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Pension Protection Act of 2006
On August 17, President Bush signed into law the Pension Protection Act (Act) of 2006,1
the first comprehensive pension legislation in more than 30 years. The Act is massive,
is designed to strengthen traditional pension plans that cover approximately 44 million
Americans (primarily in the manufacturing and other non-service industries) and will
certainly make retirement planning for businesses and individuals more complex.2
The Act also creates new rules governing charitable donations for businesses and

INSIDE individuals, as well as the operation of charities. In addition, the Act includes numerous
miscellaneous provisions and technical corrections.

Pension provisions
The Act implements a higher limit on the amount of employer contributions that are
• Biofuels: policy deductible while generally requiring higher funding levels in order to qualify plan tax
and business organization status. Under prior law, an employer could deduct plan contributions up to 100 percent
issues of the plan’s current liability, with additional contributions subject to a 10 percent excise
tax. Under the Act, for plans beginning in 2006 and 2007, the maximum deductible
amount is 150 percent of current plan liability.3 Beginning in 2008, deductible contribu-
• Federal Register tions may be made up to an amount equal to the excess of the funding target, normal
costs, and a “cushion account” equal to 50 percent of target liability plus accountability
for projected compensation increases over the value of the plan assets.4 Plans with
100 or fewer participants get a break on computing benefit increases for highly
compensated employees.5 The deduction limit for multiemployer plans increases to
140 percent of current liability.6
The Act requires that most pension plans must become fully funded over a seven-
year period. The transition from current 90 percent funding to 100 percent full funding
is gradual. But, none of the funding rules apply to plan years starting before 2008. After
2007, transition rules apply. Plans that are not fully funded at the start of 2008 may work
on meeting interim targets of 92 percent in 2008, 94 percent in 2009, and 96 percent in
2010.7 Plans in existence in 2007 that have a pre-funding balance may maintain a
Solicitation of articles: All AALA
funding standard carryover balance until reaching zero, and new plans established
members are invited to submit articles after 2007 are ineligible for most of the transition rules.8
to the Update. Please include copies of “At-risk” plans are subject to accelerated contributions.9 Companies that are below
decisions and legislation with the ar- 80 percent funded cannot use credit balances for funding or making promises to
ticle. To avoid duplication of effort, provide enhanced or new benefits. Plans that are less than 60 percent funded will be
please notify the Editor of your pro- restricted from offering any lump-sum benefit payments, and new accruals are frozen
posed article. in those plans.
Measuring liabilities is critical to determining full funding under the Act. The Act
specifies that the interest rate to be used for 2006 and 2007 can be based on investment-
grade corporate bonds.10 In 2008, the interest rate will be based on a three-segmented
yield curve.11
In future issues: Effective for plan years beginning after 2009, the Act provides for a new kind of hybrid
Conservation easements: pension plan for employers with 500 or fewer employees.12 The new “DB/K plan”
smart growth or sprawl combines a traditional defined benefit pension plan with a 401(k) savings plan.13 The
promotion? plan will provide a lower employer-paid guaranteed lifetime monthly retirement
benefit that could be supplemented by voluntary tax deferred contributions by
employees.14 The minimum pension benefit, payable to employees who work three
or more years for the employer, will be equal to the greater of one percent of average
pay during the last three years of work multiplied by the number of years worked under
the plan, up to 20 years, or 20 percent of final average pay.15 The 401(k) component of
the plan requires the employer to match at least 50 percent of an employee’s
contributions up to 4 percent of the employee’s salary.16
The Act also provides liability protection for employers against lawsuits based on
age-discrimination for converting a pension plan to a hybrid “cash balance” plan.17

Retirement savings provisions
Under the Act, 401(k), IRA and similar providers may offer personalized investment
Cont. on page 2


advice to account holders, but cannot qualified retirement plan, government ties.39 Likewise, the Act extends through
advise employers about which funds and plan, or tax sheltered annuity into an IRA 2007 the enhanced deduction for books
investments to include in their plans.18 with distributions only taxed as normal donated to public schools by C corpora-
The Act allows taxpayers to deposit distributions are taken. The Act extends tions.40
their tax refunds into an IRA, and specifies this treatment to non-spouse beneficia- For 2006 and 2007 only, the Act raises the
that the Treasury Secretary is to issue an ries. 23 deduction limits for qualified conserva-
appropriate Form to report such deposits The Act allows direct rollovers (rather tion easements from 30 percent to 50
for tax years beginning after 2006.19 In than two-step rollovers) from a qualified percent of adjusted gross income.41 For a
addition, military reservists called to ac- retirement plan, tax-sheltered annuity or donor that is a “qualified farmer or
tive duty after September 11, 2001, and governmental plan directly to a Roth IRA rancher”42 the deduction limit is 100 per-
before December 31, 2007, for at least 180 and will treat it as a Roth conversion if all cent provided the donated property re-
days, may make penalty-free early distri- other conversion qualifications are met.24 mains available for agricultural produc-
butions from their IRAs, 401(k)s, and simi- tion.43
lar arrangements.20 Such withdrawals may Permanency of EGTRRA provisions Effective for contributions through 2007,
be re-contributed within two years after The Act repeals the sunset provisions of the reduction in shareholder stock basis in
the end of active duty to avoid income tax EGTRRA applicable to retirement sav- an S corporation due to a charitable con-
on the distributions.21 ings. Provisions made permanent include: tribution by the corporation equals the
Under the Act, the Treasury is to issue • Ceiling on IRA contributions ($4,000 in shareholder’s pro rata share of the ad-
rules within 180 days of enactment that 2006; $5,000 in 2008; inflation adjusted there- justed basis of the contributed property.44
allow 401(k) plan withdrawals for hard- after); 25 The Act also increases federal over-
ships and unforeseen financial emergen- • Higher dollar limits on defined contri- sight of charitable organizations in certain
cies with respect to any person who is bution plans ($44,000 in 2006); elective areas, and includes numerous miscella-
listed as a beneficiary under the plan.22 deferrals (including $15,000 in 2006 for neous provisions applicable to charities,
Under prior law, a taxpayer could roll 401(k) plan deferrals);26 457 plan deferrals modifies the thresholds for substantial
over a deceased spouse’s interest in a ($15,000 in 2006); SIMPLE plan contribu- and gross valuation misstatements, and
tions ($10,000 in 2006);27 imposes new penalties on appraisers who
• Increases in the annual benefit limit provide bogus appraisals.45
under a defined benefit plan ($175,000 for –Roger A. McEowen, Iowa State
2006);28 University, Ames, Iowa.
• Permanent catch-up contributions for Reprinted from 17 Agric. L. Dig. 129
older workers ($1,000 after 2005 for IRAs (2006)
(not adjusted for inflation), $2,500 for
SIMPLE plans, $5,000 for 401(k) plans (ad- H.R. 4, P.L. 109-280.
justed for inflation in $500 increments));29 2
The Labor Department estimates that
• Higher deductible amounts for em- approximately 30,000 pension plans are
VOL. 23, NO. 8, WHOLE NO. 273 AUGUST 2006
AALA Editor..........................Linda Grim McCormick ployer contributions to employee retire- presently underfunded by $450 billion.
ment plans (inflation-adjusted to $220,000 Act, Sec. 801(d), amending I.R.C. §
2816 C.R. 163, Alvin, TX 77511
Phone: (281) 388-0155 in 2006);30 404(a)(1)(D), clause (i).
E-mail: • Roth 401(k)s and 403(b)s;31 4
Act, Sec. 801(a), amending I.R.C. § 404.
Contributing Editors: Roger McEowen, Ames, IA; Doug
• Start-up credit for new small em- Act, Sec. 801(a)(4).
O’Brien, Fayetteville, AR; Robert P. Achenbach, Eugene, ployer-sponsored plans;32 6
Act, Sec. 802(a), amending I.R.C. §
OR. • Defined benefit plan limits;33 404(a)(1)(D), effective for years beginning
For AALA membership information, contact Robert • Saver’s credit (with gross income after 2007.
Achenbach, Executive Director, AALA, P.O. Box 2025, amounts used to compute the amount of Act, Sec. 112, amending I.R.C. § 430.
Eugene, OR 97405. Phone 541-485-1090. E-mail 8 the credit indexed for inflation beginning Id. However, Delta and Northwest
in 2007; however the credit itself is not airlines are allowed 17 years to fully fund
Agricultural Law Update is published by the American
Agricultural Law Association, Publication office: County
adjusted for inflation);34 their plans. Other airlines get 10 years to
Line Printing, Inc. 6292 NE 14th St., Des Moines, IA 50313. • I.R.C. §529 plans. 35 fully fund plans. Act, Sec. 402, effective for
All rights reserved. First class postage paid at Des Moines, plan years after Aug. 17, 2006.
IA 50313. 9
Charitable donation provisions An “at-risk” plan is (1) less than 80
This publication is designed to provide accurate and Effective after August 17, 2006, the Act percent funded, without regard to at-risk
authoritative information in regard to the subject matter
covered. It is sold with the understanding that the eliminates a tax deduction for used cloth- liabilities; and (2) less than 70 percent
publisher is not engaged in rendering legal, accounting, or ing and household items unless the items funded counting at-risk liabilities.
other professional service. If legal advice or other expert
assistance is required, the services of a competent
are in “good” condition.36 The Act also 10
Act, Sec. 401.
professional should be sought. requires that cash donations, of any amount, Act, Sec. 302, amending 29 U.S.C. §
must be substantiated either by a can- 1055(g)(3) and I.R.C. § 417(e)(3), effective
Views expressed herein are those of the individual
authors and should not be interpreted as statements of celled check, bank record, or written sub- for plan years beginning after 2007.
policy by the American Agricultural Law Association. stantiation from the charity indicating the Act, Sec. 903, amending I.R.C. § 414.
Letters and editorial contributions are welcome and amount of the contribution, the date the Under current law, employee contri-
should be directed to Linda Grim McCormick, Editor, 2816 contribution was made, and the name of butions to traditional pension plans are
C.R. 163, Alvin, TX 77511, 281-388-0155.
the charity.37 not tax deferred. Thus, few pension plans
Copyright 2006 by American Agricultural Law The Act allows taxpayers to make tax- require or permit employee contributions.
Association. No part of this newsletter may be reproduced free distributions from IRAs (both tradi- Instead, many employers supplement
or transmitted in any form or by any means, electronic or
mechanical, including photocopying, recording, or by any tional and Roth) for charitable purposes their pension plans with separate 401(k)
information storage or retrieval system, without permission through 2007, with a maximum annual cap plans which permit employees to defer
in writing from the publisher.
of $100,000.38 taxes on their contributions.
The Act also extends through 2007 the Act, Sec. 903, amending I.R.C. § 414.
food donation rules contained in the Id.
Katrina Relief Act of 2005 for partnerships, Id.
S corporations, and other business enti- Cont. on page 3

Pension Act/Cont. from page 2
Federal Register Summary from 8/10-8/25, 2006
The conversion impacts older em- Note: no Federal Register items in this storage space may be licensed for the
ployees to a greater degree inasmuch as issue but here are two other items: 2006 crops of wheat, corn, and grain sor-
an older employee has fewer years to FARM LABOR. The National Agricul- ghum. Upon written application, the FSA
build up savings. But, an employer’s alter- tural Statistics Service has issued farm will continue to authorize and license the
native to switching to a hybrid plan may be employment figures as of August 18, 2006. use of temporary grain storage space.
to leave employees with no pension plan There were 1,202,000 hired workers on the Such space may be used from the time of
at all. nation’s farms and ranches the week of initial licensing until July 1, 2007. Tempo-
Act, Sec. 601, amending 29 U.S.C. § July 9-15, 2006, down 11 percent from a rary grain storage structures must be
1108(b), effective for advice provided af- year ago. Of these hired workers, 875,000 operated in conjunction with a USWA-
ter December 31, 2006. workers were hired directly by farm op- licensed grain warehouse. In addition: (1)
Act, Sec. 830. Also, in I.R. 2006-85 (May erators. Agricultural service employees an asphalt, concrete, or other approved
31, 2006), IRS announced that, effective on farms and ranches made up the re- base material must be used; (2) rigid self-
January 2007, taxpayers could split their maining 327,000 workers. Farm operators supporting sidewalls must be used; (3)
refunds and deposit them in as many as paid their hired workers an average wage aeration must be provided; (4) acceptable
three different bank accounts. IRS will of $9.74 per hour during the July 2006 covering, as determined by FSA, must be
issue new Form 8888 for taxpayers to use reference week, up 36 cents from a year provided; (5) grain must be fully insured
to split their refunds in time for the 2007 earlier. Field workers received an aver- for all losses; (6) warehouse operators
filing season. age of $8.95 per hour, up 34 cents from must meet all financial and bonding re-
Act, Sec. 827, amending I.R.C. § 72(t)(2), April 2005, while livestock workers earned quirements of the USWA; (7) warehouse
effective for distributions after Septem- $9.30 per hour compared with $9.14 a year operators must maintain a separate
ber 11, 2001. earlier. The field and livestock worker record of all grain stored in temporary
Id. combined wage rate, at $9.56 per hour, grain storage space and must account for
Act, Sec. 826. The rules are to be was up 30 cents from last year. The num- such grain in the Daily Position Record.
consistent with hardship withdrawals now ber of hours worked averaged 40.9 hours USWA licensees should direct questions
allowed for spouses and I.R.C. § 152 de- for hired workers during the survey week, regarding the use of temporary grain stor-
pendents. Id. up 1 percent from a year ago. All NASS age to Terry Chapman, Chief, Licensing
Act, Sec. 829, amending I.R.C. § 402(c), reports are available free of charge on the Branch, Warehouse License and Exami-
applicable for distributions after 2006. internet. For access, go to the NASS Home nation Division, at: Kansas City Commod-
Act, Sec. 824, amending I.R.C. § 408A(e), Page at: http:/ Sp Sy ity Office, Mail Stop 9148, P.O. Box 419205,
effective for distributions after 2007. 8 (8-06). Kansas City, MO 64141-6205. Telephone:
Act, Sec. 811. WAREHOUSES. The FSA, Warehouse 816-926-6474; Facsimile: 816-926-1774, E-
Id. and Inventory Division, has announced mail:
Id. the conditions under which temporary –Robert P. Achenbach,
Id. AALA Executive Director
Id. ing paragraphs (E) and (F) as (F) and (G), and available on SEC EDGAR website).
Id. effective for tax years through 2007. These LLC’s need to be especially wary of
Id. 44
Act, Sec. 1203, amending I.R.C. § acting in such a way as would cause the
Act, Sec. 812, eliminating I.R.C. § 25B(h). 1367(a)(2), effective for contributions made IRS to deem the LLC as a “publicly traded
Act, Sec. 1304. in tax years after Dec. 31, 2005, and before partnership,” and thus exposing it to being
The Act does not define “good condi- January 1, 2008. taxed as a corporation. See 26 U.S.C. § 7704
tion.” 45
Act, Sec. 1219, amending I.R.C. § § 6662, (stating that a publicly traded partnership
Act, Sec. 1217, amending I.R.C. § 170(f), 6664, and adding I.R.C. § 6695A, effective shall be taxed as a corporation).
effective for tax years beginning after for returns filed and appraisals prepared 64
“In the late 1980s a single company,
Aug. 17, 2006. with respect to returns or submissions Archer Daniel Midlands, owned almost 80
Act, Sec. 1201, amending I.R.C. § 408(d). filed after Aug. 17, 2006. percent of the nation’s ethanol.” Mike
The provision is inapplicable for any por- Morris and Amanda Hill, Ethanol Opportu-
tion of a withdrawal that would have been nities and Questions, National Center for
otherwise taxable. Id. Biofuels/Cont. from page 7 Sustainable Agriculture, at 11 (2006), avail-
Act, Sec. 1202, amending I.R.C. § products into alcohol meets the require- able at
170(e)(3)(C)(iv), effective for contributions ments of section 521”) (citing Rev. Rul. 81- new_pubs.php/2006/07/20/
made after 2005 and before 2008. 96, 1981-1 C.B. 360). ethanol_opportunities_and_questions.
Act, Sec. 1204, amending I.R.C. § 57
26 U.S.C. § 521(b)(2). 65
David Morris, Ownership Matters: Three
170(e)(3)(D)(iv), effective for contributions 58
Fredrickson, supra note 56, at 4. Steps to Ensure a Biofuels Industry That Truly
made after 2005 and before 2008. 59
15 U.S.C. §77b(a)(11). Benefits Rural America, Institute for Self
Act, Sec. 1206, adding I.R.C. § 60
See Goforth supra note 52, at 18 to 20 Reliance, at 6 (Feb. 2006), available at
170(b)(1)(E)(i), and redesignating existing (discussing the intrastate offering exemp-
paragraphs (E) and (F) as (F) and (G), tion). ownershipbiofuels.pdf.
effective for tax years through 2007. 61 66
The term “qualified farmer or rancher” searchedgar/webusers.htm. 67
Id. at 9.
means a taxpayer whose gross income 62
See e.g. Southern Iowa Energy, LLC, 68
Renewable Fuels Association website,
from the trade or business of farming as Pre-Effective Amendment 4 to Form SB-2, Legislative Actions: State (last visited Aug.
defined by I.R.C. § 2032(e)(5) exceeds 50 at 7 (May 2006) (available on file with the 17, 2006),
percent of the taxpayer’s gross income author or on SEC EGDGAR website). policy/actions/state/.
for the tax year. 63 See e.g. Operating Agreement of 69
See e.g. Minn. Stat. § 41A.09.
Act, Sec. 1206, adding I.R.C. § Homeland Energy Solutions, LLC ¶9.2 (ef-
170(b)(1)(E)(iv), and redesignating exist- fective March 9, 2006) (on file with author

Biofuels: policy and business organization issues
By Doug O’Brien
sic ethanol–for instance perennial tall risk of a policy change. To understand this
The burgeoning renewable fuels industry grasses or fast growing trees. 7 In yet regulatory risk, one must first understand
has the potential to radically reshape pro- another example, around 90 farms in the the underlying policies.16
duction agriculture.1 Because of certain country are already producing methane
federal and state policies, as well as the from animal waste by using anaerobic Renewable fuels standard
high price of petroleum, people are look- digesters with their manure storage facili- The RFS essentially sets a mandate for
ing to renewable fuels to provide a greater ties. 8 demand of renewable fuels into the fu-
proportion of U.S. energy needs. The re- To gain a sense of the significance of the ture. The RFS requires oil refineries, fuel
sult is that the renewable fuels sector is biofuels movement to the corn sector, one blenders, and oil importers to use a cer-
currently one of the most significant can look at some of the projections of corn tain number of gallons of renewable fuels
growth industries in the country. usage and ethanol production over the in the nation’s motor vehicle fuel supply.17
Farmers obviously have an important next five years. The Food and Agriculture The applicable volume of motor fuel for
role to play in this movement. Whether as Policy Research Institute (FAPRI) July 2006 2006 is four billion gallons and ramps up to
producers of renewable feedstock, inves- Baseline update reports that in the 2005/ 7.5 billion gallons by 2012.18 For purposes
tors in renewable fuel plants, or consum- 2006 crop year about eighteen percent of of the RFS, renewable fuels means fuel
ers of the renewable fuels, farmers have the corn crop was used to produce fuel “produced from grain, starch, oilseeds,
a direct interest in how the sector devel- alcohol.9 The same report projects by the vegetable, animal, or fish materials in-
ops. The renewable fuel boom has impli- 2010/2011 crop year, nearly thirty-two cluding fats, greases, and oils, sugarcane,
cations across the agricultural sector– percent of the corn crop will be devoted to sugar beets, sugar components, tobacco,
from the land use choices such as the fuel alcohol.10 In 2005, U.S. processors potatoes, or other biomass; or ... is natural
possibility Conservation Reserve Program produced about 3.9 billion gallons of etha- gas produced from a biogas source, in-
acres will be drawn into use for renewable nol.11 Iowa is by far the leading ethanol cluding a landfill, sewage waste treatment
energy, to the livestock sector that will producer with 1.7 billion gallons of capac- plant, feedlot, or other place where decay-
need to compete for feedstuffs.2 To be ity online or under construction.12 Other ing organic material is found.”19 The Envi-
sure, these indirect effects will ripple leading states include Nebraska, Illinois, ronmental Protection Administration Ad-
across farm country.3 The focus of this South Dakota, and Minnesota. Meanwhile, ministrator may waive the RFS require-
article, however, is on some of the direct about 400 million gallons of biodiesel were ments for one or more states upon a
policy and legal issues advisors should produced last year, with a possibility of up determination that the RFS will severely
think about in considering how to advise to 714 million gallon capacity if all cur- harm the economy or environment, or
those who want to participate in the re- rently planned projects are completed.13 that a sufficient supply does not exist.20
newable energy industry. The article will As mentioned earlier, among the main The RFS is extremely important to the
first show a snapshot of the sector and reasons for the quick growth in this area biofuels industry because it essentially
then will go on to describe some of most are certain federal laws and programs. guarantees a certain level of demand for
significant federal renewable energy poli- The next section will summarize some of renewable fuels. So participants now are
cies.4 The article will then focus on direct the more significant policy. assured a certain segment of the trans-
legal issues, in particular some business portation fuel market. The big question is
organization issues. Important federal laws and programs what happens if and when the sector ex-
The development of the biofuels indus- ceeds the RFS – will the market continue to
Background of the renewable fuels try owes a great deal to certain federal support the extra gallon of ethanol or
industry policies that (1) subsidize the cost of pro- biodiesel?
People began to focus on renewable duction of renewable fuels with the use of
fuels, and in particular biofuels, during the certain tax credits and (2) spur demand by Blender excise tax credit
1970’s energy crisis. The general public’s mandating the fuel industry use a certain The Jobs Act of 200421 modifies the
interest waned during the 80’s and 90’s, amount of renewable fuels. This signifi- special treatment blenders of ethanol and
largely because petroleum was once again cant government involvement presents biodiesel receive to continue to encour-
relatively inexpensive. With the higher industry participants with regulatory risk. age the fuel industry to utilize biofuels.22
energy prices of the early 2000’s, interest Farmers and others need to understand Blenders are those who produce an alco-
again peaked. these policies because, as with all laws, hol fuel mixture.23 Blenders who use etha-
In general, renewable energy can in- they are subject to change. As has been nol are eligible for an excise tax credit of
clude any type of energy that is “naturally proven by legislative successes over the fifty-one cents for every gallon of alcohol
replenishing, but flow limited.”5 Examples last few years, there is widespread sup- used in an ethanol blend,24 and those who
include “biomass, hydro, geothermal, port for renewable fuels at present. Yet use biodiesel are eligible for a one dollar
solar, wind, ocean thermal, wave action, there is no guarantee Congress will con- credit for every gallon of agri-biodiesel
and tidal action.”6 Biomass includes en- tinue to support the industry in exactly the and fifty cents for every gallon of other
ergy derived from plants, such as ethanol same way in the future.14 For a state ex- types of biodiesel used.25 The ethanol tax
from corn or biodiesel from soybeans, the ample, one can look to what occurred in credit is authorized through 2010,26 while
primary subjects of this article. Mean- Minnesota as a result of budget problems the biodiesel tax credit is authorized
while, many project that the preferred in that state. Prior to 2003, the state offered through 2008.27 These tax credits act as a
renewable energy source in the future will incentives to locally owned ethanol facili- direct subsidy to the cost of ethanol and
be other biomass used to produce cellulo- ties in the form of twenty cents per gallon biodiesel and play a large part in the
of ethanol produced for up to fifteen mil- profitability of the production of ethanol.
Doug O’Brien is Research Assistant Professor lion gallons. In 2003, the state reduced the The major regulatory risk involved with
of Law and Senior Staff Attorney at the Univer- subsidy to thirteen cents per gallon, and these tax credits is whether they will be
sity of Arkansas Law School National Agricul- only to the first three million gallons.15 The extended upon their expiration. A number
tural Law Center and Drake University Law simple point is that by relying on certain of factors will go into this determination,
School Agricultural Law Center. policies, one is exposed to the regulatory including the federal budget deficit, the

continued desire to support domestic re- purchase renewable energy systems and participate in a renewable fuels project.
newable energy and possible shifts of to improve energy efficiency.40 The first
Congressional support to other types of three years of the program saw USDA Business organization issues
renewable fuels. providing over $66 million in grants.41 In Whenever people decide to participate
2005, grants ranged from $7000 to $50,000 in some type of joint venture, they acquire
Small producer tax credit and supported a myriad of biomass, wind, certain rights and responsibilities. The
Special tax credit provisions exist for solar, geothermal and conservation tech- type of business organization–a sole pro-
small producers (as opposed to blenders) nologies.42 Specific examples include wind prietorship, partnership, corporation, lim-
of ethanol and biodiesel. The Small Etha- turbines, methane digesters on dairy ited liability company, or cooperative–will
nol Producer Credit provides a credit of manure storage lagoons and solar en- dictate many of these rights and respon-
ten cents per gallon of grain alcohol used ergy projects. Grant requests cannot ex- sibilities. In particular, the type of busi-
by producers who have an annual capac- ceed twenty-five percent of the cost of the ness organization will affect liability, tax
ity of less than thirty million gallons per project, while loan requests cannot ex- treatment, control, and the firm’s ability to
year.28 The credit may only be applied to ceed fifty percent of the cost of the project. raise capital.47
the first fifteen million gallons of produc- In determining which projects to fund, the
tion per year.29 A similar credit exists for Secretary must look at factors such as the LLC’s
small agri-biodiesel producers who pro- amount of energy to be generated by the The limited liability company form has
duce less than sixty million gallons per system, the environmental benefits, the emerged as the clear favorite for renew-
year.30 The credit is limited to the first extent to which the system will be repli- able energy projects.48 This is not surpris-
fifteen million gallons. For small ethanol cable, the amount of energy savings ex- ing considering ethanol and biodiesel
and biodiesel producers that are Sub- pected from operation of the system, and plants require a significant amount of capi-
chapter T cooperatives, the co-op may the estimated amount of time it will take tal.49 The LLC form is well-suited to raising
choose to pass on the credit to its pa- for the system to pay for itself.43 capital because it offers limited liability for
trons.31 “The credit is allocated among the investors, allows them to be taxed as a
patrons on the basis of the quantity or Value Added Producer Grants partnership (and thus income is generally
value of the business done with or for the Although not exclusively focused on only taxed once) and allows investors a
patrons for the tax year.”32 renewable energy, another program used degree of control commensurate with their
by the biofuels sector is the VAPG pro- investment. With this greater ability to
Other federal programs that spur demand for gram.44 As provided on the USDA website attract outside investment comes the risk
renewable fuels and biobased products on the program: that the company’s profits and future will
The 2002 Farm Bill included a provision Grants may be used for planning activi- be in the hands of people outside the
that requires that those who purchase on ties and for working capital for market- community. At any rate, LLC’s are the
behalf of the federal government must ing value-added agricultural products most flexible type of business structure,
prefer products that have the highest and for farm-based renewable energy. and because of this and their relative
percentage of biobased products practi- Eligible applicants are independent pro- newness, LLC’s require more deliberate
cable.33 The law applies to purchases of ducers, farmer and rancher coopera- thought in the planning stage.
over $10,000. The law does not require the tives, agricultural producer groups, and
preference if the products “fail to meet the majority-controlled producer-based Cooperatives
performance standards set forth in the business ventures.45 Many of the early generation ethanol
applicable specifications or fail to meet plants organized as co-ops or closed co-
the reasonable performance standards “Value-added” is broadly defined to operatives.50 Cooperatives share some
of the procuring agencies; or ... are avail- capture products that have been physi- of the advantages of LLC’s–single level
able only at an unreasonable price.”34 cally altered from their original state, have taxation and limited liability–but have
Also included in the 2002 Farm Bill is a a greater value than the original product, some very unique characteristics. Cer-
program providing grants to state agen- expand the original customer base, and tain types of cooperatives enjoy exemp-
cies, rural electric cooperatives, or other provide a greater portion of the income tions from certain Security and Exchange
nonprofits to assist farmers, ranchers and from the processing and marketing to the Act requirements and antitrust laws. In
rural small businesses in “becoming more producer than the status quo.46 The major- return for these advantages, the co-op
energy efficient and in using renewable ity of the recipients do not involve renew- must generally be governed by demo-
fuels.”35 The money can be used for the able energy, but a number of ethanol and cratic principles providing the users of the
recipient to perform energy audits on bio-diesel start ups have successfully co-op with voting rights. In other words,
farms or to educate farmers on the avail- sought funds. The 2002 Farm Bill autho- only people who use the co-op control the
ability of programs such as the Renew- rized up to forty million dollars annual cooperative business, and the vote is not
able Energy Systems program.36 Yet an- funding for VAPG, but except for the first determined by the amount of capital one
other program designed to subsidize the year (2003) funding has been between contributes; rather the vote is determined
cost of biofuels production is the CCC fifteen and twenty million dollars per year. on a one-person/one-vote basis.51
Bioenergy Program.37 This program pays This section examined some of the most
biofuels producers to increase their con- important federal policies affecting the Securities regulation
sumption of most agricultural commodi- biofuels industry. As has been discussed, One of the major considerations for
ties in the year that they increase produc- these policies result in subsidized produc- those who decide to organize as an LLC is
tion and is targeted to smaller produc- tion costs and mandated demand for etha- securities law. Securities law at both the
ers.38 The program is set to expire this nol and biodiesel. These policies, along state and federal level is designed to pro-
year. 39 with the high price of oil, have made the tect the interests of and provide full disclo-
biofuels industry an attractive investment sure to those who are considering invest-
The Renewable Energy Systems Program and for farmers and nonfarmers alike. The ing in a firm.52 In general, a security is
Energy Efficiency Improvements Program result has been furious activity around broadly defined as any type of instrument
This program provides the Secretary of organizing and forming ethanol and that facilitates an investment, such as a
Agriculture the authority to provide grants, biodiesel plants. The next section will look “note, stock, treasury stock, security fu-
loans and loan guarantees to farmers, at some specific issues farmers should
ranchers and rural small businesses to think about as they consider whether to Cont. on p. 6

Biofuels/ cont. from page 5 proval of the directors.63 This restriction in an ethanol or biodiesel plant. Some of
ture, bond, debenture, evidence of indebt- can severely limit the value of someone’s the most significant legal issues attorneys
edness, certificate of interest or participa- investment because the directors have will need to focus on in this area are his or
tion in any profit-sharing agreement.”53 If the discretion of when and to whom the her client’s rights and responsibilities in
something is a security, it cannot be sold member’s interest can be sold. relation the firm. On a broader scale, one
unless it is registered under the securities of the larger societal and policy issues is
laws, which involves significant time and Local ownership and control whether these new entities are locally
money. 54 Whether the venture is organized as a controlled.
A number of exemptions apply which cooperative or LLC, one of the big ques-
may allow a group to circumvent the reg- tions many ask is whether it is locally See generally U.S. Dept. of Energy and
istration requirements of securities laws, controlled. Much of the buzz around etha- USDA, Biomass as Feedstock for Bioenergy
such as if the group organizes as a section nol and biodiesel is that it provides eco- and Bioproducts Industry, (Apr. 2005), http:/
521 cooperative, a special type of farmer nomic opportunities for rural communi- /
cooperative.55 As a practical matter, al- ties. These opportunities come in the form final_billionton_vision_report2.pdf (fore-
though an ethanol plant controlled by farm- of greater demand for farmers’ products, casting the possibility of harvesting one
ers could be eligible for section 521 sta- jobs at the plant, and economic returns for billion tons of biomass for energy uses
tus,56 very few, if any, of the ethanol and the local investors. Obviously, the last and describing some of the market and
biodiesel plants organize as a 521 co-op. point holds true only if the production environmental concerns related to such a
Most of these groups find the require- facility is actually owned by people in the possibility).
ments associated with a section 521 co-op area. In the early years of ethanol produc- Beyond the scope of this article, but
too onerous for the ethanol venture. In tion, the vast majority of the plants were very important to the broader biofuels
particular, section 521 co-ops limit the owned by an outside corporation.64 Then debate, is the affect that biofuels will have
amount of dividends to eight percent or throughout the 90’s and early 2000’s, more on the livestock industry. With the explod-
the applicable state statutory rate,57 and of the capacity was built by majority ing demand for corn and soybeans to
at least 85 percent “of the voting stock farmer-owned initiatives. “By 2004, of the supply ethanol and biodiesel plants, ques-
must be owned by producers who have 92 ethanol plants in operation in the United tions remain on the impact on cattle, swine,
used the cooperative’s services in the States, 44 were owned by farmers, or 48 and poultry feeders, all who rely on corn
past year.”58 Another exemption from the percent.”65 The trend, however, has re- and soybeans as their primary feedstuffs.
federal laws that has been utilized by a versed. One industry observer reports Some of the livestock industry, in particu-
number of ethanol and biodiesel groups is that less than thirty percent of the ethanol lar cattle feeders who live close to ethanol
the “intrastate offering exemption.”59 The plants were farmer owned in early 2006, plants, may be able to take advantage of
exemption is only available to transac- and as much as ninety percent of the new a coproduct from ethanol plants known as
tions where every security is offered and ethanol production capacity over the next dried distiller’s grain (DDG). Meanwhile,
sold to actual residents of the same state three years will not be farmer owned.66 other livestock feeders will need to con-
where the issuer is doing business.60 To A significant policy question exists on tend with increasing crop prices resulting
use this exemption, the issuer needs to be whether federal and state laws should from the competition from the renewable
very careful about the residency of the promote local ownership, and if so, how fuel sector.
purchasers and that it conducts its pre- this should occur. Some argue the most See Joel Severinghaus, Demand Elastic-
dominant business within the state. effective way to support local ethanol ity Impacts Markets for Beer, Ethanol, and
To broaden their possible pool of inves- production would be to target the subsi- Pork, Iowa Farm Bureau Spokesman (July
tors, many ethanol and biodiesel ven- dies to actual producers of ethanol as 27, 2006) (discussing the competition for
tures choose to go through the onerous opposed to blenders, and to provide corn from ethanol plants, hog farmers and
Security Exchange Commission filings so greater incentives to those plants major- brewers).
they may seek non-farmer and out-of- ity-owned by farmers.67 Around fourteen 4
While states have been active in pro-
state investors. SEC filings are available states already have some type of pro- moting renewable fuels, a discussion of
on the SEC website known as EDGAR.61 ducer incentive program.68 The incentive state policy is beyond the scope of this
One of the requirements of some of the could work by paying the producer a cer- article. For a table generally indicating the
filings is that the ethanol venture disclose tain amount per gallon of production. To different state policies, see Renewable
the risks associated with investing in the encourage smaller facilities, many states Fuels Association, Legislative Actions: State
venture. Two of the most obvious risks are have limited the number of gallons the (last visited Aug. 18, 2006) http://
that the price of the end product (ethanol subsidy will support.69 Prioritizing farmers
or biodiesel) may fall or the price of the or local residents raises some obvious Department of Energy, Energy Infor-
feedstock (corn or soybeans) may in- legal issues, such as who is a farmer and mation Administration, Glossary (last vis-
crease, given the rapidly growing ethanol who is truly a local resident. The efficacy ited August 14, 2006), at http://
and biodiesel sectors. Another significant of such targets might also be hampered
risk is that many of the ventures rely by the fact that the restrictions limit ac- glossary_r.htm (defining “renewable en-
heavily on outside companies for con- cess to capital outside of certain commu- ergy sources”).
struction and marketing expertise, and nities. Id.
there are very few companies who have Biomass goes beyond just the grain or
this expertise. This provides the construc- Conclusion oilseed to include all plant and plant de-
tion or marketing company significant le- The biofuels movement promises to rived material, including the grasses,
verage and if necessary, it may be very alter the agriculture sector. In terms of stalks and animal manure. U.S. Dept. of
difficult to find replacement expertise.62 policy and legal issues, an attorney advis- Energy and USDA, Biomass as Feedstock for
Yet another risk is that a member may ing farmers and others in the agriculture Bioenergy and Bioproducts Industry, Execu-
not be able to sell his or her interests. One and biofuels sectors must grasp the cru- tive Summary (Apr. 2005), http://
of the features of many of the ethanol and cial role that federal policy has on this
biodiesel ventures is that the member- industry to take advantage of these poli- final_billionton_vision_report2.pdf. The
ship units (LLC terminology for the invest- cies and manage the regulatory risk. In supply is so plentiful that the federal gov-
ment vehicle or stocks) may not be trans- part because of federal policies, many in ernment hopes to replace 30% of the
ferred without the express written ap- rural America are choosing to participate Continued on page 7

Biofuels/Cont. from page 6 implementation of the program during Renewable Energy, USDA News Release
country’s petroleum consumption by 2030. calendar years 2006 through 2012, includ- (Sep. 14, 2005).
Id. The federal government has deter- ing a review of—(I) the impact of the use 7 U.S.C. § 8106(c)(2).
mined to spur the development of cellulo- of renewable fuels on the environment, Id. § 1621 note; 7 C.F.R. part 4284.
sic ethanol with loan, grant, and credit air quality, energy security, job creation,
trading programs to encourage private and rural economic development; and (II) ops/vadg.htm (last visited Aug. 15, 2006).
industry to take part in the sector. See the expected annual rate of future produc- 7 U.S.C. § 1621 note (a)(1).
Renewable Fuels Association website, tion of renewable fuels, including cellulo- Doug O’Brien, Neil D. Hamilton and
Cellulosic Ethanol (last visited Aug. 17, 2006), sic ethanol.” Id. Clause (iii) of this section Robert Luedeman, The Farmer’s Legal Guide states that for the years after 2012, the to Producer Marketing Associations, Drake
lulosic/. ratio of renewable fuels versus non-re- University Agricultural Law Center, chap-
USDA, 2007 Farm Bill Theme Paper: Energy newable fuels should be the same as it was ter 4 (2005), available at http://
and Agriculture, at 4 (Aug. 2006). in 2012.
9 19
Food and Agricultural Policy Research 42 U.S.C. § 7545(o)(1)(C). #producermarketing. This chapter out-
Institute, 2006 Baseline Update for U.S. Ag- Id. § 7545(o)(7). lines many of the practical and legal con-
ricultural Markets (July 2006). American Jobs Creation Act of 2004, siderations when choosing a type of busi-
Id. P.L. 108-357 (Oct. 22, 2004). ness organization.
11 22 48
Renewable Fuels Association website, 26 U.S.C. § 6426. See Renewable Fuels Association, From
Industry Statistics (last visited Aug. 16, 2006), See National Ethanol Vehicle Coali- Niche to Nation: Ethanol Industry Outlook tion, A Guide to the New Tax Law: Changes in 2006, at 8 to 9 (Feb. 2006). The publication
tistics/#A. Tax Incentives for Ethanol Producers, at 3 (last lists the U.S. fuel ethanol refineries. Out of
Renewable Fuels Association, From visited August 15, 2006) http:// 107, 73 are organized as LLC’s.
Niche to Nation, at 3 (Feb. 2006), http:// Filings with the Security and Exchange ethanoltaxbrochure2005.pdf. Commission by ethanol and biodiesel
outlook_2006.pdf. 26 U.S.C. § 6426(b)(2). ventures indicate that the cost of the plants
13 25
John Urbanchuk, Contribution of the Id § 6426(b)(3). “Agri-biodiesel means are in the tens of millions of dollars, and
Biodiesel Industry to the United States, at 1 biodiesel derived solely from virgin oils, can well exceed $100 million. For instance,
(June 2006), including esters derived from virgin veg- the estimated cost for a 30 million gallon
sources/reportsdatabase/reports/gen/ etable oils from corn, soybeans, sunflower biodiesel plant in Lamoni, Iowa is between
20060720_gen-372.pdf. seeds, cottonseeds, canola, crambe, rape- $40 and 56 million. Southern Iowa Energy,
Although support for the production seeds, safflowers, flaxseeds, rice bran, LLC, Pre-Effective Amendment 4 to Form
of biofuels has been broad, it has not been and mustard seeds, and from animal fats.” SB-2, at i (May, 2006). The estimated cost
unanimous. One presidential candidate IRS Pub. No. 378, ¶5 (April 2004). for a 100 million gallon ethanol plant in
at the Iowa State Fair, the most likely place 7 U.S.C. § 6426(b)(5). New Hampton, Iowa is $159 million. Home-
for one to proclaim support for ethanol Id. § 6426(c)(5). land Energy Solutions, LLC, Form SB-2, at
subsidies, recently stated that he sup- IRS Pub. No. 378, ¶6. 1 (July 21, 2006).
29 50
ports the use of ethanol but is opposed to Id. See Christopher R. Kelley, “New Gen-
subsidizing the fuel. Jonathon Roos, McCain 26 U.S.C. § 40A(b). eration” Farmer Cooperatives: The Problem of
Praises Timing, Clout of Iowa Caucuses, Des Id. §§ 40(g)(6); 40A(e)(6). the “Just Investing” Farmer, 77 North Dakota
Moines Register (Aug. 16, 2006). Id. § 40A(b). Law Review 185 (2001) (explaining how a
15 33
2002 Minn. Laws, Ch. 128, Article 3 § 47 7 U.S.C. § 8102. closed cooperative works and some of the
(repealing certain sections of the Minne- Id. § 8102(c)(2). legal issues presented by this type of
sota producer incentive law (codified at Id. § 8105(a). business organization).
36 51
Minn. Stat. § 41A)); Mike Morris and Id. § 8105(b)(2). For an excellent discussion of coop-
Amanda Hill, Ethanol Opportunities and Id. § 8108; 7 C.F.R. Part 1424. erative principles and issues, see James
Questions, National Center for Sustainable Section 8108(b)(3) targets the pay- R. Baarda, Current Issues in Cooperative Fi-
Agriculture, at 12 (2006), available at http:/ ments to producers with a capacity of less nance and Governance, Cooperative Pro-
/ than $65 million. grams, Rural Development, USDA (April
2 0 0 6 / 0 7 / 2 0 / 7 U.S.C. § 8108(c) (providing funding 2006).
ethanol_opportunities_and_questions. only through 2006). Professor Carol Goforth provides a
16 40
See David Coltrain and Eric Dean, Risk Id. § 8106; see also 7 C.F.R. part 4280. As thorough discussion of securities issues in
Factors in Ethanol Production, Agricultural the USDA website states, the regulations An Introduction to Federal Securities Laws as
Marketing Resource Center, at 20 (un- provide that for a project to be eligible it They Might Apply to Agricultural Operations
dated), must be: (2002) available at http://
rdonlyres/0ED97642-8BCB-458F-B315- · for a pre-commercial or commercially
7DE44AF58FAD/0/ethanolriskfactors.pdf available and replicable technology. ticles/goforth_securities.pdf.
(highlighting the government or regula- · technically feasible. 15 U.S.C. § 77b(1).
tory risk involved with ethanol production · owned and operated by the applicant. See Goforth, supra note 52, at 13-14
and focusing on the Renewable Fuels Stan- A qualified third-party operator may be (discussing the impacts on sellers if their
dard and the possibility of more stringent used to manage the operation and/or financial instrument is defined as a secu-
environmental regulation). maintenance of the proposed project. rity).
17 55
42 U.S.C. § 7545(o). · based on satisfactory sources of rev- 15 U.S.C. § 77c(a)(5).
18 56
Id. § 7545(o)(2)(B). “Subject to clauses enues in an amount sufficient to provide Donald A. Frederick, Income Tax Treat-
(iii) and (iv), for the purposes of subpara- for the operation and maintenance of the ment of Cooperatives: Internal Revenue Code
graph (A), the applicable volume for cal- system or project. Section 521, Co-op. Information. Rep. 44,
endar year 2013 and each calendar year USDA website on Rural Energy Sys- Part 4, at 23 (2005 ed.), available at http://
thereafter shall be determined by the tems,
Administrator, in coordination with the farmbill/what_is.html (last visited August (“IRS has also stated that a cooperative
Secretary of Agriculture and the Secre- 15, 2006). that processes its members’ agricultural
tary of Energy, based on a review of the USDA Announces Nearly $21 Million in for Cont. on page 3

2006 CONFERENCE. The guest room block for the 2006 conference will have expired by the time this issue is
published. The conference hotel is also otherwise booked so late registrants will need to seek alternative hotel
rooms. Here are a couple of good choices very near the conference hotel:

Inn at Ellis Square (this is across the street from the Hyatt) Guest rooms feature two double beds $119.00
Executive King Suites have 1 king bed in private room and 1 queen sleeper sofa in the living room with wet bar,
working desk and oversized bath. $139.00 Call 912-236-4440 and ask for group code ALAW before Sept. 20 in order
to receive the discounted rate. Inn at Ellis Square, 201 West Bay Street, Savannah, Georgia, 31401 e-mail: Website:

River Street Inn The River Street Inn is one block from the Hyatt and overlooks the river. The Inn is one
of the Historic Hotels of America and is listed on the National Register of Historic Places. Double rooms from $189
Group Code: AALS (Annual Agricultural Law Symposium). Reservations must be made via phone line. 1-800-253-
4229 or 1-912-234-6400 Group Rate is NOT available on-line. Website:

Robert P. Achenbach, Jr,
AALA Executive Director
P.O. Box 2023, Eugene, OR 97402
Ph 541-485-1090; FAX 541-302-1958