T.C. Memo. 2005-46
UNITED STATES TAX COURT
DENNIS O. FULTZ AND LINDA G. FULTZ, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 4848-00. Filed March 10, 2005.
Jon J. Jensen, for petitioners.
Blaine Holiday, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
GOEKE, Judge: Petitioners petitioned the Court to
redetermine deficiencies respondent determined in their Federal
income taxes for 1993, 1994, and 1995 of $5,883, $9,299, and
$9,833, respectively. Some of the adjustments in respondent’s
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original determinations are no longer disputed.1 The issue
remaining for decision is whether petitioners are liable for
self-employment tax under section 14012 on value-added payments
that they received from an agricultural cooperative. We hold the
value-added payments are subject to the self-employment tax.
FINDINGS OF FACT
Some of the facts have been stipulated. The stipulation of
facts and the attached exhibits are incorporated herein by this
reference. Petitioners, husband and wife, resided in Tracy,
Minnesota, at the time their petition was filed. During all
relevant years, Dennis Fultz (Mr. Fultz) was a farmer and ran a
farm operation involving grain and livestock. Linda Fultz (Mrs.
Fultz) was also engaged in the farm operations in addition to
running their household.
1. Fultz Farms, Inc.
Fultz Farms, Inc. (Fultz Farms), was incorporated in
December 1990 by Bernard Fultz, Mr. Fultz’s father. During the
1
Respondent has conceded an adjustment in “1.A. AG Rent-SE
Income” for 1993, 1994, and 1995, along with the corollary and
computational adjustments associated with that adjustment. In
addition, petitioners presented no argument nor provided any
evidence with regard to adjustments “1.B. Dividends” or “1.F.
Patronage Dividends” for any year and therefore have conceded
those adjustments.
2
Unless otherwise indicated, all section references are to
the Internal Revenue Code in effect for the years in issue, and
all Rule references are to the Tax Court Rules of Practice and
Procedure. All dollar amounts are rounded.
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years at issue, petitioners owned approximately 470 acres of farm
land which they leased to Fultz Farms. Fultz Farms was involved
in growing crops, such as corn and soybeans, and hog farming.
The corn and grain grown on the farm also provided feed for
livestock. During the years in issue, Mr. Fultz was president of
Fultz Farms, and Eric Fultz, Mr. Fultz’s brother, was vice
president, secretary, and treasurer of Fultz Farms.3 Mr. Fultz
and Eric Fultz were also directors. During 1993, 1994, and 1995,
Mr. Fultz owned 33 percent of Fultz Farms.
2. Minnesota Corn Processors
In approximately 1982, Minnesota Corn Processors (MCP), an
agricultural cooperative, was formed under the laws of the State
of Minnesota, by a group of Minnesota farmers.
MCP’s goal was to collectively provide a corn processing
capability to its members and to realize profits for the members
based upon the increased values of that processed corn. Had MCP
not been created, petitioners and other farmers would have been
limited to selling their corn as raw corn, and the processing
profits would have been realized by others.
MCP’s articles of incorporation authorized it to issue
30,000 shares of common stock at $50 per share and 100,000 shares
of nonvoting preferred stock at $50 per share. The shares of
3
Bernard Fultz resigned as vice president of Fultz Farms in
January 1992 and as a director of Fultz Farms sometime between
January 1993 and January 1994.
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such stock could be held only by producers of agricultural
products “who reside in the territory served”. “Producers”
referred to persons “actually engaged in the production of one or
more of the agricultural products handled” by MCP. Producers of
agricultural products eligible for membership and having acquired
a minimum of 5 shares of common stock of MCP were recognized as
members.
a. Units of Equity Participation
Mr. and Mrs. Fultz collectively purchased 30,000 shares of
stock in MCP in approximately August 1982 when MCP was first
organized. Both petitioners held enough shares of MCP stock to
qualify as members of MCP. As members, they were able to
purchase additional “units of equity participation” (units) in
MCP. Petitioners collectively purchased an additional 5,000
units in December 1992. From October 1983 to December 1995, Mr.
Fultz individually purchased a total of 40,000 units. Mrs. Fultz
individually purchased 65,000 units in October 1983. Each unit
represented one potential bushel of corn that the member might
agree to supply to MCP.
In order to supply corn to MCP, a producer was required to
hold at least 5,000 units. Corn producers who wished to supply
corn to MCP were also required annually to execute a uniform
marketing agreement (UMA). The producer was obligated to deliver
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to MCP the number of bushels provided in the UMA. Both Mr. Fultz
and Mrs. Fultz executed UMAs for 1993, 1994, and 1995.
b. UMAs Between MCP and Petitioners
Mr. Fultz executed UMAs dated October 18, 1993, and October
1, 1996. Mrs. Fultz executed a UMA dated October 18, 1993.
Petitioners jointly executed UMAs dated April 14, 1982, and
October 1, 1991. Collectively, their units and the UMAs defined
the scope of petitioners’ obligation to MCP.
Pursuant to the UMAs between petitioners and MCP,
petitioners were obligated to deliver to MCP a certain amount of
corn during each processing year.4 The UMAs outlined the terms
with respect to production, processing, and marketing of the
corn. Specifically, the UMAs executed by petitioners obligated
MCP to process the grain each year in a manner it deemed to be in
the best interests of the cooperative and its members and to
market the processed corn products at the best price that could
be obtained on the open market. Petitioners were obligated to
acquire and deliver the corn to MCP. In the UMAs, petitioners
appointed MCP as their agent in both the selling and marketing of
the corn committed to MCP. In addition, MCP had “sole and
4
MCP’s processing year started on the first day of October
of each year and ended on the last day of September of the
following year.
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complete discretion in all phases of the marketing activity”.
The UMAs did not obligate Fultz Farms; only petitioners and MCP
were parties to the agreements.
The UMAs specified that MCP was obligated to pay petitioners
as follows: (1) An initial payment of 80 percent of the value
per bushel of corn delivered within 5 days of MCP’s acceptance of
the corn; (2) storage and interest payments for corn delivered
after October 1 of each processing year; (3) an additional
payment (“value-added payment”) for the value added to the corn
during its processing by MCP, which was to be based on a yearend
determination of MCP’s “net proceeds from all of its operations”
which would further compensate petitioners for their corn and
still allow MCP to retain its financial integrity; and (4)
patronage dividends.
Under the UMAs, petitioners were required to produce and
deliver corn to MCP for processing three times a year (October
through January; February through May; and June through
September), giving approximately a third of the total required
annual quantity at each delivery time. Petitioners were free to
satisfy their delivery obligations through several means. They
could meet these obligations to MCP with corn that was grown on
the farm or acquired on the open market, by hiring an outside
grower, or from pool corn.
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Pool corn was corn maintained by MCP and made available for
members to use in order to meet their production and delivery
obligations under the UMAs. A member using pool corn completed a
“pool corn certificate” which required that member to check a box
on the certificate requesting that the obligation be fulfilled
through the pool and to charge the member’s account with an
acquisition fee of 5 cents per bushel or the going charge at that
time for this service. Any check that was sent to petitioners
would have been offset by whatever charge they had incurred for
the pool corn. The pool corn certificates were sent directly to
petitioners, not Fultz Farms. If Fultz Farms fell short of corn
to satisfy petitioners’ obligation to MCP, on some occasions corn
was purchased by Fultz Farms from a local elevator in lieu of
using pool corn.
For 1993, there were no production shortfalls experienced by
Fultz Farms in the required bushels to be produced by
petitioners, and no pool corn was purchased by petitioners. For
both 1994 and 1995, there were shortfalls in the required bushels
petitioners were to produce, and as a result petitioners had to
purchase 89,300 bushels of pool corn in 1994 to supplement the
64,191 bushels actually delivered and 28,800 bushels of pool corn
to supplement the 15,300 bushels actually delivered in 1995.
For all years, processed corn had a higher fair market value
than raw corn.
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3. Petitioners’ 1993, 1994 and 1995 Tax Years
a. Leases Between Petitioners and Fultz Farms
For 1993, 1994, and 1995, petitioners both executed separate
lease agreements with Fultz Farms. These leases reflected Mr.
Fultz and Mrs. Fultz in their individual capacities as lessors
and Fultz Farms as lessee.
The leases collectively provided that petitioners would
receive rent from Fultz Farms for a house, farm land, and MCP
shares. Because of the parties’ partial settlement, only the MCP
shares are relevant to this opinion. The lease rate on MCP
shares “rented” from petitioners was 50 cents per bushel of corn
delivered to MCP. MCP was not a party to the lease arrangement,
and Fultz Farms was neither a shareholder nor a member of MCP.
Fultz Farms had no contractual relationship with MCP with respect
to the value-added payments.
In 1993, 1994, and 1995, petitioners received value-added
payments from MCP by check. MCP issued the checks to petitioners
either jointly or individually. When petitioners received the
checks for value-added payments from MCP in one or both of their
names, they deposited the checks within a day or two, and Mr.
Fultz then wrote out personal checks to Fultz Farms for the same
amounts.
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b. Petitioners’ Member Activity With MCP
In 1993, petitioners jointly received value-added payments
from MCP of $73,813.10; for 1994 petitioners received total
value-added payments of $50,302.50; for 1995 Mr. Fultz received
value-added payments of $23,652. The record for Mrs. Fultz for
1995 is incomplete, but the amount she received is not disputed
by the parties. The amounts of the value-added payments had no
impact on the amounts petitioners were to receive under the
leases.
c. Petitioners’ Income Tax Returns and Respondent’s
Determinations
Petitioners timely filed their 1993, 1994, and 1995 Federal
income tax returns. With respect to self-employment tax,
petitioners completed and attached to their 1993, 1994, and 1995
Federal income tax returns Section B-Long Schedules SE,
Computation of Self-Employment Tax. Petitioners reported self-
employment tax of $423, $220, and zero for 1993, 1994, and 1995,
respectively.
In the notice of deficiency, respondent determined that
petitioners’ self-employment income from MCP was $49,500,
$53,225, and $72,325 for 1993, 1994, and 1995, respectively.
These amounts do not match the actual value-added payments to
petitioners because respondent made adjustments based on the
amount and timing of the net payments from Fultz Farms to
petitioners per the lease related to the value-added payments
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from MCP. The Fultz Farms payments were made after the issuance
of the MCP value-added checks to petitioners. Netted across the
years, respondent’s adjustments appear to be lower than the
amounts petitioners received from MCP. Petitioners do not
contest respondent’s adjustment calculations. We accept these
adjustments as a partial concession by respondent. However, our
holding is based upon the original payments from MCP to
petitioners, not petitioners’ relationship with Fultz Farms.
Respondent also made an adjustment increasing petitioners’
income tax deduction equal to one-half of the amount of
petitioners’ self-employment tax for each of 1993, 1994, and
1995.
OPINION
This case presents the question whether value-added payments
petitioners received from MCP, a Minnesota agricultural
cooperative, are subject to self-employment tax under section
1401(a). Payments from MCP have previously been the subject of
decisions of this Court and the Court of Appeals for the Eighth
Circuit, where an appeal of this case would lie. In Bot v.
Commissioner, 118 T.C. 138 (2002), affd. 353 F.3d 595 (8th Cir.
2003), this Court held and the Court of Appeals affirmed that
value-added payments received by members of MCP were subject to
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self-employment tax, and that the self-employment income of a
member of MCP includes income that the member derives from the
business conducted by MCP as an agent of the member.
It has been stipulated that before the period in dispute
petitioners purchased shares of stock in MCP and “units of equity
participation”. Petitioners entered into UMAs with MCP in which
they represented they were producers or owners of the corn they
would deliver under the MCP program. Corn was delivered to MCP
to meet petitioners’ obligations to MCP, and they received value-
added payments from MCP. All these factors were present in Bot.
Nevertheless, petitioners maintain the present case should be
distinguished from Bot because they entered into a lease
agreement with Fultz Farms under which they purportedly assigned
to Fultz Farms all their responsibilities and duties as holders
of the units and all the value-added payments due from MCP.
Petitioners also assert that although they received the checks
representing the value-added payments from MCP, they immediately
wrote a check to Fultz Farms for the full amount of each check
issued to them by MCP. Petitioners maintain that once Fultz
Farms was incorporated, they no longer had the assets and ability
needed to grow the corn required by their equity participation in
MCP. Petitioners represent that Fultz Farms assumed the
obligation to produce the corn for MCP pursuant to the lease, and
the payments they personally received from Fultz Farms were akin
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to the rent on the farm real estate paid to them by Fultz Farms.
Accordingly, petitioners argue they were not subject to self-
employment tax. See McNamara v. Commissioner, 236 F.3d 410 (8th
Cir. 2000), revg. T.C. Memo. 1999-333.
This dispute is simply stated as whether the lease
arrangement with Fultz Farms precludes the inclusion of the MCP
value-added payments in petitioners’ self-employment income.
There are several aspects of the UMAs with MCP and the facts
regarding the MCP payments that present impediments to
petitioners’ position.
To purchase units in MCP, the purchaser was required to own
stock in MCP. Petitioners owned the MCP stock; Fultz Farms did
not. Petitioners entered into UMAs with MCP that appointed MCP
as their agent, and they agreed to deliver the requisite
quantities of corn to MCP each year. Fultz Farms was not a party
to any agreement with MCP. In their agreements with MCP,
petitioners represented themselves as the growers or owners of
corn. Petitioners were personally obligated to MCP and
personally benefited from their agreements with MCP through the
receipt of payments from MCP.
Petitioners’ position presents an argument analogous to the
taxpayers’ argument in Bot v. Commissioner, supra. The Bots
argued that their intent in purchasing the MCP equity units was
to make an investment; they reasoned that this subjective intent
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prevented the application of the self-employment tax to the
proceeds received from MCP. This Court and the Court of Appeals
for the Eighth Circuit rejected this argument. The Court of
Appeals explained why the Bots’ argument failed:
Despite their assertions that they bought the units of
participation as an investment, the program operated on
the basis that they were producers or owners of the
corn delivered under the program and that MCP acted as
their agent in further processing and marketing the
corn. The Bots should be held to their
representations. If they want the benefits of the coop
program, they must bear the burdens as well. Cf.
Estate of Bean v. Comm’r., 268 F.3d 553, 557 (8th Cir.
2001) (“Once chosen, the taxpayers are bound by the
consequences of the transaction as structured, even if
hindsight reveals a more favorable tax treatment.”).
Bot v. Commissioner, 353 F.3d at 601-602. This reasoning applies
to petitioners’ assertion that they assigned their rights under
the MCP agreements to Fultz Farms because petitioners’ purported
assignment did not bind MCP. Fultz Farms did not own any stock
in MCP, was not a member of MCP, and would not have been able to
contract with MCP for the delivery of the corn. MCP paid
petitioners, not Fultz Farms, as the growers or owners of the
corn, and MCP acted as petitioners’ agent in marketing the corn.
Accordingly, we find this case is controlled by Bot v.
Commissioner, 118 T.C. 138 (2002), and thus hold the value-added
payments from MCP must be included in petitioners’ income from
self-employment.
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In light of the foregoing, and to reflect concessions by the
parties,
Decision will be
entered under Rule 155.