Patronage or Capital Credits
Members and Capital Credits
Rural Electric and Telephone Cooperatives belong to the "
Members" who have purchased electric or telephone service from the Coop. This membership interest is based
on Member equity investments known as "
Capital Credits" or sometimes "
Patronage Credits". It has similarities to the ownership of stock in a conventional corporation.
Margins or Profits
Every month when a Member pays the bill for electric or telephone service, the Coop
pays the expenses of providing that service. Any funds left over at the
end of the year are called "Margins" that in a conventional corporation would be "profit". These Margins provide equity for
the Coop and are allocated to the Members in
proportion to their purchases during the year. The Member's share of the Margins
is the member's Capital Credits or Patronage Credits.
Virtually every state law that authorizes the formation of these cooperatives requires them to be operated "
At Cost" and legally obligate the Coops to either: (i) return the Margins to the Members or (ii) reduce rates for service to absorb the Margins. This is
not optional with the Coop and in fact the US Internal Revenue Code requires cooperatives to operate at cost to be considered non-profit and avoid taxation of these Margins.
Former Members
Even if Members move out of the cooperative service territory and cease to purchase service, these "
Former Members" retain ownership their Capital Credit allocation. These Members are legally entitled to receive any annual
payments made.
If a Member dies, the Capital Credits can continue to be paid to
spouse under a joint membership, or to an estate. Or, the executor of
the estate may choose to have any outstanding capital credits paid depending on the policies of the Coop.
Capital Credits are a basic difference between co-ops and for-profit
corporations. The total outstanding Capital Credits for all cooperatives are in the billions of dollars.
Retention of Capital Credits
Notwithstanding the legal obligation to operate at cost, many Coops accumulate Capital Credits to satisfy their lenders and the
Coops' Board of Directors may elect to distribute a portion back to the Members. Coops typically hold Capital Credits for a period of time before repaying them for two purposes:
- As working capital to keep the cooperative financially sound and to
allow for emergencies, such as a large storm which requires replacement
of many poles and power or telephone lines.
- To reduce debt requirements for investment made in the cooperative's electric
distribution system. This builds member equity in the co-op.
Rotation of Capital Credits
The length of time that a Coop retains Capital Credits before returning them to its Members is known as the period of "
Rotation": How many years does the Coop hold Capital Credits before it retires or repays them to their owners. Well managed Coops have a practice of retaining recently earned Capital Credits but repaying older Capital Credits.
Rotating Capital Credits -- paying the Capital Credits of Former Members and those Members who have purchased service for many decades with recently earned Capital Credits -- causes current customers to pay their fair share of the cost of providing service. New Members don't get a free ride at the expense of longstanding or former Members.
So, holding Capital Credits for a short period of time from 10 to 20 years -- a "short" Rotation -- is not unreasonable and likely in compliance with state and federal law.
However, a longer Rotation for periods in excess of 50 years is clearly improper and almost certainly violates the cooperative principles and state law as well as the Internal Revenue Code subjecting the Coop to the potential for having all of these Margins taxable. This is often a sign that something is amiss with the management of the Coop because why else would a monopoly with no competition that pays no taxes be unable to return some of its Margins -- the profits -- to its owners.
This failure to timely Rotate Capital Credits has been the basis of litigation against Coops who have not properly Rotated Capital Credits including
CoServ Electric in Texas and
Carroll Electric in Arkansas.
One of the more egregious examples was
Pedernales Electric Cooperative of Johnson City, Texas that never paid any Capital Credits in its 70 plus year history until a lawsuit filed in 2007 by Members and Former Members required it to begin to properly Rotate its Capital Credits by paying out tens of millions of dollars. This failure to Rotate occurred even though Pedernales Electric Cooperative was the largest Rural Electric Cooperative in the United States with nearly One Billion Dollars in assets.