Cooperatives have been given conflicting guidance from the IRS concerning the proper treatment of discounting of capital credits. Specifically, some pronouncements indicate that the discount (i.e., the difference between face value and present value) should be treated as non-member income under Section 501(c)(12), while others state it is not gross income at all. These widely differing results put cooperatives in a difficult position in deciding whether to implement a discounting program.
In a private letter ruling issued earlier this month, the IRS ruled that a telephone cooperative’s discounting program did not generate gross income. The ruling is significant because, otherwise, the income could potentially be classified as non-member income. An unexpected increase in non-member income could cause a cooperative to fail the Member Income Test, rendering the cooperative as a taxable entity.