Court Says USDA Misinterpreted Its Own Regulation

The Federal District Court for the District of Minnesota has ruled that the USDA misinterpreted the “active engagement” test with the effect that a farming operation was denied eligibility for farm program benefits.  The farming operation was formed as a limited liability company (LLC) in 1998 by two persons.  A third person, the husband of one of the founders was the manager.  In 1998, the LLC applied for farm program benefits and submitted a farm operating plan to USDA.  The plan said that the LLCs two members would collectively provide 10 percent of the active personal labor and 50 percent of the active personal management of the farming operation.  In order to qualify for benefits, the LLC had to satisfy the “active engagement” test (7 C.F.R. §1400.201(a)).  As applied to the LLC, the test required that (1) the LLC separately make a significant contribution to the farming operation of capital, equipment or land, or a combination of capital, equipment or land; and (2) the LLC members (who hold at least 50 percent of the beneficial interests in the entity) must collectively make a significant contribution of active personal management, or a combination of active personal labor and active personal management to the farming operation.

In 1998, USDA determined that the LLC satisfied the active engagement test – and the determination was good for 1999 and 2000.  The LLC received $155,830.17 in subsidies before it was dissolved in 2000.  In early 2000, the LLC’s manager fraudulently obtained a loan by lying to a bank in northern Iowa.  He got time in the federal pen for that, and the month after he was sentenced USDA conducted a payment limitation review of the LLC.  That review resulted in USDA determining that the LLC had not satisfied the active engagement test for 1998-2000 because the LLC members had failed the active engagement test by not providing enough active personal management.  On the farm operating plan, the LLC members stated they would collectively provide 50 percent of the active personal management of the LLC’s farming activities.  That was an estimate of what the LLC members believed would be their combined contribution of active personal management, but USDA treated it as a legal requirement.  Since they didn’t contribute 50 percent of the active personal management, USDA said the LLC failed the active engagement test.  The LLC challenged USDA’s determination, but USDA upheld it’s determination in the administrative appeal process.  The LLC then filed suit in federal court for review of the USDA’s decision.

The court set forth the USDA’s active engagement test and noted that the test only requires that the LLC members (who hold at least 50 percent of the beneficial interests in the LLC) provide a significant contribution of active personal management, or a combination of active personal labor and active personal management, not 50 percent as USDA believed.  Because USDA determined that the LLC members had not provided enough active personal management to meet what USDA believed was a 50 percent requirement, they determined that the LLC was ineligible for benefits.  But, the court noted that the necessary contribution only needed to be significant, not 50 percent.  When the LLC members noted on the farm operating plan that they would provide a 50 percent contribution of active personal management, that was only an estimate and not a legal requirement.  A “significant” contribution is not necessarily a 50 percent contribution (the court did not opine on whether such an interpretation would be reasonable).  

The court also determined that the LLC’s laches defense did not apply.  That’s an equitable defense that comes into play when one party is guilty of unreasonable and inexcusable delay that has resulted in prejudice to the other party).  Generally, a laches defense can’t be asserted against the government, and the court said that even if it did, it wouldn’t have applied in this case.  The USDA learned of the LLC manager’s criminal activity in 2003 and couldn’t do a payment limitation review until that matter was over.  USDA started its review shortly after that process was completed, so the LLC wasn’t prejudiced by any delay.  

Ultimately, the court remanded the case to USDA for application of the correct standard for determining whether the LLC satisfied the active engagement test.  B&S Farms of Kasson, LLC v. United States Department of Agriculture, No. 08-CV-5827 (PJS/JJK), 2009 U.S. Dist. LEXIS 84299 (D. Minn. Sept. 15, 2009).