What Is a Patronage Dividend and Are They Taxable?

A patronage dividend is a refund that a co-operative distributes to its members as a share of the co-op’s profits. Unlike a regular stock dividend, a patronage dividend is not a return on investment. Instead, it represents a rebate on the member’s purchases from the co-op during the previous fiscal year. Cooperatives may be able to deduct patronage dividends from their income to reduce their taxes, and a member of a cooperative normally does not owe income taxes on patronage dividends. To learn more about patronage dividends and other types of dividends or how each could impact your finances, contact a financial advisor.

Co-Operative Basics

Co-operatives are organizations that resemble businesses except that they are owned by their members, who are usually also their customers. Co-ops can be found in agriculture, electric power generation, retail and other sectors.

Some are small, local retail operations selling food and other items to individual consumers in their community. Others are national in scope, with tens of billions of dollars in revenue and substantial profits. Many large co-ops have for-profit businesses as their members.

According to an annual list compiled by National Cooperative Bank, the largest is CHS, an agricultural co-op owned by farmers and ranchers with a total of $38.4 billion in 2021 revenues. Other major co-ops include Associated Wholesale Grocers, with $10.8 billion in revenues, which caters to independent grocery stores, and Navy Federal Credit Union, with revenues of $8 billion and 12 million members consisting of military service members, veterans and their families.

How Co-Ops Pay Patronage Dividends

Many co-ops distribute patronage dividends to their members, usually annually, as a way of sharing the co-op’s profits. The amount of the dividend is based on the number of purchases the cooperative member has made over the prior year. For instance, a retail grocery co-op may rebate 10% of the amount a member has spent on groceries. Patronage dividends may be in cash, store credit or other forms.

Patronage dividends are different from regular stock dividends paid by a corporation. The amount of a regular corporate dividend payment is calculated on a per-share basis. Owners of more shares receive more. Patronage dividends are based on patronage, not ownership. Co-op members who spend more at the co-op get more dividends, regardless of the size of their investment in the co-operative. However, non-members of the co-op do not receive patronage dividends.

Taxing Patronage Dividends

Tax treatment is another way patronage dividends are different. Shareholders who receive corporate dividends pay taxes on the dividends as ordinary income. However, co-op members normally do not pay taxes on most patronage dividends. In fact, in some cases, recipients of patronage dividends can deduct the number of their dividends from their taxable income.

Patronage dividends on purchases made for business purposes are treated differently. Businesses that are members of co-ops may owe taxes as ordinary income on patronage dividends that exceed the adjusted value of capital assets or depreciable property that was purchased for business purchases.

Another tax difference affects the payers of the dividends. Corporations cannot deduct regular dividends, but co-ops can deduct patronage dividends as business expenses. For this reason, while co-ops can pay regular stock dividends, most opt to pay deductible patronage dividends.

Reporting Patronage Dividends

Co-ops may be required to report patronage dividends to the Internal Revenue Service on Form 1099-PATR. Co-ops have to file this form for every person who received at least $10 in dividends and who is subject to backup withholding.

If a co-op reports patronage dividends on a Form 1099-PATR, the co-op has to send a statement to the recipient of the patronage dividend. If the recipient is a business, the patronage dividends will be reported on Schedule C. Farmers usually report patronage dividends on Schedule F. However, patronage dividends received from purchases of personal or family items are not required to be reported.

Bottom Line

Patronage dividends are rebates that co-operative organizations pay to their members who make purchases. Patronage dividends are calculated based on purchases rather than ownership. That is one thing that makes them different from regular stock dividends. Patronage dividends also get special tax treatment, providing deductions from income for the co-operatives that pay them and providing tax-free rebates to members.

Tips for Investing

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