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Colorado has been called the Delaware of Cooperatives, and if you're not familiar with corporate law, you may not realize it, but that's a great thing if you're looking to form a cooperative association ("cooperative" or "co-op") in Colorado.
You may also be unfamiliar with cooperatives, and that's okay too. But read on to find out not only how useful they can be, but even that a cooperative might be a great fit for your business.
If you're familiar with cooperatives at all, what comes to mind is likely a workers cooperative, where the owners ("members" or "patrons") operate a business together in order to provide themselves with jobs and income. This is a frequently used structure with notable examples like King Author Flour and Namaste Solar. But this is not the only cooperative structure or form available.
The cooperatives created in Colorado and beyond most commonly fall into three general categories: (a) workers cooperatives (just discussed), (b) producer or marketing cooperatives (where members collectively market and/or sell the products or services they've produced, from raw materials or crops, to art or taxi cab services), and (c) purchasing or supply cooperatives (where members purchase or bargain as a group for certain goods or services, like agricultural supplies, groceries, housing, or health care services).
Even non-workers cooperatives may be more familiar to you than you think. For instance, Ocean Spray is a notable example of an agricultural supply and marketing cooperative. Organic Valley is also an agricultural cooperative that combines aspects of a marketing and a producers cooperative. Tillamook is another example of a marketing cooperative that allows independent dairy producers to sell their products under the Tillamook name.
Ace Hardware is a retailers' cooperative made up of independent businesses that pool their resources for advertising and to purchase at wholesale prices. And Recreational Equipment, Inc. (REI) is a supply cooperative owned by its customer-members. As these examples show, cooperatives can be structured so as to combine and reconfigure aspects across the general categories (above).
A cooperative can be a good fit when a group of individuals or businesses can and want to come together to achieve a common good or purpose. Cooperatives, for example, can be used to obtain wholesale or discount pricing for goods or services due to the enhanced bargaining power of the members as a group.
In some situations, cooperatives may provide the only available means of acquiring certain products or services. Conversely - when a cooperative's members are producers rather than purchasers - they may be able to attain higher prices for their goods or access contracts or markets not available to individual producers. In this way, the association empowers its members, benefiting them beyond what they could attain individually.
Cooperatives have a more democratic ownership structure that adheres generally to a one-vote-per-owner principle. This contrasts with conventional for-profit corporations and other common business arrangements where business decisions are decided on the basis of share of ownership. (Generally, the more stock you own in a corporation, the greater the weight of your vote.)
Colorado has an older (Article 55) and a newer cooperative law (Article 56). Under the more-commonly-used Article 56, cooperatives have the following five principal characteristics:
Earnings based on Contribution or Use: The distribution of earnings among the members is based on their respective contributions to, or use of, the cooperative. Depending on the type of cooperative, this contribution or use may be based on the quantity or value of labor, services, goods, or something else provided to or purchased from the association.
Limitations on Dividends: Restrictions, detailed in the association's bylaws, limit dividends on stock and interest on equity capital.
Member Voting: Voting rights within the cooperative are limited to members, and are generally on a one-vote-per-member basis.
Member-Oriented Purpose: Cooperatives, unlike typical for-profit businesses, are operated for the mutual benefit of all of the members. In a cooperative, the members all contribute to the association in order to achieve a shared purpose or common good.
Member Asset Protection: Cooperative members are generally not personally liable for any debt or obligation of the association. Like other limited liability entities, cooperatives
As noted by the last characteristic, cooperatives are limited liability entities that shield their owners from personal liability for the debts and obligations of the cooperative. As a result, they provide asset protection for their members. For this reason, the personal assets of the owners are protected in the event that the cooperative is sued or a creditor tries to collect on a co-op debt.
As with other business entities that provide liability protection, it is possible that the entity and its protection may be legally disregarded on a theory of "veil piercing" when, e.g., personal and business assets or accounts are commingled, or the business is used fraudulently or improperly (such that it seems unfair or inequitable to shield the business owners from personal liability).
For more on veil piercing, see The Current State of Veil-Piercing Law (Colorado).
This liability protection is one of the ways that the newer Article 56 improves on the older law. But Article 56 also allows for more flexible management structures and allows a wider variety of businesses and industries to participate in the cooperative form.
However, to take advantage of this liability protection and structural flexibility, it generally necessary to customize the required bylaws and other governing documents to the particular needs and circumstances of the association. The cooperative can thereby specify the procedures and practices it is to follow in order to observe the formalities required to avoid veil piercing.
Moreover, cooperatives are adaptable enough to be able to modify any of their five principal characteristics in order to suit the needs and purposes of its members or the organization.
Although cooperatives can be organized in various ways, many cooperatives are organized much like corporations, with boards of directors and officers. This structure frees members from the day-to-day management of the association, leaving those everyday decisions to a board of directors or officers who are selected by the members on a one-vote-per-member basis.
However, there is a presumption that anyone working for a corporation, even if they are also shareholders or owners of that corporation, are its employees. As a result, members of a workers cooperative, particularly when structured as a corporation, would generally have to be paid at least minimum wage and would be potentially entitled to overtime. Similarly, other employment law requirements would also apply and the cooperative would need to purchase workers compensation insurance and make payroll tax deductions.
But an LLC is organizationally flexible enough to be structured as a cooperative association. One advantage of forming an LLC structured as a co-op is that its members are not generally the cooperative's employees when they work for the business. As a result, these employment laws would not apply to working members of an LLC, even if organized as a cooperative. Furthermore, an LLC organized as a co-op would still be eligible for the tax advantages of cooperatives under subchapter T - discussed more fully in the cooperative tax section, below.
Cooperatives are a natural fit for participants in the emerging "sharing economy" whether those participants are artists, freelancers, software developers or many others. As with farmers cooperatives, the cooperative form allows these sharing-economy participants to pool their resources in order to acquire important products or services, from office space and utilities to marketing or legal services.
In Colorado, a cooperative can be formed under the public-benefit-corporation (PBC) statute. This means that a cooperative, by committing to operating in a responsible and sustainable way and selecting at least one public benefit, can be formed as or become a PBC.
Every PBC is committed to being managed in a way that considers the interests of all stakeholders - not simply shareholders - and to operating in a responsible and sustainable way. In Colorado, when formed, a PBC must select at least one public benefit that it will pursue.
Once selected, management is obligated to consider the effects of association acts on the achievement of this benefit. In this way, the cooperative's purpose or mission is "locked" or "baked" into the fabric of the association's structure.
A "public benefit" includes both producing a positive effect or reducing a negative one, and there are a wide variety of types of benefits that a PBC may pursue. The Colorado PBC law includes specifically any effect "of an artistic, charitable, cultural, economic, educational, environmental, literary, medical, religious, scientific, or technological nature." It's an extensive list that permits co-ops to pursue a wide variety of public benefits and organizational purposes.
More information on forming a PBC can be found in the section on Public Benefit Corporations on the corporations page. And the potential advantages of forming and operating a PBC are discussed more fully in the article title: Colorado Corporations: To PBC or Not To PBC?
PBCs are required to be governed in a more socially responsible manner and, as a result, are more suited to B Corp certification than other entities. B Corp certification is not a type of business entity, but a trademarked certification maintained by the nonprofit organization B Lab that is open to various kinds of entities depending on their verified assessment along various factors related to sustainable, responsible, and ethical business operations and practices.
PBCs and certified B Corps are distinct. PBCs do not have to be certified B Corps, and certified B Corps do not have to be PBCs. Other entities are eligible for B Corp certification. But if you wish to certify a corporation, that corporation will have to convert to a PBC in order to maintain its B Corp certification.
Regardless of whether formally organized as a PBC, cooperatives can be formed with various classes of membership, related to various stakeholders of the company. These different classes may have similar or quite different rights as owners, depending on the terms of governing documents.
This makes cooperatives not only a structure that facilitates consideration of stakeholder interests, but also permits their actual involvement in the association. The same cooperative may be a workers cooperative for its employees, a supplier cooperative for its vendors, and a purchaser cooperative for its customers.
Black Star Co-op Pub & Brewery in Austin, Texas is an example of a MSC where both its workers and its customers are members. Since various stakeholders are brought into the association as owners, forming an MSC would make it even easier to operate responsibly as a PBC or certified B Corp.
While the tax treatment of cooperatives resembles the treatment of corporations with taxation at the entity level, subchapter T provides for certain benefits for cooperative organizations.
The most important of these tax benefits is the ability to avoid being taxed at the entity level for net income resulting from the business that co-op members did with the association. Instead, this income "passes through" the entity, as is generally the case with partnerships and LLCs where the owners are taxed on income only at the personal level.
A cooperative taxed under this subchapter T reports income on IRS Form 1120-C. For more information on filing IRS Form 1120-C, see About Form 1120-C, U.S. Income Tax Return for Cooperative Associations.
Subchapter T requires that at least 20% of a cooperative's "patronage dividends" - that is, an individual's share of the association's net income based on that individual's use of or contribution to the cooperative - be distributed to the members in cash. Any of the remaining 80% can either be distributed in cash to the member or retained by the association as a capital reserve to be distributed at a later date.
This reserved equity allows cooperative members to build savings through the organization that they can draw upon at a later date, such as once they retire or leave the organization. A cooperative should report the allocation of cash and reserved equity for each member every year on IRS Form 1099-PATR. For more information on preparing IRS Form 1199-PATR, see About Form 1099-PATR, Taxable Distributions Received From Cooperatives.
A Colorado cooperative is formed by filing Articles of Incorporation with the Colorado Secretary of State's office and these Articles create a public record. As discussed above, in Colorado, a cooperative can be formed either under the older Article 55 or the newer Article 56.
It is also possible to form a limited cooperative association (LCA) under a separate statute (Article 58) by filing Articles of Organization with the Colorado Secretary of State. Moreover, any of these entities may be formed under the public-benefit-corporation statute by filing their respective Articles as a PBC.
Cooperatives must also draft bylaws and these required bylaws must be adopted within 30 days from the effective date of the Articles. Bylaws should address various topics related to the ownership and management of the cooperative, including (i) membership qualifications and how members will fund the association, (ii) any restrictions on the transferability of membership interests, and (iii) whether the cooperative may engage in business with non-members.
For more information about the sorts of general considerations relevant to a cooperative's bylaws, see the page on Ownership Agreements.
In contrast to other business entities like corporations and LLCs, cooperatives are generally exempt from Colorado's securities or "Blue Sky" laws, which means that stock or interests in the association do not need to be registered to be offered or sold to third parties.
However, this exemption under Colorado law, may not apply under federal Securities and Exchange Commission (SEC) regulations. So, it is best to speak with an attorney experienced in both securities and cooperative law before offering or exchanging any stock or interests in a cooperative.
The Pote Law Firm works with small business owners to help them properly register their business and draft or revise bylaws and other ownership agreements. If you need assistance with any of these things, please Reach out, Today!