages, is being issued 
concurrently with this notice of proposed rulemaking. The guidance 
contained in the notice of proposed revenue procedure is necessary 
because changes may be made to the underlying Form W-2, Wage and Tax 
Statement, on a more frequent basis than updates to the regulations 
under section 199A(g), for regulatory and statutory reasons independent 
of section 199A. The three proposed methods for calculating W-2 wages 
in the notice are substantially similar to the methods provided in Rev. 
Proc. 2006-47, 2006-2 C.B. 869 (relating to the section 199 deduction), 
and Rev. Proc. 2019-11, 2019-09 IRB 742 (relating to the section 
199A(a) deduction). The Treasury Department and the IRS propose these 
methods in a notice of proposed revenue procedure rather than in the 
notice of proposed rulemaking to maintain consistency with the rules 
under former section 199 and the rules under section 199A. The notice 
of proposed revenue procedure invites comments from the public.
    Under the proposed regulations, W-2 wages for the purpose of the 
wage limitation in section 199A(g) are generally determined in a manner 
that is similar to the manner in which W-2 wages are determined for the 
purpose of the deduction under section 199A(a) (that is, using the 
definition of W-2 wages under section 199A(b)(4)), with three 
significant differences. First, section 199A(g)(1)(B)(ii) provides that 
W-2 wages are determined without regard to section 199A(b)(4)(B), which 
excludes from the definition amounts not properly allocable to QBI for 
purposes of section 199A(c)(1). Second, W-2 wages under section 199A(g) 
do not include any amount that is not properly allocable to DPGR. 
Finally, W-2 wages under section 199A(g) do not generally include any 
remuneration paid for services in the commonwealth of Puerto Rico and 
other United States territories. Specifically, section 
199A(g)(1)(B)(ii) provides that W-2 wages are determined in the same 
manner as under section 199A(b)(4), and section 199A(b)(4)(A) defines 
wages as amounts described in section 6051(a)(3) and (8). The amounts 
described in section 6051(a)(3) are ``wages as defined in section 
3401(a).'' Section 3401(a)(8) generally excludes from the definition of 
wages in section 3401(a) wages paid with respect to employment in the 
commonwealth of Puerto Rico and other United States territories. 
Therefore, wages paid with respect to employment in the commonwealth of 
Puerto Rico and other United States territories are generally not W-2 
wages within the meaning of section 199A(b)(4)(A). This contrasts with 
the section 199A(a) deduction for which section 199A(f)(1)(C)(ii) 
allows certain taxpayers with QBI from sources within the commonwealth 
of Puerto Rico (section 199A(f)(1)(C)(ii) applies only to Puerto Rico 
and not to other United States territories) to compute section 
199A(b)(4) W-2 wages without regard to section 3401(a)(8). Since the 
section 199A(g) deduction is determined based on QPAI, not QBI, section 
199A(f)(1)(C)(ii) does not apply to the deduction under section 
199A(g). Given the distinction between QBI and QPAI on which the 
section 199A(a) and section 199A(g) deductions are respectively 
provided, and the absence of a provision similar to 199A(f)(1)(C)(ii) 
with respect to QPAI, the Treasury Department and the IRS have 
determined that remuneration paid with

[[Page 28677]]

respect to employment in the commonwealth of Puerto Rico cannot be used 
in determining W-2 wages for purposes of section 199A(g). The Treasury 
Department and the IRS request comments with respect to this 
determination.

VI. Proposed Sec.  1.199A-12, EAG Rules

    Proposed Sec.  1.199A-12 provides guidance on the application of 
section 199A(g) to an EAG under section 199A(g)(5)(A)(iii) that 
includes a Specified Cooperative. Unlike the section 199 deduction, the 
section 199A(g) deduction is limited to Specified Cooperatives. These 
proposed regulations address how the rules separating patronage and 
nonpatronage income and deductions apply in the context of an EAG. 
Proposed Sec.  1.199A-12 provides that in the case of nonexempt 
Specified Cooperatives, attribution between the members of an EAG is 
allowed provided the DPGR and related deductions are patronage. In the 
case of exempt Specified Cooperatives, attribution is allowed in all 
events because exempt Specified Cooperatives are allowed to take a 
separate 199A(g) deduction on both their patronage and nonpatronage 
income.
    Proposed Sec.  1.199A-12 also provides certain rules for 
partnerships owned by an EAG as described in section 199A(g)(5)(A)(ii).

VII. Proposed Sec.  1.1388-1(f)

    Proposed Sec.  1.1388-1(f) sets forth a definition of patronage and 
nonpatronage that is consistent with the current case law under section 
1388. Specifically, the proposed definition adopts the directly related 
test, which is a fact specific test for determining whether income and 
deductions of a Cooperative are patronage or nonpatronage. The Treasury 
Department and the IRS request comments with respect to this 
definition.

VIII. Proposed Removal of Section 199 Regulations and Withdrawal of 
2015 Proposed Regulations

    In light of the TCJA, the Treasury Department and the IRS propose 
to remove the section 199 regulations (Sec. Sec.  1.199-0 through 
1.199-9) and withdraw the 2015 Proposed Regulations because the 
regulations interpret a provision of the Code that has been repealed 
for taxable years beginning after December 31, 2017.
    The proposed removal of these regulations is unrelated to the 
substance of the rules in the regulations, and no negative inference 
regarding the stated rules should be made. Such regulations are 
proposed to be removed from the Code of Federal Regulations (CFR) 
solely because they have no future applicability. Removal of these 
regulations is not intended to alter any non-regulatory guidance that 
cites to or relies upon these regulations. These regulations as 
contained in 26 CFR part 1, revised April 1, 2019, remain applicable to 
determining eligibility for the section 199 deduction for any taxable 
year that began before January 1, 2018. The beginning date of the 
taxable year of a partnership, S corporation, or a non-grantor trust or 
estate, rather than the taxable year of a partner, shareholder, or 
beneficiary is used to determine items that are taken into account for 
purposes of calculating a section 199 deduction. This is consistent 
with the initial application of section 199 in 2005. Items arising from 
a passthrough entity that had a fiscal year beginning before 2005 were 
not taken into account by calendar-year partners for purposes of the 
section 199 deduction. Public Law 109-135, section 102(a) (Gulf 
Opportunity Zone Act of 2005). Further, when section 199 was amended to 
narrow the definition of W-2 wages, the amendment was effective for 
taxable years beginning after May 17, 2006. See Public Law 109-222, 
section 514(a) (Tax Increase Prevention and Reconciliation Act of 
2005). Under the transition rule in Sec.  1.199-5(b)(4), partners and 
partnerships used the taxable year of the partnerships to determine the 
applicable definition of W-2 wages, and there are similar rules in 
Sec.  1.199-5(c)(4) for S corporations and Sec.  1.199-5(e)(3) for non-
grantor trusts and estates.

Proposed Effective/Applicability Date

    Section 7805(b)(1)(A) and (B) of the Code generally provide that no 
temporary, proposed, or final regulation relating to the internal 
revenue laws may apply to any taxable period ending before the earliest 
of (A) the date on which such regulation is filed with the Federal 
Register, or (B) in the case of a final regulation, the date on which a 
proposed or temporary regulation to which the final regulation relates 
was filed with the Federal Register.
    Consistent with authority provided by section 7805(b)(1)(A), the 
proposed regulations are proposed to apply to taxable years beginning 
after the date of publication of a Treasury decision adopting these 
rules as final regulations in the Federal Register. Taxpayers may rely 
upon these proposed regulations, in their entirety, before the date of 
publication of the Treasury Decision adopting these rules as final 
regulations in the Federal Register.

Special Analyses

I. Regulatory Planning and Review--Economic Analysis

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

A. Background and Overview

    The TCJA repealed section 199, which provided a deduction for 
income attributable to domestic production activities. In its place it 
created section 199A, which provides a deduction for qualified business 
income derived from passthrough businesses--such as sole 
proprietorships, partnerships, and S corporations--engaged in domestic 
trades or businesses. While the repealed section 199 deduction was 
generally available to all taxpayers, the section 199A deduction is 
available only to taxpayers other than C corporations. On March 23, 
2018, the 2018 Act modified section 199A(g) to provide deductions for 
Specified Cooperatives and their patrons that are substantially similar 
to those under the repealed section 199 deduction. Accordingly, these 
regulations generally formalize prior and current practices based on 
the rules under former section 199. The 2018 Act also added section 
199A(b)(7), which requires patrons of Specified Cooperatives to reduce 
their section

[[Page 28678]]

199A(a) deduction if those patrons receive qualified payments from 
Specified Cooperatives.
    The estimated number of Cooperatives affected by the 2018 Act and 
these proposed regulations is 9,000, including approximately 2,000 
Specified Cooperatives, based on 2017 tax filings.

B. Need for the Proposed Regulations

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

C. Economic Analysis

1. Baseline
    The Treasury Department and the IRS have assessed the benefits and 
costs of the proposed regulations relative to a no-action baseline 
reflecting anticipated Federal income tax-related behavior in the 
absence of these proposed regulations.
2. Economic Rationale for Issuing Guidance for the 2018 Act
    The Treasury Department and the IRS anticipate that the issuance of 
guidance pertaining to sections 199A(a), 199A(b)(7), and 199A(g) of the 
2018 Act to Cooperatives, Specified Cooperatives, and their patrons 
will provide a net economic benefit to the overall U.S. economy.
    The proposed regulations clarify a number of concepts related to 
the section 199A(a) deduction for patrons of Cooperatives, provide 
guidance to patrons of Specified Cooperatives who may be required to 
reduce their section 199A(a) deduction under section 199A(b)(7), and 
provide guidance to Specified Cooperatives on the section 199A(g) 
deduction on income attributable to their domestic production 
activities. In the absence of guidance, affected taxpayers would have 
to calculate their tax liability without the definitions and 
clarifications provided by the proposed regulations, a situation that 
is generally considered more burdensome and could lead to greater 
conflicts with tax administrators. Thus, the Treasury Department and 
the IRS project that the proposed regulations will reduce taxpayer 
compliance burden and the costs of tax administration relative to not 
issuing any such guidance.
    This guidance also ensures that section 199A deductions are 
calculated similarly across taxpayers, avoiding situations where one 
taxpayer receives preferential treatment over another for fundamentally 
similar economic activity. For example, in the absence of these 
proposed regulations, a Specified Cooperative may have uncertainty over 
what type of income is eligible for the section 199A(g) deduction. If a 
Specified Cooperative claimed the section 199A(g) deduction on income 
that already benefits from a lower corporate tax rate, this would 
confer an unintended economic benefit to the Specified Cooperative over 
other C corporations performing identical activities that only benefit 
from a lower corporate tax rate. As discussed further below, this 
guidance prevents the introduction of distortions of economic decisions 
in the agricultural or horticultural sector.
    In the absence of these proposed regulations, uncertainty over 
statutory interpretation could lead to economic losses to the extent 
that taxpayers interpret the statute in ways that are inconsistent with 
the statute's intents and purposes. For example, a Specified 
Cooperative may pursue a project involving a certain product that is 
only profitable if that product is deemed ``agricultural or 
horticultural'' and thus eligible for the section 199A(g) deduction. 
If, in fact, this product is ineligible for the deduction based on the 
intents and purposes of the statute, then the project should not have 
been pursued and this results in an economic loss. Alternatively, 
without a definition of ``agricultural or horticultural,'' a Specified 
Cooperative may incorrectly assume that a project is not eligible for 
the deduction and not pursue the project, which could also result in an 
economic loss. In such cases, guidance provides value by bringing 
economic decisions closer in line with Congress' intent or, when such 
intent is broad, with decisions that are economically efficient 
contingent on the overall Code. While no guidance can fully curtail all 
inaccurate interpretations of the statute, the proposed regulations 
significantly mitigate the chance for such interpretations and thereby 
increase economic efficiency. Due to the lack of readily available 
data, the Treasury Department and the IRS have not estimated the 
increase in United States economic activity that would arise from the 
proposed guidance.
    The Treasury Department further projects that the issuance of 
guidance will reduce taxpayer compliance burden and the costs of tax 
administration relative to a no-action baseline. Due to the lack of 
readily available data, the Treasury Department has not estimated the 
decrease in taxpayer compliance burden nor tax administration costs 
arising from the issuance of guidance. The Treasury Department and the 
IRS request comments and information that can allow estimation of 
economic impacts and any changes in taxpayer compliance burden 
resulting from the proposed guidance.
3. Economic Analysis of Specific Provisions
    The proposed regulations embody certain regulatory decisions that 
reflect necessary regulatory discretion. These decisions specify more 
fully how the 2018 Act is to be implemented.
    The Treasury Department and the IRS solicit comments on the 
economic impacts of each of the items discussed in this section and of 
any other items of the proposed regulations not discussed in this 
section. The Treasury Department and the IRS particularly solicit 
comments that provide data, other evidence, or models that could 
enhance the rigor of the process by which provisions might be developed 
for the final regulations.
i. Determining Section 199A(g) Deduction
    Specified Cooperatives are taxed differently depending on whether 
they are exempt (qualified as a cooperative under section 521) or 
nonexempt (qualified under rules elsewhere in the Code) and also 
whether their income is from patronage (generally related to the 
cooperative's marketing, purchasing, or services activities) or 
nonpatronage sources. In the case of exempt Specified Cooperatives 
patronage and nonpatronage source income is subject to a single level 
of tax at the patron level. Whereas, for nonexempt Specified 
Cooperatives only patronage source income is subject to a single level 
of tax at the patron level; nonpatronage source income is subject to a 
double level of tax, similar to other C corporations. Because the Code 
does not define patronage and nonpatronage source income, proposed 
Sec.  1.1388-1(f) sets forth a definition of patronage and nonpatronage 
that is consistent with the current state of federal case law. 
Specifically, the proposed definition adopts the directly related test, 
which is a fact specific test for determining whether income and 
deductions of a Cooperative are patronage or nonpatronage. Specifying a 
definition that is consistent with current case law will help to 
minimize the economic impacts of these proposed regulations. The 
Treasury Department and the IRS

[[Page 28679]]

request comments with respect to this definition.
    The TCJA reduced the corporate tax rate for C corporations under 
section 11 and provided the section 199A deduction for domestic 
businesses operated as sole proprietorships or through partnerships, S 
corporations, trusts, or estates. The TCJA also repealed section 199, 
which did not preclude deductions on income earned by C corporations. 
The 2018 Act amended section 199A to address concerns that the TCJA 
created an unintended incentive for farmers to sell their agricultural 
or horticultural products to Specified Cooperatives over independent 
buyers. Specifically, the 2018 Act amended section 199A(g) to allow 
Specified Cooperatives and their patrons a deduction similar to the 
former section 199 deduction. Because the section 199A(g) deduction is 
not intended to benefit C corporations and their shareholders in 
general, the proposed regulations specify that the section 199A(g) 
deduction can be claimed on income that can be subject to tax only at 
the patron level. Under the proposed regulations, non-exempt Specified 
Cooperatives may not claim the section 199A(g) deductions on income 
that cannot be paid to patrons and deducted under section 1382(b) and 
exempt Specified Cooperatives may not claim section 199A(g) deductions 
on income that cannot be paid to patrons and deducted under sections 
1382(b) or 1382(c)(2).
    In the absence of these proposed regulations, a Specified 
Cooperative may have uncertainty as to whether non-patronage source 
income, which would be taxed in the same manner as a C corporation, 
could receive both the lower corporate tax rate and be further offset 
by a section 199A(g) deduction. Other C corporations performing 
identical activities would only benefit from the lower corporate tax 
rate.
    The Treasury Department and the IRS have determined that this 
potential uncertainty as to tax treatment could distort economic 
decisions in the agricultural or horticultural sector. The proposed 
regulations avoid this outcome, promoting a more efficient allocation 
of resources by providing more uniform incentives across taxpayers.
ii. Definition of Agricultural or Horticultural Products
    Proposed Sec.  1.199A-8(a)(4) defines agricultural or horticultural 
products as agricultural, horticultural, viticultural, and dairy 
products, livestock and the products thereof, the products of poultry 
and bee raising, the edible products of forestry, and any and all 
products raised or produced on farms and processed or manufactured 
products thereof within the meaning of the Cooperative Marketing Act of 
1926. Agricultural or horticultural products also include aquatic 
products that are farmed as well as fertilizer, diesel fuel, and other 
supplies used in agricultural or horticultural production that are MPGE 
by the Specified Cooperative. Agricultural or horticultural products, 
however, do not include intangible property, since agricultural or 
horticultural products were considered a subset of tangible property 
under former section 199. Intangible property (defined in Sec.  1.199-
3(j)(2)(iii)) was a separate category of property and gross receipts 
from intangible property did not qualify as DPGR.
    The Treasury Department and the IRS considered other definitions of 
agricultural or horticultural products but determined that taxpayer 
burden and tax administration costs would be lowest under a definition 
that was consistent with extant law.
    For example, the Treasury Department and the IRS considered a 
similar but alternative definition of agricultural or horticultural 
products as agricultural, horticultural, viticultural, and dairy 
products, livestock and poultry, bees, forest products, fish and 
shellfish, and any products thereof, including processed and 
manufactured products, and any and all products raised or produced on 
farms and any processed or manufactured product thereof within the 
meaning of the Agricultural Marketing Act of 1946. While very similar 
to the definition in these proposed rules, the Treasury Department and 
the IRS proposed using the definition based on the Cooperative 
Marketing Act of 1926, which specifically concerns cooperatives and 
with which Specified Cooperatives are familiar, unlike the Agricultural 
Marketing Act of 1946, which concerns the marketing and distribution of 
agricultural products without reference to Cooperatives. The Treasury 
Department and the IRS looked to the United States Department of 
Agriculture (USDA) for definitions because there is no definition of 
agricultural or horticultural products in the Internal Revenue Code or 
Income Tax Regulations and because the USDA has expertise concerning 
Specified Cooperatives and because Specified Cooperatives are likely 
familiar with USDA law.
    The Treasury Department and the IRS also considered an alternative 
definition of agricultural or horticultural products based on the 
definition of agricultural commodities within the meaning of general 
regulations under the Commodity Exchange Act. The Treasury Department 
and the IRS concluded that this definition was too narrow, because it 
is limited to products that can be commodities. The use of this narrow 
definition would have restricted the range of products for which the 
section 199A(g) deduction would be otherwise be available.
    The Treasury Department and the IRS request comments on other 
approaches to defining agricultural or horticultural products. The 
Treasury Department and the IRS did not attempt to provide quantitative 
estimates of the revenue effects or economic consequences of different 
designations of agricultural or horticultural products because suitable 
data are not readily available at this level of detail. The Treasury 
Department and the IRS request comments that can inform such 
estimation.
iii. De Minimis Threshold
    In general, proposed Sec.  1.199A-9 requires that Specified 
Cooperatives allocate gross receipts between domestic production gross 
receipts (DPGR) and non-DPGR. However, proposed Sec.  1.199A-9(c)(3) 
includes a de minimis provision that allows Specified Cooperatives to 
allocate total gross receipts to DPGR if less than 5 percent of total 
gross receipts are non-DPGR or to allocate total gross receipts to non-
DPGR if less than 5 percent of total gross receipts are DPGR. The 
Treasury Department and the IRS chose to include a de minimis rule to 
reduce compliance costs and simplify tax filing relative to an 
alternative of no de minimis rule. The de minimis threshold modestly 
reduces compliance costs for businesses with relatively small amounts 
of non-DPGR or DPGR by allowing them to avoid allocating receipts 
between DPGR and non-DPGR activities. The de minimis threshold is 
unlikely to create any substantial effects on market activity because 
any change in the ratio of DPGR to non-DPGR will be localized around 
the threshold, meaning that the movement will be a small fraction of 
receipts to get below the de minimis threshold.
    The thresholds provided in the proposed regulations are based on 
the thresholds set forth in Sec.  1.199-1(d)(3). The Treasury 
Department and the IRS maintained the de minimis rule from the final 
regulations under former section 199 because the 2018 Act directed that 
regulations concerning the section 199A(g) deduction be based on the 
regulations applicable to Cooperatives and their patrons under former 
section 199. The Treasury

[[Page 28680]]

Department and the IRS considered changes in the de minimis provisions 
but determined that changing these from provisions that were previously 
available would lead to taxpayer confusion. Because the de minimis 
provision exempts taxpayers from having to perform certain allocations, 
the Treasury Department and the IRS do not have sufficient information 
on taxpayers' use of this exemption under former section 199 to perform 
a quantitative analysis of the impacts of the de minimis provision.
    The Treasury Department and the IRS solicit comments on the de 
minimis thresholds and particularly request comments that provide data, 
other evidence, and models that can enhance the rigor of the process by 
which such thresholds might be determined for the final regulations 
while maintaining consistency with the statute's directive that the 
thresholds be based on regulations issued under former section 199.
iv. Reporting Requirements
    Proposed Sec.  1.199A-7(c) and (d) provide that, when a patron 
conducts a trade or business that receives distributions from a 
Cooperative, the Cooperative is required to provide the patron with 
qualified items of income, gain, deduction, and loss and specified 
service trade or business (SSTB) determinations with respect to those 
distributions. This increases the compliance burden on such 
Cooperatives. However, in the absence of these proposed regulations, 
the burden for determination of the amount of distributions from a 
Cooperative that constitute qualified items of income, gain, deduction, 
and loss from a non-SSTB and an SSTB would lie with the patron. Because 
patrons are less well positioned to acquire the relevant information to 
determine whether distributions from a Cooperative are qualified items 
of income, gain, deduction, and loss and whether items that would 
otherwise qualify are from an SSTB, the Treasury Department and the IRS 
expect that these proposed regulations will reduce overall compliance 
costs relative to an alternative approach of not introducing a 
reporting requirement.
v. Allocation Safe Harbor
    If a patron receives both qualified payments and payments that are 
not qualified payments in a qualified trade or business, the patron 
must allocate those items and related deductions using a reasonable 
method based on all of the facts and circumstances. The proposed 
regulations provide a safe harbor that allows patrons who receive 
qualified payments in addition to other income to use a simpler method 
to allocate business expenses and W-2 wages between qualified payments 
and other gross receipts to calculate the section 199A(b)(7) reduction 
to the section 199A(a) deduction. The safe harbor allocation method 
allows patrons to allocate by ratably apportioning business expenses 
and W-2 wages based on the proportion that the amount of qualified 
payments bears to the total gross receipts used to determine QBI. This 
safe harbor is available to patrons with taxable incomes below the 
threshold amounts set forth in section 199A(e)(2).
    The Treasury Department and the IRS considered an alternative of 
not allowing a safe harbor but determined that a safe harbor could 
reduce compliance costs and simplify tax filing. The threshold was set 
at amounts set forth in section 199A(e)(2) to avoid a proliferation of 
thresholds applicable to taxpayers claiming a section 199A(a) 
deduction. Because the threshold amounts are relatively low, the 
Treasury Department and the IRS expect that the safe harbor would not 
distort business decisions or reduce revenue to any meaningful extent.

II. Paperwork Reduction Act

    The collections of information in these proposed regulations are in 
proposed Sec.  1.199A-7(c)(3), (d)(3), (f)(3), and (h)(3), as well as 
proposed Sec.  1.199A-8(d)(3), (f), and (h)(3). The collections of 
information in proposed Sec.  1.199A-7(c)(3), (d)(3), (f)(3), and 
(h)(3), as well as proposed Sec.  1.199A-8(d)(3) and (h)(3) will be 
conducted through Form 1099-PATR, while the collection of information 
in proposed Sec.  1.199A-8(f) will be conducted through Schedule K-1 to 
Form 1065. In 2018, the IRS released and invited comments on the draft 
of Form 1065, Schedule K-1. The IRS received no comments on the form 
during the comment period. Consequently, the IRS made the form 
available December 6, 2018 for use by the public. On February 26, 2019, 
the IRS invited comments on Form 1099-PATR and the comment period 
closed on April 29, 2019. The IRS plans to issue in the near term an 
additional notice with a thirty-day comment period on Form 1099-PATR. 
The IRS is contemplating making additional changes to those two forms 
as discussed below in these proposed regulations.

A. Collections of Information Conducted Through Form 1099-PATR

    The collection of information in proposed Sec.  1.199A-7(c)(3) 
requires the Cooperative to inform its patron of the amount of any 
distribution to the patron that constitutes qualified items of income, 
gain, deduction, and loss from a non-SSTB conducted directly by the 
Cooperative. Not all distributions to patrons are qualified items of 
income, gain, deduction, and loss because the source of the 
distribution may not be effectively connected with the conduct of a 
trade or business within the United States or may include interest 
income that is not properly allocable to the patron's trade or 
business. The Cooperative directly conducting the trade or business 
from which the distribution to the patron originates is in the best 
position to know how much of the distribution is qualified items of 
income, gain, deduction, and loss. The Cooperative is also in the best 
position to know if it is generating income from an SSTB. Accordingly, 
the collection of information is necessary for the patron to calculate 
correctly the patron's section 199A(a) deduction for the patron's trade 
or business.
    The collection of information in proposed Sec.  1.199A-7(d)(3) 
requires the Cooperative to inform its patron of the amount of any 
distributions to the patron that constitutes qualified items of income, 
gain, deduction, and loss from an SSTB conducted directly by the 
Cooperative. Accordingly, the collection of information is necessary 
for the patron to correctly calculate the patron's section 199A(a) 
deduction for the patron's qualified trade or business.
    The collection of information in proposed Sec.  1.199A-7(f)(3) is 
essential for the eligible taxpayer's calculation of the reduction in 
the eligible taxpayer's section 199A(a) deduction for the eligible 
taxpayer's trade or business that is required by section 199A(b)(7). 
Section 199A(g)(2)(A) requires the Specified Cooperative to identify 
the amount of qualified payments being distributed to an eligible 
taxpayer and identify the portion of the deduction allowed in a notice 
mailed to the eligible taxpayer during the payment period described in 
section 1382(d). Section 199A(b)(7) provides that an eligible taxpayer 
who receives qualified payments from a Specified Cooperative must 
reduce the eligible taxpayer's section 199A(a) deduction by an amount 
set forth in this section. Without the notice described in proposed 
Sec.  1.199A-7(f)(3), the eligible taxpayer cannot calculate the 
reduction required by section 199A(b)(7).
    The collection of information in proposed Sec.  1.199A-8(d)(3) is 
necessitated by section 199A(g)(2)(A). Section 199A(g)(2)(A) permits a 
Specified Cooperative to pass through

[[Page 28681]]

an amount of its section 199A(g) deduction to an eligible taxpayer. The 
amount of the section 199A(g) deduction that the Specified Cooperative 
is permitted to pass through is an amount that is allocable to the QPAI 
generated from qualified payments distributed to the eligible taxpayer 
and identified by such cooperative in a written notice mailed to such 
taxpayer during the payment period described in section 1382(d). 
Without the notice required in proposed Sec.  1.199A-8(d)(3) the 
eligible taxpayer would not know that the Specified Cooperative is 
passing a portion of its section 199A(g) deduction to the eligible 
taxpayer.
    The collections of information in proposed Sec. Sec.  1.199A-
7(h)(3) and 1.199A-8(h)(3) are necessitated by a special transition 
rule in section 101 of the 2018 Act. Under this transition rule, the 
repeal of former section 199 for taxable years beginning after December 
31, 2017, does not apply to a qualified payment received by a patron 
from a Specified Cooperative in a taxable year beginning after December 
31, 2017, to the extent such qualified payment is attributable to QPAI 
with respect to which a deduction is allowable to the Specified 
Cooperative under former section 199 for a taxable year of the 
Specified Cooperative beginning before January 1, 2018. Such qualified 
payment remains subject to former section 199 and no deduction is 
allowed under section 199A(a) or (g) with respect to such qualified 
payment. Without these collections of information by the Specified 
Cooperative, the patron has no way of knowing that the patron is barred 
by the transition rule from using a qualified payment received that is 
QBI for the patron's trade or business to claim a section 199A(a) 
deduction for the patron's trade or business.
    The collections of information in proposed Sec.  1.199A-7(c)(3), 
(d)(3), (f)(3), and (h)(3) as well as proposed Sec.  1.199A-8(d)(3) and 
(h)(3) are satisfied by providing information about qualified items of 
income, SSTB determinations, qualified payments, the section 199A(g) 
deduction, and the use of qualified payments tied to the former section 
199 deduction, as applicable, on an attachment to or on the Form 1099-
PATR (or any successor form) issued by the Cooperative to the patron, 
unless otherwise provided by the instructions to the Form.
    For purposes of the Paperwork Reduction Act of 1995, (44 U.S.C. 
3507(d)) (PRA), the reporting burden associated with proposed Sec.  
1.199A-7(c)(3), (d)(3), (f)(3), and (h)(3) as well as proposed Sec.  
1.199A-8(d)(3) and (h)(3) will be reflected in the PRA Submission 
associated with Form 1099-PATR (OMB control number 1545-0118). As 
further discussed in this section, the estimated number of respondents 
for the reporting burden associated with these information collections 
is 9,000 based on 2017 tax filings.

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

    The collection of information in proposed Sec.  1.199A-8(f) is 
required by section 199A(g)(5)(B). This section allows a Specified 
Cooperative that is a partner in a partnership to use its allocable 
share of gross receipts and related deductions to calculate its section 
199A(g) deduction. The proposed rules provide that the partnership must 
separately identify and report the allocable share of gross receipts 
and related deductions on or attached to the Schedule K-1 to the Form 
1065 (or any successor form) issued to a Specified Cooperative partner, 
unless otherwise provided by the instructions to the Form. Without this 
reporting, the Specified Cooperative partner would not have the 
information necessary to calculate its section 199A(g) deduction from 
its activities with the partnership.
    The Schedule K-1 to the Form 1065 will be modified to include a 
mechanism to report the Specified Cooperative partner's allocable share 
of gross receipts and related deductions. The collection of information 
in proposed Sec.  1.199A-8(f) is satisfied when the partnership 
provides the required information to its Specified Cooperative partners 
on or attached to the Schedule K-1 of Form 1065 (or any successor 
form), unless otherwise provided by the instructions to the Form. For 
purposes of the PRA, the reporting burden associated with proposed 
Sec.  1.199A-8(f) will be reflected in the PRA Submission associated 
with Form 1065 (OMB control number 1545-0123). As provided in this 
section, the estimated number of respondents for the reporting burden 
associated with these information collections is 407 based on 2017 tax 
filings.

C. Revised Tax Forms

    The revised tax forms are as follows:

----------------------------------------------------------------------------------------------------------------
                                                                                   Revision of       Number of
                                                             New                  existing form     respondents
----------------------------------------------------------------------------------------------------------------
Form 1099-PATR..............................  .................................         [check]            9,000
Schedule K-1 (Form 1065)....................  .................................         [check]              407
----------------------------------------------------------------------------------------------------------------

    The current status of the PRA submissions related to the tax forms 
that will be revised as a result of the information collections in the 
proposed regulations is provided in the accompanying table. As 
described previously, the burdens associated with proposed Sec.  
1.199A-7(c)(3), (d)(3), (f)(3), and (h)(3) as well as proposed 
Sec. Sec.  1.199A-8(d)(3) and (h)(3) will be included in the aggregated 
burden estimates for OMB control number 1545-0118, which represents a 
total estimated burden time of 509,895 hours and total estimated 
monetized costs of $44.733 million ($2018). The burdens associated with 
the information collection in proposed Sec.  1.199A-8(f) will be 
included in the aggregated burden estimates for OMB control number 
1545-0123, which represents a total estimated burden time for all forms 
and schedules of 3.157 billion hours and total estimated monetized 
costs of $58.148 billion ($2017). The overall burden estimates provided 
for 1545-0118 and 1545-0123 are aggregate amounts that relate to all 
information collections associated with the applicable OMB control 
number.
    No burden estimates specific to the forms affected by the proposed 
regulations are currently available. The Treasury Department and the 
IRS have not estimated the burden, including that of any new 
information collections, related to the requirements under the proposed 
regulations. Those estimates would need to capture both changes made by 
the 2018 Act and those that arise out of discretionary authority 
exercised in the proposed regulations. The Treasury Department and the 
IRS request comments on all aspects of information collection burdens 
related to the proposed regulations, including estimates for how much 
time it would take to comply with the paperwork burdens described above 
for each relevant form and ways for the IRS to minimize the paperwork 
burden. Proposed revisions to these forms that reflect the information 
collections contained in these proposed regulations

[[Page 28682]]

will be made available for public comment at https://apps.irs.gov/app/picklist/list/draftTaxForms.htm and will not be finalized until after 
these forms have been approved by OMB under the PRA.

----------------------------------------------------------------------------------------------------------------
                 Form                         Type of filer          OMB No.(s)                Status
----------------------------------------------------------------------------------------------------------------
Form 1099-PATR........................  [Business (Legacy Model)]       1545-0118  Existing collection of
                                                                                    information approved by OIRA
                                                                                    on 6/3/2016. Public comments
                                                                                    will be sought on a revised
                                                                                    collection of information
                                                                                    that will be submitted for
                                                                                    OIRA review before 6/30/
                                                                                    2019.
                                       -------------------------------------------------------------------------
                                        Link: https://www.reginfo.gov/public/do/PRAViewICR?ref_nbr=201602-1545-024 024.
----------------------------------------------------------------------------------------------------------------
Form 1065, Schedule K-1...............  Business (NEW Model).....       1545-0123  Published in the Federal
                                                                                    Register on 10/11/18. Public
                                                                                    Comment period closed on 12/
                                                                                    10/18. Approved by OIRA on
                                                                                    12/21/18.
                                       -------------------------------------------------------------------------
                                        Link:https://www.federalregister.gov/documents/2018/10/09/2018-21846/proposed-collection-comment-request-for-forms-1065-1065-b-1066-1120-1120-c-1120-f-1120-h-1120-nd.
----------------------------------------------------------------------------------------------------------------

III. Regulatory Flexibility Act

    As described in more detail in this section, pursuant to the 
Regulatory Flexibility Act (RFA), 5 U.S.C. chapter 6, the Treasury 
Department and the IRS hereby certify that these proposed regulations 
will not have a significant economic impact on a substantial number of 
small entities. Notwithstanding this certification, the Treasury 
Department and the IRS invite comments on any impact this rule would 
have on small entities.

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

    Although proposed Sec.  1.199A-7(c)(3) and (d)(3) will have an 
impact on a substantial number of small entities, the economic impact 
will not be significant. The IRS creates the Business Master File which 
contains data from Form 1120-C, U.S. Income Tax Return for Cooperative 
Associations. According to the Business Master File data, in 2017, the 
IRS received approximately 9,000 Forms 1120-C from Cooperatives. Under 
the North American Industry Classification System (NAICS), a 
Cooperative is considered a small entity if it has less than $750,000 
in annual gross receipts. Approximately 4,050 (45 percent) of the 9,000 
filers of Forms 1120-C reported annual gross receipts of less than 
$750,000. Therefore, a substantial number of small entities are 
affected by the requirements in proposed Sec.  1.199A-7(c)(3) and 
(d)(3).
    Proposed Sec.  1.199A-7 provides rules similar to those provided in 
Sec.  1.199A-6. In Sec.  1.199A-6, relevant passthrough entities (RPEs) 
are not permitted to take the section 199A deduction but are required 
to determine and report the information necessary for their direct and 
indirect owners to determine their individual section 199A(a) 
deductions. Section 1.199A-6 requires RPEs to determine and report on 
or attach to the RPEs' Schedule K-1s to the Form 1065 for each trade or 
business in which the RPE was directly engaged four items: (1) The 
amount of QBI, (2) W-2 wages, (3) UBIA of qualified property, and (4) 
SSTBs.
    Although Cooperatives are not RPEs, Cooperatives make distributions 
to patrons that such patrons are permitted to include in calculating 
their individual section 199A(a) deductions. Proposed Sec.  1.199A-7(c) 
and (d) require the Cooperatives to determine and report to their 
patrons whether the distributions for which the Cooperatives take 
deductions under section 1382(b) and/or (c)(2), as applicable, 
constitute qualified items of income, gain, deduction, and loss and 
whether they are from an SSTB in which the Cooperative was directly 
engaged.
    In TD 9847 the Treasury Department and the IRS determined that the 
reporting burden in Sec.  1.199A-6 was estimated at 30 minutes to 20 
hours, depending on individual circumstances, with an estimated average 
of 2.5 hours for all affected entities, regardless of size. The burden 
on entities with business receipts below $10 million was expected to be 
at the lower end of the range (30 minutes to 2.5 hours). The estimated 
compliance burden for passthrough entities that issue Schedules K-1 is 
$53 per hour. This estimate was derived from the Business Taxpayer 
Burden model developed by the IRS's Office of Research, Applied 
Analytics, and Statistics (RAAS), which relates time and out-of-pocket 
costs of business tax preparation, derived from survey data, to assets 
and receipts of affected taxpayers along with other relevant variables. 
See Tax Compliance Burden (John Guyton et al., July 2018) at https://www.irs.gov/pub/irs-soi/d13315.pdf. Thus, the annual aggregate burden 
on businesses with gross receipts below $10 million was estimated to be 
between $19.50 and $132.50 per business. The Treasury Department and 
the IRS determined in TD 9847 that the requirements in Sec.  1.199A-6 
imposed no significant economic impact on affected entities.
    The reporting requirements under proposed Sec.  1.199A-7(c)(3) and 
(d)(3) require Specified Cooperatives to report only two of the four 
pieces of information RPEs are required to report under proposed Sec.  
1.199A-6: The amount of qualified items of income, gain, deduction, and 
loss and whether the distributions are from an SSTB in which the 
Cooperative was directly engaged.
    The burden imposed by proposed Sec.  1.199A-7(c)(3) and (d)(3) only 
occurs when a Cooperative has net income that it may distribute to its 
patrons such that the income will qualify for the income tax deductions 
under section 1382(b) and/or (c), as applicable. With respect to this 
net income, Cooperatives already know the source of their income and 
deductions without which information they would not be able to 
determine the correct distributions to their patrons and to claim the 
income tax deduction for these distributions under section 1382(b) and/
or (c)(2), as applicable. Finally, assuming that the approximately 
4,050 filers of Forms 1120-C that reported annual gross receipts of 
less than $750,000 in 2017 and that each business incurred half of the 
higher figure of $132.50 ($66.25) determined for the Sec.  1.199A-6 
regulations to satisfy the reporting requirements under proposed Sec.  
1.199A-7(c)(3) and (d)(3), the annual burden imposed by the reporting 
requirements would not exceed $66.25 per business. Accordingly, the 
Treasury Department and the IRS conclude that the requirements in 
proposed Sec.  1.199A-7(c)(3) and (d)(3) will not impose a significant 
economic impact on small entities.

[[Page 28683]]

B. Proposed Sec.  Sec.  1.199A-7(h)(3) and 1.199A-8(h)(3)

    Although proposed Sec. Sec.  1.199A-7(h)(3) and 1.199A-8(h)(3) will 
have an impact on a substantial number of small entities, this economic 
impact will not be significant. As previously noted, in 2017, 
approximately 45 percent of Cooperatives reported on Forms 1120-C gross 
receipts of less than $750,000. Therefore, a substantial number of 
small entities are affected by proposed Sec. Sec.  1.199A-7(h)(3) and 
1.199A-8(h)(3).
    Proposed Sec. Sec.  1.199A-7(h)(3) and 1.199A-8(h)(3) requires 
Cooperatives to notify patrons if, pursuant to the transition rule in 
section 101 of the 2018 Act, the patron is barred from using certain 
qualified payments from a Cooperative to claim a section 199A(a) 
deduction in a taxable year because these qualified payments are 
attributable to QPAI with respect to which a deduction is allowable to 
the Cooperative under former section 199 in a taxable year beginning 
before January 1, 2018. The Cooperative knows which patrons are 
impacted since, in order to claim its deduction under former section 
199, the Cooperative must identify which qualified payments to use. The 
Treasury Department and the IRS estimate that the annual burden imposed 
by the requirement in proposed Sec. Sec.  1.199A-7(h)(3) and 1.199A-
8(h)(3) will be far less than the $66.25 per business estimated for the 
requirements in proposed Sec. Sec.  1.199A-7(c)(3) and 1.199A-8(c)(3) 
discussed above, since the Cooperatives know which patrons are impacted 
and the reporting is limited to informing these patrons that they 
cannot use such qualified payments to calculate their section 199A(a) 
deduction.
    In addition, absent notice from the Cooperatives, patrons would 
have no way of determining whether they were barred from claiming the 
section 199A(a) deduction using such qualified payments. Finally, 
Cooperatives are not able to claim a deduction under former section 199 
for taxable years beginning after December 31, 2017. Therefore, the 
reporting required by proposed Sec. Sec.  1.199A-7(h)(3) and 1.199A-
8(h)(3) will be for a short duration and have a limited impact on 
Cooperatives. Accordingly, for all these reasons, the requirements in 
proposed Sec. Sec.  1.199A-7(h)(3) and 1.199A-8(h)(3) will not impose a 
significant economic impact on small entities.

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

    Sections 1.199A-7(f)(3) and 1.199A-8(d)(3) will not have a 
significant economic impact on a substantial number of small entities. 
This claim is based on the fact that this rulemaking will impact a 
population of Specified Cooperatives, only a small percentage of which 
are considered small entities. According to the Business Master File 
filing data from the transcribed fields from the Forms 1120-C for 2017, 
of the approximately 9,000 Forms 1120-C filed by Cooperatives, 
approximately 2,000 filers identified their Cooperatives as involving 
agriculture or horticulture using the NAICS. As noted previously, a 
Cooperative is considered small if it reports less than $750,000 in 
annual gross receipts. Of the 2,000 filers of Forms 1120-C identifying 
as Specified Cooperatives, only 175 filers (less than 1 percent) 
reported annual gross receipts of less than $750,000. Accordingly, 
proposed Sec. Sec.  1.199A-7(f)(3) and 1.199A-8(d)(3) will not impose a 
significant economic impact on a substantial number of small entities.

D. Proposed Sec.  1.199A-8(f)

    Although proposed Sec.  1.199A-8(f) will have an impact on a 
substantial number of small entities, this impact will not be 
economically significant. According to the Business Master File filing 
data from the transcribed fields from the Forms 1065 for 2017, the IRS 
estimates that there were 3,954,000 partnerships reporting their 
partners' share of partnership items on Schedules K-1 (Form 1065). The 
IRS also identified approximately 407 different partnerships that 
issued a Schedule K-1 to 680 different Cooperatives in 2017. The IRS 
does not have information as to whether the 680 Cooperatives all 
qualified as Specified Cooperatives.
    Of the 407 different partnerships, the IRS determined that 344 of 
the partnerships conducted activities in 2017 that would have required 
the partnerships to file under proposed Sec.  1.199A-8(f). The IRS does 
not have sufficient data to determine the type of business activities 
of the remaining 63 partnerships. To be as comprehensive and 
transparent as possible in analyzing the potential impact of the 
proposed regulations, it is assumed that all 63 of these partnerships 
would be required to file under proposed Sec.  1.199A-8(f) and would be 
considered small entities.
    Of the 344 partnerships identified as having both issued a Schedule 
K-1 to a Cooperative and conducting eligible activities in 2017, the 
IRS determined that 158 of these partnerships conducted activities for 
which the Small Business Administration (SBA) uses the number of 
employees to determine if an entity is a small entity using the NAICS. 
The IRS determined that 153 of these 158 partnerships would be small 
entities, while five would not be small entities based on the reported 
number of Forms W-2 filed in connection with the Forms 1065 the 
partnerships filed in 2017.
    The SBA uses income to determine if an entity is a small entity for 
the reported business activities of the remaining 186 partnerships 
using the NAICS. Based upon the reported income for 2017, 140 of the 
remaining 186 partnerships are small entities, while 46 partnerships 
are not small entities. Therefore, a substantial number of small 
entities are affected by requirements in proposed Sec.  1.199A-8(f).
    The economic impact of proposed Sec.  1.199A-8(f), however, will 
not be significant because the information required to be reported is 
gross receipts and related deductions. This information is readily 
available to each partnership and already known for the purpose of 
determining tax obligations. Because the information required to be 
reported is already available and familiar to each partnership, the 
reporting required by proposed Sec.  1.199A-8(f) will not impose a 
significant economic impact on small entities.
    Accordingly, the Treasury Department and the IRS hereby certify 
that the proposed regulations will not have a significant economic 
impact on a substantial number of small entities. We invite public 
comments with respect to this conclusion.
    Pursuant to section 7805(f) of the Code, this notice of proposed 
rulemaking has been submitted to the Chief Counsel for Advocacy of the 
Small Business Administration for comment on its impact on small 
business.

IV. Unfunded Mandates Reform Act

    Section 202 of the Unfunded Mandates Reform Act of 1995 (UMRA) 
requires that agencies assess anticipated costs and benefits and take 
certain other actions before issuing a final rule that includes any 
Federal mandate that may result in expenditures in any one year by a 
state, local, or tribal government, in the aggregate, or by the private 
sector, of $100 million in 1995 dollars, updated annually for 
inflation. In 2018, that threshold is approximately $150 million. This 
rule does not include any Federal mandate that may result in 
expenditures by state, local, or tribal governments, or by the private 
sector in excess of that threshold.

V. Executive Order 13132: Federalism

    Executive Order 13132 (titled Federalism) prohibits an agency from 
publishing any rule that has federalism

[[Page 28684]]

implications if the rule either imposes substantial, direct compliance 
costs on state and local governments, and is not required by statute, 
or preempts state law, unless the agency meets the consultation and 
funding requirements of section 6 of the Executive Order. This proposed 
rule does not have federalism implications, and does not impose 
substantial direct compliance costs on state and local governments or 
preempt state law, within the meaning of the Executive Order.

Comments and Requests for a Public Hearing

    The Treasury Department and the IRS request comments on all aspects 
of the proposed rules. Before these proposed regulations are adopted as 
final regulations, consideration will be given to any written or 
electronic comments that are submitted timely to the IRS. All comments 
will be available for public inspection and copying. A public hearing 
may be scheduled if requested in writing by any person who timely 
submits written comments. If a public hearing is scheduled, notice of 
the date, time, and place for the hearing will be published in the 
Federal Register.

Statement of Availability of IRS Documents

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

Drafting Information

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

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Withdrawal of Notice of Proposed Rulemaking

0
Accordingly, under the authority of 26 U.S.C. 7805, the notice of 
proposed rulemaking (REG-136459-09) published in the Federal Register 
(80 FR 51978) on August 27, 2015, is withdrawn.

Proposed Amendments to the Regulations

    Accordingly, 26 CFR parts 1 is proposed to be amended as follows:

PART 1--INCOME TAXES

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

    Authority:  26 U.S.C. 7805.
* * * * *
    Section 1.199A-7 also issued under 26 U.S.C. 199A(f)(4) and 
(g)(6).
    Section 1.199A-8 also issued under 26 U.S.C. 199A(g)(6).
    Section 1.199A-9 also issued under 26 U.S.C. 199A(g)(6).
    Section 1.199A-10 also issued under 26 U.S.C. 199A(g)(6).
    Section 1.199A-11 also issued under 26 U.S.C. 199A(g)(6).
    Section 1.199A-12 also issued under 26 U.S.C. 199A(g)(6).
* * * * *


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

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

Sec.
* * * * *
1.199A-7 Section 199A(a) Rules for Cooperatives and their Patrons.
1.199A-8 Deduction for income attributable to domestic production 
activities of specified agricultural or horticultural cooperatives.
1.199A-9 Domestic production gross receipts.
1.199A-10 Allocation of costs of goods sold (COGS) and other 
deductions to domestic production gross receipts (DPGR), and other 
rules.
1.199A-11 Wage limitation for the section 199A(g) deduction.
1.199A-12 Expanded affiliated groups.
* * * * *


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

    (a) Overview--(1) In general. This section provides guidance and 
special rules on the application of the rules of Sec. Sec.  1.199A-1 
through 1.199A-6 regarding the deduction for qualified business income 
(QBI) under section 199A(a) (section 199A(a) deduction) of the Internal 
Revenue Code (Code) by patrons (patrons) of cooperatives to which Part 
I of subchapter T of chapter 1 of subtitle A of the Code applies 
(Cooperatives). Unless otherwise provided in this section, all of the 
rules in Sec. Sec.  1.199A-1 through 1.199A-6 relating to calculating 
the section 199A(a) deduction apply to patrons and Cooperatives. 
Paragraph (b) of this section provides special rules for patrons 
relating to trades or businesses. Paragraph (c) of this section 
provides special rules for patrons and Cooperatives relating to the 
definition of QBI. Paragraph (d) of this section provides special rules 
for patrons and Cooperatives relating to specified service trades or 
businesses (SSTBs). Paragraph (e) of this section provides special 
rules for patrons relating to the statutory limitations based on W-2 
wages and unadjusted basis immediately after acquisition (UBIA) of 
qualified property. Paragraph (f) of this section provides special 
rules for specified agricultural or horticultural cooperatives 
(Specified Cooperatives) and paragraph (g) of this section provides 
examples for Specified Cooperatives and their patrons. Paragraph (h) of 
this section sets forth the applicability date of this section and a 
special transition rule relating to Specified Cooperatives and their 
patrons.
    (2) At patron level. The section 199A(a) deduction is applied at 
the patron level, and patrons who are individuals (as defined in Sec.  
1.199A-1(a)(2)) may take the section 199A(a) deduction.
    (3) Definitions. For purposes of section 199A and Sec.  1.199A-7, 
the following definitions apply--
    (i) Individual is defined in Sec.  1.199A-1(a)(2).
    (ii) Patron is defined in Sec.  1.1388-1(e).
    (iii) Patronage and nonpatronage is defined in Sec.  1.1388-1(f).
    (iv) Relevant Passthrough Entity (RPE) is defined in Sec.  1.199A-
1(a)(9).
    (v) Qualified payment is defined in Sec.  1.199A-8(d)(2)(ii).
    (vi) Specified Cooperative is defined in Sec.  1.199A-8(a)(2) and 
is a subset of Cooperatives defined in Sec.  1.199A-7(a)(1).
    (b) Trade or business. A patron (whether the patron is an RPE or an 
individual) must determine whether it has one or more trades or 
businesses that it directly conducts as defined in Sec.  1.199A-
1(b)(14). To the extent a patron operating a trade or business has 
income directly from that business, the patron must follow the rules of 
Sec. Sec.  1.199A-1 through 1.199A-6 to calculate the section 199A 
deduction. Patronage dividends or similar payments are considered to be 
generated from the trade or business the Cooperative conducts on behalf 
of or with the patron, and are tested by the Cooperative at its trade 
or business level. A patron that receives patronage dividends or 
similar payments, as described in paragraph (c)(1) of this section, 
from a Cooperative must follow the rules of paragraphs (c) through (e) 
of this section to calculate the section 199A deduction.

[[Page 28685]]

    (c) Qualified Business Income--(1) In general. QBI means the net 
amount of qualified items of income, gain, deduction, and loss with 
respect to any trade or business as determined under the rules of Sec.  
1.199A-3(b). A qualified item of income includes distributions for 
which the Cooperative is allowed a deduction under section 1382(b) and 
(c)(2) (including patronage dividends or similar payments, such as 
money, property, qualified written notices of allocations, and 
qualified per-unit retain certificates, as well as money or property 
paid in redemption of a nonqualified written notice of allocation 
(collectively patronage dividends or similar payments)), provided such 
distribution is otherwise a qualified item of income, gain, deduction, 
or loss. See special rule in paragraph (d)(3) of this section relating 
to SSTBs that may affect QBI.
    (2) QBI determinations made by patron. A patron must determine QBI 
for each trade or business it directly conducts. In situations where 
the patron receives distributions described in paragraph (c)(1) of this 
section, the Cooperative must determine whether those distributions 
include qualified items of income, gain, deduction, and loss. These 
distributions may be included in the QBI of the patron's trade or 
business:
    (i) To the extent that those payments are related to the patron's 
trade or business;
    (ii) Are qualified items of income, gain, deduction, and loss at 
the Cooperative's trade or business level;
    (iii) Are not income from an SSTB at the Cooperative's trade or 
business level (except as permitted by the threshold rules (see Sec.  
1.199A-5(a)(2)); and
    (iv) Provided the patron receives certain information from the 
Cooperative about these payments as provided in paragraphs (c)(3) and 
(d)(3) of this section.
    (3) Qualified items of income, gain, deduction, and loss 
determinations made and reported by Cooperatives. In the case of a 
Cooperative that makes distributions described in paragraph (c)(1) of 
this section to a patron, the Cooperative must determine the amount of 
qualified items of income, gain, deduction, and loss in those 
distributions. Pursuant to this paragraph (c)(3), the Cooperative must 
report the amounts of qualified items with respect to any non-SSTB of 
the Cooperative in the distributions made to the patron on an 
attachment to or on the Form 1099-PATR, Taxable Distributions Received 
From Cooperatives (Form 1099-PATR), (or any successor form) issued by 
the Cooperative to the patron, unless otherwise provided by the 
instructions to the Form. If the Cooperative does not report on or 
before the due date of the Form 1099-PATR the amount of such qualified 
items of income, gain, deduction, and loss in the distributions to the 
patron, the amount of distributions from the Cooperative that may be 
included in the patron's QBI is presumed to be zero. See special rule 
in paragraph (d)(3) of this section relating to reporting of qualified 
items of income, gain, deduction, and loss with respect to SSTBs of the 
Cooperative.
    (d) Specified Service Trades or Businesses--(1) In general. This 
section provides guidance on the determination of SSTBs. Unless 
otherwise provided in this section, all of the rules in Sec.  1.199A-5 
relating to SSTBs apply to patrons of Cooperatives.
    (2) SSTB determinations made by patron. A patron (whether an RPE or 
an individual) must determine whether each trade or business it 
directly conducts is an SSTB.
    (3) SSTB determinations made and reported by Cooperatives. In the 
case of a Cooperative that makes distributions described in paragraph 
(c)(1) of this section to a patron, the Cooperative must determine 
whether the distributions from the Cooperative include items of income, 
gain, deduction, and loss from an SSTB directly conducted by the 
Cooperative, and whether such items are qualified items of income, 
gain, deduction, and loss with respect to such SSTB. The Cooperative 
must report to the patron the amount of income, gain, deduction, and 
loss in the distributions that is a qualified item of income, gain, 
deduction, and loss with respect to such SSTB. The Cooperative must 
report the amount on an attachment to or on the Form 1099-PATR (or any 
successor form) issued by the Cooperative to the patron, unless 
otherwise provided by the instructions to the Form. If the Cooperative 
does not report the amount on or before the due date of the Form 1099-
PATR, then only the amount that a Cooperative reports as qualified 
items of income, gain, deduction, and loss under Sec.  1.199A-7(c)(3) 
may be included in the patron's QBI, and the remaining amount of 
distributions from the Cooperative that may be included in the patron's 
QBI is presumed to be zero.
    (e) W-2 wages and unadjusted basis immediately after acquisition of 
qualified property--(1) In general. This section provides guidance on 
calculating a trade or business's W-2 wages and the UBIA of qualified 
property properly allocable to QBI.
    (2) Determinations made by patron. The determination of W-2 wages 
and UBIA of qualified property must be made for each trade or business 
by the patron (whether an RPE or individual) that directly conducts the 
trade or business before applying the aggregation rules of Sec.  
1.199A-4. Unlike RPEs, Cooperatives do not allocate their W-2 wages and 
UBIA of qualified property to patrons.
    (f) Special rules for patrons of Specified Cooperatives--(1) 
Section 199A(b)(7) reduction. A patron of a Specified Cooperative that 
receives a qualified payment must reduce its section 199A(a) deduction 
as provided in Sec.  1.199A-1(e)(7). This reduction applies whether the 
Specified Cooperative passes through all, some, or none of the 
Specified Cooperative's section 199A(g) deduction to the patron in that 
taxable year. The proposed rules relating to the section 199A(g) 
deduction can be found in Sec. Sec.  1.199A-8 through 1.199A-12.
    (2) Deduction Calculation--(i) Allocation method. If in any taxable 
year, a patron receives both qualified payments and income that is not 
a qualified payment in a trade or business, the patron must allocate 
those items and related deductions using a reasonable method based on 
all the facts and circumstances. Different reasonable methods may be 
used for different items and related deductions of income, gain, 
deduction, and loss. The chosen reasonable method for each item must be 
consistently applied from one taxable year of the patron to another, 
and must clearly reflect the income and expenses of each trade or 
business. The overall combination of methods must also be reasonable 
based on all the facts and circumstances. The books and records 
maintained for a trade or business must be consistent with any 
allocations under this paragraph (f)(2)(i).
    (ii) Safe harbor. A patron with taxable income under the threshold 
amount set forth in section 199A(e)(2) is eligible to use the safe 
harbor set forth in this paragraph (f)(2)(ii) instead of the allocation 
method set forth in paragraph (f)(2)(i) of this section for any taxable 
year in which the patron receives qualified payments and income from 
other than qualified payments in its trade or business. Under the safe 
harbor the patron may apportion its deductions and W-2 wages ratably 
between income from qualified payments and income from other than 
qualified payments for purposes of calculating the reduction in 
paragraph (f)(1) of this section. Accordingly, the amount of deductions 
apportioned to determine QBI allocable to qualified payments is equal 
to the proportion of the total deductions that the amount of qualified 
payments bears

[[Page 28686]]

to total gross receipts used to determine QBI. The same proportion 
applies to determine the amount of W-2 wages allocable to the portion 
of the trade or business that received qualified payments.
    (3) Qualified payments notice requirement. A Specified Cooperative 
must report the amount of the qualified payments made to the eligible 
taxpayer, as defined in section 199A(g)(2)(D), on an attachment to or 
on the Form 1099-PATR (or any successor form) issued by the Cooperative 
to the patron, unless otherwise provided by the instructions to the 
Form.
    (g) Examples. The following examples illustrate the provisions of 
paragraph (f) of this section. For purposes of these examples, assume 
that the Specified Cooperative has satisfied the applicable written 
notice requirements in paragraphs (c)(3), (d)(3) and (f)(3) of this 
section.

    (1) Example 1. Patron of Specified Cooperative with W-2 wages. 
(i) P, a grain farmer and patron of nonexempt Specified Cooperative 
(C), delivered to C during 2018 2% of all grain marketed through C 
during such year. During 2019, P receives $20,000 in patronage 
dividends and $1,000 of allocated section 199A(g) deduction from C 
related to the grain delivered to C during 2018.
    (ii) P has taxable income of $75,000 for 2019 (determined 
without regard to section 199A) and has a filing status of married 
filing jointly. P's QBI related to its grain trade or business for 
2019 is $50,000, which consists of gross receipts of $150,000 from 
sales to an independent grain elevator, per-unit retain allocations 
received from C during 2019 of $80,000, patronage dividends received 
from C during 2019 related to C's 2018 net earnings of $20,000, and 
expenses of $200,000 (including $50,000 of W-2 wages).
    (iii) The portion of QBI from P's grain trade or business 
related to qualified payments received from C during 2019 is 
$10,000, which consists of per-unit retain allocations received from 
C during 2019 of $80,000, patronage dividends received from C during 
2019 related to C's 2018 net earnings of $20,000, and properly 
allocable expenses of $90,000 (including $25,000 of W-2 wages).
    (iv) P's deductible amount related to the grain trade or 
business is 20% of QBI ($10,000) reduced by the lesser of 9% of QBI 
related to qualified payments received from C ($900) or 50% of W-2 
wages related to qualified payments received from C ($12,500), or 
$9,100. As P does not have any other trades or businesses, the 
combined QBI amount is also $9,100.
    (v) P's deduction under section 199A for 2019 is $10,100, which 
consists of the combined QBI amount of $9,100, plus P's deduction 
passed through from C of $1,000.
    (2) Example 2. Patron of Specified Cooperative without W-2 
wages. (i) C and P have the same facts for 2018 and 2019 as Example 
1, except that P has expenses of $200,000 that include zero W-2 
wages during 2019.
    (ii) P's deductible amount related to the grain trade or 
business is 20% of QBI ($10,000) reduced by the lesser of 9% of QBI 
related to qualified payments received from C ($900) or 50% of W-2 
wages related to qualified payments received from C ($0), or 
$10,000.
    (iii) P's deduction under section 199A for 2019 is $11,000, 
which consists of the combined QBI amount of $10,000, plus P's 
deduction passed through from C of $1,000.
    (3) Example 3. Patron of Specified Cooperative--Qualified 
Payments do not equal QBI and no section 199A(g) passthrough. (i) P, 
a grain farmer and a patron of a nonexempt Specified Cooperative 
(C), during 2019, receives $60,000 in patronage dividends, $100,000 
in per-unit retain allocations, and $0 of allocated section 199A(g) 
deduction from C related to the grain delivered to C. C notifies P 
that only $150,000 of the patronage dividends and per-unit retain 
allocations are qualified payments because $10,000 of the payments 
are not attributable to C's qualified production activities income 
(QPAI).
    (ii) P has taxable income of $90,000 (determined without regard 
to section 199A) and has a filing status of married filing jointly. 
P's QBI related to its grain trade or business is $45,000, which 
consists of gross receipts of $95,000 from sales to an independent 
grain elevator, plus $160,000 from C (all payments from C qualify as 
qualified items of income, gain, deduction, and loss), less expenses 
of $210,000 (including $30,000 of W-2 wages).
    (iii) The portion of QBI from P's grain trade or business 
related to qualified payments received from C is $25,000, which 
consists of the qualified payments received from C of $150,000, less 
the properly allocable expenses of $125,000 (including $18,000 of W-
2 wages), which were determined using a reasonable method under 
paragraph (f)(2)(ii) of this section.
    (iv) P's patron reduction is $2,250, which is the lesser of 9% 
of QBI related to qualified payments received from C, $2,250 (9% x 
$25,000), or 50% of W-2 wages related to qualified payments received 
from C, $9,000 (50% x $18,000). As P does not have any other trades 
or businesses, the combined QBI amount is $6,750 (20% of P's total 
QBI, $9,000 (20% x $45,000), reduced by the patron reduction of 
$2,250).
    (v) P's deduction under section 199A is $6,750, which consists 
of the combined QBI amount of $6,750.
    (4) Example 4. Patron of Specified Cooperative--Reasonable 
Method under paragraph (f)(2)(ii) of this section. P is a grain 
farmer that has $45,000 of QBI related to P's grain trade or 
business in 2019. P's QBI consists of $105,000 of sales to an 
independent grain elevator, $100,000 of per-unit retain allocations, 
and $50,000 of patronage dividends from a nonexempt Specified 
Cooperative (C), for which C reports $150,000 of qualified payments 
to P as required by paragraph (f)(3) of this section. P's grain 
trade or business has $210,000 of expenses (including $30,000 of W-2 
wages). P delivered 65x bushels of grain to C and sold 35x bushels 
of comparable grain to the independent grain elevator. To allocate 
the expenses between qualified payments ($150,000) and other income 
($105,000), P compares the bushels of grain delivered to C (65x) to 
the total bushels of grain delivered to C and sold to the 
independent grain elevator (100x). P determines $136,500 (65% x 
$210,000) of expenses (including $19,500 of W-2 wages) are properly 
allocable to the qualified payments. The portion of QBI from P's 
grain trade or business related to qualified payments received from 
C is $13,500, which consists of qualified payments of $150,000 less 
the properly allocable expenses of $136,500 (including $19,500 of W-
2 wages). P's method of allocating expenses is a reasonable method 
under paragraph (f)(2)(ii) of this section.
    (5) Example 5. Patron of Specified Cooperative using safe harbor 
to allocate. (i) P is a grain farmer with taxable income of $100,000 
for 2019 (determined without regard to section 199A) and has a 
filing status of married filing jointly. P's QBI related to P's 
grain trade or business for 2019 is $50,000, which consists of gross 
receipts of $180,000 from sales to an independent grain elevator, 
per-unit retain allocations received from a Specified Cooperative 
(C) during 2019 of $15,000, patronage dividends received from C 
during 2019 related to C's 2018 net earnings of $5,000, and expenses 
of $150,000 (including $50,000 of W-2 wages). C also passed through 
$1,800 of the section 199A(g) deduction to P, which related to the 
grain delivered by P to the Specified Cooperative during 2018. P 
uses the safe harbor in paragraph (f)(2)(iii) of this section to 
determine the expenses (including W-2 wages) allocable to the 
qualified payments.
    (ii) Using the safe harbor to allocate P's $150,000 of expenses, 
P allocates $15,000 of the expenses to the qualified payments 
($150,000 of expenses multiplied by the ratio (0.10) of qualified 
payments ($20,000) to total gross receipts ($200,000)). Using the 
same ratio, P also determines there are $5,000 of W-2 wages 
allocable ($50,000 multiplied by 0.10) to the qualified payments.
    (iii) The portion of QBI from P's grain trade or business 
related to qualified payments received from C during 2019 is $5,000, 
which consists of per-unit retain allocations received from C during 
2019 of $15,000, patronage dividends of $5,000, and properly 
allocable expenses of $15,000 (including $5,000 of W-2 wages).
    (iv) P's QBI related to the grain trade or business is 20% of 
QBI ($10,000) reduced by the lesser of 9% of QBI related to 
qualified payments received from C ($450) or 50% of W-2 wages 
related to qualified payments received from C ($2,500), or $9,550. 
As P does not have any other trades or businesses, the combined QBI 
amount is also $9,550.
    (v) P's deduction under section 199A for 2019 is $11,350, which 
consists of the combined QBI amount of $9,550, plus P's deduction 
passed through from C of $1,800.

    (h) Effective/Applicability date--(1) General rule. Except as 
provided in paragraph (h)(2) of this section, the provisions of this 
section apply to taxable years ending after the date the Treasury 
decision adopting these regulations as final regulations is

[[Page 28687]]

published in the Federal Register. Taxpayers, however, may rely on 
these regulations until that date, but only if the taxpayers apply the 
rules in their entirety and in a consistent manner.
    (2) Transition rule for qualified payments of patrons of 
Cooperatives. No deductions under section 199A are allowed to patrons 
for any qualified payments that are attributable to QPAI with respect 
to which a deduction is allowable to the Specified Cooperative under 
section 199 as in effect on and before December 31, 2017, for a taxable 
year of the Specified Cooperative beginning before January 1, 2018.
    (3) Notice from the Cooperative. If a patron of a Cooperative 
cannot claim a deduction under section 199A for any qualified payments 
described in the transition rule set forth in paragraph (h)(2) of this 
section, the Cooperative must report this information on an attachment 
to or on the Form 1099-PATR (or any successor form) issued by the 
Cooperative to the patron, unless otherwise provided by the 
instructions to the Form.


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

    (a) Overview--(1) In general. This section provides rules relating 
to the deduction for income attributable to domestic production 
activities of a specified agricultural or horticultural cooperative 
(Specified Cooperative). This paragraph (a) provides an overview and 
definitions of certain terms. Paragraph (b) of this section provides 
rules explaining the steps a nonexempt Specified Cooperative performs 
to calculate its section 199A(g) deduction and includes definitions of 
relevant terms. Paragraph (c) of this section provides rules explaining 
the steps an exempt Specified Cooperative performs to calculate its 
section 199A(g) deduction. Paragraph (d) of this section provides rules 
for Specified Cooperatives passing through the section 199A(g) 
deduction to patrons. Paragraph (e) of this section provides examples 
that illustrate the provisions of paragraphs (b), (c), and (d) of this 
section. Paragraph (f) of this section provides guidance for Specified 
Cooperatives that are partners in a partnership. Paragraph (g) of this 
section provides guidance on the recapture of a claimed section 199A(g) 
deduction. Paragraph (h) of this section provides effective dates. For 
additional rules addressing an expanded affiliated group (EAG) see 
Sec.  1.199A-12. The principles of this section apply to the EAG rules 
in Sec.  1.199A-12.
    (2) Specified Cooperative--(i) In general. Specified Cooperative 
means a cooperative to which Part I of subchapter T of chapter 1 of 
subtitle A of the Internal Revenue Code (Code) applies and which--
    (A) Manufactures, produces, grows, or extracts (MPGE) in whole or 
significant part within the United States any agricultural or 
horticultural product, or
    (B) Is engaged in the marketing of agricultural or horticultural 
products that have been MPGE in whole or significant part within the 
United States by the patrons of the cooperative.
    (ii) Additional rules. See Sec.  1.199A-9 for rules to determine if 
a Specified Cooperative has MPGE an agricultural or horticultural 
product in whole or significant part within the United States.
    (iii) Types of Specified Cooperatives. A Specified Cooperative that 
is qualified as a farmer's cooperative organization under section 521 
is an exempt Specified Cooperative, while a Specified Cooperative not 
so qualified is a nonexempt Specified Cooperative.
    (3) Patron is defined in Sec.  1.1388-1(e).
    (4) Agricultural or horticultural products are agricultural, 
horticultural, viticultural, and dairy products, livestock and the 
products thereof, the products of poultry and bee raising, the edible 
products of forestry, and any and all products raised or produced on 
farms and processed or manufactured products thereof within the meaning 
of the Cooperative Marketing Act of 1926, 44 Stat. 802 (1926). 
Agricultural or horticultural products also include aquatic products 
that are farmed whether by an exempt or a nonexempt Specified 
Cooperative. In addition, agricultural or horticultural products 
include fertilizer, diesel fuel, and other supplies used in 
agricultural or horticultural production that are MPGE by a Specified 
Cooperative. Agricultural or horticultural products, however, do not 
include intangible property (other than as provided in the exception in 
Sec.  1.199A-9(b)(2)); for example, an agricultural or horticultural 
product includes a seed that is grown, but does not include the 
intangible property right to reproduce a seed for sale. This exclusion 
of intangible property does not apply to intangible characteristics of 
any particular agricultural or horticultural product. For example, 
gross receipts from the sale of different varieties of oranges would 
all qualify as DPGR from the disposition of agricultural or 
horticultural products (assuming all other requirements of section 
199A(g) are met). However, gross receipts from the license of the right 
to produce and sell a certain variety of an orange would be considered 
separate from the orange and not from an agricultural or horticultural 
product.
    (b) Steps for a nonexempt Specified Cooperative in calculating 
deduction--(1) In general. Except as provided in paragraph (c)(3) of 
this section, this paragraph (b) applies only to nonexempt Specified 
Cooperatives.
    (2) Step 1--Gross receipts and related deductions--(i) Identify. To 
determine the section 199A(g) deduction, a Specified Cooperative first 
identifies its patronage and nonpatronage gross receipts and related 
cost of goods sold (COGS), deductible expenses, W-2 wages, etc. 
(deductions) and allocates them between patronage and nonpatronage. A 
single definition for the term patronage and nonpatronage is found in 
Sec.  1.1388-1(f).
    (ii) Applicable gross receipts and deductions. For all purposes of 
the section 199A(g) deduction, a Specified Cooperative can use only 
patronage gross receipts and related deductions to calculate qualified 
production activities income (QPAI) as defined in paragraph (b)(4)(ii) 
of this section, oil-related QPAI as defined in paragraph (b)(7)(ii) of 
this section, or the W-2 wage limitation in paragraph (b)(5)(ii)(B) of 
this section. A Specified Cooperative cannot use its nonpatronage gross 
receipts and related deductions to calculate its section 199A(g) 
deduction.
    (iii) Gross receipts are the Specified Cooperative's receipts for 
the taxable year that are recognized under the Specified Cooperative's 
methods of accounting used for Federal income tax purposes for the 
taxable year. See Sec.  1.199A-12 if the gross receipts are recognized 
in an intercompany transaction within the meaning of Sec.  1.1502-13. 
Gross receipts include total sales (net of returns and allowances) and 
all amounts received for services. In addition, gross receipts include 
any income from investments and from incidental or outside sources. For 
example, gross receipts include interest (except interest under section 
103 but including original issue discount), dividends, rents, 
royalties, and annuities, regardless of whether the amounts are derived 
in the ordinary course of the Specified Cooperative's trade or 
business. Gross receipts are not reduced by COGS or by the cost of 
property sold if such property is described in section 1221(a)(1), (2), 
(3), (4), or (5). Finally, gross receipts do not include amounts 
received by the Specified Cooperative with respect to sales tax or 
other similar state or local taxes if, under the applicable state or 
local law, the tax is legally imposed on

[[Page 28688]]

the purchaser of the good or service and the Specified Cooperative 
merely collects and remits the tax to the taxing authority. If, in 
contrast, the tax is imposed on the Specified Cooperative under the 
applicable law, then gross receipts include the amounts received that 
are allocable to the payment of such tax.
    (3) Step 2--Determine gross receipts that are DPGR--(i) In general. 
A Specified Cooperative examines its patronage gross receipts to 
determine which of these are DPGR. A Specified Cooperative does not use 
nonpatronage gross receipts to determine DPGR.
    (ii) DPGR are the gross receipts of the Specified Cooperative that 
are derived from any lease, rental, license, sale, exchange, or other 
disposition of an agricultural or horticultural product that is MPGE by 
the Specified Cooperative or its patrons in whole or significant part 
within the United States. DPGR does not include gross receipts derived 
from services or the lease, rental, license, sale, exchange, or other 
disposition of land unless a de minimis or other exception applies. See 
Sec.  1.199A-9 for additional rules on determining if gross receipts 
are DPGR.
    (4) Step 3--Determine QPAI--(i) In general. A Specified Cooperative 
determines QPAI from patronage DPGR and patronage deductions identified 
in paragraphs (b)(3)(ii) and (b)(2)(i) of this section, respectively. A 
Specified Cooperative does not use nonpatronage gross receipts or 
deductions to determine QPAI.
    (ii) QPAI for the taxable year means an amount equal to the excess 
(if any) of--
    (A) DPGR for the taxable year, over
    (B) The sum of--
    (1) COGS that are allocable to DPGR, and
    (2) Other expenses, losses, or deductions (other than the section 
199A(g) deduction) that are properly allocable to DPGR.
    (C) QPAI computational rules. QPAI is computed without taking into 
account the section 199A(g) deduction or any deduction allowed under 
section 1382(b). See Sec.  1.199A-10 for additional rules on 
calculating QPAI.
    (5) Step 4--Calculate deduction--(i) In general. From QPAI and 
taxable income, a Specified Cooperative calculates its section 199A(g) 
deduction as provided in paragraph (b)(5)(ii) of this section.
    (ii) Deduction--(A) In general. A Specified Cooperative is allowed 
a deduction equal to 9 percent of the lesser of--
    (1) QPAI of the Specified Cooperative for the taxable year, or
    (2) Taxable income of the Specified Cooperative for the taxable 
year.
    (B) W-2 wage limitation. The deduction allowed under paragraph 
(b)(5)(ii)(A) of this section for any taxable year cannot exceed 50 
percent of the patronage W-2 wages attributable to DPGR for the taxable 
year. See Sec.  1.199A-11 for additional rules on calculating the 
patronage W-2 wage limitation.
    (C) Taxable income. Taxable income is defined in section 1382 and 
Sec.  1.1382-1 and Sec.  1.1382-2. For purposes of determining the 
amount of the deduction allowed under paragraph (b)(5)(ii) of this 
section, taxable income is limited to taxable income and related 
deductions from patronage sources. Patronage net operating losses 
(NOLs) reduce taxable income. Taxable income is computed without taking 
into account the section 199A(g) deduction or any deduction allowable 
under section 1382(b). Taxable income is determined using the same 
method of accounting used to determine distributions under section 
1382(b) and qualified payments to eligible taxpayers.
    (6) Use of patronage section 199A(g) deduction. Except as provided 
in Sec.  1.199A-12(c)(2) related to the rules for EAGs, the patronage 
section 199A(g) deduction cannot create or increase a patronage or 
nonpatronage NOL or the amount of a patronage or nonpatronage NOL 
carryover or carryback, if applicable, in accordance with section 172. 
A patronage section 199A(g) deduction can be applied only against 
patronage income and deductions. A patronage section 199A(g) deduction 
that is not used in the appropriate taxable year is lost.
    (7) Special rules for nonexempt Specified Cooperatives that have 
oil-related QPAI--(i) Reduction of section 199A(g) deduction. If a 
Specified Cooperative has oil-related QPAI for any taxable year, the 
amount otherwise allowable as a deduction under paragraph (b)(5)(ii) of 
this section must be reduced by 3 percent of the least of--
    (A) Oil-related QPAI of the Specified Cooperative for the taxable 
year,
    (B) QPAI of the Specified Cooperative for the taxable year, or
    (C) Taxable income of the Specified Cooperative for the taxable 
year.
    (ii) Oil-related QPAI means, for any taxable year, the patronage 
QPAI that is attributable to the production, refining, processing, 
transportation, or distribution of oil, gas, or any primary product 
thereof (within the meaning of section 927(a)(2)(C), as in effect 
before its repeal) during such taxable year. Oil-related QPAI for any 
taxable year is an amount equal to the excess (if any) of patronage 
DPGR derived from the production, refining or processing of oil, gas, 
or any primary product thereof (oil-related DPGR) over the sum of--
    (A) COGS of the Specified Cooperative that is allocable to such 
receipts; and
    (B) Other expenses, losses, or deductions (other than the section 
199A(g) deduction) that are properly allocable to such receipts.
    (iii) Special rule for patronage oil-related DPGR. Oil-related DPGR 
does not include gross receipts derived from the transportation or 
distribution of oil, gas, or any primary product thereof. However, to 
the extent that the nonexempt Specified Cooperative treats gross 
receipts derived from transportation or distribution of oil, gas, or 
any primary product thereof as part of DPGR under Sec.  1.199A-
9(j)(3)(i), or under Sec.  1.199A-9(j)(3)(i)(B), then the Specified 
Cooperative must treat those patronage gross receipts as oil-related 
DGPR.
    (iv) Oil includes oil recovered from both conventional and non-
conventional recovery methods, including crude oil, shale oil, and oil 
recovered from tar/oil sands. The primary product from oil includes all 
products derived from the destructive distillation of oil, including 
volatile products, light oils such as motor fuel and kerosene, 
distillates such as naphtha, lubricating oils, greases and waxes, and 
residues such as fuel oil. The primary product from gas means all gas 
and associated hydrocarbon components from gas wells or oil wells, 
whether recovered at the lease or upon further processing, including 
natural gas, condensates, liquefied petroleum gases such as ethane, 
propane, and butane, and liquid products such as natural gasoline. The 
primary products from oil and gas provided in this paragraph (b)(7)(iv) 
are not intended to represent either the only primary products from oil 
or gas, or the only processes from which primary products may be 
derived under existing and future technologies. Examples of non-primary 
products include, but are not limited to, petrochemicals, medicinal 
products, insecticides, and alcohols.
    (c) Exempt Specified Cooperatives--(1) In general. This paragraph 
(c) applies only to exempt Specified Cooperatives.
    (2) Two section 199A(g) deductions. The Specified Cooperative must 
calculate two separate section 199A(g) deductions, one patronage 
sourced and the other nonpatronage sourced. Patronage and nonpatronage 
gross receipts, related COGS that are allocable to DPGR, and other 
expenses, losses, or deductions (other than the section

[[Page 28689]]

199A(g) deduction) that are properly allocable to DPGR (deductions), 
DPGR, QPAI, NOLs, W-2 wages, etc. are not netted to calculate these two 
separate section 199A(g) deductions.
    (3) Exempt Specified Cooperative patronage section 199A(g) 
deduction. The Specified Cooperative calculates its patronage section 
199A(g) deduction following steps 1 through 4 in paragraphs (b)(2) 
through (5) of this section as if it were a nonexempt Specified 
Cooperative.
    (4) Exempt Specified Cooperative nonpatronage section 199A(g) 
deduction--(i) In general. The Specified Cooperative calculates its 
nonpatronage section 199A(g) deduction following steps 2 through 4 in 
paragraphs (b)(2) through (5) of this section using only nonpatronage 
gross receipts and related nonpatronage deductions. For purposes of 
determining the amount of the nonpatronage section 199A(g) deduction 
allowed under paragraph (b)(5)(ii) of this section, taxable income is 
limited to taxable income and related deductions from nonpatronage 
sources. Nonpatronage NOLs reduce taxable income. Taxable income is 
computed without taking into account the section 199A(g) deduction or 
any deduction allowable under section 1382(c). Taxable income is 
determined using the same method of accounting used to determine 
distributions under section 1382(c)(2).
    (ii) Use of nonpatronage section 199A(g) deduction. Except as 
provided in Sec.  1.199A-12(c)(2) related to the rules for EAGs, the 
nonpatronage section 199A(g) deduction cannot create or increase a 
nonpatronage NOL or the amount of nonpatronage NOL carryover or 
carryback, if applicable, in accordance with section 172. A Specified 
Cooperative cannot allocate its nonpatronage section 199A(g) deduction 
under paragraph (d) of this section and can apply the nonpatronage 
section 199A(g) deduction only against its nonpatronage income and 
deductions. As is the case for the patronage section 199A(g) deduction, 
the nonpatronage section 199A(g) deduction that a Specified Cooperative 
does not use in the appropriate taxable year is lost.
    (d) Discretion to pass through deduction--(1) In general. A 
Specified Cooperative may, at its discretion, pass through all, some, 
or none of its patronage section 199A(g) deduction to an eligible 
taxpayer. An eligible taxpayer is a patron other than a C corporation 
or a Specified Cooperative. A Specified Cooperative member of a 
federated cooperative may pass through the patronage section 199A(g) 
deduction it receives from the federated cooperative to its member 
patrons that are eligible taxpayers.
    (2) Amount of deduction being passed through--(i) In general. A 
Specified Cooperative is permitted to pass through to an eligible 
taxpayer an amount equal to the portion of the Specified Cooperative's 
section 199A(g) deduction that is allowed with respect to the portion 
of the cooperative's QPAI that is attributable to the qualified 
payments the Specified Cooperative distributed to the eligible taxpayer 
during the taxable year and identified on the notice required in Sec.  
1.199A-7(f)(3) on an attachment to or on the Form 1099-PATR, Taxable 
Distributions Received From Cooperatives (Form 1099-PATR), (or any 
successor form) issued by the Specified Cooperative to the eligible 
taxpayer, unless otherwise provided by the instructions to the Form. 
The notice requirement to pass through the section 199A(g) deduction is 
in paragraph (d)(3) of this section.
    (ii) Qualified payment means any amount of a patronage dividend or 
per-unit retain allocation, as described in section 1385(a)(1) or (3) 
received by a patron from a Specified Cooperative that is attributable 
to the portion of the Specified Cooperative's QPAI, for which the 
cooperative is allowed a section 199A(g) deduction. For this purpose, 
patronage dividends include any advances on patronage and per-unit 
retain allocations include per-unit retains paid in money during the 
taxable year. A Specified Cooperative calculates its qualified payment 
using the same method of accounting it uses to calculate its taxable 
income.
    (3) Notice requirement to pass through deduction. A Specified 
Cooperative must identify in a written notice the amount of the section 
199A(g) deduction being passed through to the eligible taxpayer. This 
written notice must be mailed by the Specified Cooperative to the 
eligible taxpayer no later than the 15th day of the ninth month 
following the close of the taxable year of the Specified Cooperative. 
The Specified Cooperative may use the same written notice, if any, that 
it uses to notify the eligible taxpayer of the eligible taxpayer's 
respective allocations of patronage distributions, or may use a 
separate timely written notice(s) to comply with this section. The 
Specified Cooperative must report the amount of section 199A(g) 
deduction passed through to the eligible taxpayer on an attachment to 
or on the Form 1099-PATR (or any successor form) issued by the 
Specified Cooperative to the eligible taxpayer, unless otherwise 
provided by the instructions to the Form.
    (4) Section 199A(g) deduction allocated to eligible taxpayer. An 
eligible taxpayer may deduct the lesser of the section 199A(g) 
deduction identified on the notice described in paragraph (d)(3) of 
this section or the eligible taxpayer's taxable income in the taxable 
year in which the eligible taxpayer receives the timely written notice 
described in paragraph (d)(3) of this section. For this purpose, the 
eligible taxpayer's taxable income is determined without taking into 
account the section 199A(g) deduction being passed through to the 
eligible taxpayer and after taking into account any section 199A(a) 
deduction allowed to the eligible taxpayer. Any section 199A(g) 
deduction the eligible taxpayer does not use in the taxable year in 
which the eligible taxpayer receives the notice (received on or before 
the due date of the Form 1099-PATR) is lost and cannot be carried 
forward or back to other taxable years. The taxable income limitation 
for the section 199A(a) deduction set forth in section 199A(b)(3) and 
Sec.  1.199A-1(a) and (b) does not apply to limit the deductibility of 
the section 199A(g) deduction passed through to the eligible taxpayer.
    (5) Special rules for eligible taxpayers that are Specified 
Cooperatives. A Specified Cooperative that receives a section 199A(g) 
deduction as an eligible taxpayer can take the deduction only against 
patronage gross income and related deductions.
    (6) W-2 wage limitation. The W-2 wage limitation described in 
paragraph (b)(5)(ii)(B) of this section is applied at the cooperative 
level whether or not the Specified Cooperative chooses to pass through 
some or all of the section 199A(g) deduction. Any section 199A(g) 
deduction that has been passed through by a Specified Cooperative to an 
eligible taxpayer is not subject to the W-2 wage limitation a second 
time at the eligible taxpayer's level.
    (7) Specified Cooperative denied section 1382 deduction for portion 
of qualified payments. A Specified Cooperative must reduce its section 
1382 deduction under section 1382(b) and/or (c), as applicable) by an 
amount equal to the portion of any qualified payment that is 
attributable to the Specified Cooperative's section 199A(g) deduction 
passed through to the eligible taxpayer. This means the Specified 
Cooperative must reduce its section 1382 deduction in an amount equal 
to the section 199A(g) deduction passed through to its eligible 
taxpayers.
    (8) No double counting. A qualified payment received by a Specified 
Cooperative that is a patron of a Specified Cooperative is not taken 
into

[[Page 28690]]

account by the patron for purposes of section 199A(g).
    (e) Examples. The following examples illustrate the application of 
paragraphs (b), (c), and (d) of this section. Assume for each example 
that the Specified Cooperative sent all required notices to patrons on 
or before the due date of the Form 1099-PATR.

    (1) Example 1. Nonexempt Specified Cooperative calculating 
section 199A(g) deduction. (i) C is a grain marketing nonexempt 
Specified Cooperative, with $5,250,000 in gross receipts during 2018 
from the sale of grain grown by its patrons. C paid $4,000,000 to 
its patrons at the time the grain was delivered in the form of per-
unit retain allocations pursuant to an agreement and another 
$1,000,000 in patronage dividends after the close of the 2018 
taxable year. C has other expenses of $250,000 during 2018, 
including $100,000 of W-2 wages.
    (ii) C has DPGR of $5,250,000 and QPAI as defined in Sec.  
1.199A-8(b)(4)(ii) of $5,000,000 for 2018. C's section 199A(g) 
deduction is equal to the least of 9% of QPAI ($450,000), 9% of 
taxable income ($450,000), or 50% of W-2 wages ($50,000). C passes 
through the entire section 199A(g) deduction to its patrons. 
Accordingly, C reduces its $5,000,000 deduction allowable under 
section 1382(b) (relating to the $1,000,000 patronage dividends and 
$4,000,000 per-unit retain allocations) by $50,000.
    (2) Example 2. Nonexempt Specified Cooperative calculating 
section 199A(g) deduction with purchases. Same facts as Example 1, 
except C purchased grain from its patrons for $4,000,000 and these 
purchases are not per-unit retain allocations described in section 
1388(f). C allocated and reported the $1,000,000 patronage dividends 
to its patrons and provided notification (in accordance with the 
requirements of Sec.  1.199A-7(f)(3)) that only the patronage 
dividends are treated as qualified payments for purposes of its 
section 199A(g) deduction. C has QPAI and taxable income of 
$1,000,000 ($5,250,000--$4,000,000--$250,000). C's section 199A(g) 
deduction is the lesser of 9% of QPAI ($90,000), 9% of taxable 
income without taking into account any deduction under section 
1382(b) ($90,000), or 50% of W-2 wages ($50,000). C passes through 
the entire section 199A(g) deduction to its patrons. Accordingly, C 
reduces its $1,000,000 deduction allowable under section 1382(b) by 
$50,000. Patrons do not include any of the $4,000,000 of payments 
when determining the reduction amount under section 199A(b)(7).
    (3) Example 3. Nonexempt Specified Cooperative determines 
amounts included in QPAI and taxable income. (i) C, a nonexempt 
Specified Cooperative, offers harvesting services and markets the 
grain of patrons and nonpatrons. C had gross receipts from 
harvesting services and grain sales, and expenses related to both. 
All of C's harvesting services were performed for their patrons, and 
75% of the grain sales were for patrons.
    (ii) C identifies 75% of the gross receipts and related expenses 
from grain sales and 100% of the gross receipts and related expenses 
from the harvesting services as patronage sourced. C identifies 25% 
of the gross receipts and related expenses from grain sales as 
nonpatronage sourced.
    (iii) C does not include any nonpatronage gross receipts or 
related expenses from grain sales in either QPAI or taxable income 
when calculating the section 199A(g) deduction. C's QPAI includes 
the patronage DPGR, less related expenses (allocable COGS, wages and 
other expenses). C's taxable income includes the patronage gross 
receipts, whether such gross receipts are DPGR or non-DPGR.
    (iv) C allocates and reports patronage dividends to its 
harvesting patrons and grain marketing patrons. C also notifies its 
grain marketing patrons (in accordance with the requirements of 
Sec.  1.199A-7(f)(3)) that their patronage dividends are qualified 
payments used in C's section 199A(g) computation. The patrons must 
use this information for purposes of computing their section 
199A(b)(7) reduction to their section 199A(a) deduction (see Sec.  
1.199A-7(f)).
    (4) Example 4. Nonexempt Specified Cooperative with patronage 
and nonpatronage gross receipts and related deductions. (i) C, a 
nonexempt Specified Cooperative, markets corn grown by its patrons 
in the United States. For the calendar year ending December 31, 
2020, C derives gross receipts from the marketing activity of 
$1,800. Such gross receipts qualify as DPGR. Assume C has $800 of 
expenses (including COGS, other expenses, and $400 of W-2 wages) 
properly allocable to DPGR, and a $1,000 deduction allowed under 
section 1382(b). C also derives gross receipts from nonpatronage 
sources in the amount of $500, and has nonpatronage deductions in 
the amount of $400 (including COGS, other expenses, and $100 of W-2 
wages).
    (ii) C does not include any gross receipts or deductions from 
nonpatronage sources when calculating the deduction under paragraph 
(b)(5)(ii) of this section. C's QPAI and taxable income both equal 
$1,000 ($1,800--800). C's deduction under paragraph (b)(5)(ii) of 
this section for the taxable year is equal to $90 (9% of $1,000), 
which does not exceed $200 (50% of C's W-2 wages properly allocable 
to DPGR). C passes through $90 of the deduction to patrons and C 
reduces its section 1382(b) deduction by $90.
    (5) Example 5. Exempt Specified Cooperative with patronage and 
nonpatronage income and deductions. (i) C, an exempt Specified 
Cooperative, markets corn MPGE by its patrons in the United States. 
For the calendar year ending December 31, 2020, C derives gross 
receipts from the marketing activity of $1,800. For this activity 
assume C has $800 of expenses (including COGS, other expenses, and 
$400 of W-2 wages) properly allocable to DPGR, and a $1,000 
deduction under section 1382(b). C also derives gross receipts from 
nonpatronage sources in the amount of $500. Assume the gross 
receipts qualify as DPGR. For this activity assume C has $400 of 
expenses (including COGS, other expenses, and $20 of W-2 wages) 
properly allocable to DPGR and no deduction under section 1382(c).
    (ii) C calculates two separate section 199A(g) deduction 
amounts. C's section 199A(g) deduction attributable to patronage 
sources is the same as the deduction calculated by the nonexempt 
Specified Cooperative in Example 1 in paragraph (e)(1) of this 
section.
    (iii) C's nonpatronage QPAI and taxable income is equal to $100 
($500-$400). C's deduction under paragraph (c)(3) of this section 
that directs C to use paragraph (b)(5)(ii) of this section 
attributable to nonpatronage sources is equal to $9 (9% of $100), 
which does not exceed $10 (50% of C's W-2 wages properly allocable 
to DPGR). C cannot pass through any of the nonpatronage section 
199A(g) deduction amount to its patrons.
    (6) Example 6. NOL. C, a nonexempt Specified Cooperative, MPGE 
agricultural or horticultural products. C is not part of an EAG as 
defined in Sec.  1.199A-12. In 2018, C generates QPAI and taxable 
income is $600, without taking into account any of its deductions 
under section 1382(b), the deduction under section 199A(g), or an 
NOL deduction. During 2018, C incurs W-2 wages as defined in Sec.  
1.199A-11 of $300. C has an NOL carryover to 2018 of $500. C's 
deduction under this section for 2018 is $9 (9% x (lesser of QPAI of 
$600 and taxable income of $100 ($600 taxable income-$500 NOL)). 
Under these facts the wage limitation does not act to limit the 
deduction because the wage limitation is $150 (50% x $300).
    (7) Example 7. NOL. (i) C, a nonexempt Specified Cooperative, 
MPGE agricultural or horticultural products. C is not part of an 
EAG. In 2018, C generates QPAI and taxable income of $100, without 
taking into account any of its deductions under section 1382(b), the 
deduction under section 199A(g), or an NOL deduction. C has an NOL 
carryover to 2018 of $500 that reduces its taxable income for 2018 
to $0. C's section 199A(g) deduction for 2018 is $0 (9% x (lesser of 
QPAI of $100 and taxable income of $0)).
    (ii) Carryover to 2019. C's taxable income for purposes of 
determining its NOL carryover to 2019 is $100. Accordingly, for 
purposes of section 199A(g), C's NOL carryover to 2019 is $400 ($500 
NOL carryover to 2018--$100 NOL used in 2018).

    (f) Special rule for Specified Cooperative partners. In the case 
described in section 199A(g)(5)(B), where a Specified Cooperative is a 
partner in a partnership, the partnership must separately identify and 
report on the Schedule K-1 of the Form 1065, U.S. Return of Partnership 
Income (or any successor form) issued to the Specified Cooperative the 
cooperative's share of gross receipts and related deductions, unless 
otherwise provided by the instructions to the Form. The Specified 
Cooperative determines what gross receipts reported by the partnership 
qualify as DPGR and includes these gross receipts and related 
deductions to calculate one section 199A(g) deduction (in the case of a 
nonexempt Specified Cooperative) or two section 199A(g) deductions (in 
the case of an exempt Specified

[[Page 28691]]

Cooperative) using the steps set forth in paragraphs (b) and (c) of 
this section.
    (g) Recapture of section 199A(g) deduction. If the amount of the 
section 199A(g) deduction that was passed through to eligible taxpayers 
exceeds the amount allowable as a section 199A(g) deduction as 
determined on examination or reported on an amended return, then 
recapture of the excess will occur at the Specified Cooperative level 
in the taxable year the Specified Cooperative took the excess section 
199A(g) deduction.
    (h) Applicability date. Except as provided in paragraph (h)(2) of 
Sec.  1.199A-7, the provisions of this section apply to taxable years 
ending after the date the Treasury decision adopting these regulations 
as final regulations is published in the Federal Register. Taxpayers, 
however, may rely on these regulations until that date, but only if the 
taxpayers apply the rules in their entirety and in a consistent manner.


Sec.  1.199A-9  Domestic production gross receipts.

    (a) Domestic production gross receipts--(1) In general. The 
provisions of this section apply solely for purposes of section 199A(g) 
of the Internal Revenue Code (Code). The provisions of this section 
provide guidance to determine what gross receipts (defined in Sec.  
1.199A-8(b)(2)(iii)) are domestic production gross receipts (DPGR) 
(defined in Sec.  1.199A-8(b)(3)(ii)). DPGR does not include gross 
receipts derived from services or the lease, rental, license, sale, 
exchange, or other disposition of land unless a de minimis or other 
exception applies. Partners, including partners in an EAG partnership 
described in Sec.  1.199A-12(i)(1), may not treat guaranteed payments 
under section 707(c) as DPGR.
    (2) Application to marketing cooperatives. For purposes of 
determining DPGR, a Specified Cooperative (defined in Sec.  1.199A-
8(a)(2)) will be treated as having manufactured, produced, grown, or 
extracted (MPGE) (defined in paragraph (f) of this section) in whole or 
significant part (defined in paragraph (h) of this section) any 
agricultural or horticultural product (defined in Sec.  1.199A-8(a)(4)) 
within the United States (defined in paragraph (i) of this section) 
marketed by the Specified Cooperative which its patrons (defined in 
Sec.  1.1388-1(e)) have so MPGE.
    (b) Related persons--(1) In general. Pursuant to 199A(g)(3)(D)(ii), 
DPGR does not include any gross receipts derived from agricultural or 
horticultural products leased, licensed, or rented by the Specified 
Cooperative for use by any related person. A person is treated as 
related to another person if both persons are treated as a single 
employer under either section 52(a) or (b) (without regard to section 
1563(b)), or section 414(m) or (o). Any other person is an unrelated 
person for purposes of the section 199A(g) deduction.
    (2) Exceptions. Notwithstanding paragraph (b)(1) of this section, 
gross receipts derived from any agricultural or horticultural product 
leased or rented by the Specified Cooperative to a related person may 
qualify as DPGR if the agricultural or horticultural product is held 
for sublease or rent, or is subleased or rented, by the related person 
to an unrelated person for the ultimate use of the unrelated person. 
Similarly, notwithstanding paragraph (b)(1) of this section, gross 
receipts derived from a license of the right to reproduce an 
agricultural or horticultural product to a related person for 
reproduction and sale, exchange, lease, or rental to an unrelated 
person for the ultimate use of the unrelated person are treated as 
gross receipts from a disposition of an agricultural or horticultural 
product and may qualify as DPGR.
    (c) Allocating gross receipts--(1) In general. A Specified 
Cooperative must determine the portion of its gross receipts for the 
taxable year that is DPGR and the portion of its gross receipts that is 
non-DPGR using a reasonable method based on all the facts and 
circumstances. Applicable Federal income tax principles apply to 
determine whether a transaction is, in substance, a lease, rental, 
license, sale, exchange, or other disposition the gross receipts of 
which may constitute DPGR, whether it is a service the gross receipts 
of which may constitute non-DPGR, or some combination thereof. For 
example, if a Specified Cooperative sells an agricultural or 
horticultural product and, in connection with that sale, also provides 
services, the Specified Cooperative must allocate its gross receipts 
from the transaction using a reasonable method based on all the facts 
and circumstances that accurately identifies the gross receipts that 
constitute DPGR and non-DPGR in accordance with the requirements of 
Sec. Sec.  1.199A-8(b) and/or (c). The chosen reasonable method must be 
consistently applied from one taxable year to another and must clearly 
reflect the portion of gross receipts for the taxable year that is DPGR 
and the portion of gross receipts that is non-DPGR. The books and 
records maintained for gross receipts must be consistent with any 
allocations under this paragraph (c)(1).
    (2) Reasonable method of allocation. If a Specified Cooperative has 
the information readily available and can, without undue burden or 
expense, specifically identify whether the gross receipts are derived 
from an item (and thus, are DPGR), then the Specified Cooperative must 
use that specific identification to determine DPGR. If the Specified 
Cooperative does not have information readily available to specifically 
identify whether gross receipts are derived from an item or cannot, 
without undue burden or expense, specifically identify whether gross 
receipts are derived from an item, then the Specified Cooperative is 
not required to use a method that specifically identifies whether the 
gross receipts are derived from an item but can use a reasonable 
allocation method. Factors taken into consideration in determining 
whether the Specified Cooperative's method of allocating gross receipts 
between DPGR and non-DPGR is reasonable include whether the Specified 
Cooperative uses the most accurate information available; the 
relationship between the gross receipts and the method used; the 
accuracy of the method chosen as compared with other possible methods; 
whether the method is used by the Specified Cooperative for internal 
management or other business purposes; whether the method is used for 
other Federal or state income tax purposes; the time, burden, and cost 
of using alternative methods; and whether the Specified Cooperative 
applies the method consistently from year to year.
    (3) De minimis rules--(i) DPGR. A Specified Cooperative's 
applicable gross receipts as provided in Sec. Sec.  1.199A-8(b) and/or 
(c) may be treated as DPGR if less than 5 percent of the Specified 
Cooperative's total gross receipts are non-DPGR (after application of 
the exceptions provided in Sec.  1.199A-9(j)(3)). If the amount of the 
Specified Cooperative's gross receipts that are non-DPGR equals or 
exceeds 5 percent of the Specified Cooperative's total gross receipts, 
then, except as provided in paragraph (c)(3)(ii) of this section, the 
Specified Cooperative is required to allocate all gross receipts 
between DPGR and non-DPGR in accordance with paragraph (c)(1) of this 
section. If a Specified Cooperative is a member of an expanded 
affiliated group (EAG) (defined in Sec.  1.199A-12), but is not a 
member of a consolidated group, then the determination of whether less 
than 5 percent of the Specified Cooperative's total gross receipts are 
non-DPGR is made at the Specified Cooperative level. If a Specified 
Cooperative is a member

[[Page 28692]]

of a consolidated group, then the determination of whether less than 5 
percent of the Specified Cooperative's total gross receipts are non-
DPGR is made at the consolidated group level. See Sec.  1.199A-12(d).
    (ii) Non-DPGR. A Specified Cooperative's applicable gross receipts 
as provided in Sec. Sec.  1.199A-8(b) and/or (c) may be treated as non-
DPGR if less than 5 percent of the Specified Cooperative's total gross 
receipts are DPGR. If a Specified Cooperative is a member of an EAG, 
but is not a member of a consolidated group, then the determination of 
whether less than 5 percent of the Specified Cooperative's total gross 
receipts are DPGR is made at the Specified Cooperative level. If a 
Specified Cooperative is a member of a consolidated group, then the 
determination of whether less than 5 percent of the Specified 
Cooperative's total gross receipts are DPGR is made at the consolidated 
group level.
    (d) Use of historical data for multiple-year transactions. If a 
Specified Cooperative recognizes and reports gross receipts from 
upfront payments or other similar payments on a Federal income tax 
return for a taxable year, then the Specified Cooperative's use of 
historical data in making an allocation of gross receipts from the 
transaction between DPGR and non-DPGR may constitute a reasonable 
method. If a Specified Cooperative makes allocations using historical 
data, and subsequently updates the data, then the Specified Cooperative 
must use the more recent or updated data, starting in the taxable year 
in which the update is made.
    (e) Determining DPGR item-by-item--(1) In general. For purposes of 
the section 199A(g) deduction, a Specified Cooperative determines, 
using a reasonable method based on all the facts and circumstances, 
whether gross receipts qualify as DPGR on an item-by-item basis (and 
not, for example, on a division-by-division, product line-by-product 
line, or transaction-by-transaction basis). The chosen reasonable 
method must be consistently applied from one taxable year to another 
and must clearly reflect the portion of gross receipts that is DPGR. 
The books and records maintained for gross receipts must be consistent 
with any allocations under this paragraph (e)(1).
    (i) The term item means the agricultural or horticultural product 
offered by the Specified Cooperative in the normal course of its trade 
or business for lease, rental, license, sale, exchange, or other 
disposition (for purposes of this paragraph (e), collectively referred 
to as disposition) to customers, if the gross receipts from the 
disposition of such product qualify as DPGR; or
    (ii) If paragraph (e)(1)(i) of this section does not apply to the 
product, then any component of the product described in paragraph 
(e)(1)(i) of this section is treated as the item, provided that the 
gross receipts from the disposition of the product described in 
paragraph (e)(1)(i) of this section that are attributable to such 
component qualify as DPGR. Each component that meets the requirements 
under this paragraph (e)(1)(ii) must be treated as a separate item and 
a component that meets the requirements under this paragraph (e)(1)(ii) 
may not be combined with a component that does not meet these 
requirements.
    (2) Special rules. (i) For purposes of paragraph (e)(1)(i) of this 
section, in no event may a single item consist of two or more products 
unless those products are offered for disposition, in the normal course 
of the Specified Cooperative's trade or business, as a single item 
(regardless of how the products are packaged).
    (ii) In the case of agricultural or horticultural products 
customarily sold by weight or by volume, the item is determined using 
the most common custom of the industry (for example, barrels of oil).
    (3) Exception. If the Specified Cooperative MPGE agricultural or 
horticultural products within the United States that it disposes of, 
and the Specified Cooperative leases, rents, licenses, purchases, or 
otherwise acquires property that contains or may contain the 
agricultural or horticultural products (or a portion thereof), and the 
Specified Cooperative cannot reasonably determine, without undue burden 
and expense, whether the acquired property contains any of the original 
agricultural or horticultural products MPGE by the Specified 
Cooperative, then the Specified Cooperative is not required to 
determine whether any portion of the acquired property qualifies as an 
item for purposes of paragraph (e)(1) of this section. Therefore, the 
gross receipts derived from the disposition of the acquired property 
may be treated as non-DPGR. Similarly, the preceding sentences apply if 
the Specified Cooperative can reasonably determine that the acquired 
property contains agricultural or horticultural products (or a portion 
thereof) MPGE by the Specified Cooperative, but cannot reasonably 
determine, without undue burden or expense, how much, or what type, 
grade, etc., of the agricultural or horticultural MPGE by the Specified 
Cooperative the acquired property contains.
    (f) Definition of manufactured, produced, grown, or extracted 
(MPGE)--(1) In general. Except as provided in paragraphs (f)(2) and (3) 
of this section, the term MPGE includes manufacturing, producing, 
growing, extracting, installing, developing, improving, and creating 
agricultural or horticultural products; making agricultural or 
horticultural products out of material by processing, manipulating, 
refining, or changing the form of an article, or by combining or 
assembling two or more articles; cultivating soil, raising livestock, 
and farming aquatic products. The term MPGE also includes storage, 
handling, or other processing activities (other than transportation 
activities) within the United States related to the sale, exchange, or 
other disposition of agricultural or horticultural products only if the 
products are consumed in connection with or incorporated into the MPGE 
of agricultural or horticultural products, whether or not by the 
Specified Cooperative. The Specified Cooperative (or the patron if 
section 1.199A-9(a)(2) applies) must have the benefits and burdens of 
ownership of the agricultural or horticultural products under Federal 
income tax principles during the period the MPGE activity occurs in 
order for the gross receipts derived from the MPGE of the agricultural 
or horticultural products to qualify as DPGR.
    (2) Packaging, repackaging, or labeling. If the Specified 
Cooperative packages, repackages, or labels agricultural or 
horticultural products and engages in no other MPGE activity with 
respect to those agricultural or horticultural products, the packaging, 
repackaging, or labeling does not qualify as MPGE with respect to those 
agricultural or horticultural products.
    (3) Installing. If a Specified Cooperative installs agricultural or 
horticultural products and engages in no other MPGE activity with 
respect to the agricultural or horticultural products, the Specified 
Cooperative's installing activity does not qualify as an MPGE activity. 
Notwithstanding paragraph (j)(3)(i)(A) of this section, if the 
Specified Cooperative installs agricultural or horticultural products 
MPGE by the Specified Cooperative and the Specified Cooperative has the 
benefits and burdens of ownership of the agricultural or horticultural 
products under Federal income tax principles during the period the 
installing activity occurs, then the portion of the installing activity 
that relates to the agricultural or

[[Page 28693]]

horticultural products is an MPGE activity.
    (4) Consistency with section 263A. A Specified Cooperative that has 
MPGE agricultural or horticultural products for the taxable year must 
treat itself as a producer under section 263A with respect to the 
agricultural or horticultural products unless the Specified Cooperative 
is not subject to section 263A. A Specified Cooperative that currently 
is not properly accounting for its production activities under section 
263A, and wishes to change its method of accounting to comply with the 
producer requirements of section 263A, must follow the applicable 
administrative procedures issued under Sec.  1.446-1(e)(3)(ii) for 
obtaining the Commissioner's consent to a change in accounting method 
(for further guidance, for example, see Rev. Proc. 2015-13, 2015-5 IRB 
419, or any applicable subsequent guidance (see Sec.  601.601(d)(2) of 
this chapter)).
    (g) By the taxpayer. With respect to the exception of the rules 
applicable to an EAG and EAG partnerships under Sec.  1.199A-12, only 
one Specified Cooperative may claim the section 199A(g) deduction with 
respect to any qualifying activity under paragraph (f) of this section 
performed in connection with the same agricultural or horticultural 
product. If an unrelated party performs a qualifying activity under 
paragraph (f) of this section pursuant to a contract with a Specified 
Cooperative (or its patron as relevant under paragraph (a)(2) of this 
section), then only if the Specified Cooperative (or its patron) has 
the benefits and burdens of ownership of the agricultural or 
horticultural product under Federal income tax principles during the 
period in which the qualifying activity occurs is the Specified 
Cooperative (or its patron) treated as engaging in the qualifying 
activity.
    (h) In whole or significant part defined--(1) In general. 
Agricultural or horticultural products must be MPGE in whole or 
significant part by the Specified Cooperative (or its patrons in the 
case described in paragraph (a)(2) of this section) and in whole or 
significant part within the United States to qualify under section 
199A(g)(3)(D)(i). If a Specified Cooperative enters into a contract 
with an unrelated person for the unrelated person to MPGE agricultural 
or horticultural products for the Specified Cooperative and the 
Specified Cooperative has the benefits and burdens of ownership of the 
agricultural or horticultural products under applicable Federal income 
tax principles during the period the MPGE activity occurs, then, 
pursuant to paragraph (g) of this section, the Specified Cooperative is 
considered to MPGE the agricultural or horticultural products under 
this section. The unrelated person must perform the MPGE activity on 
behalf of the Specified Cooperative in whole or significant part within 
the United States in order for the Specified Cooperative to satisfy the 
requirements of this paragraph (h)(1).
    (2) Substantial in nature. Agricultural or horticultural products 
will be treated as MPGE in whole or in significant part by the 
Specified Cooperative (or its patrons in the case described in 
paragraph (a)(2) of this section) within the United States for purposes 
of paragraph (h)(1) of this section if the MPGE of the agricultural or 
horticultural products by the Specified Cooperative within the United 
States is substantial in nature taking into account all the facts and 
circumstances, including the relative value added by, and relative cost 
of, the Specified Cooperative's MPGE within the United States, the 
nature of the agricultural or horticultural products, and the nature of 
the MPGE activity that the Specified Cooperative performs within the 
United States. The MPGE of a key component of an agricultural or 
horticultural product does not, in itself, meet the substantial-in-
nature requirement with respect to an agricultural or horticultural 
product under this paragraph (h)(2). In the case of an agricultural or 
horticultural product, research and experimental activities under 
section 174 and the creation of intangible assets are not taken into 
account in determining whether the MPGE of the agricultural or 
horticultural product is substantial in nature.
    (3) Safe harbor--(i) In general. A Specified Cooperative (or its 
patrons in the case described in paragraph (a)(2) of this section) will 
be treated as having MPGE an agricultural or horticultural product in 
whole or in significant part within the United States for purposes of 
paragraph (h)(1) of this section if the direct labor and overhead of 
such Specified Cooperative to MPGE the agricultural or horticultural 
product within the United States account for 20 percent or more of the 
Specified Cooperative's COGS of the agricultural or horticultural 
product, or in a transaction without COGS (for example, a lease, 
rental, or license), account for 20 percent or more of the Specified 
Cooperative's unadjusted depreciable basis (as defined in paragraph 
(h)(3)(ii) of this section) in property included in the definition of 
agricultural or horticultural products. For Specified Cooperatives 
subject to section 263A, overhead is all costs required to be 
capitalized under section 263A except direct materials and direct 
labor. For Specified Cooperatives not subject to section 263A, overhead 
may be computed using a reasonable method based on all the facts and 
circumstances, but may not include any cost, or amount of any cost, 
that would not be required to be capitalized under section 263A if the 
Specified Cooperative were subject to section 263A. Research and 
experimental expenditures under section 174 and the costs of creating 
intangible assets are not taken into account in determining direct 
labor or overhead for any agricultural or horticultural product. In the 
case of agricultural or horticultural products, research and 
experimental expenditures under section 174 and any other costs 
incurred in the creation of intangible assets may be excluded from COGS 
or unadjusted depreciable basis for purposes of determining whether the 
Specified Cooperative meets the safe harbor under this paragraph 
(h)(3). For Specified Cooperatives not subject to section 263A, the 
chosen reasonable method to compute overhead must be consistently 
applied from one taxable year to another and must clearly reflect the 
Specified Cooperative's portion of overhead not subject to section 
263A. The method must also be reasonable based on all the facts and 
circumstances. The books and records maintained for overhead must be 
consistent with any allocations under this paragraph (h)(3)(i).
    (ii) Unadjusted depreciable basis. The term unadjusted depreciable 
basis means the basis of property for purposes of section 1011 without 
regard to any adjustments described in section 1016(a)(2) and (3). This 
basis does not reflect the reduction in basis for--
    (A) Any portion of the basis the Specified Cooperative properly 
elects to treat as an expense under sections 179 or 179C; or
    (B) Any adjustments to basis provided by other provisions of the 
Code and the regulations under the Code (for example, a reduction in 
basis by the amount of the disabled access credit pursuant to section 
44(d)(7)).
    (4) Special rules--(i) Contract with an unrelated person. If a 
Specified Cooperative enters into a contract with an unrelated person 
for the unrelated person to MPGE an agricultural or horticultural 
product within the United States for the Specified Cooperative, and the 
Specified Cooperative is considered to MPGE the agricultural or 
horticultural product pursuant to paragraph (f)(1) of this section, 
then, for purposes of the substantial-in-nature

[[Page 28694]]

requirement under paragraph (h)(2) of this section and the safe harbor 
under paragraph (h)(3)(i) of this section, the Specified Cooperative's 
MPGE activities or direct labor and overhead must include both the 
Specified Cooperative's MPGE activities or direct labor and overhead to 
MPGE the agricultural or horticultural product within the United States 
as well as the MPGE activities or direct labor and overhead of the 
unrelated person to MPGE the agricultural or horticultural product 
within the United States under the contract.
    (ii) Aggregation. In determining whether the substantial-in-nature 
requirement under paragraph (h)(2) of this section or the safe harbor 
under paragraph (h)(3)(i) of this section is met at the time the 
Specified Cooperative disposes of an agricultural or horticultural 
product--
    (A) An EAG member must take into account all of the previous MPGE 
activities or direct labor and overhead of the other members of the 
EAG;
    (B) An EAG partnership as defined in Sec.  1.199A-12(i)(1) must 
take into account all of the previous MPGE activities or direct labor 
and overhead of all members of the EAG in which the partners of the EAG 
partnership are members (as well as the previous MPGE activities of any 
other EAG partnerships owned by members of the same EAG); and
    (C) A member of an EAG in which the partners of an EAG partnership 
are members must take into account all of the previous MPGE activities 
or direct labor and overhead of the EAG partnership (as well as those 
of any other members of the EAG and any previous MPGE activities of any 
other EAG partnerships owned by members of the same EAG).
    (i) United States defined. For purposes of section 199A(g), the 
term United States includes the 50 states, the District of Columbia, 
the territorial waters of the United States, and the seabed and subsoil 
of those submarine areas that are adjacent to the territorial waters of 
the United States and over which the United States has exclusive 
rights, in accordance with international law, with respect to the 
exploration and exploitation of natural resources. Consistent with its 
definition in section 7701(a)(9), the term United States does not 
include possessions and territories of the United States or the 
airspace or space over the United States and these areas.
    (j) Derived from the lease, rental, license, sale, exchange, or 
other disposition--(1) In general--(i) Definition. The term derived 
from the lease, rental, license, sale, exchange, or other disposition 
is defined as, and limited to, the gross receipts directly derived from 
the lease, rental, license, sale, exchange, or other disposition of 
agricultural or horticultural products even if the Specified 
Cooperative has already recognized receipts from a previous lease, 
rental, license, sale, exchange, or other disposition of the same 
agricultural or horticultural products. Applicable Federal income tax 
principles apply to determine whether a transaction is, in substance, a 
lease, rental, license, sale, exchange, or other disposition, whether 
it is a service, or whether it is some combination thereof.
    (ii) Lease income. The financing and interest components of a lease 
of agricultural or horticultural products are considered to be derived 
from the lease of such agricultural or horticultural products. However, 
any portion of the lease income that is attributable to services or 
non-qualified property as defined in paragraph (j)(3) of this section 
is not derived from the lease of agricultural or horticultural 
products.
    (iii) Income substitutes. The proceeds from business interruption 
insurance, governmental subsidies, and governmental payments not to 
produce are treated as gross receipts derived from the lease, rental, 
license, sale, exchange, or other disposition to the extent they are 
substitutes for gross receipts that would qualify as DPGR.
    (iv) Exchange of property--(A) Taxable exchanges. The value of 
property received by the Specified Cooperative in a taxable exchange of 
agricultural or horticultural products MPGE in whole or in significant 
part by the Specified Cooperative within the United States is DPGR for 
the Specified Cooperative (assuming all the other requirements of this 
section are met). However, unless the Specified Cooperative meets all 
of the requirements under this section with respect to any additional 
MPGE by the Specified Cooperative of the agricultural or horticultural 
products received in the taxable exchange, any gross receipts derived 
from the sale by the Specified Cooperative of the property received in 
the taxable exchange are non-DPGR, because the Specified Cooperative 
did not MPGE such property, even if the property was an agricultural or 
horticultural product in the hands of the other party to the 
transaction.
    (B) Safe harbor. For purposes of paragraph (j)(1)(iv)(A) of this 
section, the gross receipts derived by the Specified Cooperative from 
the sale of eligible property (as defined in paragraph (j)(1)(iv)(C) of 
this section) received in a taxable exchange, net of any adjustments 
between the parties involved in the taxable exchange to account for 
differences in the eligible property exchanged (for example, location 
differentials and product differentials), may be treated as the value 
of the eligible property received by the Specified Cooperative in the 
taxable exchange. For purposes of the preceding sentence, the taxable 
exchange is deemed to occur on the date of the sale of the eligible 
property received in the taxable exchange by the Specified Cooperative, 
to the extent the sale occurs no later than the last day of the month 
following the month in which the exchanged eligible property is 
received by the Specified Cooperative. In addition, if the Specified 
Cooperative engages in any further MPGE activity with respect to the 
eligible property received in the taxable exchange, then, unless the 
Specified Cooperative meets the in-whole-or-in-significant-part 
requirement under paragraph (h)(1) of this section with respect to the 
property sold, for purposes of this paragraph (j)(1)(iv)(B), the 
Specified Cooperative must also value the property sold without taking 
into account the gross receipts attributable to the further MPGE 
activity.
    (C) Eligible property. For purposes of paragraph (j)(1)(iv)(B) of 
this section, eligible property is--
    (1) Oil, natural gas, or petrochemicals, or products derived from 
oil, natural gas, or petrochemicals; or
    (2) Any other property or product designated by publication in the 
Internal Revenue Bulletin (see Sec.  601.601(d)(2)(ii)(b) of this 
chapter).
    (3) For this purpose, the term natural gas includes only natural 
gas extracted from a natural deposit and does not include, for example, 
methane gas extracted from a landfill. In the case of natural gas, 
production activities include all activities involved in extracting 
natural gas from the ground and processing the gas into pipeline 
quality gas.
    (2) Hedging transactions--(i) In general. For purposes of this 
section, if a transaction is a hedging transaction within the meaning 
of section 1221(b)(2)(A) and Sec.  1.1221-2(b), is properly identified 
as a hedging transaction in accordance with Sec.  1.1221-2(f), and the 
risk being hedged relates to property described in section 1221(a)(1) 
that gives rise to DPGR or to property described in section 1221(a)(8) 
that is consumed in an activity that gives rise to DPGR, then--
    (A) In the case of a hedge of purchases of property described in 
section

[[Page 28695]]

1221(a)(1), income, deduction, gain, or loss on the hedging transaction 
must be taken into account in determining COGS;
    (B) In the case of a hedge of sales of property described in 
section 1221(a)(1), income, deduction, gain, or loss on the hedging 
transaction must be taken into account in determining DPGR; and
    (C) In the case of a hedge of purchases of property described in 
section 1221(a)(8), income, deduction, gain, or loss on the hedging 
transaction must be taken into account in determining DPGR.
    (ii) Allocation. The income, deduction, gain and loss from hedging 
transactions described in paragraph (j)(2) of this section must be 
allocated between the patronage and nonpatronage (defined in Sec.  
1.1388-1(f)) sourced income and related deductions of the Specified 
Cooperatives consistent with the cooperative's method for determining 
patronage and nonpatronage income and deductions.
    (iii) Effect of identification and nonidentification. The 
principles of Sec.  1.1221-2(g) apply to a Specified Cooperative that 
identifies or fails to identify a transaction as a hedging transaction, 
except that the consequence of identifying as a hedging transaction a 
transaction that is not in fact a hedging transaction described in 
paragraph (j)(2) of this section, or of failing to identify a 
transaction that the Specified Cooperative has no reasonable grounds 
for treating as other than a hedging transaction described in paragraph 
(j)(2) of this section, is that deduction or loss (but not income or 
gain) from the transaction is taken into account under paragraph (j)(2) 
of this section.
    (iv) Other rules. See Sec.  1.1221-2(e) for rules applicable to 
hedging by members of a consolidated group and Sec.  1.446-4 for rules 
regarding the timing of income, deductions, gains or losses with 
respect to hedging transactions.
    (3) Allocation of gross receipts to embedded services and non-
qualified property--(i) Embedded services and non-qualified property--
(A) In general. Except as otherwise provided in paragraph (j)(3)(i)(B) 
of this section, gross receipts derived from the performance of 
services do not qualify as DPGR. In the case of an embedded service, 
that is, a service the price of which, in the normal course of the 
business, is not separately stated from the amount charged for the 
lease, rental, license, sale, exchange, or other disposition of 
agricultural or horticultural products, DPGR includes only the gross 
receipts derived from the lease, rental, license, sale, exchange, or 
other disposition of agricultural or horticultural products (assuming 
all the other requirements of this section are met) and not any 
receipts attributable to the embedded service. In addition, DPGR does 
not include gross receipts derived from the lease, rental, license, 
sale, exchange, or other disposition of property that does not meet all 
of the requirements under this section (non-qualified property). The 
allocation of the gross receipts attributable to the embedded services 
or non-qualified property will be deemed to be reasonable if the 
allocation reflects the fair market value of the embedded services or 
non-qualified property.
    (B) Exceptions. There are five exceptions to the rules under 
paragraph (j)(3)(i)(A) of this section regarding embedded services and 
non-qualified property. A Specified Cooperative may include in DPGR, if 
all the other requirements of this section are met with respect to the 
underlying item of agricultural or horticultural products to which the 
embedded services or non-qualified property relate, the gross receipts 
derived from--
    (1) A qualified warranty, that is, a warranty that is provided in 
connection with the lease, rental, license, sale, exchange, or other 
disposition of agricultural or horticultural products if, in the normal 
course of the Specified Cooperative's business--
    (i) The price for the warranty is not separately stated from the 
amount charged for the lease, rental, license, sale, exchange, or other 
disposition of the agricultural or horticultural products; and
    (ii) The warranty is neither separately offered by the Specified 
Cooperative nor separately bargained for with customers (that is, a 
customer cannot purchase the agricultural or horticultural products 
without the warranty);
    (2) A qualified delivery, that is, a delivery or distribution 
service that is provided in connection with the lease, rental, license, 
sale, exchange, or other disposition of agricultural or horticultural 
products if, in the normal course of the Specified Cooperative's 
business--
    (i) The price for the delivery or distribution service is not 
separately stated from the amount charged for the lease, rental, 
license, sale, exchange, or other disposition of the agricultural or 
horticultural products; and
    (ii) The delivery or distribution service is neither separately 
offered by the Specified Cooperative nor separately bargained for with 
customers (that is, a customer cannot purchase the agricultural or 
horticultural products without the delivery or distribution service).
    (3) A qualified operating manual, that is, a manual of instructions 
that is provided in connection with the lease, rental, license, sale, 
exchange, or other disposition of the agricultural or horticultural 
products if, in the normal course of the Specified Cooperative's 
business--
    (i) The price for the manual is not separately stated from the 
amount charged for the lease, rental, license, sale, exchange, or other 
disposition of the agricultural or horticultural products;
    (ii) The manual is neither separately offered by the Specified 
Cooperative nor separately bargained for with customers (that is, a 
customer cannot purchase the agricultural or horticultural products 
without the manual); and
    (iii) The manual is not provided in connection with a training 
course for customers.
    (4) A qualified installation, that is, an installation service for 
agricultural or horticultural products that is provided in connection 
with the lease, rental, license, sale, exchange, or other disposition 
of the agricultural or horticultural products if, in the normal course 
of the Specified Cooperative's business--
    (i) The price for the installation service is not separately stated 
from the amount charged for the lease, rental, license, sale, exchange, 
or other disposition of the agricultural or horticultural products; and
    (ii) The installation is neither separately offered by the 
Specified Cooperative nor separately bargained for with customers (that 
is, a customer cannot purchase the agricultural or horticultural 
products without the installation service).
    (5) A de minimis amount of gross receipts from embedded services 
and non-qualified property for each item of agricultural or 
horticultural products may qualify. For purposes of this exception, a 
de minimis amount of gross receipts from embedded services and non-
qualified property is less than 5 percent of the total gross receipts 
derived from the lease, rental, license, sale, exchange, or other 
disposition of each item of agricultural or horticultural products. In 
the case of gross receipts derived from the lease, rental, license, 
sale, exchange, or other disposition of agricultural or horticultural 
products that are received over a period of time (for example, a multi-
year lease or installment sale), this de minimis exception is applied 
by taking into account the total gross receipts for the entire period 
derived (and to be derived) from the lease, rental, license, sale, 
exchange, or other disposition of the

[[Page 28696]]

item of agricultural or horticultural products. For purposes of the 
preceding sentence, if a Specified Cooperative treats gross receipts as 
DPGR under this de minimis exception, then the Specified Cooperative 
must treat the gross receipts recognized in each taxable year 
consistently as DPGR. The gross receipts that the Specified Cooperative 
treats as DPGR under paragraphs (j)(3)(i)(B)(1) through (4) of this 
section are treated as DPGR for purposes of applying this de minimis 
exception. This de minimis exception does not apply if the price of a 
service or non-qualified property is separately stated by the Specified 
Cooperative, or if the service or non-qualified property is separately 
offered or separately bargained for with the customer (that is, the 
customer can purchase the agricultural or horticultural products 
without the service or non-qualified property).
    (ii) Non-DPGR. Applicable gross receipts as provided in Sec. Sec.  
1.199A-8(b) and/or (c) derived from the lease, rental, license, sale, 
exchange or other disposition of an item of agricultural or 
horticultural products may be treated as non-DPGR if less than 5 
percent of the Specified Cooperative's total gross receipts derived 
from the lease, rental, license, sale, exchange or other disposition of 
that item are DPGR (taking into account embedded services and non-
qualified property included in such disposition, but not part of the 
item). In the case of gross receipts derived from the lease, rental, 
license, sale, exchange, or other disposition of agricultural or 
horticultural products that are received over a period of time (for 
example, a multi-year lease or installment sale), this paragraph 
(j)(5)(ii) is applied by taking into account the total gross receipts 
for the entire period derived (and to be derived) from the lease, 
rental, license, sale, exchange, or other disposition of the item of 
agricultural or horticultural products. For purposes of the preceding 
sentence, if the Specified Cooperative treats gross receipts as non-
DPGR under this de minimis exception, then the Specified Cooperative 
must treat the gross receipts recognized in each taxable year 
consistently as non-DPGR.
    (k) Applicability date. The provisions of this section apply to 
taxable years ending after the date the Treasury decision adopting 
these regulations as final regulations is published in the Federal 
Register. Taxpayers, however, may rely on these regulations until that 
date, but only if the taxpayers apply the rules in their entirety and 
in a consistent manner.


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

    (a) In general. The provisions of this section apply solely for 
purposes of section 199A(g) of the Internal Revenue Code (Code). The 
provisions of this section provide additional guidance on determining 
qualified production activities income (QPAI) as described and defined 
in Sec.  1.199A-8(b)(4)(ii).
    (b) COGS allocable to DPGR--(1) In general. When determining its 
QPAI, the Specified Cooperative (defined in Sec.  1.199A-8(a)(2)) must 
subtract from its DPGR (defined in Sec.  1.199A-8(b)(3)(ii)) the COGS 
allocable to its DPGR. The Specified Cooperative determines its COGS 
allocable to DPGR in accordance with this paragraph (b)(1) or, if 
applicable, paragraph (f) of this section. In the case of a sale, 
exchange, or other disposition of inventory, COGS is equal to beginning 
inventory of the Specified Cooperative plus purchases and production 
costs incurred during the taxable year and included in inventory costs 
by the Specified Cooperative, less ending inventory of the Specified 
Cooperative. In determining its QPAI, the Specified Cooperative does 
not include in COGS any payment made, whether during the taxable year, 
or included in beginning inventory, for which a deduction is allowed 
under section 1382(b) and/or (c), as applicable. See Sec.  1.199A-
8(b)(4)(C). COGS is determined under the methods of accounting that the 
Specified Cooperative uses to compute taxable income. See sections 
263A, 471, and 472. If section 263A requires the Specified Cooperative 
to include additional section 263A costs (as defined in Sec.  1.263A-
1(d)(3)) in inventory, additional section 263A costs must be included 
in determining COGS. COGS also includes the Specified Cooperative's 
inventory valuation adjustments such as write-downs under the lower of 
cost or market method. In the case of a sale, exchange, or other 
disposition (including, for example, theft, casualty, or abandonment) 
by the Specified Cooperative of non-inventory property, COGS for 
purposes of this section includes the adjusted basis of the property.
    (2) Allocating COGS--(i) In general. A Specified Cooperative must 
use a reasonable method based on all the facts and circumstances to 
allocate COGS between DPGR and non-DPGR. Whether an allocation method 
is reasonable is based on all the facts and circumstances, including 
whether the Specified Cooperative uses the most accurate information 
available; the relationship between COGS and the method used; the 
accuracy of the method chosen as compared with other possible methods; 
whether the method is used by the Specified Cooperative for internal 
management or other business purposes; whether the method is used for 
other Federal or state income tax purposes; the availability of costing 
information; the time, burden, and cost of using alternative methods; 
and whether the Specified Cooperative applies the method consistently 
from year to year. Depending on the facts and circumstances, reasonable 
methods may include methods based on gross receipts (defined in Sec.  
1.199A-8(b)(2)(iii)), number of units sold, number of units produced, 
or total production costs. Ordinarily, if a Specified Cooperative uses 
a method to allocate gross receipts between DPGR and non-DPGR, then the 
use of a different method to allocate COGS that is not demonstrably 
more accurate than the method used to allocate gross receipts will not 
be considered reasonable. However, if a Specified Cooperative has 
information readily available to specifically identify COGS allocable 
to DPGR and can specifically identify that amount without undue burden 
or expense, COGS allocable to DPGR is that amount irrespective of 
whether the Specified Cooperative uses another allocation method to 
allocate gross receipts between DPGR and non-DPGR. A Specified 
Cooperative that does not have information readily available to 
specifically identify COGS allocable to DPGR and that cannot, without 
undue burden or expense, specifically identify that amount is not 
required to use a method that specifically identifies COGS allocable to 
DPGR. The chosen reasonable method must be consistently applied from 
one taxable year to another and must clearly reflect the portion of 
COGS between DPGR and non-DPGR. The method must also be reasonable 
based on all the facts and circumstances. The books and records 
maintained for COGS must be consistent with any allocations under this 
paragraph (b)(2).
    (ii) Gross receipts recognized in an earlier taxable year. If the 
Specified Cooperative (other than a Specified Cooperative that uses the 
small business simplified overall method of paragraph (f) of this 
section) recognizes and reports gross receipts on a Federal income tax 
return for a taxable year, and incurs COGS related to such gross 
receipts in a subsequent taxable year, then regardless of whether the 
gross receipts ultimately qualify as DPGR, the

[[Page 28697]]

Specified Cooperative must allocate the COGS to--
    (A) DPGR if the Specified Cooperative identified the related gross 
receipts as DPGR in the prior taxable year; or
    (B) Non-DPGR if the Specified Cooperative identified the related 
gross receipts as non-DPGR in the prior taxable year or if the 
Specified Cooperative recognized under the Specified Cooperative's 
methods of accounting those gross receipts in a taxable year to which 
section 199A(g) does not apply.
    (iii) COGS associated with activities undertaken in an earlier 
taxable year--(A) In general. A Specified Cooperative must allocate its 
COGS between DPGR and non-DPGR under the rules provided in paragraphs 
(b)(2)(i) and (iii) of this section, regardless of whether certain 
costs included in its COGS can be associated with activities undertaken 
in an earlier taxable year (including a year prior to the effective 
date of section 199A(g)). A Specified Cooperative may not segregate its 
COGS into component costs and allocate those component costs between 
DPGR and non-DPGR.
    (B) Example. The following example illustrates an application of 
paragraph (b)(2)(iii)(A) of this section.

    (1) Example. During the 2018 taxable year, nonexempt Specified 
Cooperative X grew and sold Horticultural Product A. All of the 
patronage gross receipts from sales recognized by X in 2018 were 
from the sale of Horticultural Product A and qualified as DPGR. 
Employee 1 of X was involved in X's production process until he 
retired in 2013. In 2018, X paid $30 directly from its general 
assets for Employee 1's medical expenses pursuant to an unfunded, 
self-insured plan for retired X employees. For purposes of computing 
X's 2018 taxable income, X capitalized those medical costs to 
inventory under section 263A. In 2018, the COGS for a unit of 
Horticultural Product A was $100 (including the applicable portion 
of the $30 paid for Employee 1's medical costs that was allocated to 
COGS under X's allocation method for additional section 263A costs). 
X has information readily available to specifically identify COGS 
allocable to DPGR and can identify that amount without undue burden 
and expense because all of X's gross receipts from sales in 2018 are 
attributable to the sale of Horticultural Product A and qualify as 
DPGR. The inventory cost of each unit of Horticultural Product A 
sold in 2018, including the applicable portion of retiree medical 
costs, is related to X's gross receipts from the sale of 
Horticultural Product A in 2018. X may not segregate the 2018 COGS 
by separately allocating the retiree medical costs, which are 
components of COGS, to DPGR and non-DPGR. Thus, even though the 
retiree medical costs can be associated with activities undertaken 
in prior years, $100 of inventory cost of each unit of Horticultural 
Product A sold in 2018, including the applicable portion of the 
retiree medical expense cost component, is allocable to DPGR in 
2018.

    (3) Special allocation rules. Section 199A(g)(3)(C) provides the 
following two special rules--
    (i) For purposes of determining the COGS that are allocable to 
DPGR, any item or service brought into the United States (defined in 
Sec.  1.199A-9(i)) is treated as acquired by purchase, and its cost is 
treated as not less than its value immediately after it entered the 
United States. A similar rule applies in determining the adjusted basis 
of leased or rented property where the lease or rental gives rise to 
DPGR.
    (ii) In the case of any property described in paragraph (b)(3)(i) 
of this section that has been exported by the Specified Cooperative for 
further manufacture, the increase in cost or adjusted basis under 
paragraph (b)(3)(i) of this section cannot exceed the difference 
between the value of the property when exported and the value of the 
property when brought back into the United States after the further 
manufacture. For the purposes of this paragraph (b)(3), the value of 
property is its customs value as defined in section 1059A(b)(1).
    (4) Rules for inventories valued at market or bona fide selling 
prices. If part of COGS is attributable to the Specified Cooperative's 
inventory valuation adjustments, then COGS allocable to DPGR includes 
inventory adjustments to agricultural or horticultural products that 
are MPGE in whole or significant part within the United States. 
Accordingly, a Specified Cooperative that values its inventory under 
Sec.  1.471-4 (inventories at cost or market, whichever is lower) or 
Sec.  1.471-2(c) (subnormal goods at bona fide selling prices) must 
allocate a proper share of such adjustments (for example, write-downs) 
to DPGR based on a reasonable method based on all the facts and 
circumstances. Factors taken into account in determining whether the 
method is reasonable include whether the Specified Cooperative uses the 
most accurate information available; the relationship between the 
adjustment and the allocation base chosen; the accuracy of the method 
chosen as compared with other possible methods; whether the method is 
used by the Specified Cooperative for internal management or other 
business purposes; whether the method is used for other Federal or 
state income tax purposes; the time, burden, and cost of using 
alternative methods; and whether the Specified Cooperative applies the 
method consistently from year to year. If the Specified Cooperative has 
information readily available to specifically identify the proper 
amount of inventory valuation adjustments allocable to DPGR, then the 
Specified Cooperative must allocate that amount to DPGR. The Specified 
Cooperative that does not have information readily available to 
specifically identify the proper amount of its inventory valuation 
adjustments allocable to DPGR and that cannot, without undue burden or 
expense, specifically identify the proper amount of its inventory 
valuation adjustments allocable to DPGR, is not required to use a 
method that specifically identifies inventory valuation adjustments to 
DPGR. The chosen reasonable method must be consistently applied from 
one taxable year to another and must clearly reflect inventory 
adjustments. The method must also be reasonable based on all the facts 
and circumstances. The books and records maintained for inventory 
adjustments must be consistent with any allocations under this 
paragraph (b)(4).
    (5) Rules applicable to inventories accounted for under the last-
in, first-out inventory method--(i) In general. This paragraph (b)(5) 
applies to inventories accounted for using the specific goods last-in, 
first-out (LIFO) method or the dollar-value LIFO method. Whenever a 
specific goods grouping or a dollar-value pool contains agricultural or 
horticultural products that produce DPGR and goods that do not, the 
Specified Cooperative must allocate COGS attributable to that grouping 
or pool between DPGR and non-DPGR using a reasonable method based on 
all the facts and circumstances. Whether a method of allocating COGS 
between DPGR and non-DPGR is reasonable must be determined in 
accordance with paragraph (b)(2) of this section. In addition, this 
paragraph (b)(5) provides methods that a Specified Cooperative may use 
to allocate COGS for a Specified Cooperative's inventories accounted 
for using the LIFO method. If the Specified Cooperative uses the LIFO/
FIFO ratio method provided in paragraph (b)(5)(ii) of this section or 
the change in relative base-year cost method provided in paragraph 
(b)(5)(iii) of this section, then the Specified Cooperative must use 
that method for all of the Specified Cooperative's inventory accounted 
for under the LIFO method. The chosen reasonable method must be 
consistently applied from one taxable year to another and must clearly 
reflect the inventory method. The method must also be reasonable based 
on all the facts and circumstances. The books and records maintained 
for the inventory

[[Page 28698]]

method must be consistent with any allocations under this paragraph 
(b)(5).
    (ii) LIFO/FIFO ratio method. The LIFO/FIFO ratio method is applied 
with respect to the LIFO inventory on a grouping-by-grouping or pool-
by-pool basis. Under the LIFO/FIFO ratio method, a Specified 
Cooperative computes the COGS of a grouping or pool allocable to DPGR 
by multiplying the COGS of agricultural or horticultural products 
(defined in Sec.  1.199A-8(a)(4)) in the grouping or pool that produced 
DPGR computed using the FIFO method by the LIFO/FIFO ratio of the 
grouping or pool. The LIFO/FIFO ratio of a grouping or pool is equal to 
the total COGS of the grouping or pool computed using the LIFO method 
over the total COGS of the grouping or pool computed using the FIFO 
method.
    (iii) Change in relative base-year cost method. A Specified 
Cooperative using the dollar-value LIFO method may use the change in 
relative base-year cost method. The change in relative base-year cost 
method for a Specified Cooperative using the dollar-value LIFO method 
is applied to all LIFO inventory on a pool-by-pool basis. The change in 
relative base-year cost method determines the COGS allocable to DPGR by 
increasing or decreasing the total production costs (section 471 costs 
and additional section 263A costs) of agricultural or horticultural 
products that generate DPGR by a portion of any increment or 
liquidation of the dollar-value pool. The portion of an increment or 
liquidation allocable to DPGR is determined by multiplying the LIFO 
value of the increment or liquidation (expressed as a positive number) 
by the ratio of the change in total base-year cost (expressed as a 
positive number) of agricultural or horticultural products that will 
generate DPGR in ending inventory to the change in total base-year cost 
(expressed as a positive number) of all goods in ending inventory. The 
portion of an increment or liquidation allocable to DPGR may be zero 
but cannot exceed the amount of the increment or liquidation. Thus, a 
ratio in excess of 1.0 must be treated as 1.0.
    (6) Specified Cooperative using a simplified method for additional 
section 263A costs to ending inventory. A Specified Cooperative that 
uses a simplified method specifically described in the section 263A 
regulations to allocate additional section 263A costs to ending 
inventory must follow the rules in paragraph (b)(2) of this section to 
determine the amount of additional section 263A costs allocable to 
DPGR. Allocable additional section 263A costs include additional 
section 263A costs included in the Specified Cooperative's beginning 
inventory as well as additional section 263A costs incurred during the 
taxable year by the Specified Cooperative. Ordinarily, if the Specified 
Cooperative uses a simplified method specifically described in the 
section 263A regulations to allocate its additional section 263A costs 
to its ending inventory, the additional section 263A costs must be 
allocated in the same proportion as section 471 costs are allocated.
    (c) Other deductions properly allocable to DPGR or gross income 
attributable to DPGR--(1) In general. In determining its QPAI, the 
Specified Cooperative must subtract from its DPGR (in addition to the 
COGS), the deductions that are properly allocable and apportioned to 
DPGR. A Specified Cooperative generally must allocate and apportion 
these deductions using the rules of the section 861 method provided in 
paragraph (d) of this section. In lieu of the section 861 method, an 
eligible Specified Cooperative may apportion these deductions using the 
simplified deduction method provided in paragraph (e) of this section. 
Paragraph (f) of this section provides a small business simplified 
overall method that may be used by a qualifying small Specified 
Cooperative. A Specified Cooperative using the simplified deduction 
method or the small business simplified overall method must use that 
method for all deductions. A Specified Cooperative eligible to use the 
small business simplified overall method may choose at any time for any 
taxable year to use the small business simplified overall method or the 
simplified deduction method for a taxable year.
    (2) Treatment of net operating losses. A deduction under section 
172 for a net operating loss (NOL) is not allocated or apportioned to 
DPGR or gross income attributable to DPGR.
    (3) W-2 wages. Although only W-2 wages as described in Sec.  
1.199A-11 are taken into account in computing the W-2 wage limitation, 
all wages paid (or incurred in the case of an accrual method taxpayer) 
in the taxable year are taken into account in computing QPAI for that 
taxable year.
    (d) Section 861 method. Under the section 861 method, the Specified 
Cooperative must allocate and apportion its deductions using the 
allocation and apportionment rules provided under the section 861 
regulations under which section 199A(g) is treated as an operative 
section described in Sec.  1.861-8(f). Accordingly, the Specified 
Cooperative applies the rules of the section 861 regulations to 
allocate and apportion deductions (including, if applicable, its 
distributive share of deductions from passthrough entities) to gross 
income attributable to DPGR. If the Specified Cooperative applies the 
allocation and apportionment rules of the section 861 regulations for 
section 199A(g) and another operative section, then the Specified 
Cooperative must use the same method of allocation and the same 
principles of apportionment for purposes of all operative sections. 
Research and experimental expenditures must be allocated and 
apportioned in accordance with Sec.  1.861-17 without taking into 
account the exclusive apportionment rule of Sec.  1.861-17(b). 
Deductions for charitable contributions (as allowed under section 170 
and section 873(b)(2) or 882(c)(1)(B)) must be ratably apportioned 
between gross income attributable to DPGR and gross income attributable 
to non-DPGR based on the relative amounts of gross income.
    (e) Simplified deduction method--(1) In general. An eligible 
Specified Cooperative (defined in paragraph (e)(2) of this section) may 
use the simplified deduction method to apportion business deductions 
between DPGR and non-DPGR. The simplified deduction method does not 
apply to COGS. Under the simplified deduction method, the business 
deductions (except the NOL deduction) are ratably apportioned between 
DPGR and non-DPGR based on relative gross receipts. Accordingly, the 
amount of deductions for the current taxable year apportioned to DPGR 
is equal to the proportion of the total business deductions for the 
current taxable year that the amount of DPGR bears to total gross 
receipts.
    (2) Eligible Specified Cooperative. For purposes of this paragraph 
(e), an eligible Specified Cooperative is--
    (i) A Specified Cooperative that has average annual total gross 
receipts (as defined in paragraph (g) of this section) of $100,000,000 
or less; or
    (ii) A Specified Cooperative that has total assets (as defined in 
paragraph (e)(3) of this section) of $10,000,000 or less.
    (3) Total assets.--(i) In general. For purposes of the simplified 
deduction method, total assets mean the total assets the Specified 
Cooperative has at the end of the taxable year.
    (ii) Members of an expanded affiliated group. To compute the total 
assets of an expanded affiliated group (EAG) at the end of the taxable 
year, the total assets at the end of the taxable year of each member of 
the EAG at the end of the taxable year that ends with or within the 
taxable year of the computing member

[[Page 28699]]

(as described in Sec.  1.199A-12(g)) are aggregated.
    (4) Members of an expanded affiliated group--(i) In general. 
Whether the members of an EAG may use the simplified deduction method 
is determined by reference to all the members of the EAG. If the 
average annual gross receipts of the EAG are less than or equal to 
$100,000,000 or the total assets of the EAG are less than or equal to 
$10,000,000, then each member of the EAG may individually determine 
whether to use the simplified deduction method, regardless of the cost 
allocation method used by the other members.
    (ii) Exception. Notwithstanding paragraph (e)(4)(i) of this 
section, all members of the same consolidated group must use the same 
cost allocation method.
    (f) Small business simplified overall method--(1) In general. A 
qualifying small Specified Cooperative may use the small business 
simplified overall method to apportion COGS and deductions between DPGR 
and non-DPGR. Under the small business simplified overall method, a 
Specified Cooperative's total costs for the current taxable year (as 
defined in paragraph (f)(3) of this section) are apportioned between 
DPGR and non-DPGR based on relative gross receipts. Accordingly, the 
amount of total costs for the current taxable year apportioned to DPGR 
is equal to the proportion of total costs for the current taxable year 
that the amount of DPGR bears to total gross receipts.
    (2) Qualifying small Specified Cooperative. For purposes of this 
paragraph (f), a qualifying small Specified Cooperative is a Specified 
Cooperative that has average annual total gross receipts (as defined in 
paragraph (g) of this section) of $25,000,000 or less.
    (3) Total costs for the current taxable year. For purposes of the 
small business simplified overall method, total costs for the current 
taxable year means the total COGS and deductions for the current 
taxable year. Total costs for the current taxable year are determined 
under the methods of accounting that the Specified Cooperative uses to 
compute taxable income.
    (4) Members of an expanded affiliated group--(i) In general. 
Whether the members of an EAG may use the small business simplified 
overall method is determined by reference to all the members of the 
EAG. If the average annual gross receipts of the EAG are less than or 
equal to $25,000,000 then each member of the EAG may individually 
determine whether to use the small business simplified overall method, 
regardless of the cost allocation method used by the other members.
    (ii) Exception. Notwithstanding paragraph (f)(4)(i) of this 
section, all members of the same consolidated group must use the same 
cost allocation method.
    (g) Average annual gross receipts--(1) In general. For purposes of 
the simplified deduction method and the small business simplified 
overall method, average annual gross receipts means the average annual 
gross receipts of the Specified Cooperative for the 3 taxable years 
(or, if fewer, the taxable years during which the taxpayer was in 
existence) preceding the current taxable year, even if one or more of 
such taxable years began before the effective date of section 199A(g). 
In the case of any taxable year of less than 12 months (a short taxable 
year), the gross receipts of the Specified Cooperative are annualized 
by multiplying the gross receipts for the short period by 12 and 
dividing the result by the number of months in the short period.
    (2) Members of an expanded affiliated group--(i) In general. To 
compute the average annual gross receipts of an EAG, the gross receipts 
for the entire taxable year of each member that is a member of the EAG 
at the end of its taxable year that ends with or within the taxable 
year are aggregated. For purposes of this paragraph (g)(2), a 
consolidated group is treated as one member of an EAG.
    (ii) Exception. Notwithstanding paragraph (g)(1)(i) of this 
section, all members of the same consolidated group must use the same 
cost allocation method.
    (h) Cost allocation methods for determining oil-related QPAI--(1) 
Section 861 method. A Specified Cooperative that uses the section 861 
method to determine deductions that are allocated and apportioned to 
gross income attributable to DPGR must use the section 861 method to 
determine deductions that are allocated and apportioned to gross income 
attributable to oil-related DPGR.
    (2) Simplified deduction method. A Specified Cooperative that uses 
the simplified deduction method to apportion deductions between DPGR 
and non-DPGR must determine the portion of deductions allocable to oil-
related DPGR by multiplying the deductions allocable to DPGR by the 
ratio of oil-related DPGR to DPGR from all activities.
    (3) Small business simplified overall method. A Specified 
Cooperative that uses the small business simplified overall method to 
apportion total costs (COGS and deductions) between DPGR and non-DPGR 
must determine the portion of total costs allocable to oil-related DPGR 
by multiplying the total costs allocable to DPGR by the ratio of oil-
related DPGR to DPGR from all activities.
    (i) Applicability date. The provisions of this section apply to 
taxable years ending after the date the Treasury decision adopting 
these regulations as final regulations is published in the Federal 
Register. Taxpayers, however, may rely on these regulations until that 
date, but only if the taxpayers apply the rules in their entirety and 
in a consistent manner.


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

    (a) Rules of application--(1) In general. The provisions of this 
section apply solely for purposes of section 199A(g) of the Internal 
Revenue Code (Code). The provisions of this section provide guidance on 
determining the W-2 wage limitation as defined in Sec.  1.199A-
8(b)(5)(ii)(B). Except as provided in paragraph (d)(2) of this section, 
the Form W-2, Wage and Tax Statement, or any subsequent form or 
document used in determining the amount of W-2 wages, are those issued 
for the calendar year ending during the taxable year of the Specified 
Cooperative (defined in Sec.  1.199A-8(a)(2)) for wages paid to 
employees (or former employees) of the Specified Cooperative for 
employment by the Specified Cooperative. Employees are limited to 
employees defined in section 3121(d)(1) and (2) (that is, officers of a 
corporate taxpayer and employees of the taxpayer under the common law 
rules). See paragraph (a)(5) of this section for the requirement that 
W-2 wages must have been included in a return filed with the Social 
Security Administration (SSA) within 60 days after the due date 
(including extensions) of the return. See also section 199A(a)(4)(C).
    (2) Wage limitation for section 199A(g) deduction. The amount of 
the deduction allowable under section 199A(g) to the Specified 
Cooperative for any taxable year cannot exceed 50 percent of the W-2 
wages (as defined in section 199A(g)(1)(B)(ii) and paragraph (b) of 
this section) for the taxable year that are attributable to domestic 
production gross receipts (DPGR), defined in Sec.  1.199A-8(b)(3)(ii), 
of agricultural or horticultural products defined in Sec.  1.199A-
8(a)(4).
    (3) Wages paid by entity other than common law employer. In 
determining W-2 wages, the Specified Cooperative may take into account 
any W-2 wages paid by another entity and reported by the other entity 
on Forms W-2 with the other entity as the employer listed in

[[Page 28700]]

Box c of the Forms W-2, provided that the W-2 wages were paid to common 
law employees or officers of the Specified Cooperative for employment 
by the Specified Cooperative. In such cases, the entity paying the W-2 
wages and reporting the W-2 wages on Forms W-2 is precluded from taking 
into account such wages for purposes of determining W-2 wages with 
respect to that entity. For purposes of this paragraph (a)(4), entities 
that pay and report W-2 wages on behalf of or with respect to other 
taxpayers can include, but are not limited to, certified professional 
employer organizations under section 7705, statutory employers under 
section 3401(d)(1), and agents under section 3504.
    (4) Requirement that wages must be reported on return filed with 
the Social Security Administration--(i) In general. Pursuant to section 
199A(g)(1)(B)(ii) and section 199A(b)(4)(C), the term W-2 wages does 
not include any amount that is not properly included in a return filed 
with SSA on or before the 60th day after the due date (including 
extensions) for such return. Under Sec.  31.6051-2 of this chapter, 
each Form W-2 and the transmittal Form W-3, Transmittal of Wage and Tax 
Statements, together constitute an information return to be filed with 
SSA. Similarly, each Form W-2c, Corrected Wage and Tax Statement, and 
the transmittal Form W-3 or W-3c, Transmittal of Corrected Wage and Tax 
Statements, together constitute an information return to be filed with 
SSA. In determining whether any amount has been properly included in a 
return filed with SSA on or before the 60th day after the due date 
(including extensions) for such return, each Form W-2 together with its 
accompanying Form W-3 is considered a separate information return and 
each Form W-2c together with its accompanying Form W-3 or Form W-3c is 
considered a separate information return. Section 6071(c) provides that 
Forms W-2 and W-3 must be filed on or before January 31 of the year 
following the calendar year to which such returns relate (but see the 
special rule in Sec.  31.6071(a)-1T(a)(3)(1) of this chapter for 
monthly returns filed under Sec.  31.6011(a)-5(a) of this chapter). 
Corrected Forms W-2 are required to be filed with SSA on or before 
January 31 of the year following the year in which the correction is 
made.
    (ii) Corrected return filed to correct a return that was filed 
within 60 days of the due date. If a corrected information return 
(Return B) is filed with SSA on or before the 60th day after the due 
date (including extensions) of Return B to correct an information 
return (Return A) that was filed with SSA on or before the 60th day 
after the due date (including extensions) of the information return 
(Return A) and paragraph (a)(5)(iii) of this section does not apply, 
then the wage information on Return B must be included in determining 
W-2 wages. If a corrected information return (Return D) is filed with 
SSA later than the 60th day after the due date (including extensions) 
of Return D to correct an information return (Return C) that was filed 
with SSA on or before the 60th day after the due date (including 
extensions) of the information return (Return C), then if Return D 
reports an increase (or increases) in wages included in determining W-2 
wages from the wage amounts reported on Return C, such increase (or 
increases) on Return D is disregarded in determining W-2 wages (and 
only the wage amounts on Return C may be included in determining W-2 
wages). If Return D reports a decrease (or decreases) in wages included 
in determining W-2 wages from the amounts reported on Return C, then, 
in determining W-2 wages, the wages reported on Return C must be 
reduced by the decrease (or decreases) reflected on Return D.
    (iii) Corrected return filed to correct a return that was filed 
later than 60 days after the due date. If an information return (Return 
F) is filed to correct an information return (Return E) that was not 
filed with SSA on or before the 60th day after the due date (including 
extensions) of Return E, then Return F (and any subsequent information 
returns filed with respect to Return E) will not be considered filed on 
or before the 60th day after the due date (including extensions) of 
Return F (or the subsequent corrected information return). Thus, if a 
Form W-2c is filed to correct a Form W-2 that was not filed with SSA on 
or before the 60th day after the due date (including extensions) of the 
Form W-2 (or to correct a Form W-2c relating to a Form W-2 that had not 
been filed with SSA on or before the 60th day after the due date 
(including extensions) of the Form W-2), then this Form W-2c is not to 
be considered to have been filed with SSA on or before the 60th day 
after the due date (including extensions) for this Form W-2c, 
regardless of when the Form W-2c is filed.
    (b) Definition of W-2 wages--(1) In general. Section 
199A(g)(1)(B)(ii) provides that the W-2 wages of the Specified 
Cooperative must be determined in the same manner as under section 
199A(b)(4) (without regard to section 199A(b)(4)(B) and after 
application of section 199A(b)(5)). Section 199A(b)(4)(A) provides that 
the term W-2 wages means with respect to any person for any taxable 
year of such person, the amounts described in paragraphs (3) and (8) of 
section 6051(a) paid by such person with respect to employment of 
employees by such person during the calendar year ending during such 
taxable year. Thus, the term W-2 wages includes the total amount of 
wages as defined in section 3401(a); the total amount of elective 
deferrals (within the meaning of section 402(g)(3)); the compensation 
deferred under section 457; and the amount of designated Roth 
contributions (as defined in section 402A).
    (2) Section 199A(g) deduction. Pursuant to section 199A(g)(3)(A), 
W-2 wages do not include any amount which is not properly allocable to 
DPGR for purposes of calculating qualified production activities income 
(QPAI) as defined in Sec.  1.199A-8(b)(4)(ii). The Specified 
Cooperative may determine the amount of wages that is properly 
allocable to DPGR using a reasonable method based on all the facts and 
circumstances. The chosen reasonable method must be consistently 
applied from one taxable year to another and must clearly reflect the 
wages allocable to DPGR for purposes of QPAI. The books and records 
maintained for wages allocable to DPGR for purposes of QPAI must be 
consistent with any allocations under this paragraph (b)(2).
    (c) Methods for calculating W-2 wages. The Secretary may provide 
for methods to be used in calculating W-2 wages, including W-2 wages 
for short taxable years by publication in the Internal Revenue Bulletin 
(see Sec.  601.601(d)(2)(ii)(b) of this chapter).
    (d) Wage limitation--acquisitions, dispositions, and short taxable 
years--(1) In general. For purposes of computing the deduction under 
section 199A(g) of the Specified Cooperative, in the case of an 
acquisition or disposition (as defined in section 199A(b)(5) and 
paragraph (d)(3) of this section) that causes more than one Specified 
Cooperative to be an employer of the employees of the acquired or 
disposed of Specified Cooperative during the calendar year, the W-2 
wages of the Specified Cooperative for the calendar year of the 
acquisition or disposition are allocated between or among each 
Specified Cooperative based on the period during which the employees of 
the acquired or disposed of Specified Cooperatives were employed by the 
Specified Cooperative, regardless of which permissible method is used 
for reporting predecessor and successor wages on Form W-2, Wage and Tax 
Statement.

[[Page 28701]]

    (2) Short taxable year that does not include December 31. If the 
Specified Cooperative has a short taxable year that does not contain a 
calendar year ending during such short taxable year, wages paid to 
employees for employment by the Specified Cooperative during the short 
taxable year are treated as W-2 wages for such short taxable year for 
purposes of paragraph (a) of this section (if the wages would otherwise 
meet the requirements to be W-2 wages under this section but for the 
requirement that a calendar year must end during the short taxable 
year).
    (3) Acquisition or disposition. For purposes of paragraph (d)(1) 
and (2) of this section, the terms acquisition and disposition include 
an incorporation, a liquidation, a reorganization, or a purchase or 
sale of assets.
    (e) Application in the case of a Specified Cooperative with a short 
taxable year. In the case of a Specified Cooperative with a short 
taxable year, subject to the rules of paragraph (a) of this section, 
the W-2 wages of the Specified Cooperative for the short taxable year 
can include only those wages paid during the short taxable year to 
employees of the Specified Cooperative, only those elective deferrals 
(within the meaning of section 402(g)(3)) made during the short taxable 
year by employees of the Specified Cooperative, and only compensation 
actually deferred under section 457 during the short taxable year with 
respect to employees of the Specified Cooperative.
    (f) Non-duplication rule. Amounts that are treated as W-2 wages for 
a taxable year under any method cannot be treated as W-2 wages of any 
other taxable year. Also, an amount cannot be treated as W-2 wages by 
more than one taxpayer. Finally, an amount cannot be treated as W-2 
wages by the Specified Cooperative both in determining patronage and 
nonpatronage W-2 wages.
    (g) Wage expense safe harbor--(1) In general. A Specified 
Cooperative using either the section 861 method of cost allocation 
under Sec.  1.199A-10(d) or the simplified deduction method under Sec.  
1.199A-10(e) may determine the amount of W-2 wages that are properly 
allocable to DPGR for a taxable year by multiplying the amount of W-2 
wages determined under paragraph (b)(1) of this section for the taxable 
year by the ratio of the Specified Cooperative's wage expense included 
in calculating QPAI for the taxable year to the Specified Cooperative's 
total wage expense used in calculating the Specified Cooperative's 
taxable income for the taxable year, without regard to any wage expense 
disallowed by section 465, 469, 704(d), or 1366(d). A Specified 
Cooperative that uses either the section 861 method of cost allocation 
or the simplified deduction method to determine QPAI must use the same 
expense allocation and apportionment methods that it uses to determine 
QPAI to allocate and apportion wage expense for purposes of this safe 
harbor. For purposes of this paragraph (g)(1), the term wage expense 
means wages (that is, compensation paid by the employer in the active 
conduct of a trade or business to its employees) that are properly 
taken into account under the Specified Cooperative's method of 
accounting.
    (2) Wage expense included in cost of goods sold. For purposes of 
paragraph (g)(1) of this section, a Specified Cooperative may determine 
its wage expense included in cost of goods sold (COGS) using a 
reasonable method based on all the facts and circumstances, such as 
using the amount of direct labor included in COGS or using section 263A 
labor costs (as defined in Sec.  1.263A-1(h)(4)(ii)) included in COGS. 
The chosen reasonable method must be consistently applied from one 
taxable year to another and must clearly reflect the portion of wage 
expense included in COGS. The method must also be reasonable based on 
all the facts and circumstances. The books and records maintained for 
wage expense included in COGS must be consistent with any allocations 
under this paragraph (g)(2).
    (3) Small business simplified overall method safe harbor. The 
Specified Cooperative that uses the small business simplified overall 
method under Sec.  1.199A-10(f) may use the small business simplified 
overall method safe harbor for determining the amount of W-2 wages 
determined under paragraph (b)(1) of this section that is properly 
allocable to DPGR. Under this safe harbor, the amount of W-2 wages 
determined under paragraph (b)(1) of this section that is properly 
allocable to DPGR is equal to the same proportion of W-2 wages 
determined under paragraph (b)(1) of this section that the amount of 
DPGR bears to the Specified Cooperative's total gross receipts.
    (h) Applicability date. The provisions of this section apply to 
taxable years ending after the date the Treasury decision adopting 
these regulations as final regulations is published in the Federal 
Register. Taxpayers, however, may rely on these regulations until that 
date, but only if the taxpayers apply the rules in their entirety and 
in a consistent manner.


Sec.  1.199A-12  Expanded affiliated groups.

    (a) In general. The provisions of this section apply solely for 
purposes of section 199A(g) of the Internal Revenue Code (Code). Except 
as otherwise provided in the Code or regulations issued under the 
relevant section of the Code (for example, sections 199A(g)(3)(D)(ii) 
and 267, Sec.  1.199A-8(c), paragraph (a)(3) of this section, and the 
consolidated return regulations under section 1502, each Specified 
Cooperative whether exempt or nonexempt (as defined in Sec.  1.199A-
8(a)(2)(iii)) that is a member of an expanded affiliated group (EAG) 
(defined in paragraph (a)(1) of this section) computes its own taxable 
income or loss, qualified production activities income (QPAI) (defined 
in Sec.  1.199A-8(b)(4)(ii)), and W-2 wages (defined in Sec.  1.199A-
11(b)). If a Specified Cooperative is also a member of a consolidated 
group, see paragraph (d) of this section.
    (1) Definition of an expanded affiliated group. An EAG is an 
affiliated group as defined in section 1504(a), determined by 
substituting ``more than 50 percent'' for ``at least 80 percent'' in 
each place it appears and without regard to section 1504(b)(2) and (4).
    (2) Identification of members of an expanded affiliated group--(i) 
In general. Each Specified Cooperative must determine if it is a member 
of an EAG on a daily basis.
    (ii) Becoming or ceasing to be a member of an expanded affiliated 
group. If a Specified Cooperative becomes or ceases to be a member of 
an EAG, the Specified Cooperative is treated as becoming or ceasing to 
be a member of the EAG at the end of the day on which its status as a 
member changes.
    (3) Attribution of activities--(i) In general. Except as provided 
in paragraph (a)(3)(iv) of this section, if a Specified Cooperative 
that is a member of an EAG (disposing member) derives gross receipts 
(defined in Sec.  1.199A-8(b)(2)(iii)) from the lease, rental, license, 
sale, exchange, or other disposition (defined in Sec.  1.199A-9(j)) of 
agricultural or horticultural products (defined in Sec.  1.199A-
8(a)(4)) that were manufactured, produced, grown or extracted (MPGE) 
(as defined in Sec.  1.199A-9(f)), in whole or significant part (as 
defined in Sec.  1.199A-9(h)) in the United States (as defined in Sec.  
1.199A-9(i)) by another Specified Cooperative, then the disposing 
member is treated as conducting the previous activities conducted by 
such other Specified Cooperative with respect to the agricultural or 
horticultural products in determining whether its gross receipts

[[Page 28702]]

are domestic production gross receipts (DPGR) (defined in Sec.  1.199A-
8(b)(3)(ii)) if--
    (A) Such property was MPGE by such other Specified Cooperative, and
    (B) The disposing member is a member of the same EAG as such other 
Specified Cooperative at the time that the disposing member disposes of 
the agricultural or horticultural products.
    (ii) Date of disposition for leases, rentals, or licenses. Except 
as provided in paragraph (a)(3)(iv) of this section, with respect to a 
lease, rental, or license, the disposing member described in paragraph 
(a)(3)(i) of this section is treated as having disposed of the 
agricultural or horticultural products on the date or dates on which it 
takes into account the gross receipts derived from the lease, rental, 
or license under its methods of accounting.
    (iii) Date of disposition for sales, exchanges, or other 
dispositions. Except as provided in paragraph (a)(3)(iv) of this 
section, with respect to a sale, exchange, or other disposition, the 
disposing member is treated as having disposed of the agricultural or 
horticultural products on the date on which it ceases to own the 
agricultural or horticultural products for Federal income tax purposes, 
even if no gain or loss is taken into account.
    (iv) Exception. Nonexempt Specified Cooperatives. A nonexempt 
Specified Cooperative is not attributed nonpatronage activities 
conducted by another Specified Cooperative. See Sec.  1.199A-
8(b)(2)(ii).
    (4) Marketing Specified Cooperatives. A Specified Cooperative will 
be treated as having MPGE in whole or significant part any agricultural 
or horticultural product within the United States marketed by the 
Specified Cooperative which its patrons have so MPGE. Patrons are 
defined in Sec.  1.1388-1(e).
    (5) Anti-avoidance rule. If a transaction between members of an EAG 
is engaged in or structured with a principal purpose of qualifying for, 
or increasing the amount of, the section 199A(g) deduction of the EAG 
or the portion of the section 199A(g) deduction allocated to one or 
more members of the EAG, the Secretary may make adjustments to 
eliminate the effect of the transaction on the computation of the 
section 199A(g) deduction.
    (b) Computation of EAG's section 199A(g) deduction.--(1) In 
general. The section 199A(g) deduction for an EAG is determined by 
separately computing the section 199A(g) deduction from the patronage 
sources of Specified Cooperatives that are members of the EAG and the 
section 199A(g) deduction from the nonpatronage sources of exempt 
Specified Cooperatives that are members of the EAG. The section 199A(g) 
deduction from patronage sources of Specified Cooperatives is 
determined by aggregating the income or loss, QPAI, and W-2 wages, if 
any, of each patronage source of a Specified Cooperative that is a 
member of the EAG (whether an exempt or nonexempt Specified 
Cooperative). The section 199A(g) deduction from nonpatronage sources 
of exempt Specified Cooperatives is determined by aggregating the 
income or loss, QPAI, and W-2 wages, if any, of each nonpatronage 
source of exempt Specified Cooperatives that are members of the EAG. 
For purposes of this determination, a member's QPAI may be positive or 
negative. A Specified Cooperative's taxable income or loss and QPAI 
will be determined by reference to the Specified Cooperative's method 
of accounting. For purposes of determining the section 199A(g) 
deduction for an EAG, taxable income or loss, QPAI, and W-2 wages of a 
nonexempt Specified Cooperative from nonpatronage sources are 
considered to be zero. See Sec.  1.199A-8(b)(2)(ii).
    (2) Example. The following examples illustrates the application of 
paragraph (b)(1) of this section.

    (i) Example. Nonexempt Specified Cooperatives X, Y, and Z, 
calendar year taxpayers, are the only members of an EAG and are not 
members of a consolidated group. X's patronage source has taxable 
income of $50,000, QPAI of $15,000, and W-2 wages of $0. Y has 
patronage source taxable income of ($20,000), QPAI of ($1,000), and 
W-2 wages of $750. Z's patronage source has taxable income of $0, 
QPAI of $0, and W-2 wages of $3,000. In determining the EAG's 
section 199A(g) deduction, the EAG aggregates each member's 
patronage source's taxable income or loss, QPAI, and W-2 wages. 
Thus, the EAG's patronage source has taxable income of $30,000, the 
sum of X's patronage source taxable income of $50,000, Y's patronage 
source taxable income of ($20,000), and Z's patronage source taxable 
income of $0. The EAG has QPAI of $14,000, the sum of X's QPAI of 
$15,000, Y's QPAI of ($1,000), and Z's QPAI of $0. The EAG has W-2 
wages of $3,750, the sum of X's W-2 wages of $0, Y's W-2 wages of 
$750, and Z's W-2 wages of $3,000. Accordingly, the EAG's section 
199A(g) deduction equals $1,260, 9% of $14,000, the lesser of the 
QPAI and patronage source taxable income, but not greater than 
$1,875, 50% of its W-2 wages of $3,750. This result would be the 
same if X had a nonpatronage source income or loss, because 
nonpatronage source income of a nonexempt Specified Cooperative is 
not taken into account in determining the section 199A(g) deduction.

    (3) Net operating loss carryovers/carrybacks. In determining the 
taxable income of an EAG, if a Specified Cooperative has a net 
operating loss (NOL) from its patronage sources that may be carried 
over or carried back, if applicable, (in accordance with section 172), 
to the taxable year, then for purposes of determining the taxable 
income of the Specified Cooperative, the amount of the NOL used to 
offset taxable income cannot exceed the taxable income of the patronage 
source of that Specified Cooperative. Similarly, if a Specified 
Cooperative has an NOL from its nonpatronage sources that may be 
carried over to the taxable year, then for purposes of determining the 
taxable income of the Specified Cooperative, the amount of the NOL used 
to offset taxable income cannot exceed the taxable income of the 
nonpatronage sources of that Specified Cooperative.
    (4) Losses used to reduce taxable income of an expanded affiliated 
group. The amount of an NOL sustained by a Specified Cooperative member 
of an EAG that is used in the year sustained in determining an EAG's 
taxable income limitation under Sec.  1.199A-8(b)(5)(ii)(C) (for 
nonexempt Specified Cooperatives) or Sec.  1.199A-8(c)(4)(i) (for 
exempt Specified Cooperatives), as applicable, is not treated as an NOL 
carryover to any taxable year in determining the taxable income 
limitation under Sec.  1.199A-8(b)(5)(ii)(C) or Sec.  1.199A-
8(c)(4)(i), as applicable. For purposes of this paragraph (b)(4), an 
NOL is considered to be used if it reduces an EAG's aggregate taxable 
income from patronage source or nonpatronage source, as the case may 
be, regardless of whether the use of the NOL actually reduces the 
amount of the section 199A(g) deduction that the EAG would otherwise 
derive. An NOL is not considered to be used to the extent that it 
reduces an EAG's aggregate taxable income from patronage source or 
nonpatronage source, as the case may be, to an amount less than zero. 
If more than one Specified Cooperative has an NOL used in the same 
taxable year to reduce the EAG's taxable income from patronage or 
nonpatronage sources, as the case may be, the respective NOLs are 
deemed used in proportion to the amount of each Specified Cooperative's 
NOL.
    (5) Example. The following example illustrates the application of 
paragraph (b)(4) of this section.

    (i) Example--(A) Facts. Nonexempt Specified Cooperatives A and B 
are the only two members of an EAG. A and B are both calendar year 
taxpayers and they do not join in the filing of a consolidated 
Federal income tax return. Neither A nor B had taxable income or 
loss prior to 2018. In 2018, A has patronage QPAI and taxable income 
of $1,000 and B has patronage QPAI of $1,000 and a

[[Page 28703]]

patronage NOL of $1,500. A also has nonpatronage income of $3,000. B 
has no activities other than from its patronage activities. In 2019, 
A has patronage QPAI of $2,000 and patronage taxable income of 
$1,000 and B has patronage QPAI of $2,000 and patronage taxable 
income prior to the NOL deduction allowed under section 172 of 
$2,000. Neither A nor B has nonpatronage activities in 2019. A's and 
B's patronage activities have aggregate W-2 wages in excess of the 
section 199A(g)(1)(B) wage limitation in both 2018 and 2019.
    (B) Section 199A(g) deduction for 2018. In determining the EAG's 
section 199A(g) deduction for 2018, A's $1,000 of QPAI and B's 
$1,000 of QPAI are aggregated, as are A's $1,000 of taxable income 
from its patronage activities and B's $1,500 NOL from its patronage 
activities. A's nonpatronage income is not included. Thus, for 2018, 
the EAG has patronage QPAI of $2,000 and patronage taxable income of 
($500). The EAG's section 199A(g) deduction for 2018 is 9% of the 
lesser of its patronage QPAI or its patronage taxable income. 
Because the EAG has a taxable loss from patronage sources in 2018, 
the EAG's section 199A(g) deduction is $0.
    (C) Section 199A(a) deduction for 2019. In determining the EAG's 
section 199A deduction for 2019, A's patronage QPAI of $2,000 and 
B's patronage QPAI of $2,000 are aggregated, resulting in the EAG 
having patronage QPAI of $4,000. Also, $1,000 of B's patronage NOL 
from 2018 was used in 2018 to reduce the EAG's taxable income from 
patronage sources to $0. The remaining $500 of B's patronage NOL 
from 2018 is not considered to have been used in 2018 because it 
reduced the EAG's patronage taxable income to less than $0. 
Accordingly, for purposes of determining the EAG's taxable income 
limitation under Sec.  1.199A-8(b)(5) in 2019, B is deemed to have 
only a $500 NOL carryover from its patronage sources from 2018 to 
offset a portion of its 2019 taxable income from its patronage 
sources. Thus, B's taxable income from its patronage sources in 2019 
is $1,500, which is aggregated with A's $1,000 of taxable income 
from its patronage sources. The EAG's taxable income limitation in 
2019 is $2,500. The EAG's section 199A(g) deduction is 9% of the 
lesser of its patronage sourced QPAI of $4,000 and its taxable 
income from patronage sources of $2,500. Thus, the EAG's section 
199A(g) deduction in 2019 is 9% of $2,500, or $225. The results for 
2019 would be the same if neither A nor B had patronage sourced QPAI 
in 2018.

    (c) Allocation of an expanded affiliated group's section 199A(g) 
deduction among members of the expanded affiliated group--(1) In 
general. An EAG's section 199A(g) deduction from its patronage sources, 
as determined in paragraph (b) of this section, is allocated among the 
Specified Cooperatives that are members of the EAG in proportion to 
each Specified Cooperative's patronage QPAI, regardless of whether the 
Specified Cooperative has patronage taxable income or W-2 wages for the 
taxable year. An EAG's section 199A(g) deduction from its nonpatronage 
sources, as determined in paragraph (b) of this section, is allocated 
among the Specified Cooperatives that are members of the EAG in 
proportion to each Specified Cooperative's nonpatronage QPAI, 
regardless of whether the Specified Cooperative has nonpatronage 
taxable income or W-2 wages for the taxable year. For these purposes, 
if a Specified Cooperative has negative patronage or nonpatronage QPAI, 
such QPAI is treated as zero. Pursuant to Sec.  1.199A-8(b)(6), a 
patronage section 199A(g) deduction can be applied only against 
patronage income and deductions. Pursuant to Sec.  1.199A-8(c)(ii), a 
nonpatronage section 199A(g) deduction and can be applied only against 
nonpatronage income and deductions.
    (2) Use of section 199A(g) deduction to create or increase a net 
operating loss. If a Specified Cooperative that is a member of an EAG 
has some or all of the EAG's section 199A(g) deduction allocated to it 
under paragraph (c)(1) of this section and the amount allocated exceeds 
patronage or nonpatronage taxable income, determined as described in 
this section and prior to allocation of the section 199A(g) deduction, 
the section 199A(g) deduction will create an NOL for the patronage 
source or nonpatronage source. Similarly, if a Specified Cooperative 
that is a member of an EAG, prior to the allocation of some or all of 
the EAG's section 199A(g) deduction to the member, has a patronage or 
nonpatronage NOL for the taxable year, the portion of the EAG's section 
199A(g) deduction allocated to the member will increase such NOL.
    (d) Special rules for members of the same consolidated group--(1) 
Intercompany transactions. In the case of an intercompany transaction 
between consolidated group members S and B (as the terms intercompany 
transaction, S and B are defined in Sec.  1.1502-13(b)(1)), S takes the 
intercompany transaction into account in computing the section 199A(g) 
deduction at the same time and in the same proportion as S takes into 
account the income, gain, deduction, or loss from the intercompany 
transaction under Sec.  1.1502-13.
    (2) Application of the simplified deduction method and the small 
business simplified overall method. For purposes of applying the 
simplified deduction method under Sec.  1.199A-10(e) and the small 
business simplified overall method under Sec.  1.199A-10(f), a 
Specified Cooperative that is part of a consolidated group determines 
its QPAI using its members' DPGR, non-DPGR, cost of goods sold (COGS), 
and all other deductions, expenses, or losses (hereinafter deductions), 
determined after application of Sec.  1.1502-13.
    (3) Determining the section 199A(g) deduction--(i) Expanded 
affiliated group consists of consolidated group and non-consolidated 
group members. In determining the section 199A(g) deduction, if an EAG 
includes Specified Cooperatives that are members of the same 
consolidated group and Specified Cooperatives that are not members of 
the same consolidated group, the consolidated taxable income or loss, 
QPAI, and W-2 wages, from patronage sources, if any, of the 
consolidated group (and not the separate taxable income or loss, QPAI, 
and W-2 wages from patronage sources of the members of the consolidated 
group), are aggregated with the taxable income or loss, QPAI, and W-2 
wages, from patronage sources, if any, of the non-consolidated group 
members. A similar rule applies with respect to nonpatronage taxable 
income or loss, QPAI, and W-2 wages. For example, if A, B, C, S1, and 
S2 are Specified Cooperatives that are members of the same EAG, and A, 
S1, and S2 are members of the same consolidated group (the A 
consolidated group), then the A consolidated group is treated as one 
member of the EAG. Accordingly, the EAG is considered to have three 
members, the A consolidated group, B, and C. The consolidated taxable 
income or loss, QPAI, and W-2 wages from patronage sources, if any, of 
the A consolidated group are aggregated with the taxable income or loss 
from patronage sources, QPAI, and W-2 wages, if any, of B and C in 
determining the EAG's section 199A(g) deduction from patronage sources. 
Similarly, the consolidated taxable income or loss, QPAI, and W-2 wages 
from nonpatronage sources, if any, of the A consolidated group are 
aggregated with the taxable income or loss from nonpatronage sources, 
QPAI, and W-2 wages, if any, of B and C in determining the EAG's 
section 199A(g) deduction from nonpatronage sources. Pursuant to Sec.  
1.199A-8(b)(6), a patronage section 199A(g) deduction can be applied 
only against patronage income and deductions. Pursuant to Sec.  1.199A-
8(c)(ii), a nonpatronage section 199A(g) deduction and can be applied 
only against nonpatronage income and deductions.
    (ii) Expanded affiliated group consists only of members of a single 
consolidated group. If all of the Specified Cooperatives that are 
members of an EAG are also members of

[[Page 28704]]

the same consolidated group, the consolidated group's section 199A(g) 
deduction is determined using the consolidated group's consolidated 
taxable income or loss, QPAI, and W-2 wages, from patronage sources or 
nonpatronage sources, as the case may be, rather than the separate 
taxable income or loss, QPAI, and W-2 wages from patronage sources or 
nonpatronage sources of its members.
    (4) Allocation of the section 199A(g) deduction of a consolidated 
group among its members. The section 199A(g) deduction from patronage 
sources of a consolidated group (or the section 199A(g) deduction 
allocated to a consolidated group that is a member of an EAG) is 
allocated among the patronage sources of Specified Cooperatives in 
proportion to each Specified Cooperative's patronage QPAI, regardless 
of whether the Specified Cooperative has patronage separate taxable 
income or W-2 wages for the taxable year. In allocating the section 
199A(g) deduction of a patronage source of a Specified Cooperative that 
is part of a consolidated group among patronage sources of other 
members of the same group, any redetermination of a member's patronage 
receipts, COGS, or other deductions from an intercompany transaction 
under Sec.  1.1502-13(c)(1)(i) or (c)(4) is not taken into account for 
purposes of section 199A(g). Also, for purposes of this allocation, if 
a patronage source of a Specified Cooperative that is a member of a 
consolidated group has negative QPAI, the QPAI of the patronage source 
is treated as zero.
    (e) Examples. The following examples illustrate the application of 
paragraphs (a) through (d) of this section.

    (i) Example 1. Specified Cooperatives X, Y, and Z are members of 
the same EAG but are not members of a consolidated group. X, Y, and 
Z each files Federal income tax returns on a calendar year basis. 
None of X, Y, or Z have activities other than from its patronage 
sources. Prior to 2018, X had no taxable income or loss. In 2018, X 
has taxable income of $0, QPAI of $2,000, and W-2 wages of $0, Y has 
taxable income of $4,000, QPAI of $3,000, and W-2 wages of $500, and 
Z has taxable income of $4,000, QPAI of $5,000, and W-2 wages of 
$2,500. Accordingly, the EAG's patronage source taxable income is 
$8,000, the sum of X's taxable income of $0, Y's taxable income of 
$4,000, and Z's taxable income of $4,000. The EAG has QPAI of 
$10,000, the sum of X's QPAI of $2,000, Y's QPAI of $3,000, and Z's 
QPAI of $5,000. The EAG's W-2 wages are $3,000, the sum of X's W-2 
wages of $0, Y's W-2 wages of $500, and Z's W-2 wages of $2,500. 
Thus, the EAG's section 199A(g) deduction for 2018 is $720 (9% of 
the lesser of the EAG's patronage source taxable income of $8,000 
and the EAG's QPAI of $10,000, but no greater than 50% of its W-2 
wages of $3,000, i.e., $1,500). Pursuant to paragraph (c)(1) of this 
section, the $720 section 199A(g) deduction is allocated to X, Y, 
and Z in proportion to their respective amounts of QPAI, that is 
$144 to X ($720 x $2,000/$10,000), $216 to Y ($720 x $3,000/
$10,000), and $360 to Z ($720 x $5,000/$10,000). Although X's 
patronage source taxable income for 2018 determined prior to 
allocation of a portion of the EAG's section 199A(g) deduction to it 
was $0, pursuant to paragraph (c)(2) of this section, X will have an 
NOL from its patronage source for 2018 equal to $144, which will be 
a carryover to 2019.
    (ii) Example 2. (A) Facts. Corporation X is the common parent of 
a consolidated group, consisting of X and Y, which has filed a 
consolidated Federal income tax return for many years. Corporation P 
is the common parent of a consolidated group, consisting of P and S, 
which has filed a consolidated Federal income tax return for many 
years. The X and P consolidated groups each file their consolidated 
Federal income tax returns on a calendar year basis. X, Y, P, and S 
are each Specified Cooperatives, and none of X, Y, P, or S has ever 
had activities other than from its patronage sources. The X 
consolidated group and the P consolidated group are members of the 
same EAG in 2019. In 2018, the X consolidated group incurred a 
consolidated net operating loss (CNOL) of $25,000. Neither P nor S 
(nor the P consolidated group) has ever incurred an NOL. In 2019, 
the X consolidated group has (prior to the deduction under section 
172) taxable income of $8,000 and the P consolidated group has 
taxable income of $20,000. X's QPAI is $8,000, Y's QPAI is 
($13,000), P's QPAI is $16,000 and S's QPAI is $4,000. There are 
sufficient W-2 wages to exceed the section 199A(g)(1)(B) limitation.
    (B) Analysis. The X consolidated group uses $8,000 of its CNOL 
from 2018 to offset the X consolidated group's taxable income in 
2019. None of the X consolidated group's remaining CNOL may be used 
to offset taxable income of the P consolidated group under paragraph 
(b)(3) of this section. Accordingly, for purposes of determining the 
EAG's section 199A(g) deduction for 2019, the EAG has taxable income 
of $20,000 (the X consolidated group's taxable income, after the 
deduction under section 172, of $0 plus the P consolidated group's 
taxable income of $20,000). The EAG has QPAI of $15,000 (the X 
consolidated group's QPAI of ($5,000) (X's $8,000 + Y's ($13,000)), 
and the P consolidated group's QPAI of $20,000 (P's $16,000 + S's 
$4,000)). The EAG's section 199A(g) deduction equals $1,350, 9% of 
the lesser of its taxable income of $20,000 and its QPAI of $15,000. 
The section 199A(g) deduction is allocated between the X and P 
consolidated groups in proportion to their respective QPAI. Because 
the X consolidated group has negative QPAI, all of the section 
199A(g) deduction of $1,350 is allocated to the P consolidated 
group. This $1,350 is allocated between P and S, the members of the 
P consolidated group, in proportion to their QPAI. Accordingly, P is 
allocated $1,080 ($1,350 x ($16,000/$20,000) and S is allocated $270 
($1,350 x $4,000/$20,000)).

    (f) Allocation of patronage income and loss by a Specified 
Cooperative that is a member of the expanded affiliated group for only 
a portion of the year--(1) In general. A Specified Cooperative that 
becomes or ceases to be a member of an EAG during its taxable year must 
allocate its taxable income or loss, QPAI, and W-2 wages between the 
portion of the taxable year that the Specified Cooperative is a member 
of the EAG and the portion of the taxable year that the Specified 
Cooperative is not a member of the EAG. This allocation of items is 
made by using the pro rata allocation method described in this 
paragraph (f)(1). Under the pro rata allocation method, an equal 
portion of patronage taxable income or loss, QPAI, and W-2 wages, and 
nonpatronage taxable income or loss, QPAI, and W-2 wages for the 
taxable year is assigned to each day of the Specified Cooperative's 
taxable year. Those items assigned to those days that the Specified 
Cooperative was a member of the EAG are then aggregated.
    (2) Coordination with rules relating to the allocation of income 
under Sec.  1.1502-76(b). If Sec.  1.1502-76(b) (relating to items 
included in a consolidated return) applies to a Specified Cooperative 
that is a member of an EAG, then any allocation of items required under 
this paragraph (f) is made only after the allocation of the items 
pursuant to Sec.  1.1502-76(b).
    (g) Total section 199A(g) deduction for a Specified Cooperative 
that is a member of an expanded affiliated group for some or all of its 
taxable year--(1) Member of the same EAG for the entire taxable year. 
If a Specified Cooperative is a member of the same EAG for its entire 
taxable year, the Specified Cooperative's section 199A(g) deduction for 
the taxable year (whether patronage sourced or nonpatronage sourced) is 
the amount of the section 199A(g) deduction allocated to it by the EAG 
under paragraph (c)(1) of this section.
    (2) Member of the expanded affiliated group for a portion of the 
taxable year. If a Specified Cooperative is a member of an EAG for only 
a portion of its taxable year and is either not a member of any EAG or 
is a member of another EAG, or both, for another portion of the taxable 
year, the Specified Cooperative's section 199A(g) deduction for the 
taxable year (whether patronage sourced or nonpatronage sourced) is the 
sum of its section 199A(g) deductions for each portion of the taxable 
year.
    (3) Example. The following example illustrates the application of 
paragraphs (f) and (g) of this section.


[[Page 28705]]


    (i) Example--(A) Facts. Specified Cooperatives X and Y, calendar 
year taxpayers, are members of the same EAG for the entire 2018 
taxable year. Specified Cooperative Z, also a calendar year 
taxpayer, is a member of the EAG of which X and Y are members for 
the first half of 2018 and not a member of any EAG for the second 
half of 2018. Assume that X, Y, and Z each has W-2 wages in excess 
of the section 199A(g)(1)(B) wage limitation for all relevant 
periods. In 2018, X's patronage source has taxable income of $2,000 
and QPAI of $600, Y's patronage source has a taxable loss of $400 
and QPAI of ($200), and Z's patronage source has taxable income of 
$1,400 and QPAI of $2,400.
    (B) Analysis. Pursuant to the pro rata allocation method, $700 
of Z's 2018 patronage taxable income and $1,200 of its 2018 QPAI are 
allocated to the first half of the 2018 taxable year (the period in 
which Z is a member of the EAG) and $700 of Z's 2018 patronage 
taxable income and $1,200 of its 2018 QPAI are allocated to the 
second half of the 2018 taxable year (the period in which Z is not a 
member of any EAG). Accordingly, in 2018, the EAG has taxable income 
from patronage source of $2,300 (X's $2,000 + Y's ($400) + Z's $700) 
and QPAI of $1,600 (X's $600 + Y's ($200) + Z's $1,200). The EAG's 
section 199A(g) deduction for 2018 is $144 (9% of the lesser of the 
EAG's taxable income from patronage source of $2,300 or QPAI of 
$1,600). Pursuant to Sec.  1.199A-14(c)(1), this $144 deduction is 
allocated to X's, Y's, and Z's patronage source in proportion to 
their respective QPAI. Accordingly, X's patronage source is 
allocated $48 of the EAG's section 199A(g) deduction ($144 x ($600/
($600 + $0 + $1,200))), Y's patronage source is allocated $0 of the 
EAG's section 199A(g) deduction ($144 x ($0/($600 + $0 + $1,200))), 
and Z's patronage source is allocated $96 of the EAG's section 
199A(g) deduction ($144 x ($1,200/($600 + $0 + $1,200))). For the 
second half of 2018, Z's patronage source has taxable income of $700 
and QPAI of $1,200. Therefore, for the second half of 2018, Z's 
patronage source has a section 199A(g) deduction of $63 (9% of the 
lesser of its taxable income of $700 or its QPAI of $1,200 for the 
second half of 2018). Accordingly, X's 2018 section 199A(g) 
deduction is $48 and Y's 2018 section 199A(g) deduction is $0. Z's 
2018 section 199A(g) deduction is $159, the sum of the $96 section 
199A(g) deduction of the EAG allocated to Z for the first half of 
2018 and Z's $63 section 199A(g) deduction for the second half of 
2018.

    (h) Computation of section 199A(g) deduction for members of an 
expanded affiliated group with different taxable years--(1) In general. 
If Specified Cooperatives that are members of an EAG have different 
taxable years, in determining the section 199A(g) deduction of a member 
(the computing member), the computing member is required to take into 
account the taxable income or loss, determined without regard to the 
section 199A(g) deduction, QPAI, and W-2 wages of each other group 
member that are both--
    (i) Attributable to the period that each other member of the EAG 
and the computing member are members of the EAG; and
    (ii) Taken into account in a taxable year that begins after the 
effective date of section 199A(g) and ends with or within the taxable 
year of the computing member with respect to which the section 199A(g) 
deduction is computed.
    (2) Example. The following example illustrates the application of 
this paragraph (h).

    (i) Example. (A) Specified Cooperatives X, Y, and Z are members 
of the same EAG. Neither X, Y, nor Z is a member of a consolidated 
group. X and Y are calendar year taxpayers and Z is a June 30 fiscal 
year taxpayer. Z came into existence on July 1, 2017. All of X, Y's, 
and Z's activities are patronage sourced. Each Specified Cooperative 
has taxable income that exceeds its QPAI and W-2 wages in excess of 
the section 199A(g)(1)(B) wage limitation. For the taxable year 
ending December 31, 2018, X's QPAI is $8,000 and Y's QPAI is 
($6,000). For its taxable year ending June 30, 2019, Z's QPAI is 
$2,000.
    (B) In computing X's and Y's respective section 199A(g) 
deductions for their taxable years ending December 31, 2018, X's 
taxable income or loss, QPAI and W-2 wages and Y's taxable income or 
loss, QPAI, and W-2 wages from their respective taxable years ending 
December 31, 2018, are aggregated. The EAG's QPAI for this purpose 
is $2,000 (X's QPAI of $8,000 + Y's QPAI of ($6,000)). The $180 
deduction is allocated to each of X and Y in proportion to their 
respective QPAI as a percentage of the QPAI of each member of the 
EAG that was taken into account in computing the EAG's section 
199A(g) deduction. Pursuant to paragraph (c)(1) of this section, in 
allocating the section 199A(g) deduction between X and Y, because 
Y's QPAI is negative, Y's QPAI is treated as being $0. Accordingly, 
X's section 199A(g) deduction for its taxable year ending December 
31, 2018, is $180 ($180 x $8,000/($8,000 + $0)). Y's section 199A(g) 
deduction for its taxable year ending December 31, 2018, is $0 ($180 
x $0/($8,000 + $0)).
    (C) In computing Z's section 199A(g) deduction for its taxable 
year ending June 30, 2019, X's and Y's items from their respective 
taxable years ending December 31, 2018, are taken into account. 
Therefore, X's taxable income or loss and Y's taxable income or 
loss, determined without regard to the section 199A(g) deduction, 
QPAI, and W-2 wages from their taxable years ending December 31, 
2018, are aggregated with Z's taxable income or loss, QPAI, and W-2 
wages from its taxable year ending June 30, 2019. The EAG's QPAI is 
$4,000 (X's QPAI of $8,000 + Y's QPAI of ($6,000) + Z's QPAI of 
$2,000). The EAG's section 199A(g) deduction is $360 (9% x $4,000). 
A portion of the $360 deduction is allocated to Z in proportion to 
its QPAI as a percentage of the QPAI of each member of the EAG that 
was taken into account in computing the EAG's section 199A(g) 
deduction. Pursuant to paragraph (c)(1) of this section, in 
allocating a portion of the $360 deduction to Z, Y's QPAI is treated 
as being $0 because Y's QPAI is negative. Z's section 199A(g) 
deduction for its taxable year ending June 30, 2019, is $72 ($360 x 
($2,000/($8,000 + $0 + $2,000))).

    (i) Partnership owned by expanded affiliated group--(1) In general. 
For purposes of section 199A(g)(3)(D) relating to DPGR, if all of the 
interests in the capital and profits of a partnership are owned by 
members of a single EAG at all times during the taxable year of such 
partnership (EAG partnership), then the EAG partnership and all members 
of that EAG are treated as a single taxpayer during such period.
    (2) Attribution of activities--(i) In general. If a Specified 
Cooperative which is a member of an EAG (disposing member) derives 
gross receipts from the lease, rental, license, sale, exchange, or 
other disposition of property that was MPGE by an EAG partnership, all 
the partners of which are members of the same EAG to which the 
disposing member belongs at the time that the disposing member disposes 
of such property, then the disposing member is treated as conducting 
the MPGE activities previously conducted by the EAG partnership with 
respect to that property. The previous sentence applies only for those 
taxable years in which the disposing member is a member of the EAG of 
which all the partners of the EAG partnership are members for the 
entire taxable year of the EAG partnership. With respect to a lease, 
rental, or license, the disposing member is treated as having disposed 
of the property on the date or dates on which it takes into account its 
gross receipts from the lease, rental, or license under its method of 
accounting. With respect to a sale, exchange, or other disposition, the 
disposing member is treated as having disposed of the property on the 
date it ceases to own the property for Federal income tax purposes, 
even if no gain or loss is taken into account. Likewise, if an EAG 
partnership derives gross receipts from the lease, rental, license, 
sale, exchange, or other disposition of property that was MPGE by a 
member (or members) of the same EAG (the producing member) to which all 
the partners of the EAG partnership belong at the time that the EAG 
partnership disposes of such property, then the EAG partnership is 
treated as conducting the MPGE activities previously conducted by the 
producing member with respect to that property. The previous sentence 
applies only for those taxable years in which the producing member is a 
member of the EAG of which all the partners of the EAG partnership are 
members for the

[[Page 28706]]

entire taxable year of the EAG partnership. With respect to a lease, 
rental, or license, the EAG partnership is treated as having disposed 
of the property on the date or dates on which it takes into account its 
gross receipts derived from the lease, rental, or license under its 
method of accounting. With respect to a sale, exchange, or other 
disposition, the EAG partnership is treated as having disposed of the 
property on the date it ceases to own the property for Federal income 
tax purposes, even if no gain or loss is taken into account.
    (ii) Attribution between expanded affiliated group partnerships. If 
an EAG partnership (disposing partnership) derives gross receipts from 
the lease, rental, license, sale, exchange, or other disposition of 
property that was MPGE by another EAG partnership (producing 
partnership), then the disposing partnership is treated as conducting 
the MPGE activities previously conducted by the producing partnership 
with respect to that property, provided that each of these partnerships 
(the producing partnership and the disposing partnership) is owned for 
its entire taxable year in which the disposing partnership disposes of 
such property by members of the same EAG. With respect to a lease, 
rental, or license, the disposing partnership is treated as having 
disposed of the property on the date or dates on which it takes into 
account its gross receipts from the lease, rental, or license under its 
method of accounting. With respect to a sale, exchange, or other 
disposition, the disposing partnership is treated as having disposed of 
the property on the date it ceases to own the property for Federal 
income tax purposes, even if no gain or loss is taken into account.
    (iii) Exception. No member of an EAG other than an exempt Specified 
Cooperative is attributed nonpatronage activities conducted by an EAG 
partnership. An EAG partnership is not attributed nonpatronage 
activities conducted by any member of the EAG or by another EAG 
partnership.
    (j) Applicability date. The provisions of this section apply to 
taxable years ending after the date the Treasury decision adopting 
these regulations as final regulations is published in the Federal 
Register. Taxpayers, however, may rely on these regulations until that 
date, but only if the taxpayers apply the rules in their entirety and 
in a consistent manner.
0
 Par. 3. Section 1.1388-1 is amended by adding paragraphs (f) and (g).
    The additions read as follows:


Sec.  1.1388-1  Definitions and special rules.

* * * * *
    (f) Patronage and nonpatronage. Whether an item of income or 
deduction is patronage or nonpatronage sourced is determined by 
applying the directly related use test. The directly related use test 
provides that if the income or deduction is produced by a transaction 
that actually facilitates the accomplishment of the cooperative's 
marketing, purchasing, or services activities, the income or deduction 
is from patronage sources. However, if the transaction producing the 
income or deduction does not actually facilitate the accomplishment of 
these activities but merely enhances the overall profitability of the 
cooperative, being merely incidental to the association's cooperative 
operation, the income or deduction is from nonpatronage sources. 
Patronage and nonpatronage income or deductions cannot be netted unless 
otherwise permitted by the Internal Revenue Code or regulations issued 
under the relevant section of the Internal Revenue Code, or guidance 
published in the Internal Revenue Bulletin (see Sec.  601.601(d)(2) of 
this chapter).
    (g) Effective/applicability date. The provisions of paragraph (f) 
of this section apply to taxable years ending after the date the 
Treasury decision adopting these regulations as final regulations is 
published in the Federal Register. However, taxpayers may rely on the 
provisions of paragraph (f) of this section until the date the Treasury 
decision adopting these regulations as final regulations is published 
in the Federal Register.

Kirsten Wielobob,
Deputy Commissioner for Services and Enforcement.
[FR Doc. 2019-11501 Filed 6-18-19; 8:45 am]
 BILLING CODE 4830-01-P