VOLUME 23, NUMBER 8, WHOLE NUMBER 273
Pension Protection Act of 2006
INSIDE
• Biofuels: policy
and business organization
issues
• Federal Register
Solicitation of articles: All AALA
members are invited to submit articles
to the Update. Please include copies of
decisions and legislation with the ar-
ticle. To avoid duplication of effort,
please notify the Editor of your pro-
posed article.
In future issues:
Conservation easements:
smart growth or sprawl
promotion?
AUGUST 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
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
deductible while generally requiring higher funding levels in order to qualify plan tax
status. Under prior law, an employer could deduct plan contributions up to 100 percent
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-
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
funding standard carryover balance until reaching zero, and new plans established
after 2007 are ineligible for most of the transition rules.8
“At-risk” plans are subject to accelerated contributions.9 Companies that are below
80 percent funded cannot use credit balances for funding or making promises to
provide enhanced or new benefits. Plans that are less than 60 percent funded will be
restricted from offering any lump-sum benefit payments, and new accruals are frozen
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
Effective for plan years beginning after 2009, the Act provides for a new kind of hybrid
pension plan for employers with 500 or fewer employees.12 The new “DB/K plan”
combines a traditional defined benefit pension plan with a 401(k) savings plan.13 The
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
AUGUST 2006 AGRICULTURAL LAW UPDATE 1
PENSION PROTECTION ACT/ CONTINUED FROM PAGE 1
advice to account holders, but cannot
advise employers about which funds and
investments to include in their plans.18
The Act allows taxpayers to deposit
their tax refunds into an IRA, and specifies
that the Treasury Secretary is to issue an
appropriate Form to report such deposits
for tax years beginning after 2006.19 In
addition, military reservists called to ac-
tive duty after September 11, 2001, and
before December 31, 2007, for at least 180
days, may make penalty-free early distri-
butions from their IRAs, 401(k)s, and simi-
lar arrangements.20 Such withdrawals may
be re-contributed within two years after
the end of active duty to avoid income tax
on the distributions.21
Under the Act, the Treasury is to issue
rules within 180 days of enactment that
allow 401(k) plan withdrawals for hard-
ships and unforeseen financial emergen-
cies with respect to any person who is
listed as a beneficiary under the plan.22
Under prior law, a taxpayer could roll
over a deceased spouse’s interest in a
VOL. 23, NO. 8, WHOLE NO. 273 AUGUST 2006
AALA Editor..........................Linda Grim McCormick
2816 C.R. 163, Alvin, TX 77511
Phone: (281) 388-0155
E-mail: lindamccormick@ev1.net
Contributing Editors: Roger McEowen, Ames, IA; Doug
O’Brien, Fayetteville, AR; Robert P. Achenbach, Eugene,
OR.
For AALA membership information, contact Robert
Achenbach, Executive Director, AALA, P.O. Box 2025,
Eugene, OR 97405. Phone 541-485-1090. E-mail
RobertA@aglaw-assn.org.
Agricultural Law Update is published by the American
Agricultural Law Association, Publication office: County
Line Printing, Inc. 6292 NE 14th St., Des Moines, IA 50313.
All rights reserved. First class postage paid at Des Moines,
IA 50313.
This publication is designed to provide accurate and
authoritative information in regard to the subject matter
covered. It is sold with the understanding that the
publisher is not engaged in rendering legal, accounting, or
other professional service. If legal advice or other expert
assistance is required, the services of a competent
professional should be sought.
Views expressed herein are those of the individual
authors and should not be interpreted as statements of
policy by the American Agricultural Law Association.
Letters and editorial contributions are welcome and
should be directed to Linda Grim McCormick, Editor, 2816
C.R. 163, Alvin, TX 77511, 281-388-0155.
Copyright 2006 by American Agricultural Law
Association. No part of this newsletter may be reproduced
or transmitted in any form or by any means, electronic or
mechanical, including photocopying, recording, or by any
information storage or retrieval system, without permission
in writing from the publisher.
2 AGRICULTURAL LAW UPDATE AUGUST 2006
qualified retirement plan, government
plan, or tax sheltered annuity into an IRA
with distributions only taxed as normal
distributions are taken. The Act extends
this treatment to non-spouse beneficia-
ries. 23
The Act allows direct rollovers (rather
than two-step rollovers) from a qualified
retirement plan, tax-sheltered annuity or
governmental plan directly to a Roth IRA
and will treat it as a Roth conversion if all
other conversion qualifications are met.24
Permanency of EGTRRA provisions
The Act repeals the sunset provisions of
EGTRRA applicable to retirement sav-
ings. Provisions made permanent include:
• Ceiling on IRA contributions ($4,000 in
2006; $5,000 in 2008; inflation adjusted there-
after); 25
• Higher dollar limits on defined contri-
bution plans ($44,000 in 2006); elective
deferrals (including $15,000 in 2006 for
401(k) plan deferrals);26 457 plan deferrals
($15,000 in 2006); SIMPLE plan contribu-
tions ($10,000 in 2006);27
• Increases in the annual benefit limit
under a defined benefit plan ($175,000 for
2006);28
• Permanent catch-up contributions for
older workers ($1,000 after 2005 for IRAs
(not adjusted for inflation), $2,500 for
SIMPLE plans, $5,000 for 401(k) plans (ad-
justed for inflation in $500 increments));29
• Higher deductible amounts for em-
ployer contributions to employee retire-
ment plans (inflation-adjusted to $220,000
in 2006);30
• Roth 401(k)s and 403(b)s;31
• Start-up credit for new small em-
ployer-sponsored plans;32
• Defined benefit plan limits;33
• Saver’s credit (with gross income
amounts used to compute the amount of
the credit indexed for inflation beginning
in 2007; however the credit itself is not
adjusted for inflation);34
• I.R.C. §529 plans. 35
Charitable donation provisions
Effective after August 17, 2006, the Act
eliminates a tax deduction for used cloth-
ing and household items unless the items
are in “good” condition.36 The Act also
requires that cash donations, of any amount,
must be substantiated either by a can-
celled check, bank record, or written sub-
stantiation from the charity indicating the
amount of the contribution, the date the
contribution was made, and the name of
the charity.37
The Act allows taxpayers to make tax-
free distributions from IRAs (both tradi-
tional and Roth) for charitable purposes
through 2007, with a maximum annual cap
of $100,000.38
The Act also extends through 2007 the
food donation rules contained in the
Katrina Relief Act of 2005 for partnerships,
S corporations, and other business enti-
ties.39 Likewise, the Act extends through
2007 the enhanced deduction for books
donated to public schools by C corpora-
tions.40
For 2006 and 2007 only, the Act raises the
deduction limits for qualified conserva-
tion easements from 30 percent to 50
percent of adjusted gross income.41 For a
donor that is a “qualified farmer or
rancher”42 the deduction limit is 100 per-
cent provided the donated property re-
mains available for agricultural produc-
tion.43
Effective for contributions through 2007,
the reduction in shareholder stock basis in
an S corporation due to a charitable con-
tribution by the corporation equals the
shareholder’s pro rata share of the ad-
justed basis of the contributed property.44
The Act also increases federal over-
sight of charitable organizations in certain
areas, and includes numerous miscella-
neous provisions applicable to charities,
modifies the thresholds for substantial
and gross valuation misstatements, and
imposes new penalties on appraisers who
provide bogus appraisals.45
–Roger A. McEowen, Iowa State
University, Ames, Iowa.
Reprinted from 17 Agric. L. Dig. 129
(2006)
1
H.R. 4, P.L. 109-280.
2
The Labor Department estimates that
approximately 30,000 pension plans are
presently underfunded by $450 billion.
3
Act, Sec. 801(d), amending I.R.C. §
404(a)(1)(D), clause (i).
4
Act, Sec. 801(a), amending I.R.C. § 404.
5
Act, Sec. 801(a)(4).
6
Act, Sec. 802(a), amending I.R.C. §
404(a)(1)(D), effective for years beginning
after 2007.
7
Act, Sec. 112, amending I.R.C. § 430.
8
Id. However, Delta and Northwest
airlines are allowed 17 years to fully fund
their plans. Other airlines get 10 years to
fully fund plans. Act, Sec. 402, effective for
plan years after Aug. 17, 2006.
9
An “at-risk” plan is (1) less than 80
percent funded, without regard to at-risk
liabilities; and (2) less than 70 percent
funded counting at-risk liabilities.
10
Act, Sec. 401.
11
Act, Sec. 302, amending 29 U.S.C. §
1055(g)(3) and I.R.C. § 417(e)(3), effective
for plan years beginning after 2007.
12
Act, Sec. 903, amending I.R.C. § 414.
13
Under current law, employee contri-
butions to traditional pension plans are
not tax deferred. Thus, few pension plans
require or permit employee contributions.
Instead, many employers supplement
their pension plans with separate 401(k)
plans which permit employees to defer
taxes on their contributions.
14
Act, Sec. 903, amending I.R.C. § 414.
15
Id.
16
Id.
Cont. on page 3
Pension Act/Cont. from page 2
17
The conversion impacts older em-
ployees to a greater degree inasmuch as
an older employee has fewer years to
build up savings. But, an employer’s alter-
native to switching to a hybrid plan may be
to leave employees with no pension plan
at all.
18
Act, Sec. 601, amending 29 U.S.C. §
1108(b), effective for advice provided af-
ter December 31, 2006.
19
Act, Sec. 830. Also, in I.R. 2006-85 (May
31, 2006), IRS announced that, effective
January 2007, taxpayers could split their
refunds and deposit them in as many as
three different bank accounts. IRS will
issue new Form 8888 for taxpayers to use
to split their refunds in time for the 2007
filing season.
20
Act, Sec. 827, amending I.R.C. § 72(t)(2),
effective for distributions after Septem-
ber 11, 2001.
21
Id.
22
Act, Sec. 826. The rules are to be
consistent with hardship withdrawals now
allowed for spouses and I.R.C. § 152 de-
pendents. Id.
23
Act, Sec. 829, amending I.R.C. § 402(c),
applicable for distributions after 2006.
24
Act, Sec. 824, amending I.R.C. § 408A(e),
effective for distributions after 2007.
25
Act, Sec. 811.
26
Id.
27
Id.
28
Id.
29
Id.
30
Id.
31
Id.
32
Id.
33
Id.
34
Act, Sec. 812, eliminating I.R.C. § 25B(h).
35
Act, Sec. 1304.
36
The Act does not define “good condi-
tion.”
37
Act, Sec. 1217, amending I.R.C. § 170(f),
effective for tax years beginning after
Aug. 17, 2006.
38
Act, Sec. 1201, amending I.R.C. § 408(d).
The provision is inapplicable for any por-
tion of a withdrawal that would have been
otherwise taxable. Id.
39
Act, Sec. 1202, amending I.R.C. §
170(e)(3)(C)(iv), effective for contributions
made after 2005 and before 2008.
40
Act, Sec. 1204, amending I.R.C. §
170(e)(3)(D)(iv), effective for contributions
made after 2005 and before 2008.
41
Act, Sec. 1206, adding I.R.C. §
170(b)(1)(E)(i), and redesignating existing
paragraphs (E) and (F) as (F) and (G),
effective for tax years through 2007.
42
The term “qualified farmer or rancher”
means a taxpayer whose gross income
from the trade or business of farming as
defined by I.R.C. § 2032(e)(5) exceeds 50
percent of the taxpayer’s gross income
for the tax year.
43
Act, Sec. 1206, adding I.R.C. §
170(b)(1)(E)(iv), and redesignating exist-
Federal Register Summary from 8/10-8/25, 2006
Note: no Federal Register items in this
issue but here are two other items:
FARM LABOR. The National Agricul-
tural Statistics Service has issued farm
employment figures as of August 18, 2006.
There were 1,202,000 hired workers on the
nation’s farms and ranches the week of
July 9-15, 2006, down 11 percent from a
year ago. Of these hired workers, 875,000
workers were hired directly by farm op-
erators. Agricultural service employees
on farms and ranches made up the re-
maining 327,000 workers. Farm operators
paid their hired workers an average wage
of $9.74 per hour during the July 2006
reference week, up 36 cents from a year
earlier. Field workers received an aver-
age of $8.95 per hour, up 34 cents from
April 2005, while livestock workers earned
$9.30 per hour compared with $9.14 a year
earlier. The field and livestock worker
combined wage rate, at $9.56 per hour,
was up 30 cents from last year. The num-
ber of hours worked averaged 40.9 hours
for hired workers during the survey week,
up 1 percent from a year ago. All NASS
reports are available free of charge on the
internet. For access, go to the NASS Home
Page at: http:/www.usda.gov/nass/. Sp Sy
8 (8-06).
WAREHOUSES. The FSA, Warehouse
and Inventory Division, has announced
the conditions under which temporary
ing paragraphs (E) and (F) as (F) and (G),
effective for tax years through 2007.
44
Act, Sec. 1203, amending I.R.C. §
1367(a)(2), effective for contributions made
in tax years after Dec. 31, 2005, and before
January 1, 2008.
45
Act, Sec. 1219, amending I.R.C. § § 6662,
6664, and adding I.R.C. § 6695A, effective
for returns filed and appraisals prepared
with respect to returns or submissions
filed after Aug. 17, 2006.
Biofuels/Cont. from page 7
products into alcohol meets the require-
ments of section 521”) (citing Rev. Rul. 81-
96, 1981-1 C.B. 360).
57
26 U.S.C. § 521(b)(2).
58
Fredrickson, supra note 56, at 4.
59
15 U.S.C. §77b(a)(11).
60
See Goforth supra note 52, at 18 to 20
(discussing the intrastate offering exemp-
tion).
61
http://www.sec.gov/edgar/
searchedgar/webusers.htm.
62
See e.g. Southern Iowa Energy, LLC,
Pre-Effective Amendment 4 to Form SB-2,
at 7 (May 2006) (available on file with the
author or on SEC EGDGAR website).
63 See e.g. Operating Agreement of
Homeland Energy Solutions, LLC ¶9.2 (ef-
fective March 9, 2006) (on file with author
AUGUST 2006 AGRICULTURAL LAW UPDATE 3
storage space may be licensed for the
2006 crops of wheat, corn, and grain sor-
ghum. Upon written application, the FSA
will continue to authorize and license the
use of temporary grain storage space.
Such space may be used from the time of
initial licensing until July 1, 2007. Tempo-
rary grain storage structures must be
operated in conjunction with a USWA-
licensed grain warehouse. In addition: (1)
an asphalt, concrete, or other approved
base material must be used; (2) rigid self-
supporting sidewalls must be used; (3)
aeration must be provided; (4) acceptable
covering, as determined by FSA, must be
provided; (5) grain must be fully insured
for all losses; (6) warehouse operators
must meet all financial and bonding re-
quirements of the USWA; (7) warehouse
operators must maintain a separate
record of all grain stored in temporary
grain storage space and must account for
such grain in the Daily Position Record.
USWA licensees should direct questions
regarding the use of temporary grain stor-
age to Terry Chapman, Chief, Licensing
Branch, Warehouse License and Exami-
nation Division, at: Kansas City Commod-
ity Office, Mail Stop 9148, P.O. Box 419205,
Kansas City, MO 64141-6205. Telephone:
816-926-6474; Facsimile: 816-926-1774, E-
mail: terry.chapman@kcc.usda.gov.
–Robert P. Achenbach,
AALA Executive Director
and available on SEC EDGAR website).
These LLC’s need to be especially wary of
acting in such a way as would cause the
IRS to deem the LLC as a “publicly traded
partnership,” and thus exposing it to being
taxed as a corporation. See 26 U.S.C. § 7704
(stating that a publicly traded partnership
shall be taxed as a corporation).
64
“In the late 1980s a single company,
Archer Daniel Midlands, owned almost 80
percent of the nation’s ethanol.” Mike
Morris and Amanda Hill, Ethanol Opportu-
nities and Questions, National Center for
Sustainable Agriculture, at 11 (2006), avail-
able at http://attra.ncat.org/calendar/
new_pubs.php/2006/07/20/
ethanol_opportunities_and_questions.
65
David Morris, Ownership Matters: Three
Steps to Ensure a Biofuels Industry That Truly
Benefits Rural America, Institute for Self
Reliance, at 6 (Feb. 2006), available at
http://www.newrules.org/agri/
ownershipbiofuels.pdf.
66
Id.
67
Id. at 9.
68
Renewable Fuels Association website,
Legislative Actions: State (last visited Aug.
17, 2006), http://www.ethanolrfa.org/
policy/actions/state/.
69
See e.g. Minn. Stat. § 41A.09.
Biofuels: policy and business organization issues
By Doug O’Brien
The burgeoning renewable fuels industry
has the potential to radically reshape pro-
duction agriculture.1 Because of certain
federal and state policies, as well as the
high price of petroleum, people are look-
ing to renewable fuels to provide a greater
proportion of U.S. energy needs. The re-
sult is that the renewable fuels sector is
currently one of the most significant
growth industries in the country.
Farmers obviously have an important
role to play in this movement. Whether as
producers of renewable feedstock, inves-
tors in renewable fuel plants, or consum-
ers of the renewable fuels, farmers have
a direct interest in how the sector devel-
ops. The renewable fuel boom has impli-
cations across the agricultural sector–
from the land use choices such as the
possibility Conservation Reserve Program
acres will be drawn into use for renewable
energy, to the livestock sector that will
need to compete for feedstuffs.2 To be
sure, these indirect effects will ripple
across farm country.3 The focus of this
article, however, is on some of the direct
policy and legal issues advisors should
think about in considering how to advise
those who want to participate in the re-
newable energy industry. The article will
first show a snapshot of the sector and
then will go on to describe some of most
significant federal renewable energy poli-
cies.4 The article will then focus on direct
legal issues, in particular some business
organization issues.
Background of the renewable fuels
industry
People began to focus on renewable
fuels, and in particular biofuels, during the
1970’s energy crisis. The general public’s
interest waned during the 80’s and 90’s,
largely because petroleum was once again
relatively inexpensive. With the higher
energy prices of the early 2000’s, interest
again peaked.
In general, renewable energy can in-
clude any type of energy that is “naturally
replenishing, but flow limited.”5 Examples
include “biomass, hydro, geothermal,
solar, wind, ocean thermal, wave action,
and tidal action.”6 Biomass includes en-
ergy derived from plants, such as ethanol
from corn or biodiesel from soybeans, the
primary subjects of this article. Mean-
while, many project that the preferred
renewable energy source in the future will
be other biomass used to produce cellulo-
Doug O’Brien is Research Assistant Professor
of Law and Senior Staff Attorney at the Univer-
sity of Arkansas Law School National Agricul-
tural Law Center and Drake University Law
School Agricultural Law Center.
4 AGRICULTURAL LAW UPDATE AUGUST 2006
sic ethanol–for instance perennial tall
grasses or fast growing trees. 7 In yet
another example, around 90 farms in the
country are already producing methane
from animal waste by using anaerobic
digesters with their manure storage facili-
ties. 8
To gain a sense of the significance of the
biofuels movement to the corn sector, one
can look at some of the projections of corn
usage and ethanol production over the
next five years. The Food and Agriculture
Policy Research Institute (FAPRI) July 2006
Baseline update reports that in the 2005/
2006 crop year about eighteen percent of
the corn crop was used to produce fuel
alcohol.9 The same report projects by the
2010/2011 crop year, nearly thirty-two
percent of the corn crop will be devoted to
fuel alcohol.10 In 2005, U.S. processors
produced about 3.9 billion gallons of etha-
nol.11 Iowa is by far the leading ethanol
producer with 1.7 billion gallons of capac-
ity online or under construction.12 Other
leading states include Nebraska, Illinois,
South Dakota, and Minnesota. Meanwhile,
about 400 million gallons of biodiesel were
produced last year, with a possibility of up
to 714 million gallon capacity if all cur-
rently planned projects are completed.13
As mentioned earlier, among the main
reasons for the quick growth in this area
are certain federal laws and programs.
The next section will summarize some of
the more significant policy.
Important federal laws and programs
The development of the biofuels indus-
try owes a great deal to certain federal
policies that (1) subsidize the cost of pro-
duction of renewable fuels with the use of
certain tax credits and (2) spur demand by
mandating the fuel industry use a certain
amount of renewable fuels. This signifi-
cant government involvement presents
industry participants with regulatory risk.
Farmers and others need to understand
these policies because, as with all laws,
they are subject to change. As has been
proven by legislative successes over the
last few years, there is widespread sup-
port for renewable fuels at present. Yet
there is no guarantee Congress will con-
tinue to support the industry in exactly the
same way in the future.14 For a state ex-
ample, one can look to what occurred in
Minnesota as a result of budget problems
in that state. Prior to 2003, the state offered
incentives to locally owned ethanol facili-
ties in the form of twenty cents per gallon
of ethanol produced for up to fifteen mil-
lion gallons. In 2003, the state reduced the
subsidy to thirteen cents per gallon, and
only to the first three million gallons.15 The
simple point is that by relying on certain
policies, one is exposed to the regulatory
risk of a policy change. To understand this
regulatory risk, one must first understand
the underlying policies.16
Renewable fuels standard
The RFS essentially sets a mandate for
demand of renewable fuels into the fu-
ture. The RFS requires oil refineries, fuel
blenders, and oil importers to use a cer-
tain number of gallons of renewable fuels
in the nation’s motor vehicle fuel supply.17
The applicable volume of motor fuel for
2006 is four billion gallons and ramps up to
7.5 billion gallons by 2012.18 For purposes
of the RFS, renewable fuels means fuel
“produced from grain, starch, oilseeds,
vegetable, animal, or fish materials in-
cluding fats, greases, and oils, sugarcane,
sugar beets, sugar components, tobacco,
potatoes, or other biomass; or ... is natural
gas produced from a biogas source, in-
cluding a landfill, sewage waste treatment
plant, feedlot, or other place where decay-
ing organic material is found.”19 The Envi-
ronmental Protection Administration Ad-
ministrator may waive the RFS require-
ments for one or more states upon a
determination that the RFS will severely
harm the economy or environment, or
that a sufficient supply does not exist.20
The RFS is extremely important to the
biofuels industry because it essentially
guarantees a certain level of demand for
renewable fuels. So participants now are
assured a certain segment of the trans-
portation fuel market. The big question is
what happens if and when the sector ex-
ceeds the RFS – will the market continue to
support the extra gallon of ethanol or
biodiesel?
Blender excise tax credit
The Jobs Act of 200421 modifies the
special treatment blenders of ethanol and
biodiesel receive to continue to encour-
age the fuel industry to utilize biofuels.22
Blenders are those who produce an alco-
hol fuel mixture.23 Blenders who use etha-
nol are eligible for an excise tax credit of
fifty-one cents for every gallon of alcohol
used in an ethanol blend,24 and those who
use biodiesel are eligible for a one dollar
credit for every gallon of agri-biodiesel
and fifty cents for every gallon of other
types of biodiesel used.25 The ethanol tax
credit is authorized through 2010,26 while
the biodiesel tax credit is authorized
through 2008.27 These tax credits act as a
direct subsidy to the cost of ethanol and
biodiesel and play a large part in the
profitability of the production of ethanol.
The major regulatory risk involved with
these tax credits is whether they will be
extended upon their expiration. A number
of factors will go into this determination,
including the federal budget deficit, the
continued desire to support domestic re-
newable energy and possible shifts of
Congressional support to other types of
renewable fuels.
Small producer tax credit
Special tax credit provisions exist for
small producers (as opposed to blenders)
of ethanol and biodiesel. The Small Etha-
nol Producer Credit provides a credit of
ten cents per gallon of grain alcohol used
by producers who have an annual capac-
ity of less than thirty million gallons per
year.28 The credit may only be applied to
the first fifteen million gallons of produc-
tion per year.29 A similar credit exists for
small agri-biodiesel producers who pro-
duce less than sixty million gallons per
year.30 The credit is limited to the first
fifteen million gallons. For small ethanol
and biodiesel producers that are Sub-
chapter T cooperatives, the co-op may
choose to pass on the credit to its pa-
trons.31 “The credit is allocated among the
patrons on the basis of the quantity or
value of the business done with or for the
patrons for the tax year.”32
Other federal programs that spur demand for
renewable fuels and biobased products
The 2002 Farm Bill included a provision
that requires that those who purchase on
behalf of the federal government must
prefer products that have the highest
percentage of biobased products practi-
cable.33 The law applies to purchases of
over $10,000. The law does not require the
preference if the products “fail to meet the
performance standards set forth in the
applicable specifications or fail to meet
the reasonable performance standards
of the procuring agencies; or ... are avail-
able only at an unreasonable price.”34
Also included in the 2002 Farm Bill is a
program providing grants to state agen-
cies, rural electric cooperatives, or other
nonprofits to assist farmers, ranchers and
rural small businesses in “becoming more
energy efficient and in using renewable
fuels.”35 The money can be used for the
recipient to perform energy audits on
farms or to educate farmers on the avail-
ability of programs such as the Renew-
able Energy Systems program.36 Yet an-
other program designed to subsidize the
cost of biofuels production is the CCC
Bioenergy Program.37 This program pays
biofuels producers to increase their con-
sumption of most agricultural commodi-
ties in the year that they increase produc-
tion and is targeted to smaller produc-
ers.38 The program is set to expire this
year. 39
The Renewable Energy Systems Program and
Energy Efficiency Improvements Program
This program provides the Secretary of
Agriculture the authority to provide grants,
loans and loan guarantees to farmers,
ranchers and rural small businesses to
purchase renewable energy systems and
to improve energy efficiency.40 The first
three years of the program saw USDA
providing over $66 million in grants.41 In
2005, grants ranged from $7000 to $50,000
and supported a myriad of biomass, wind,
solar, geothermal and conservation tech-
nologies.42 Specific examples include wind
turbines, methane digesters on dairy
manure storage lagoons and solar en-
ergy projects. Grant requests cannot ex-
ceed twenty-five percent of the cost of the
project, while loan requests cannot ex-
ceed fifty percent of the cost of the project.
In determining which projects to fund, the
Secretary must look at factors such as the
amount of energy to be generated by the
system, the environmental benefits, the
extent to which the system will be repli-
cable, the amount of energy savings ex-
pected from operation of the system, and
the estimated amount of time it will take
for the system to pay for itself.43
Value Added Producer Grants
Although not exclusively focused on
renewable energy, another program used
by the biofuels sector is the VAPG pro-
gram.44 As provided on the USDA website
on the program:
Grants may be used for planning activi-
ties and for working capital for market-
ing value-added agricultural products
and for farm-based renewable energy.
Eligible applicants are independent pro-
ducers, farmer and rancher coopera-
tives, agricultural producer groups, and
majority-controlled producer-based
business ventures.45
“Value-added” is broadly defined to
capture products that have been physi-
cally altered from their original state, have
a greater value than the original product,
expand the original customer base, and
provide a greater portion of the income
from the processing and marketing to the
producer than the status quo.46 The major-
ity of the recipients do not involve renew-
able energy, but a number of ethanol and
bio-diesel start ups have successfully
sought funds. The 2002 Farm Bill autho-
rized up to forty million dollars annual
funding for VAPG, but except for the first
year (2003) funding has been between
fifteen and twenty million dollars per year.
This section examined some of the most
important federal policies affecting the
biofuels industry. As has been discussed,
these policies result in subsidized produc-
tion costs and mandated demand for etha-
nol and biodiesel. These policies, along
with the high price of oil, have made the
biofuels industry an attractive investment
for farmers and nonfarmers alike. The
result has been furious activity around
organizing and forming ethanol and
biodiesel plants. The next section will look
at some specific issues farmers should
think about as they consider whether to
AUGUST 2006 AGRICULTURAL LAW UPDATE 5
participate in a renewable fuels project.
Business organization issues
Whenever people decide to participate
in some type of joint venture, they acquire
certain rights and responsibilities. The
type of business organization–a sole pro-
prietorship, partnership, corporation, lim-
ited liability company, or cooperative–will
dictate many of these rights and respon-
sibilities. In particular, the type of busi-
ness organization will affect liability, tax
treatment, control, and the firm’s ability to
raise capital.47
LLC’s
The limited liability company form has
emerged as the clear favorite for renew-
able energy projects.48 This is not surpris-
ing considering ethanol and biodiesel
plants require a significant amount of capi-
tal.49 The LLC form is well-suited to raising
capital because it offers limited liability for
investors, allows them to be taxed as a
partnership (and thus income is generally
only taxed once) and allows investors a
degree of control commensurate with their
investment. With this greater ability to
attract outside investment comes the risk
that the company’s profits and future will
be in the hands of people outside the
community. At any rate, LLC’s are the
most flexible type of business structure,
and because of this and their relative
newness, LLC’s require more deliberate
thought in the planning stage.
Cooperatives
Many of the early generation ethanol
plants organized as co-ops or closed co-
operatives.50 Cooperatives share some
of the advantages of LLC’s–single level
taxation and limited liability–but have
some very unique characteristics. Cer-
tain types of cooperatives enjoy exemp-
tions from certain Security and Exchange
Act requirements and antitrust laws. In
return for these advantages, the co-op
must generally be governed by demo-
cratic principles providing the users of the
co-op with voting rights. In other words,
only people who use the co-op control the
cooperative business, and the vote is not
determined by the amount of capital one
contributes; rather the vote is determined
on a one-person/one-vote basis.51
Securities regulation
One of the major considerations for
those who decide to organize as an LLC is
securities law. Securities law at both the
state and federal level is designed to pro-
tect the interests of and provide full disclo-
sure to those who are considering invest-
ing in a firm.52 In general, a security is
broadly defined as any type of instrument
that facilitates an investment, such as a
“note, stock, treasury stock, security fu-
Cont. on p. 6
Biofuels/ cont. from page 5
ture, bond, debenture, evidence of indebt-
edness, certificate of interest or participa-
tion in any profit-sharing agreement.”53 If
something is a security, it cannot be sold
unless it is registered under the securities
laws, which involves significant time and
money. 54
A number of exemptions apply which
may allow a group to circumvent the reg-
istration requirements of securities laws,
such as if the group organizes as a section
521 cooperative, a special type of farmer
cooperative.55 As a practical matter, al-
though an ethanol plant controlled by farm-
ers could be eligible for section 521 sta-
tus,56 very few, if any, of the ethanol and
biodiesel plants organize as a 521 co-op.
Most of these groups find the require-
ments associated with a section 521 co-op
too onerous for the ethanol venture. In
particular, section 521 co-ops limit the
amount of dividends to eight percent or
the applicable state statutory rate,57 and
at least 85 percent “of the voting stock
must be owned by producers who have
used the cooperative’s services in the
past year.”58 Another exemption from the
federal laws that has been utilized by a
number of ethanol and biodiesel groups is
the “intrastate offering exemption.”59 The
exemption is only available to transac-
tions where every security is offered and
sold to actual residents of the same state
where the issuer is doing business.60 To
use this exemption, the issuer needs to be
very careful about the residency of the
purchasers and that it conducts its pre-
dominant business within the state.
To broaden their possible pool of inves-
tors, many ethanol and biodiesel ven-
tures choose to go through the onerous
Security Exchange Commission filings so
they may seek non-farmer and out-of-
state investors. SEC filings are available
on the SEC website known as EDGAR.61
One of the requirements of some of the
filings is that the ethanol venture disclose
the risks associated with investing in the
venture. Two of the most obvious risks are
that the price of the end product (ethanol
or biodiesel) may fall or the price of the
feedstock (corn or soybeans) may in-
crease, given the rapidly growing ethanol
and biodiesel sectors. Another significant
risk is that many of the ventures rely
heavily on outside companies for con-
struction and marketing expertise, and
there are very few companies who have
this expertise. This provides the construc-
tion or marketing company significant le-
verage and if necessary, it may be very
difficult to find replacement expertise.62
Yet another risk is that a member may
not be able to sell his or her interests. One
of the features of many of the ethanol and
biodiesel ventures is that the member-
ship units (LLC terminology for the invest-
ment vehicle or stocks) may not be trans-
ferred without the express written ap-
6 AGRICULTURAL LAW UPDATE AUGUST 2006
proval of the directors.63 This restriction
can severely limit the value of someone’s
investment because the directors have
the discretion of when and to whom the
member’s interest can be sold.
Local ownership and control
Whether the venture is organized as a
cooperative or LLC, one of the big ques-
tions many ask is whether it is locally
controlled. Much of the buzz around etha-
nol and biodiesel is that it provides eco-
nomic opportunities for rural communi-
ties. These opportunities come in the form
of greater demand for farmers’ products,
jobs at the plant, and economic returns for
the local investors. Obviously, the last
point holds true only if the production
facility is actually owned by people in the
area. In the early years of ethanol produc-
tion, the vast majority of the plants were
owned by an outside corporation.64 Then
throughout the 90’s and early 2000’s, more
of the capacity was built by majority
farmer-owned initiatives. “By 2004, of the
92 ethanol plants in operation in the United
States, 44 were owned by farmers, or 48
percent.”65 The trend, however, has re-
versed. One industry observer reports
that less than thirty percent of the ethanol
plants were farmer owned in early 2006,
and as much as ninety percent of the new
ethanol production capacity over the next
three years will not be farmer owned.66
A significant policy question exists on
whether federal and state laws should
promote local ownership, and if so, how
this should occur. Some argue the most
effective way to support local ethanol
production would be to target the subsi-
dies to actual producers of ethanol as
opposed to blenders, and to provide
greater incentives to those plants major-
ity-owned by farmers.67 Around fourteen
states already have some type of pro-
ducer incentive program.68 The incentive
could work by paying the producer a cer-
tain amount per gallon of production. To
encourage smaller facilities, many states
have limited the number of gallons the
subsidy will support.69 Prioritizing farmers
or local residents raises some obvious
legal issues, such as who is a farmer and
who is truly a local resident. The efficacy
of such targets might also be hampered
by the fact that the restrictions limit ac-
cess to capital outside of certain commu-
nities.
Conclusion
The biofuels movement promises to
alter the agriculture sector. In terms of
policy and legal issues, an attorney advis-
ing farmers and others in the agriculture
and biofuels sectors must grasp the cru-
cial role that federal policy has on this
industry to take advantage of these poli-
cies and manage the regulatory risk. In
part because of federal policies, many in
rural America are choosing to participate
in an ethanol or biodiesel plant. Some of
the most significant legal issues attorneys
will need to focus on in this area are his or
her client’s rights and responsibilities in
relation the firm. On a broader scale, one
of the larger societal and policy issues is
whether these new entities are locally
controlled.
1
See generally U.S. Dept. of Energy and
USDA, Biomass as Feedstock for Bioenergy
and Bioproducts Industry, (Apr. 2005), http:/
/www1.eere.energy.gov/biomass/pdfs/
final_billionton_vision_report2.pdf (fore-
casting the possibility of harvesting one
billion tons of biomass for energy uses
and describing some of the market and
environmental concerns related to such a
possibility).
2
Beyond the scope of this article, but
very important to the broader biofuels
debate, is the affect that biofuels will have
on the livestock industry. With the explod-
ing demand for corn and soybeans to
supply ethanol and biodiesel plants, ques-
tions remain on the impact on cattle, swine,
and poultry feeders, all who rely on corn
and soybeans as their primary feedstuffs.
Some of the livestock industry, in particu-
lar cattle feeders who live close to ethanol
plants, may be able to take advantage of
a coproduct from ethanol plants known as
dried distiller’s grain (DDG). Meanwhile,
other livestock feeders will need to con-
tend with increasing crop prices resulting
from the competition from the renewable
fuel sector.
3
See Joel Severinghaus, Demand Elastic-
ity Impacts Markets for Beer, Ethanol, and
Pork, Iowa Farm Bureau Spokesman (July
27, 2006) (discussing the competition for
corn from ethanol plants, hog farmers and
brewers).
4
While states have been active in pro-
moting renewable fuels, a discussion of
state policy is beyond the scope of this
article. For a table generally indicating the
different state policies, see Renewable
Fuels Association, Legislative Actions: State
(last visited Aug. 18, 2006) http://
www.ethanolrfa.org/policy/actions/state/.
5
Department of Energy, Energy Infor-
mation Administration, Glossary (last vis-
ited August 14, 2006), at http://
www.eia.doe.gov/glossary/
glossary_r.htm (defining “renewable en-
ergy sources”).
6
Id.
7
Biomass goes beyond just the grain or
oilseed to include all plant and plant de-
rived material, including the grasses,
stalks and animal manure. U.S. Dept. of
Energy and USDA, Biomass as Feedstock for
Bioenergy and Bioproducts Industry, Execu-
tive Summary (Apr. 2005), http://
www1.eere.energy.gov/biomass/pdfs/
final_billionton_vision_report2.pdf. The
supply is so plentiful that the federal gov-
ernment hopes to replace 30% of the
Continued on page 7
Biofuels/Cont. from page 6
country’s petroleum consumption by 2030.
Id. The federal government has deter-
mined to spur the development of cellulo-
sic ethanol with loan, grant, and credit
trading programs to encourage private
industry to take part in the sector. See
Renewable Fuels Association website,
Cellulosic Ethanol (last visited Aug. 17, 2006),
http://www.ethanolrfa.org/resource/cel-
lulosic/.
8
USDA, 2007 Farm Bill Theme Paper: Energy
and Agriculture, at 4 (Aug. 2006).
9 19
Food and Agricultural Policy Research
Institute, 2006 Baseline Update for U.S. Ag-
ricultural Markets (July 2006).
10
Id.
11
Renewable Fuels Association website,
Industry Statistics (last visited Aug. 16, 2006),
http://www.ethanolrfa.org/industry/sta-
tistics/#A.
12
Renewable Fuels Association, From
Niche to Nation, at 3 (Feb. 2006), http://
www.ethanolrfa.org/objects/pdf/outlook/
outlook_2006.pdf.
13
John Urbanchuk, Contribution of the
Biodiesel Industry to the United States, at 1
(June 2006), http://www.biodiesel.org/re-
sources/reportsdatabase/reports/gen/
20060720_gen-372.pdf.
14
Although support for the production
of biofuels has been broad, it has not been
unanimous. One presidential candidate
at the Iowa State Fair, the most likely place
for one to proclaim support for ethanol
subsidies, recently stated that he sup-
ports the use of ethanol but is opposed to
subsidizing the fuel. Jonathon Roos, McCain
Praises Timing, Clout of Iowa Caucuses, Des
Moines Register (Aug. 16, 2006).
15
2002 Minn. Laws, Ch. 128, Article 3 § 47
(repealing certain sections of the Minne-
sota producer incentive law (codified at
Minn. Stat. § 41A)); Mike Morris and
Amanda Hill, Ethanol Opportunities and
Questions, National Center for Sustainable
Agriculture, at 12 (2006), available at http:/
/attra.ncat.org/calendar/new_pubs.php/
2 0 0 6 / 0 7 / 2 0 /
ethanol_opportunities_and_questions.
16
See David Coltrain and Eric Dean, Risk
Factors in Ethanol Production, Agricultural
Marketing Resource Center, at 20 (un-
dated), http://www.agmrc.org/NR/
rdonlyres/0ED97642-8BCB-458F-B315-
7DE44AF58FAD/0/ethanolriskfactors.pdf
(highlighting the government or regula-
tory risk involved with ethanol production
and focusing on the Renewable Fuels Stan-
dard and the possibility of more stringent
environmental regulation).
17
42 U.S.C. § 7545(o).
18
Id. § 7545(o)(2)(B). “Subject to clauses
(iii) and (iv), for the purposes of subpara-
graph (A), the applicable volume for cal-
endar year 2013 and each calendar year
thereafter shall be determined by the
Administrator, in coordination with the
Secretary of Agriculture and the Secre-
tary of Energy, based on a review of the
implementation of the program during
calendar years 2006 through 2012, includ-
ing a review of—(I) the impact of the use
of renewable fuels on the environment,
air quality, energy security, job creation,
and rural economic development; and (II)
the expected annual rate of future produc-
tion of renewable fuels, including cellulo-
sic ethanol.” Id. Clause (iii) of this section
states that for the years after 2012, the
ratio of renewable fuels versus non-re-
newable fuels should be the same as it was
in 2012.
42 U.S.C. § 7545(o)(1)(C).
20
Id. § 7545(o)(7).
21
American Jobs Creation Act of 2004,
P.L. 108-357 (Oct. 22, 2004).
22
26 U.S.C. § 6426.
23
See National Ethanol Vehicle Coali-
tion, A Guide to the New Tax Law: Changes in
Tax Incentives for Ethanol Producers, at 3 (last
visited August 15, 2006) http://
www.e85fuel.com/forretailers/
ethanoltaxbrochure2005.pdf.
24
26 U.S.C. § 6426(b)(2).
25
Id § 6426(b)(3). “Agri-biodiesel means
biodiesel derived solely from virgin oils,
including esters derived from virgin veg-
etable oils from corn, soybeans, sunflower
seeds, cottonseeds, canola, crambe, rape-
seeds, safflowers, flaxseeds, rice bran,
and mustard seeds, and from animal fats.”
IRS Pub. No. 378, ¶5 (April 2004).
26
7 U.S.C. § 6426(b)(5).
27
Id. § 6426(c)(5).
28
IRS Pub. No. 378, ¶6.
29
Id.
30
26 U.S.C. § 40A(b).
31
Id. §§ 40(g)(6); 40A(e)(6).
32
Id. § 40A(b).
33
7 U.S.C. § 8102.
34
Id. § 8102(c)(2).
35
Id. § 8105(a).
36
Id. § 8105(b)(2).
37
Id. § 8108; 7 C.F.R. Part 1424.
38
Section 8108(b)(3) targets the pay-
ments to producers with a capacity of less
than $65 million.
39
7 U.S.C. § 8108(c) (providing funding
only through 2006).
40
Id. § 8106; see also 7 C.F.R. part 4280. As
the USDA website states, the regulations
provide that for a project to be eligible it
must be:
· for a pre-commercial or commercially
available and replicable technology.
· technically feasible.
· owned and operated by the applicant.
A qualified third-party operator may be
used to manage the operation and/or
maintenance of the proposed project.
· based on satisfactory sources of rev-
enues in an amount sufficient to provide
for the operation and maintenance of the
system or project.
41
USDA website on Rural Energy Sys-
tems, http://www.rurdev.usda.gov/rbs/
farmbill/what_is.html (last visited August
15, 2006).
42
USDA Announces Nearly $21 Million in for
AUGUST 2006 AGRICULTURAL LAW UPDATE 7
Renewable Energy, USDA News Release
(Sep. 14, 2005).
43
7 U.S.C. § 8106(c)(2).
44
Id. § 1621 note; 7 C.F.R. part 4284.
45
http://www.rurdev.usda.gov/rbs/co-
ops/vadg.htm (last visited Aug. 15, 2006).
46
7 U.S.C. § 1621 note (a)(1).
47
Doug O’Brien, Neil D. Hamilton and
Robert Luedeman, The Farmer’s Legal Guide
to Producer Marketing Associations, Drake
University Agricultural Law Center, chap-
ter 4 (2005), available at http://
www.nationalaglawcenter.org/research/
#producermarketing. This chapter out-
lines many of the practical and legal con-
siderations when choosing a type of busi-
ness organization.
48
See Renewable Fuels Association, From
Niche to Nation: Ethanol Industry Outlook
2006, at 8 to 9 (Feb. 2006). The publication
lists the U.S. fuel ethanol refineries. Out of
107, 73 are organized as LLC’s.
49
Filings with the Security and Exchange
Commission by ethanol and biodiesel
ventures indicate that the cost of the plants
are in the tens of millions of dollars, and
can well exceed $100 million. For instance,
the estimated cost for a 30 million gallon
biodiesel plant in Lamoni, Iowa is between
$40 and 56 million. Southern Iowa Energy,
LLC, Pre-Effective Amendment 4 to Form
SB-2, at i (May, 2006). The estimated cost
for a 100 million gallon ethanol plant in
New Hampton, Iowa is $159 million. Home-
land Energy Solutions, LLC, Form SB-2, at
1 (July 21, 2006).
50
See Christopher R. Kelley, “New Gen-
eration” Farmer Cooperatives: The Problem of
the “Just Investing” Farmer, 77 North Dakota
Law Review 185 (2001) (explaining how a
closed cooperative works and some of the
legal issues presented by this type of
business organization).
51
For an excellent discussion of coop-
erative principles and issues, see James
R. Baarda, Current Issues in Cooperative Fi-
nance and Governance, Cooperative Pro-
grams, Rural Development, USDA (April
2006).
52
Professor Carol Goforth provides a
thorough discussion of securities issues in
An Introduction to Federal Securities Laws as
They Might Apply to Agricultural Operations
(2002) available at http://
www.nationalaglawcenter.org/assets/ar-
ticles/goforth_securities.pdf.
53
15 U.S.C. § 77b(1).
54
See Goforth, supra note 52, at 13-14
(discussing the impacts on sellers if their
financial instrument is defined as a secu-
rity).
55
15 U.S.C. § 77c(a)(5).
56
Donald A. Frederick, Income Tax Treat-
ment of Cooperatives: Internal Revenue Code
Section 521, Co-op. Information. Rep. 44,
Part 4, at 23 (2005 ed.), available at http://
www.rurdev.usda.gov/rbs/pub/cir444.pdf
(“IRS has also stated that a cooperative
that processes its members’ agricultural
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:
juliesavdaysinn@aol.com Website: www.innatellissquare.com

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: www.riverstreetinn.com.

Robert P. Achenbach, Jr,

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

8 AGRICULTURAL LAW UPDATE AUGUST 2006