In addition to membership certificates, rural electric systems also issue capital credit certificates. Initially the entire capital structure of an REA-financed electric system consists of a loan from the Government. The Government advances 100 percent of the total cost of constructing the system and the cooperative issues to the Government its note for the amount secured by a first mortgage on all existing and after-acquired properties.

After the rural electric system becomes operational, it begins to repay this loan to the Government over the statutory 35-year period. The funds with which to repay the Government loan are derived from power sales revenue. In other words, the member-consumers of the cooperative contribute through their power bills to the repayment of the Government loan.

Therefore, as the proceeds from membership electric bills are used to repay the Government loan, the loan of the Government to the cooperative is progressively decreased, and the equity of the members substituted.

Rural electric system bylaws and the Rural Electrification Administration require that each system keep books of account which accurately reflect the increasing equity of the membership and the allocation of that equity among individual cooperative members.

As evidence of this equity in their cooperative, each member is customarily and periodically issued a capital credit certificate. This capital credit certificate is evidence of the magnitude of each consumer's equity in his cooperative. It is non-interest-bearing and nontransferable except to a successor in occupancy or interest of the premises held by the member.

As the cash position of the cooperative permits, and at the discretion of its board of directors, these capital credit certificates may be retired via a cash payment from the cooperative to the member-consumers. Thus, the equity is transferred from the member-consumer to the corporate entity. To the extent that these payments represent a return of capital contributed by a member-consumer who had used electricity for purely domestic purposes, they would be nontaxable. If, however, a member consumer had deducted his electricity bill as an expense necessary to a commercial operation, then, in that event the cash capital credit retirement payment would be proportionately taxable.

These capital credit certificates, we believe, might also fall within the provisions of section 3(c) of H.R. 6789, and, thereby, subject all rural electric systems to complete SEC registration filings on them.

INTENT OF THE SEC

We respect fully suggest to the subcommittee that it is probably not the desire of the Securities Exchange Commission to reach this type of issue. We further respectfully suggest that no public interest could be served by additional control through SEC of these generally nontransferable and non-interest-bearing certificates. A great many rural electric systems throughout the United States utilize only one or two or three nonspecialized clerical employees. The preparation of a complete SEC filing is a major task for skilled and specialized attorneys, accountants, and engineers. The requirement that each -cooperative submit a registration statement would constitute a very

heavy financial burden and, we believe, is unwarranted by the circum

stances.

On two occasions, representatives of the National Rural Electric Cooperative Association, including myself, and the SEC have discussed the relationship between the language of section 3 (c) of H.R. 6789 and the rural electrification program. We are now advised that the Commission does not intend that either the membership certificates or capital credit certificates of rural electric systems should be subject to section 3 (c) of the proposed legislation.

We specifically inquired of the Commission as to whether or not it would object to the inclusion in the proposed legislation of specific language exempting from its provisions these two types of certificates; that is, the membership certificates and the capital credit certificates issued by the rural electric systems.

We are advised by the Commission that it would not interpose objection to the inclusion of the following addition to subsection (g) (2) of section 3 (c) of H.R. 6789:

() any security issued by a mutual or cooperative organization which supplies a commodity or operates not for pecuniary profit; provided the security is part of a class issuable only to persons who purchase commodities or service from the issuer, the security is transferable only to a successor in interest or occupancy of premises serviced or to be served by the issuer, and no dividends are payable to the holder of the security.

In the alternative, we respectfully suggest that the same objective would be served by including in the list of exempt classes of issuers and issues provided for, beginning with line 1 of page 7 of H.R. 6789, language such as:

membership certificates and certificates of capital credit issued by any REAfinanced, nonprofit electric system.

Mr. Chairman, we do have the approval of the Securities and Exchange Commission of the longer language, the more involved language, which appears at the middle of page 7 of my statement. We do not have its approval for the shorter form which appears toward the bottom of my statement on page 7.

At this point, Mr. Chairman, I offer for inclusion in the record in substantiation of our assertion in this matter, copies of a letter dated November 18, 1963, addressed to Charles A. Robinson, Jr., staff engineer and staff counsel of the National Rural Electric Cooperative Association, on the letterhead of the Securities and Exchange Commission, and signed by its General Counsel, Philip A. Loomis, Jr., which, in essence, states the position of the Commission as not opposed to the inclusion of the aforementioned language.

Mr. LONG. Without objection, it will be inserted as part of the record.

(The letter referred to follows:)

Re H.R. 6789, 88th Congress.

Mr. CHARLES A. ROBINSON, Jr.,

SECURITIES AND EXCHANGE COMMISSION,
Washington, D.C., November 18, 1963.

Staff Engineer and Staff Counsel, National Rural Electric Cooperative Association, Washington, D.C.

DEAR MR. ROBINSON: This is with reference to your suggestion that section 3(c) of this bill be amended to add certain securities of rural electric cooperatives to the class of securities exempted from proposed section 12(g) (1) of the Securities Exchange Act of 1934.

28-738-64-pt. 2-13

As I indicated to you, it was not our intention that these securities should be subject to subsection (g). The matter has been considered by the Commission and we would have no objection if your association wished to suggest that such a provision be included in order to clarify this matter. I have slightly revised the proposed draft which you submitted simply in order to make it conform a little more closely to the form we usually follow in similar provisions. The suggested language is as follows (suggested subparagraph to be added to subsection (g) (2) of section 3 (c) of S. 1642, and to corresponding provision of H.R. 6789):

"() any security issued by a mutual or cooperative organization which supplies a commodity or service primarily for the benefit of its members and operates not for pecuniary profit; provided the security is part of a class issuable only to persons who purchase commodities or services from the issuer, the security is transferable only to a successor in interest or occupancy of premises serviced or to be served by the issuer, and no dividends are payable to the holder of the security."

Sincerely,

PHILIP A. LOOMIS, Jr.,
General Counsel.

Mr. ROBINSON. Under the language of section 3 of the proposed legislation, as it is found beginning at line 6 of page 10, the Commission may by rule or regulation, or upon the application of an interested person, and after notice and opportunity for hearing, exempt from its provision, by administrative procedures, such classes of issues or issuers as it deems appropriate. We submit, however, that if it is the coincident intent of the Commission and of Congress that a particular classification of issues or issuers be exempt from jurisdiction, the exemption is most effectively expressed by specific language in the basic statute.

The present controversy over the jurisdictional status of REAfinanced electric systems before the Federal Power Commission is an excellent example of the problem. The Rural Electrification Act of 1936 and the Federal Power Act of 1935 were passed within a few months of each other. The Rural Electrification Act does not mention the Federal Power Act and the Federal Power Act does not mention the Rural Electrification Act.

The REA Administrator must certify the feasibility of each loan granted and the security interest of the United States represents the entire capital structure of nearly all rural electric systems. The Administrator, in addition, must supervise and approve the wholesale and retail rates of each system which he finances, the accounting praetices thereof, the disposition of reserves, and, in general, their entire financial organizational and organic structure and operation.

For 27 years after passage of the Federal Power Act, no Federal Power Commission asserted general jurisdiction over REA-financed electric systems. It was widely assumed that such jurisdiction did not lie. Last July, however, the present Federal Power Commission issued "show cause" orders to three REA-financed systems for the purpose of initiating formal proceedings to determine its jurisdiction.

Thus far, over 400 rural electric systems have intervened in support of the three respondent systems which are resisting this assertion of jurisdiction by FPC. These intervenors have contributed over $50,000 for the purpose of retaining counsel, employing expert wit nesses, and defraying other costs normally incident to such administrative and judicial proceedings Our lawyers estimate that even this amount is probably only 30 percent of ultimate total cost of defending

the action before the hearing examiner at the Commission, before the Commission itself and, on appeal, before the U.S. Circuit Court of Appeals and possibly the Supreme Court.

The Secretary of Agriculture, convinced that Federal Power Commission jurisdiction over REA-financed systems would conflict with and overlap and statutory responsibilities of the REA Administrator, has also intervened against this assertion of FPC jurisdiction.

The FPC staff, as evidenced by testimony already filed, contends that the Commission holds regulatory authority not only as to the rates and accounting practices of REA-financed electric systems, but also as to the issuance by such systems of their notes and mortgages to the United States. The latter contention, if successful, would create an area of clear and unambiguous conflict with the statutory powers of the Administrator.

It would also, by invoking applicability of the Federal Power Act, effectively grant a judicial appeal from decisions of the REA Administrator. This would reverse 25 years of precedent established by the Supreme Court of the United States in a long series of cases beginning with Tennessee Electric Power Company v. Tennessee Valley Authority, 306 U.S. 118 (1939) ; and including Alabama Power Company v. Ickes, 202 U.S. 461 (1938) and Kansas City Power and Light Company v. McKay, 96 U.S. App. D.C. 273, 225 F. 2d 924 (D.C. Cir. 1955) 350 U.S. 884 (1955).

It is, therefore, abundantly clear to us that where it is the intent of the regulatory authority involved, and of the Congress itself, to exempt from the applicability of a particular regulatory statute certain classes of business or securities, such exemption should be clearly spelled out in the basic enabling legislation if it is to be effective and independent of changing regulatory authority personnel and policy.

UNNECESSARY BURDEN ON RURAL ELECTRIC SYSTEMS

We respectfully emphasize, Mr. Chairman, that many rural electric distribution systems throughout the United States serve less than 1,000 consumers. Many more serve less than 3,000. The filing of SEC registration statements by such systems in connection with the distribution of membership certificates or capital credit certificates would constitute a burden which we feel is unwarranted by existing or potential damage to the public interest or by the interest of either the electric cooperative itself or its membership.

In view of the fact that REA-financed systems are thoroughly regulated and controlled by the REA Administrator, by State law, and by bylaws, in view of the fact that the United States of America holds the only security interest in nearly all such systems, in view of the fact that the only holders having equity interest in such systems are the members themselves, in view of the fact that there is no diversity of interest between owner and consumers, and in view of the fact that the Securities and Exchange Commission has expressly stated to us, that in sponsoring the instant legislation, it has no intention of regulating the membership certificate or capital credit certificates of REA-financed systems, we earnestly solicit the support of this subcommittee for inclusion in H.R. 6789 of specific exemption from the registration requirements of section 3 of the proposed legislation

for membership certificate and capital credit certificates distributed to member-consumers by REA-financed nonprofit electric systems.

Mr. Chairman, we very much appreciate the opportunity of presenting this statement. We think that in equity and in the light of commonsense it does not make sense for the SEC to regulate the membership certificates and capital credit certificates of these systems.

Mr. LONG. Mr. Robinson, thank you very much for your comprehensive statement. The language that you quoted on page 7 having been, in effect, cleared by the SEC, following that you said that the alternative that you set forth had not been cleared by the SEC. Have you discussed that approach to the problem with the Securities and Exchange Commission and have they turned it down, or have you just not discussed it with them?

Mr. ROBINSON. No, sir; I have not discussed it, Mr. Chairman. I thought that the Commission General Counsel had exhibited the utmost courtesy and consideration to use in clearing the longer language for our use and I did not want to attempt to press the Commission further.

Mr. LONG. To just let well enough alone, is that correct?

Mr. ROBINSON. That is well stated, Mr. Chairman.

Mr. LONG. Are there any of the rural electric co-ops that are converting themselves into private corporations, stockholder organizations?

Mr. ROBINSON. Not to my knowledge, Mr. Chairman; no, sir. I know of no such conversions being contemplated at the present time, nor do I know of any that have taken place.

Mr. Partridge advises me that he knows of none, either, and he was associated with REA for 15 or 16 years.

Mr. LONG. Mr. Staggers, have you any questions?

Mr. STAGGERS. No questions.

Mr. LONG. Mr. Glenn?

Mr. GLENN. Mr. Robinson, in the last paragraph on page 5 of your statement, you say that these capital credit certificates may be retired via a cash payment from the cooperative to the member consumer. Can you tell us under what circumstances the board of directors would so act?

Mr. ROBINSON. I have never personally served on a board, Mr. Glenn. When I finish, I would like to have Mr. Partridge also answer the question. It is my understanding that the principal criterion upon which the board acts in deciding whether or not to fund these capital credit certificates is the cash position of the electric cooperative. If it has accumulated sufficient cash reserves to protect itself against sudden disaster, storms, ice storms, and heavy snow storms, things that destroy a major portion of the system, then in that event the board of directors might, upon recommendation of the manager, refund these capital credit certificates. Usually they are several years behind in refunding them. That is, a certificate issued for the year 1963 might not be funded for anywhere between 3 and 10 years.

Mr. GLENN. Isn't that, in effect, giving the member consumers a dividend?

Mr. ROBINSON. No, sir. It really isn't because it represents the amount he has paid. He has paid that amount in beforehand. I know it is a difficult concept to undertsand, but when the cooperative is first