Report and Recommendations of the Commission’s Grower Subcommittee: Tobacco Equity Reduction Program

Attachment "A"


The Commission recommends that Congress establish a Tobacco Equity Reduction Program (TERP) for all U.S. burley and flue-cured tobacco quotas (Grower associations representing minor kinds of tobacco (all kinds of tobacco produced under a tobacco control program other than burley or flue-cured tobacco) told the Commission that they are in favor of a quota compensation program, transferring quotas into the hands of active growers, and a system that would keep price supports in place. However, they noted that there are significant differences in the cigarette tobaccos and the minor kinds of tobacco and said that they have not formulated a program that will satisfy the needs of all concerned growers of the minor kinds of tobacco. Note also that a separate state program has been established for Maryland tobacco, a kind of tobacco not under a marketing quota control program. Current Maryland tobacco growers can receive payments of $1 per pound per year for up to 10 years in exchange for permanently discontinuing tobacco production.) to be administered by USDA.

TERP is defined as compensation to burley and flue-cured tobacco quota owners and growers for loss in value of assets that were created in large part because of the current tobacco program. The mandatory quota buyout under TERP would in effect reduce the value of these assets (quotas) to zero. All quota owners would be compensated for their quotas. Quota owners who do not currently grow tobacco would receive compensation and would no longer be involved in ownership of tobacco production rights. Current growers would have the option of receiving production permits. The permits under TERP would be designed to have zero value because they would be assigned annually to growers for production purposes only. The permits could not be leased, rented or sold.

The Commission recommends that compensation for quota owners and growers be based on the average basic quota level for 1997-99 to owners and growers of record in crop year 2000. The 1997-99 base years were chosen because they partially reflect an increase in 1997 quotas that required significant new investments in curing barns and equipment that were essentially rendered valueless after the sharp declines in quota in subsequent years.

TERP compensation and related issues. The Commission recommends that compensation for quota be set at three levels — $8, $4 and $2 per pound. All quota owners would be compensated at $8 per pound. Payments of $4 per pound would be made to growers for all pounds of quota on which they agree to permanently discontinue production. Growers would receive $2 per pound for all pounds of quota on which they wish to continue production. The $2-per-pound payment is essential to provide current growers an opportunity to continue producing tobacco. Many are heavily in debt for barns and equipment that now are only being partially used and many, especially renters, do not have sufficient funds to purchase the materials needed to grow tobacco. Without this payment, U.S. tobacco production could well drop sharply, with production shifting overseas where pesticide and other health controls are inferior to those in the United States.

The Commission recommends that compensation be paid over five years through a non-revocable contract between the federal government and quota owners and growers. Special consideration should be given to small quota owners (owners of farms having 1,000 pounds or less basic quota) who are retiring from tobacco production by allowing these owners to receive their full TERP payment in the first year of the program. This special compensation provision, as well as all TERP compensation, should be provided through the Commodity Credit Corporation (CCC) and repaid by revenues from an increased federal excise tax on all packs of cigarettes sold in the United States. The total cost of TERP is likely to be between $15 and $17 billion, requiring a federal excise tax increase of about 17 cents per pack of cigarettes. The revenues from the increased excise tax should be placed in a self-liquidating trust fund in the U.S. Treasury and used to repay the CCC for TERP compensation and to fund additional recommendations described in this chapter for economic development assistance and health proposals.

Compensation for quota should not be restricted to any payment limitation since the asset (quota and related farming assets) value has been declining over several years. Payments for some U.S. agricultural programs are restricted to various limits such as for crop year 2000 in the production flexibility program ($40,000 per producer per year [a seven-year program]), market gains on commodity loans and loan deficiency payments ($75,000 per producer per year [raised to $150,000 for 1999 and 2000]) and the annual disaster program ($80,000 per producer per year). The TERP compensation would be a one-time payment reflecting a loss in asset value over time — not a recurring payment such as those just mentioned.

The Commission recommends that various investment strategies be incorporated into the payments to quota owners and growers to lessen the impact of taxes on these receipts. The strategies could include use of the funds for 401K-type retirement plans (in essence, quotas are currently being used as a retirement plan because they provide a stream of annual income for the owner through payments from leasing or renting the quota). Other strategies include tax incentives for reinvestment of TERP funds in community enterprises and allowing capital gains treatment of TERP funds for income tax purposes.

Modification to the current tobacco program under TERP. The Commission recommends continuation of a federal tobacco price-support and production-control program. Under TERP, the Agricultural Adjustment Act of 1938 and the Agricultural Act of 1949 (permanent legislation) would be modified as follows:

Production permits would be substituted for quotas. Production permits would be issued to active growers (individuals or entities) only. Permits would be issued for the purpose of growing tobacco only, and they could not be sold, leased, rented or transferred. Following are the principle elements of the proposed permit system.

Growers will be considered active growers if they are (1) 100 percent "at risk" in the crop and (2) actively engaged in the production of the crop. To be considered actively engaged in the production of tobacco, the grower must provide:

(a) a significant contribution of one or a combination of capital, land (rented or owned) and equipment, and

(b) a significant contribution of one or a combination of active personal labor or active personal management.

For partnerships, the members would have to provide the contributions to be considered actively engaged. Active personal labor is defined as personally providing physical activities necessary in the farming operation. These activities include land preparation, planting, cultivating, harvesting and marketing the crop. USDA’s Farm Service Agency (FSA) county committees would be empowered to determine 100 percent "at risk" and "actively engaged" determinations. (Proof of active grower status would be based on invoices, including evidence of payments such as bank statements and canceled checks, for labor, pesticides, other chemicals, fertilizer, equipment, fuel, repairs and tobacco sales bills; operating loan documentation or other sources of operating capital and related management decisions; or other proof acceptable to the FSA committee that the grower is 100 percent at risk in the tobacco crop.) For corporations, the corporation would have to be actively engaged.

Initial production permits would be established for growers based on the prior year’s effective quota for which the grower was at risk in the crop. A quota owner who currently shares in the risk of production by growing tobacco on shares with a tenant could receive a permit for that share of the crop for which they are at risk. (As an example, under a one-third rental arrangement, the owner could get a permit for a one-third share of the production unit assuming the owner takes the $2 compensation option. Once the permit is issued, the owner would have to become an active grower and be 100 percent at risk in the crop and remain so to retain the permit. The owner could not establish another tenant/landlord relationship. The tenant in this example would get a permit for two-thirds of the production unit, assuming the $2 option is chosen. The tenant would have to become an active grower and be 100 percent at risk in the crop to retain the permit.)

Permits would be issued to and in the name of active growers with one permit per active grower per county. Permits would be assigned to active growers for production purposes only and would have no tie to real estate.

Permits would be considered fully utilized if at least 75 percent of the permit is marketed, but no under-marketing credit would be allowed. Any permit not utilized would be subject to permanent forfeiture. FSA county committees would be authorized to make determinations on permit forfeitures within specified parameters such as conditions beyond the control of the active grower that kept the permit poundage from being produced and marketed.

The pounds from forfeited production permits would return to a county pool for redistribution within the county. Any permit pounds not redistributed in the county would revert to a state pool for pro-rata distribution to all active growers within the state. Any permit pounds in a state pool not redistributed within the current crop year would be dropped and redistributed to other tobacco-growing states.

Heirs (surviving spouse or direct descendants) or direct descendants of a retiring active grower would be allowed to assume the permit of an active grower and establish a new active grower status. FSA county committees would make these determinations. In a partnership, a permit could be issued to a direct descendent in the same manner as with an individual grower. If certain members of the partnership leave no heirs, their portion of the permit would be forfeited. In a corporation, permits would continue as long as the corporation continued as an active tobacco grower.

All tobacco buyers would be required to submit accurate purchase intentions. If 100 percent of the intentions were not purchased (if production were available), buyers would be subject to the same marketing penalty (75 percent of the previous year’s average market price for the respective kind of tobacco) as producers for program violations on each pound not purchased.

The Commission recommends no change from the current formula in calculating price-support levels. But we do recommend that if requested by the board of directors of a tobacco loan association (through which price support for the respective kind of tobacco is made available to growers), USDA may reduce the support level for such kind of tobacco to the extent requested by the association to more accurately reflect the market value and improve the marketability of such tobacco. Any reduction in price supports under this provision shall not be used to establish subsequent year price-support levels.

All tobacco transfer provisions, including spring lease and transfer, purchase and sale and disaster transfers, would be eliminated because permits would be issued annually for production purposes only.

Only one marketing card would be issued for each active grower per county regardless of the number of farms on which tobacco is planted. The active grower would need to report the farms on which the tobacco is planted under the permit for compliance purposes only.

Current over-marketing provisions (limited to three percent of the effective quota and deducted from subsequent quotas) would be continued.

To handle carryover tobacco (tobacco produced in excess of the farm’s quota and carried over until the next crop year for marketing), the Commission recommends that growers who choose the $4 per pound option to retire from producing tobacco and who have carryover tobacco can either

destroy the tobacco (supervised by FSA) and receive the full payment or

receive reduced compensation by an amount equal to the carryover poundage times the national price-support level for the kind of tobacco for the year produced and take a one-year temporary permit to market the carryover tobacco. Temporary permit poundage would be deducted from the national permit poundage for the subsequent crop year.

The Commission recommends continuation of new-grower and inequity adjustment provisions. Currently, new-grower provisions include experience growing the crop for two out of the preceding five years; having land, labor and equipment available for production; and expecting to receive at least 50 percent of income from farming, excluding the requested quota. We recommend that the income requirement be dropped and that a national reserve of three percent be withheld to approve new-grower permits and make inequity adjustments. We also recommend that all reserve poundage not used for new-grower permits be used to make inequity adjustments. A minimum of 8,000 permit pounds should be allocated to a new flue-cured grower and 4,000 pounds to a new grower of burley. These levels would be needed to provide a marginally economical production unit (for example, about 8,000 pounds of tobacco is needed to fully utilize one flue-cured tobacco curing barn). Smaller amounts of burley can be grown because there is greater size flexibility in the construction of curing barns. The minimum levels would be initial allocations under the new-grower provision. However, to the extent additional permit poundage becomes available, the growers could request additional permit pounds to increase the income and efficiency of their operations.

With the emergence of contracting, we recommend an auction warehouse designation program for all kinds of tobacco. Growers would be required to designate the number of pounds to be sold at auction and at which warehouse(s) and the pounds to be sold at non-auction.

We recommend that all imported tobacco be subject to the same no-net-cost assessments as are domestically produced kinds of tobacco. (Currently, flue-cured and burley imports are the only tobaccos subject to such assessments.)

Production permits should be issued to active growers for use within a specific county. However, if the producer owns or rents land in a contiguous county, the permit could be moved to that county even if the county lies in another state.

The allotment control provision for flue-cured tobacco should be continued, but yields should be adjusted to reflect more current yield-per-acre levels for active growers.

Current reduction and penalty provisions should be continued, including false identification, scheme and devise to defeat the purpose of the program (including falsification of active grower status), failure to return marketing cards, etc.

Current eminent domain provisions should be continued. (Displaced landowners have three years to acquire new farmland on which to reestablish their operations.)

Tobacco Marketing Quota Review Committees should be eliminated. All tobacco program appeals should be handled through the FSA Administrative Appeals process.

Production permits should not be subject to Conservation Reserve Program reductions. (Currently, tobacco allotments and quotas are reduced by the same percentage as cropland accepted in the CRP is of the total cropland in the farm.)

The above recommended changes to the tobacco price-support and production-control program should add stability for active growers because production right costs (rental/lease costs) would be eliminated. Other suggested program changes would more accurately match supply and demand by increasing penalties for failure of manufacturers to meet purchase intentions, reducing production speculation and providing greater certainty and stability in tobacco marketing. These changes would insure continued production of tobacco in current production areas, continue to provide opportunities for new growers and provide more equitable treatment of active tobacco growers.

The Commission also recommends:

That a viable auction-marketing system be maintained to keep domestically grown tobacco competitive on the foreign market and provide a safety net for non-contract tobacco growers. The Commission recommends that tobacco loan associations be permitted to establish receiving stations in a production area when it is determined that active growers in this area do not have ready access to traditional auction markets. Tobacco buyers should be provided an opportunity to purchase any tobacco delivered to these receiving stations before the tobacco is pledged for a price-support loan. The Commission recognizes that it will be a challenge to keep the price-support program intact as more and more tobacco is sold through contracts.

That all tobacco be graded and inspected by USDA, whether sold at auction or directly to buyers through contracts or other means.

That all imported tobacco should meet the same pesticide regulations as U.S.- grown tobacco. Currently, USDA’s Agricultural Marketing Service tests for the presence of certain pesticides on imported flue-cured and burley tobacco. These imports account for approximately 50 percent of all imported tobacco. Chemical testing should be broadened to include chemicals currently banned and those not approved for use on tobacco in the United States.

TERP and related funding issues. TERP funding must be reliable and guaranteed. There are a number of potential sources, but some have no assurance of continuation or are not consistent with the guiding principles the Commission adopted. Consequently, we recommend that the increase in the federal excise tax described earlier be used to fund TERP.

We recommend an increase in excise taxes despite the fact that Phase II payments from the agreement between cigarette manufacturers and tobacco producers could be reduced. The losses of Phase II monies would be more than offset by the certainty of funding directed to quota compensation and a shift to lower-cost production of U.S. tobacco.

Funding is also needed for other activities related to the tobacco program to assure measurement and monitoring of tobacco production and consumption in the United States and abroad and to provide U.S. tobacco growers greater opportunities to participate in the world tobacco market. The Commission recommends adequate funding to:

Support USDA’s Foreign Agricultural Service in the collection and dissemination of information regarding production, consumption and related tobacco-industry information from around the world.

Support and enhance the tobacco data collection and dissemination functions of USDA’s Economic Research Service.

Support the existing prohibition against any U.S. government efforts to increase smoking overseas or to promote the sale of U.S. brands in foreign countries as necessary to the protection of public health. Government efforts to remove unfair trade barriers to the sale of U.S. tobacco leaf overseas could be done without creating any risk of increasing smoking levels or harming the public health. Allowing U.S. leaf to compete fairly with its competition overseas will neither increase foreign smoking levels nor make cigarettes more harmful. Accordingly, U.S. export and import policies and practices concerning tobacco leaf should be consistent. For example, Brazil has 53 percent or 176.5 million pounds of the current Tariff Rate Quota for tobacco imports, but annually imports only 1.5 million pounds of U.S.-produced tobacco; Malawi has eight percent or 26.6 million pounds of the Tariff Rate Quota and imports only a small amount of U.S.-produced tobacco. However, in addition to trade policy, other factors influence tobacco trade between countries.

Tobacco Grower Advisory Board. Establish a Tobacco Grower Advisory Board and require USDA, EPA, FDA, the U.S. Trade Representative’s Office and related federal departments and agencies issuing rules and regulations governing tobacco production and product control to notify this Board prior to initiation of any rule-making process to provide the Board an opportunity for timely input. The Board’s purpose would be to advise the federal departments and agencies on the economic and technical feasibility of proposed actions.

The Commission recommends that the Board be established as part of the Center for Tobacco-Dependent Communities. The Board should be comprised of burley and flue-cured tobacco growers and appointed by the Board of Directors of the Center.