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1020-00006 · TerraVault BioSciences Inc · Diligence

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CALDERWOOD & HARKNESS LLP Attorneys at Law 800 Walnut Street, Suite 2400 Des Moines, Iowa 50309 Telephone: (515) 284-7000 Facsimile: (515) 284-7001 www.calderwoodharkness.com

PRIVILEGED AND CONFIDENTIAL ATTORNEY-CLIENT COMMUNICATION / ATTORNEY WORK PRODUCT

This memorandum is a privileged and confidential attorney-client communication and attorney work product. It is intended solely for the use of the addressees identified below and should not be disclosed to any third party without the prior written consent of Calderwood & Harkness LLP and Greenfield Agricultural Partners LLC. Unauthorized disclosure may result in a waiver of applicable privileges.

MEMORANDUM

Matter Number: 2022-M&A-00437

TO: Sandra Tung, Responsible Partner, Mergers & Acquisitions, Calderwood & Harkness LLP Rachel Yun-Park, Chief Financial Officer, Greenfield Agricultural Partners LLC

FROM: Derek Okonkwo, Lead Associate, Mergers & Acquisitions, Calderwood & Harkness LLP Tiffany Rosenthal, Working Associate, Mergers & Acquisitions, Calderwood & Harkness LLP

DATE: November 14, 2022

RE: Tax Structuring Analysis — Proposed PrairieSense Technologies LLC Joint Venture Between Greenfield Agricultural Partners LLC and TerraVault BioSciences Inc.

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I. Executive Summary

This memorandum analyzes the federal and Iowa state income tax implications of the proposed formation of PrairieSense Technologies LLC ("PrairieSense" or the "JV Entity"), a proposed Iowa limited liability company that would serve as a joint venture between Greenfield Agricultural Partners LLC ("Greenfield") and TerraVault BioSciences Inc. ("TerraVault"). This memorandum has been prepared at the request of Sandra Tung, Responsible Partner, in connection with Greenfield's evaluation of the proposed transaction structure and the negotiation of the JV Operating Agreement.

The proposed transaction contemplates a total initial capitalization of $12,000,000. Greenfield would contribute $7,200,000 in cash in exchange for a 60% membership interest in PrairieSense. TerraVault would contribute $4,800,000 in exchange for a 40% membership interest, consisting of $2,400,000 in cash and $2,400,000 in the form of an exclusive technology license for TerraVault's proprietary SoilPulse™ real-time soil nutrient and moisture sensor platform. The in-kind valuation of $2,400,000 reflects Greenfield's proposed compromise position, as discussed more fully in Section II.C below.

Our principal tax conclusion is that the JV Entity should be structured as a multi-member LLC classified as a partnership for federal income tax purposes, thereby providing pass-through treatment to both members and avoiding an entity-level federal income tax. This structure preserves the ability of each member to utilize its allocable share of JV losses during the anticipated early-year loss period and ensures that, upon transition to profitability, income is taxed only once at the member level.

This memorandum was prepared in coordination with Clarendon & Marsh CPAs LLP (engagement partner William Desmond, CPA), Greenfield's tax and accounting advisor. Clarendon & Marsh provided input on certain Iowa-specific tax considerations, including the newly enacted Iowa elective pass-through entity tax, as well as Greenfield's existing fund-level tax posture and tiered partnership structure. Certain matters identified in this memorandum have been referred to Clarendon & Marsh for further quantitative analysis, as set forth in Section X below.

A central recommendation of this memorandum is that the JV Operating Agreement must include carefully drafted special allocation and distribution provisions under Internal Revenue Code ("IRC") Sections 704(b) and 704(c) to address the differing contribution types — cash from Greenfield and a combination of cash and intellectual property from TerraVault — and to protect Greenfield from bearing tax burdens attributable to the built-in gain inherent in TerraVault's contributed IP. Specifically, we recommend adoption of the "remedial method" under Treasury Regulation § 1.704-3(d) for the IP contribution, as this method most effectively eliminates the book-tax disparity that would otherwise shift economic tax costs from TerraVault to Greenfield.

As a preliminary caveat, the analysis in this memorandum assumes that the SoilPulse™ technology license is valued at $2,400,000, consistent with Greenfield's proposed compromise position. The parties have not yet resolved the IP valuation dispute: Greenfield's independent consultant, Velthorn IP Consulting LLC, valued the license at $1,800,000, while TerraVault's financial advisor, Ridgeline Advisors LLC, valued it at $4,500,000. TerraVault has demanded a valuation of $3,600,000, which would imply a $6,000,000 total contribution by TerraVault and a 50% equity stake in the JV Entity. If TerraVault's demanded valuation were adopted, the analysis in this memorandum — particularly with respect to built-in gain amounts, IRC § 704(c) allocation magnitudes, and the relative equity percentages — would require material revision. The sensitivity of the tax analysis to the IP valuation is addressed throughout this memorandum and specifically in Sections IV.D, V.B, and XI.

II. Background and Proposed Transaction Structure

A. The Parties

1. Greenfield Agricultural Partners LLC

Greenfield Agricultural Partners LLC is an Iowa limited liability company with its principal offices located at 4100 Grand Prairie Drive, Suite 300, Des Moines, Iowa 50309. Greenfield's Employer Identification Number is 47-3281904. Greenfield is a strategic private investment firm focused on the agricultural and chemicals sectors. It was founded in 2009 by Marcus J. Linden and currently manages approximately $680 million in committed capital across three fund vintages. Greenfield's portfolio includes fourteen active portfolio companies spanning the agricultural value chain, including crop inputs, precision agriculture, supply chain logistics, and agricultural biotechnology. Greenfield serves as the operating partner and majority investor in the proposed joint venture.

Greenfield is itself a pass-through entity for federal income tax purposes. Its fund structure involves multiple tiers of pass-through entities through which investment income flows to its underlying limited partners and fund investors. The precise tiered partnership structure is relevant to the tax analysis insofar as it may create additional allocation considerations and potential cascading effects on distributions and tax reporting. Confirmation of the details of this fund structure has been referred to Clarendon & Marsh CPAs LLP (William Desmond), as noted in Section X below.

2. TerraVault BioSciences Inc.

TerraVault BioSciences Inc. is a Delaware corporation qualified to do business in Illinois, with its principal offices located at 1720 Innovation Parkway, Champaign, Illinois 61820. TerraVault's Employer Identification Number is 82-6047231. TerraVault is a precision agriculture technology company co-founded in 2017 by Dr. Anand Mehta, who serves as Chief Executive Officer, and Dr. Lian Xu, who serves as Chief Technology Officer. TerraVault has raised approximately $38 million in cumulative venture capital funding through its Series B round. Meridian Venture Partners led the Series A financing at $8 million, and Bluestem Capital Group led the Series B financing at $18 million. For the fiscal year ending December 31, 2022, TerraVault projects revenue of approximately $6.2 million and an EBITDA loss of approximately $(3.8) million. As a Delaware C corporation, TerraVault will report its distributive share of JV income and loss on its corporate federal and state income tax returns.

3. SoilPulse™ Technology

TerraVault's principal technology asset relevant to this transaction is its proprietary SoilPulse™ real-time soil nutrient and moisture sensor array. The SoilPulse™ platform has been deployed in pilot programs covering approximately 45,000 acres of commercial row-crop farmland across Illinois, Indiana, and Iowa. The technology is protected by the following intellectual property rights:

• U.S. Patent No. 10,842,317 — Issued March 9, 2021 (utility patent covering the core sensor array architecture and data processing methodology)

• U.S. Patent Application No. 17/509,664 — Filed October 25, 2021 (pending application covering next-generation sensor integration and predictive analytics functionality)

• U.S. Trademark Registration No. 6,318,205 — Registered trademark for the "SoilPulse" word mark in connection with agricultural technology and sensor products

The scope and valuation of the intellectual property rights to be contributed to the JV Entity are central issues in both the commercial negotiation and the tax structuring analysis.

B. Proposed JV Entity

The proposed joint venture entity is PrairieSense Technologies LLC. PrairieSense has not yet been formed; the parties contemplate that it will be organized as an Iowa limited liability company under the Iowa Revised Uniform Limited Liability Company Act (Iowa Code Chapter 489). PrairieSense's stated business purpose will be the development, manufacturing, and commercialization of integrated soil-health sensor systems for commercial row-crop agriculture in the U.S. Midwest. The governing law of the JV Operating Agreement will be Iowa law.

As discussed in Section III below, PrairieSense will be classified by default as a partnership for federal income tax purposes, and we recommend that the parties not make a "check-the-box" election to alter this default classification.

C. Proposed Capital Contributions

The proposed total initial capital commitment for PrairieSense is $12,000,000, to be contributed by the two members as follows:

TerraVault's in-kind contribution consists of an exclusive technology license for the SoilPulse™ platform, granting PrairieSense the right to develop, manufacture, and commercialize products based on the SoilPulse™ technology within the JV's designated field of use and territory. The precise scope, duration, and exclusivity provisions of the technology license will be set forth in a technology license agreement to be embedded in or appended to the JV Operating Agreement.

IP Valuation Dispute. The agreed-upon fair market value of TerraVault's IP contribution remains a contested issue between the parties. The following valuations have been presented:

• Velthorn IP Consulting LLC (lead consultant Dr. Miriam Sokoloff): $1,800,000 — This valuation was commissioned by Greenfield and delivered on October 17, 2022. Velthorn's report utilized a discounted cash flow methodology and applied technology risk adjustments reflecting the early-stage nature of the SoilPulse™ platform.

• Ridgeline Advisors LLC (Catherine Holloway, Managing Director, financial advisor to TerraVault): $4,500,000 — This valuation was prepared on behalf of TerraVault and utilized a market-comparable and replacement-cost blended approach, which Ridgeline characterized as reflective of the strategic value of the technology within the JV context.

• Greenfield's proposed compromise position: $2,400,000 — This figure represents a negotiated midpoint that Greenfield has proposed in an effort to resolve the dispute.

• TerraVault's demanded valuation: $3,600,000 — If adopted, this valuation would imply a total TerraVault contribution of $6,000,000 ($2,400,000 in cash plus $3,600,000 in IP) and a 50% equity stake in PrairieSense ($6,000,000 / $12,000,000 total capitalization, assuming Greenfield's cash contribution remains at $7,200,000 and total capitalization is adjusted to $13,200,000 — or, alternatively, if total capitalization remains at $12,000,000, a reduction in Greenfield's equity percentage).

This memorandum assumes the $2,400,000 valuation consistent with Greenfield's proposed compromise position. As discussed in Section IV.D and throughout this memorandum, adoption of a higher valuation would materially alter the tax analysis, particularly with respect to the magnitude of built-in gain subject to IRC § 704(c) allocations.

Proposed Revolving Credit Facility. In addition to the equity contributions described above, Greenfield has engaged in preliminary discussions with Heartland National Bank, N.A. (Douglas Fenn, Senior Vice President, Agribusiness Lending) regarding the availability of a $4,000,000 revolving credit facility for PrairieSense to fund working capital needs. No term sheet has been executed, and the terms and conditions of any such facility (including interest rate, collateral, guarantees, and covenants) have not been finalized. The tax implications of JV-level debt are addressed in Section VIII below.

D. Proposed Financial Projections (Preliminary, Never Finalized)

Greenfield's deal team has prepared preliminary financial projections for PrairieSense based on assumptions regarding market adoption, pricing, manufacturing costs, and operating expenses. These projections have not been finalized by the parties and are subject to revision. For purposes of illustrating the tax implications of the proposed structure, the key financial projections are summarized as follows:

Breakeven is expected in Year 2, with projected Year 2 EBITDA of approximately $420,000. The five-year cumulative EBITDA projection is approximately $18,600,000. These projections are relevant to the tax analysis in the following respects:

• Early-year losses. PrairieSense is projected to generate operating losses in Year 1, which will flow through to the members in proportion to their respective allocation percentages (60% to Greenfield, 40% to TerraVault). The ability of each member to utilize these losses is subject to the at-risk rules (IRC § 465), passive activity loss limitations (IRC § 469), and excess business loss limitations (IRC § 461(l)), as discussed in Section V.A below.

• Transition to profitability. The projected transition to profitability in Year 2 affects the timing of income allocations and the commencement of distributions. It also triggers the practical significance of the tax distribution provisions recommended in Section V.D below, as members will begin to incur tax liabilities on their allocable shares of JV income.

• Revenue growth and multi-state expansion. The projected revenue growth from $3,500,000 in Year 1 to $28,000,000 in Year 5 implies a significant expansion of PrairieSense's operations across the U.S. Midwest, which in turn implies an expanding multi-state tax filing footprint, as discussed in Section VII below.

Clarendon & Marsh CPAs LLP (William Desmond) has been engaged to prepare detailed tax allocation models based on these preliminary financial projections, as set forth in Section X.

III. Entity Classification and Pass-Through Treatment

A. Federal Tax Classification

PrairieSense Technologies LLC, as a domestic limited liability company with two or more members, will be classified by default as a partnership for federal income tax purposes under Treasury Regulation § 301.7701-3(b)(1). Under the so-called "check-the-box" regulations (Treas. Reg. §§ 301.7701-1 through 301.7701-3), a domestic eligible entity with two or more members that does not affirmatively elect to be classified as an association taxable as a corporation is treated as a partnership. No affirmative filing or election is required to achieve partnership classification; it is the default rule.

We do not recommend that PrairieSense file a Form 8832 (Entity Classification Election) to elect treatment as a corporation. Partnership classification provides pass-through treatment, meaning that PrairieSense itself will not be subject to entity-level federal income tax. Instead, each item of income, gain, loss, deduction, and credit will be allocated to the members in accordance with the JV Operating Agreement (subject to the requirements of IRC § 704(b) and related provisions), and each member will report its distributive share on its own federal income tax return.

The pass-through structure has several advantages in the context of this joint venture. First, it avoids the double-taxation regime applicable to C corporations, under which income is taxed once at the entity level and again upon distribution to shareholders. Second, it permits early-year operating losses to flow through to the members, who may be able to use those losses to offset other income (subject to applicable limitations). Third, it provides flexibility in structuring allocations and distributions in a manner that reflects the differing economic bargains of the two members, particularly the distinction between Greenfield's cash contribution and TerraVault's combination of cash and IP.

The classification consequences for each member are as follows:

• TerraVault BioSciences Inc., as a Delaware C corporation, will report its distributive share of PrairieSense income and loss on its corporate federal income tax return (Form 1120). JV income allocable to TerraVault will be subject to the corporate tax rate (currently 21% under IRC § 11(b)). JV losses allocable to TerraVault may offset TerraVault's other income, subject to applicable corporate loss limitations.

• Greenfield Agricultural Partners LLC, as an Iowa limited liability company that is itself likely classified as a partnership for federal income tax purposes, will include its distributive share of PrairieSense income and loss in its own partnership return (Form 1065), which in turn will flow through to Greenfield's members and fund investors on their respective Schedule K-1s. This creates a tiered partnership structure that may require additional allocation analysis to ensure that the JV-level allocations are properly reflected at each tier.

We note the importance of confirming with Clarendon & Marsh CPAs LLP (William Desmond) whether Greenfield's fund structure involves any tiered partnership issues that would require additional analysis under Treasury Regulation § 1.704-1(b)(2)(iii)(d) (relating to the treatment of obligations to restore deficit capital account balances through tiered partnerships) or other applicable provisions. This confirmation has been included in the list of matters referred to Clarendon & Marsh, as set forth in Section X.

B. Iowa State Tax Classification

The State of Iowa follows federal entity classification rules for purposes of Iowa income tax. Accordingly, PrairieSense will be treated as a partnership for Iowa income tax purposes. Iowa does not impose an entity-level income tax on partnerships. Instead, partnership income passes through to the partners, who report their respective shares on their Iowa income tax returns (or, for nonresident partners, on their returns in their states of residence, claiming credits for taxes paid to Iowa as applicable).

An important planning opportunity exists with respect to Iowa's recently enacted elective pass-through entity tax. Iowa Code § 422.16B, effective for tax years beginning on or after January 1, 2022, permits qualifying pass-through entities (including partnerships and LLCs classified as partnerships) to elect to pay Iowa income tax at the entity level on behalf of their members. The members then receive a corresponding deduction or credit, depending on the specific mechanism. The principal benefit of this election is that it allows the entity-level Iowa tax payment to be deducted on the entity's federal return as a business expense, thereby circumventing the $10,000 limitation on the federal deduction for state and local taxes imposed by IRC § 164(b)(6) (the "SALT cap" enacted as part of the Tax Cuts and Jobs Act of 2017).

Whether PrairieSense should make the Iowa pass-through entity tax election depends in significant part on the composition of Greenfield's investor base and the extent to which individual investors are affected by the SALT cap. This analysis is highly fact-specific and has been referred to Clarendon & Marsh CPAs LLP (William Desmond) for further evaluation, as noted in Section VII.A and Section X below.

C. Annual Filing Requirements

PrairieSense will be required to file the following tax returns on an annual basis:

Federal: Form 1065 (U.S. Return of Partnership Income), together with Schedule K-1 (Partner's Share of Income, Deductions, Credits, etc.) to each member. The Form 1065 is due on the fifteenth day of the third month following the close of PrairieSense's taxable year (i.e., March 15 for a calendar-year entity), with extensions available.

Iowa: IA 1065 (Iowa Partnership Return of Income), together with Iowa Schedule K-1s to each member. Iowa filing deadlines generally conform to federal deadlines.

Illinois and Other States: PrairieSense may have filing obligations in Illinois and other states in which it conducts business or has nexus. These potential obligations are discussed in Section VII below.

IV. Tax Treatment of Capital Contributions

A. Greenfield's Cash Contribution — $7,200,000

Under IRC § 721(a), no gain or loss is recognized by either a partnership or any of its partners upon the contribution of property (including cash) to the partnership in exchange for an interest in the partnership. Accordingly, no gain or loss will be recognized by Greenfield or by PrairieSense upon Greenfield's contribution of $7,200,000 in cash in exchange for a 60% membership interest in PrairieSense.

Under IRC § 722, Greenfield's initial outside tax basis in its PrairieSense membership interest will be equal to the amount of cash contributed — that is, $7,200,000. Greenfield's outside basis will subsequently be adjusted upward for allocations of JV income and additional contributions, and downward for allocations of JV losses and distributions, in accordance with IRC § 705.

Under IRC § 723, PrairieSense's inside basis in the contributed cash is $7,200,000 — which is trivially the face amount of the cash received. There is no book-tax disparity arising from Greenfield's cash contribution.

B. TerraVault's Cash Contribution — $2,400,000

The same analysis applies to TerraVault's cash contribution of $2,400,000. Under IRC § 721(a), no gain or loss is recognized by TerraVault or by PrairieSense on this portion of TerraVault's contribution. The $2,400,000 in cash contributes $2,400,000 to TerraVault's outside basis in its PrairieSense membership interest (IRC § 722) and $2,400,000 to PrairieSense's inside basis in the contributed cash (IRC § 723). No book-tax disparity arises from this portion of TerraVault's contribution.

C. TerraVault's IP/Technology License Contribution — $2,400,000

1. Nonrecognition Under IRC § 721(a)

The general rule of IRC § 721(a) provides that no gain or loss is recognized to a partnership or any of its partners upon the contribution of property to the partnership in exchange for an interest in the partnership. This nonrecognition rule applies broadly to contributions of property, including contributions of intangible property such as patents, copyrights, trademarks, trade secrets, and licenses. Accordingly, provided that TerraVault's contribution of the SoilPulse™ technology license qualifies as a contribution of "property" to PrairieSense in exchange for a partnership interest, TerraVault will not recognize gain or loss on the contribution, notwithstanding the fact that the fair market value of the contributed license ($2,400,000) substantially exceeds TerraVault's adjusted tax basis in the license (estimated at approximately $350,000, as discussed below).

It is important to note that the nonrecognition treatment under IRC § 721(a) applies only to contributions of "property" and does not extend to transfers made in exchange for services. If any portion of TerraVault's membership interest were treated as received in exchange for services (rather than in exchange for property), IRC § 721 would not apply to that portion, and TerraVault could recognize ordinary income equal to the fair market value of the partnership interest received for services. This "services vs. property" concern is addressed in Section IV.C.4 below.

2. Characterization of the IP Contribution

A critical threshold question in analyzing TerraVault's IP contribution is whether TerraVault is contributing an ownership interest in the SoilPulse™ intellectual property or merely granting a license to use the technology. This distinction has significant implications for the applicability of IRC § 721(a) and for the ongoing tax treatment of the contributed asset within the partnership.

Based on the preliminary term sheet and the parties' discussions to date, TerraVault will retain full ownership of the underlying SoilPulse™ patents (U.S. Patent No. 10,842,317 and pending U.S. Application No. 17/509,664) and the SoilPulse™ trademark (U.S. Trademark Reg. No. 6,318,205). TerraVault will grant PrairieSense an exclusive license to use, develop, modify, and commercialize products and services based on the SoilPulse™ technology within a defined field of use (integrated soil-health sensor systems for commercial row-crop agriculture) and a defined territory (the U.S. Midwest).

The contribution of a license, as opposed to an outright transfer of ownership, is treated as a contribution of "property" for purposes of IRC § 721(a), provided that the license conveys a sufficiently substantial bundle of rights to constitute a property interest. In this regard, we note the following factors supporting the treatment of TerraVault's license contribution as a contribution of property:

• The license is exclusive within the defined field of use and territory, meaning that TerraVault may not grant competing licenses or use the technology itself in competition with PrairieSense within the scope of the license.

• The license is expected to be perpetual in duration (or, at minimum, co-terminous with the term of the JV), which distinguishes it from a short-term service arrangement or consulting engagement.

• The license conveys the right to develop derivative works and modifications, which is a hallmark of a property interest rather than a mere service contract.

• The proposed non-compete covering the U.S. Midwest (Iowa, Illinois, Indiana, Minnesota, Wisconsin, Missouri, Nebraska, Kansas, South Dakota, North Dakota, and Ohio) for a period of three years following formation further reinforces the exclusive nature of the license within the JV's operating territory and supports the characterization of the license as a contribution of a substantial property interest.

Recommendation: The technology license agreement embedded in or appended to the JV Operating Agreement should be carefully drafted to convey exclusive, perpetual (or JV-term-length) rights within the defined field of use and territory, thereby supporting the characterization of the license as a contribution of "property" for purposes of IRC § 721(a). We recommend that our corporate colleagues review the license agreement with this tax characterization objective in mind.

3. Basis and Built-In Gain Issues

Under IRC § 722, TerraVault's total outside basis in its PrairieSense membership interest will be the sum of the cash contributed ($2,400,000) and TerraVault's adjusted tax basis in the contributed IP license. Under IRC § 723, PrairieSense's inside basis in the contributed IP license will be TerraVault's adjusted tax basis in the license at the time of contribution (i.e., the carryover basis), not the agreed-upon fair market value.

TerraVault's adjusted tax basis in the SoilPulse™ technology license is a critical input to this analysis. Based on consultation with Clarendon & Marsh CPAs LLP (William Desmond) and publicly available information regarding TerraVault's development history, TerraVault's internal costs of developing the SoilPulse™ technology were likely treated as research and experimental expenditures under IRC § 174 and either expensed in the year incurred (for taxable years beginning before January 1, 2022) or, for amounts paid or incurred after December 31, 2021, capitalized and amortized over five years under the amended IRC § 174 (as revised by the Tax Cuts and Jobs Act of 2017, effective for taxable years beginning after December 31, 2021). In either case, TerraVault's adjusted tax basis in the contributed IP is likely substantially below the agreed-upon fair market value of $2,400,000.

For purposes of this memorandum, we assume that TerraVault's adjusted tax basis in the contributed SoilPulse™ technology license is approximately $350,000. This assumed basis is a placeholder pending independent confirmation from TerraVault and its tax advisors, which has been requested through counsel. The actual basis should be confirmed before the JV Operating Agreement is finalized and any IRC § 704(c) elections are made.

Based on this assumed basis, the following calculations summarize the basis and built-in gain implications:

Several important observations arise from this analysis:

Book-tax disparity. For book (capital account) purposes, TerraVault's IP contribution is reflected at $2,400,000 (fair market value), resulting in an initial capital account balance for TerraVault of $4,800,000. However, for federal income tax purposes, TerraVault's outside basis in its PrairieSense interest is only $2,750,000 ($2,400,000 cash + $350,000 IP carryover basis). This $2,050,000 book-tax disparity drives the IRC § 704(c) allocation issues discussed in Section V.B below.

Inside basis disparity. Similarly, PrairieSense's aggregate inside basis in its assets ($9,950,000) is $2,050,000 less than the aggregate book value of its assets ($12,000,000). This disparity will affect the computation of tax depreciation and amortization deductions available to the partnership and the allocation of those deductions among the members.

4. Services vs. Property Concern

As noted above, IRC § 721(a) applies only to contributions of property and does not extend to partnership interests received in exchange for services. If any portion of TerraVault's 40% membership interest in PrairieSense were deemed to be received in exchange for ongoing services — for example, the continued involvement of Dr. Lian Xu (CTO of TerraVault) in technology development for the JV — that portion would not qualify for nonrecognition under IRC § 721(a). Instead, it would be treated as a compensatory partnership interest, potentially taxable to TerraVault under IRC § 83 and the principles of Revenue Procedure 93-27 and Revenue Procedure 2001-43.

Under Rev. Proc. 93-27, the receipt of a partnership profits interest in exchange for services is generally not a taxable event, provided certain conditions are met (including that the interest is not disposed of within two years and does not relate to a substantially certain and predictable stream of income). However, if the interest received includes a capital interest (i.e., an interest in existing partnership capital, as opposed to solely a share of future profits), the receipt is taxable to the extent of the fair market value of the capital interest received.

In the proposed structure, TerraVault is receiving a capital interest in PrairieSense (reflected in a $4,800,000 initial capital account balance) in exchange for cash and IP. If any portion of that capital interest were recharacterized as received for services, TerraVault could recognize ordinary income equal to the fair market value of the recharacterized portion.

Recommendation: To preserve the tax-free treatment of TerraVault's IP contribution under IRC § 721(a), the JV Operating Agreement and related transaction documents should clearly segregate the IP license contribution from any employment, consulting, or service arrangements with TerraVault or its personnel. Specifically:

(a) The technology license agreement should be structured and documented as a transfer of a property interest (an exclusive license) from TerraVault to PrairieSense, independent of any obligation by TerraVault or its employees to perform services for the JV.

(b) Any ongoing technology development, consulting, or management services to be provided by TerraVault personnel (including Dr. Mehta and Dr. Xu) should be documented in separate service agreements with arm's-length compensation terms, and the service obligations should not be conditions of or linked to TerraVault's equity interest in the JV.

(c) TerraVault's 40% membership interest should be documented as received solely in exchange for the cash and IP contributions described above, and not as compensation for services.

D. Impact of Valuation Dispute on Tax Analysis

As noted in Sections I and II.C, the parties have not yet resolved the dispute over the fair market value of TerraVault's SoilPulse™ technology license contribution. If TerraVault's demanded valuation of $3,600,000 were adopted (rather than Greenfield's proposed compromise of $2,400,000), the tax analysis presented in this memorandum would be materially affected in the following respects:

(a) Equity split. TerraVault's total contribution would be $6,000,000 ($2,400,000 cash + $3,600,000 IP), implying a 50% equity stake in PrairieSense (assuming total capitalization is adjusted to $13,200,000, with Greenfield's $7,200,000 representing approximately 54.5%, or, if total capitalization remains at $12,000,000, the equity split would need to be renegotiated). The precise equity implications depend on how the parties structure the overall capitalization.

(b) Built-in gain. The built-in gain on TerraVault's IP contribution would increase to approximately $3,250,000 ($3,600,000 FMV − $350,000 assumed tax basis), representing a 59% increase over the $2,050,000 built-in gain under the $2,400,000 valuation.

(c) IRC § 704(c) allocations. The magnitude of the annual remedial allocations under IRC § 704(c) would increase proportionally, creating larger notional income allocations to TerraVault and larger notional amortization deductions for Greenfield. While this protects Greenfield under the remedial method, it increases the overall complexity of the tax allocation structure and may create cash flow tensions if tax distributions are not carefully coordinated with book distributions.

(d) Disguised sale risk. A higher IP valuation coupled with early distributions to TerraVault could increase the risk that the IRS recharacterizes a portion of the transaction as a disguised sale under IRC § 707(a)(2)(B), particularly if TerraVault receives distributions in excess of its allocable share of operating income during the first two years following formation.

For these reasons, Greenfield's interest in maintaining the $2,400,000 IP valuation is supported not only by business, governance, and equity considerations but also by the desire to limit the magnitude of IRC § 704(c) allocations that disproportionately affect the JV's tax efficiency and create ongoing administrative complexity.

V. Allocation of Income, Gain, Loss, and Deductions

A. General Allocation Framework — IRC § 704(b)

The JV Operating Agreement must contain allocation provisions that satisfy the requirements of IRC § 704(b) and the substantial economic effect ("SEE") safe harbor set forth in Treasury Regulation § 1.704-1(b). Under IRC § 704(b), a partner's distributive share of income, gain, loss, deduction, or credit is determined by the partnership agreement, provided that the allocation has "substantial economic effect." If an allocation lacks substantial economic effect, the partner's distributive share is determined in accordance with the partner's interest in the partnership, taking into account all facts and circumstances.

The regulations establish a two-part test for substantial economic effect: (1) the allocation must have "economic effect," and (2) the economic effect must be "substantial." The economic effect test, in turn, can be satisfied through either the primary test (which requires maintenance of capital accounts, liquidating distributions in accordance with capital account balances, and an unlimited deficit restoration obligation) or the alternate test (which substitutes a "qualified income offset" for the unlimited deficit restoration obligation and imposes a limitation that allocations may not cause a deficit capital account balance in excess of any limited deficit restoration obligation).

We recommend the following approach for the PrairieSense Operating Agreement:

(a) Capital account maintenance. The Operating Agreement should require that capital accounts be maintained in accordance with the detailed rules of Treasury Regulation § 1.704-1(b)(2)(iv). This includes crediting contributions at fair market value, crediting allocations of book income and gain, debiting allocations of book loss and deduction, and debiting distributions at fair market value.

(b) Alternate test for economic effect. Given that neither member is expected to agree to an unlimited deficit restoration obligation, the Operating Agreement should satisfy the alternate test by including a "qualified income offset" provision. Under the qualified income offset, if a member unexpectedly receives an adjustment, allocation, or distribution that creates or increases a deficit balance in the member's capital account in excess of any limited deficit restoration obligation, items of income and gain will be specially allocated to that member in an amount and manner sufficient to eliminate the deficit balance as quickly as possible.

(c) Minimum gain chargeback. The Operating Agreement should include a "minimum gain chargeback" provision as required by Treasury Regulation § 1.704-2(f), which ensures that if there is a net decrease in partnership minimum gain during any taxable year, each partner is allocated items of income and gain equal to that partner's share of the net decrease. This provision is particularly relevant if PrairieSense incurs nonrecourse debt (such as the proposed Heartland National Bank revolving credit facility), which would create partnership minimum gain.

(d) Substantiality. The economic effect of the allocations must be "substantial," meaning that there must be a reasonable possibility that the allocation will affect substantially the dollar amounts to be received by the partners from the partnership, independent of tax consequences. The proposed 60/40 allocation, which matches the economic ownership percentages and capital account ratios, should readily satisfy the substantiality requirement.

Base allocations. Subject to the special allocation provisions discussed below, PrairieSense's items of income, gain, loss, deduction, and credit will be allocated 60% to Greenfield and 40% to TerraVault, consistent with the members' respective ownership percentages and initial capital account ratios.

Early-year losses. Based on the preliminary financial projections, PrairieSense is expected to generate operating losses in Year 1 (projected Year 1 revenue of $3,500,000 with negative EBITDA). These losses will flow through 60% to Greenfield and 40% to TerraVault, subject to each member's ability to utilize the losses under the following limitation provisions:

• Outside basis limitation (IRC § 704(d)). A partner may not deduct its share of partnership losses in excess of its adjusted outside basis in its partnership interest. Greenfield's initial outside basis is $7,200,000, and TerraVault's initial outside basis is $2,750,000, providing substantial capacity to absorb early-year losses.

• At-risk limitation (IRC § 465). Each member may deduct losses only to the extent it is "at risk" with respect to the partnership activity. For a corporate partner such as TerraVault, the at-risk rules of IRC § 465 apply to closely held C corporations (defined in IRC § 465(a)(1)(B) as C corporations in which five or fewer individuals own more than 50% of the stock). Whether TerraVault is a closely held corporation for this purpose should be confirmed based on its capitalization table.

• Passive activity loss limitation (IRC § 469). For TerraVault, as a C corporation, the passive activity loss rules of IRC § 469 apply to closely held C corporations and personal service corporations. If TerraVault is a closely held C corporation, it may offset passive losses against active business income but not against portfolio income. For Greenfield's individual fund investors, the passive activity loss rules may apply at the investor level, depending on each investor's level of material participation in the JV's activities.

• Excess business loss limitation (IRC § 461(l)). For taxable years beginning after December 31, 2020, and before January 1, 2029, noncorporate taxpayers may not deduct excess business losses (defined as aggregate deductions attributable to trades or businesses exceeding aggregate gross income from trades or businesses by more than $270,000 for single filers or $540,000 for joint filers, adjusted for inflation). This limitation may affect individual investors in Greenfield's fund structure.

B. IRC § 704(c) Allocations — Addressing the IP Built-In Gain

1. The IRC § 704(c) Requirement

IRC § 704(c)(1)(A) provides that income, gain, loss, and deduction with respect to property contributed to the partnership by a partner shall be shared among the partners so as to take into account the variation between the adjusted tax basis of the property and its fair market value at the time of contribution. This provision is designed to prevent the shifting of tax consequences of built-in gain or loss from the contributing partner to non-contributing partners.

In the context of the proposed PrairieSense joint venture, the built-in gain in TerraVault's contributed SoilPulse™ technology license — estimated at $2,050,000 (assuming $2,400,000 FMV and $350,000 adjusted tax basis) — must be taken into account through special tax allocations under IRC § 704(c). The objective is to ensure that the $2,050,000 built-in gain is allocated to TerraVault (the contributing partner) when it is recognized, and that Greenfield (the non-contributing partner) is not required to bear tax burdens attributable to TerraVault's contribution of low-basis property.

2. Permissible Methods Under Treasury Regulation § 1.704-3

Treasury Regulation § 1.704-3 provides three permissible methods for making IRC § 704(c) allocations. The partnership must select one of these methods (or a combination of methods, applied consistently) and specify the selected method in the partnership agreement. If the partnership agreement is silent, the default is the traditional method, which is the least protective of the non-contributing partner. The three methods are as follows:

Traditional Method (Treas. Reg. § 1.704-3(b)). Under the traditional method, tax items are allocated to the contributing partner (TerraVault) to the extent necessary to match the book allocations, but only to the extent that sufficient tax items exist. The traditional method is subject to the "ceiling rule," which provides that the total tax item allocated to the partners cannot exceed the total tax item of the partnership. In the context of amortization of the SoilPulse™ IP, PrairieSense's total tax amortization is limited to $23,333 per year ($350,000 carryover basis / 15 years), whereas the total book amortization is $160,000 per year ($2,400,000 FMV / 15 years). Under the traditional method, Greenfield's share of tax amortization would be limited to a pro rata portion of the $23,333 total tax amortization, rather than 60% of the $160,000 book amortization ($96,000). This ceiling rule limitation would cause Greenfield to bear a disproportionate tax burden by receiving substantially less tax amortization than its share of book amortization, effectively shifting the tax cost of TerraVault's low-basis IP to Greenfield.

Traditional Method with Curative Allocations (Treas. Reg. § 1.704-3(c)). The curative allocations method addresses the ceiling rule limitation by permitting the partnership to allocate other tax items (e.g., taxable income from operations) to offset the distortion created by the ceiling rule. For example, additional tax deductions could be allocated to Greenfield, or additional tax income could be allocated to TerraVault, to compensate for the shortfall in tax amortization deductions allocable to Greenfield. Curative allocations provide better protection for Greenfield than the traditional method but are limited to actual tax items of the partnership and may not fully eliminate the disparity in all years.

Remedial Method (Treas. Reg. § 1.704-3(d)). The remedial method is the most protective method for the non-contributing partner. Under this method, the partnership creates notional (or "remedial") tax items — that is, items that do not correspond to any actual economic event — to eliminate the book-tax disparity attributable to contributed property. Specifically, the partnership creates a notional amortization deduction for the non-contributing partner (Greenfield) equal to Greenfield's share of the book-tax disparity in amortization, and creates an equal and offsetting notional item of ordinary income for the contributing partner (TerraVault). The effect is to place Greenfield in exactly the same tax position as if the contributed IP had a tax basis equal to its fair market value at the time of contribution.

3. Recommendation: Adopt the Remedial Method

We strongly recommend that the JV Operating Agreement adopt the remedial method under Treasury Regulation § 1.704-3(d) for the SoilPulse™ technology license contributed by TerraVault. The remedial method is the most effective means of protecting Greenfield from bearing tax costs attributable to the built-in gain in TerraVault's contributed IP. Under this method:

(a) Greenfield will receive its full share of amortization deductions on a tax basis commensurate with its 60% share of the $2,400,000 book value of the contributed IP, rather than being limited to a pro rata share of the $350,000 carryover tax basis.

(b) TerraVault will be allocated offsetting notional ordinary income, reflecting the fact that TerraVault contributed low-basis property and should bear the tax cost of the resulting book-tax disparity.

(c) The distortion created by the ceiling rule under the traditional method is fully eliminated, ensuring that Greenfield's after-tax return on its investment is not eroded by tax burdens properly attributable to TerraVault.

We acknowledge that the remedial method is less favorable to TerraVault, as it results in TerraVault recognizing notional ordinary income annually over the amortization period of the contributed IP. TerraVault may therefore object to the adoption of the remedial method during Operating Agreement negotiations. However, from Greenfield's perspective, the remedial method is the appropriate mechanism to ensure that the economic bargain (60% membership interest for $7,200,000 in cash) is not undermined by tax allocation distortions arising from TerraVault's low-basis IP contribution.

The JV Operating Agreement should explicitly specify the IRC § 704(c) method applicable to TerraVault's IP contribution. If the Operating Agreement is silent on this point, the default under Treasury Regulation § 1.704-3(a)(1) is the traditional method, which — as explained above — is the method least protective of Greenfield's tax interests.

C. Amortization of Contributed IP

Under IRC § 197, certain intangible assets acquired in connection with the conduct of a trade or business are amortizable on a straight-line basis over a 15-year period. The SoilPulse™ technology license, assuming it qualifies as a "Section 197 intangible" (which includes patents, copyrights, know-how, licenses, and similar items), will be amortizable by PrairieSense over 15 years.

Critically, however, PrairieSense's tax basis for amortization of the contributed IP is the carryover basis of $350,000 (under IRC § 723), not the $2,400,000 book value at which the IP is reflected in PrairieSense's capital accounts. This creates a significant annual book-tax amortization disparity, as illustrated in the following table:

This $136,667 annual book-tax amortization disparity is the engine that drives the IRC § 704(c) allocation issues discussed above. Under the remedial method:

(a) Greenfield's remedial amortization deduction: 60% × $136,667 = approximately $82,000 per year. This notional deduction is allocated to Greenfield in addition to Greenfield's share of the actual tax amortization, placing Greenfield in the same tax position as if the contributed IP had a full $2,400,000 tax basis.

(b) TerraVault's remedial ordinary income: An equal and offsetting amount of approximately $82,000 per year is allocated to TerraVault as notional ordinary income. This ensures that TerraVault, as the contributing partner, bears the tax cost of the book-tax disparity attributable to its low-basis IP contribution.

These remedial allocations will continue for the full 15-year amortization period of the contributed IP (or until the IP is disposed of or the JV is dissolved, whichever occurs first). Over the 15-year period, the cumulative remedial allocations will equal the total built-in gain of $2,050,000, fully eliminating the book-tax disparity.

D. Special Allocation and Distribution Provisions — Recommendations

Based on the foregoing analysis, we recommend that the JV Operating Agreement include the following tax-related provisions:

1. Detailed capital account maintenance provisions compliant with Treasury Regulation § 1.704-1(b)(2)(iv), including rules for crediting contributions at fair market value, crediting and debiting allocations of book income and loss, and debiting distributions.

2. Explicit designation of the remedial method under IRC § 704(c) for TerraVault's IP contribution. The Operating Agreement should state with specificity that the remedial method under Treasury Regulation § 1.704-3(d) applies to the SoilPulse™ technology license contributed by TerraVault, and should describe the mechanics of the notional remedial allocations.

3. Qualified income offset provision as required by the alternate test for economic effect under Treasury Regulation § 1.704-1(b)(2)(ii)(d).

4. Minimum gain chargeback provision as required by Treasury Regulation § 1.704-2(f). This provision is particularly important if PrairieSense incurs nonrecourse debt, such as the proposed Heartland National Bank revolving credit facility discussed in Section VIII.

5. Mandatory tax distribution provisions. The Operating Agreement should require PrairieSense to make mandatory quarterly (or at least annual) distributions of cash to each member in an amount sufficient to cover the member's estimated tax liabilities arising from its allocable share of JV income. These "tax distribution" provisions should have priority over all other distributions (including preferred returns or profit-sharing distributions) to ensure that neither member is required to fund tax liabilities out of its own resources. The tax distribution rate should be set at the higher of the individual and corporate maximum marginal rates to accommodate both members' tax profiles.

6. Distribution provisions tracking book/economic allocations. Cash distributions (other than tax distributions) should track the 60/40 book/economic allocation ratios, and should not diverge due to tax allocation adjustments under IRC § 704(c) or the remedial method. This ensures that the economic bargain between the parties is preserved notwithstanding the complexity of the tax allocation structure.

7. Anti-abuse provisions. The Operating Agreement should include provisions ensuring that TerraVault does not receive cumulative economic distributions in excess of its book capital account balance, thereby preventing an inadvertent wealth transfer from Greenfield to TerraVault through the distribution mechanism.

VI. Potential Built-In Gain Issues Under IRC § 704(c)(1)(B) and § 737

A. IRC § 704(c)(1)(B) — Distribution of Contributed Property

IRC § 704(c)(1)(B) provides that if any contributed property is distributed to a partner other than the contributing partner within seven years of the contribution, the contributing partner is treated as recognizing gain or loss on the distribution equal to the amount of gain or loss that would have been allocated to the contributing partner under IRC § 704(c)(1)(A) if the partnership had sold the contributed property at its fair market value at the time of the distribution.

Applied to the proposed PrairieSense joint venture: if PrairieSense were to distribute the SoilPulse™ technology license (or any successor intellectual property derived from or substituted for the contributed license) to Greenfield (the non-contributing partner) within seven years of TerraVault's contribution, TerraVault would be required to recognize the built-in gain — estimated at $2,050,000 — at the time of the distribution. This result would be adverse to TerraVault and could also create complications for PrairieSense's tax reporting obligations.

Recommendation: The JV Operating Agreement should include a provision restricting distributions of contributed IP (or any successor or substitute IP derived from the contributed SoilPulse™ technology license) to non-contributing members within the seven-year period following the date of contribution. At a minimum, any such distribution should require the prior written consent of both members and should include an acknowledgment by the contributing member (TerraVault) of the gain recognition consequences under IRC § 704(c)(1)(B). This protective provision ensures that a distribution of IP to Greenfield does not inadvertently trigger gain recognition for TerraVault and disrupt the economic expectations of the parties.

B. IRC § 737 — Distribution of Other Property to Contributing Partner

IRC § 737 provides that if property (other than cash) is distributed by a partnership to a partner who has previously contributed property with built-in gain to the partnership, and the distribution occurs within seven years of the contribution, the distributee partner must recognize gain to the extent that the fair market value of the distributed property exceeds the partner's adjusted outside basis in its partnership interest (reduced, but not below zero, by the amount of money received in the distribution).

Applied to PrairieSense: if PrairieSense distributes property (other than cash) to TerraVault within seven years of TerraVault's IP contribution, and the fair market value of the distributed property exceeds TerraVault's outside basis (initially $2,750,000), TerraVault may be required to recognize gain under IRC § 737. The gain recognized is limited to the lesser of (i) the excess of the FMV of the distributed property over TerraVault's outside basis, and (ii) the net pre-contribution gain (i.e., the remaining built-in gain on all property contributed by TerraVault to the partnership).

This provision is principally a risk to TerraVault rather than Greenfield, as it is triggered by distributions to the contributing partner. Nevertheless, it should be addressed in the Operating Agreement to ensure that the parties are aware of the potential tax acceleration and to avoid inadvertent triggering of gain recognition through non-cash distributions to TerraVault during the seven-year window.

Recommendation: The Operating Agreement should include a provision requiring that any non-cash distribution to TerraVault during the seven-year period following TerraVault's IP contribution be made only after consideration of the IRC § 737 implications, and that the managing member (expected to be Greenfield, as the 60% majority member) notify TerraVault of the potential gain recognition consequences in advance of any such distribution.

C. Disguised Sale Rules — IRC § 707(a)(2)(B)

IRC § 707(a)(2)(B) and the implementing regulations at Treasury Regulation § 1.707-3 provide that if a partner contributes property to a partnership and the partnership distributes money or other consideration to the partner within a specified period, and the contribution and distribution, when viewed together, are properly characterized as a sale of the contributed property, the transaction will be recharacterized as a disguised sale. The effect of a disguised sale recharacterization is that the contributing partner recognizes gain on the "sold" portion of the property, and the nonrecognition treatment of IRC § 721(a) is unwound with respect to that portion.

Under Treasury Regulation § 1.707-3(c), if a partner contributes property to a partnership and the partnership makes a related transfer of money or other consideration to the partner within two years before or after the contribution, the transfers are presumed to be a sale of the property to the partnership unless the facts and circumstances clearly establish otherwise. Conversely, if the transfer of consideration occurs more than two years after the contribution, the transfers are presumed not to be a sale. The two-year presumption is a critical planning consideration.

Applied to PrairieSense: if TerraVault contributes the SoilPulse™ technology license to PrairieSense and receives distributions of cash from PrairieSense within two years of the contribution, the IRS could recharacterize the transactions as a disguised sale of all or a portion of the IP. A disguised sale recharacterization would cause TerraVault to recognize gain on the deemed "sold" portion of the IP, converting the intended tax-free contribution into a taxable sale. The gain would likely be characterized as ordinary income to the extent the IP constitutes "unrealized receivables" or "inventory items" under IRC § 751, or as capital gain if the IP qualifies as a capital asset.

Several factors are relevant to the disguised sale analysis under Treasury Regulation § 1.707-3(b):

• Whether the distribution to TerraVault exceeds TerraVault's allocable share of JV operating income (distributions in excess of the distributee's share of income are more likely to be recharacterized as sale proceeds);

• Whether the distribution is subject to significant entrepreneurial risk of the partnership's operations (guaranteed payments or fixed distributions are more suggestive of a sale);

• Whether the timing and amount of the distribution are determinable with reasonable certainty at the time of the contribution;

• Whether the distribution right is secured by the contributed property or other partnership assets; and

• The overall economic substance of the arrangement.

Recommendation: The JV Operating Agreement should include provisions ensuring that distributions to TerraVault during the first two years following the formation of PrairieSense are limited to TerraVault's allocable share of operating income (i.e., 40% of distributable cash flow) and do not include any preferential or guaranteed distributions that could create a disguised sale inference. Specifically:

(a) No guaranteed payments or fixed distributions should be made to TerraVault during the first two years following formation.

(b) Distributions to TerraVault should be made pro rata with distributions to Greenfield, in proportion to the 60/40 allocation ratios.

(c) Any tax distributions to TerraVault during the first two years should be structured to fall within the "reasonable guaranteed payments" exception or the "operating cash flow distributions" exception under Treasury Regulation § 1.707-4, to the extent applicable.

(d) We recommend coordinating with Clarendon & Marsh CPAs LLP (William Desmond) on the structuring and documentation of distributions during the first two years to minimize disguised sale risk.

VII. Iowa and Multi-State Tax Considerations

A. Iowa Pass-Through Treatment

As discussed in Section III.B above, Iowa follows federal partnership classification rules, and PrairieSense will not be subject to entity-level Iowa income tax. PrairieSense's items of Iowa-source income, gain, loss, deduction, and credit will pass through to the members, who will report their respective shares on their Iowa inco

CALDERWOOD & HARKNESS LLP Attorneys at Law 800 Walnut Street, Suite 2400 Des Moines, Iowa 50309 Telephone: (515) 284-7000 Facsimile: (515) 284-7001 www.calderwoodharkness.com
PRIVILEGED AND CONFIDENTIAL ATTORNEY-CLIENT COMMUNICATION / ATTORNEY WORK PRODUCT
This memorandum is a privileged and confidential attorney-client communication and attorney work product. It is intended solely for the use of the addressees identified below and should not be disclosed to any third party without the prior written consent of Calderwood & Harkness LLP and Greenfield Agricultural Partners LLC. Unauthorized disclosure may result in a waiver of applicable privileges.
MEMORANDUM
Matter Number: 2022-M&A-00437
TO: Sandra Tung, Responsible Partner, Mergers & Acquisitions, Calderwood & Harkness LLP Rachel Yun-Park, Chief Financial Officer, Greenfield Agricultural Partners LLC
FROM: Derek Okonkwo, Lead Associate, Mergers & Acquisitions, Calderwood & Harkness LLP Tiffany Rosenthal, Working Associate, Mergers & Acquisitions, Calderwood & Harkness LLP
DATE: November 14, 2022
RE: Tax Structuring Analysis — Proposed PrairieSense Technologies LLC Joint Venture Between Greenfield Agricultural Partners LLC and TerraVault BioSciences Inc.
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I. Executive Summary
This memorandum analyzes the federal and Iowa state income tax implications of the proposed formation of PrairieSense Technologies LLC ("PrairieSense" or the "JV Entity"), a proposed Iowa limited liability company that would serve as a joint venture between Greenfield Agricultural Partners LLC ("Greenfield") and TerraVault BioSciences Inc. ("TerraVault"). This memorandum has been prepared at the request of Sandra Tung, Responsible Partner, in connection with Greenfield's evaluation of the proposed transaction structure and the negotiation of the JV Operating Agreement.
The proposed transaction contemplates a total initial capitalization of $12,000,000. Greenfield would contribute $7,200,000 in cash in exchange for a 60% membership interest in PrairieSense. TerraVault would contribute $4,800,000 in exchange for a 40% membership interest, consisting of $2,400,000 in cash and $2,400,000 in the form of an exclusive technology license for TerraVault's proprietary SoilPulse™ real-time soil nutrient and moisture sensor platform. The in-kind valuation of $2,400,000 reflects Greenfield's proposed compromise position, as discussed more fully in Section II.C below.
Our principal tax conclusion is that the JV Entity should be structured as a multi-member LLC classified as a partnership for federal income tax purposes, thereby providing pass-through treatment to both members and avoiding an entity-level federal income tax. This structure preserves the ability of each member to utilize its allocable share of JV losses during the anticipated early-year loss period and ensures that, upon transition to profitability, income is taxed only once at the member level.
This memorandum was prepared in coordination with Clarendon & Marsh CPAs LLP (engagement partner William Desmond, CPA), Greenfield's tax and accounting advisor. Clarendon & Marsh provided input on certain Iowa-specific tax considerations, including the newly enacted Iowa elective pass-through entity tax, as well as Greenfield's existing fund-level tax posture and tiered partnership structure. Certain matters identified in this memorandum have been referred to Clarendon & Marsh for further quantitative analysis, as set forth in Section X below.
A central recommendation of this memorandum is that the JV Operating Agreement must include carefully drafted special allocation and distribution provisions under Internal Revenue Code ("IRC") Sections 704(b) and 704(c) to address the differing contribution types — cash from Greenfield and a combination of cash and intellectual property from TerraVault — and to protect Greenfield from bearing tax burdens attributable to the built-in gain inherent in TerraVault's contributed IP. Specifically, we recommend adoption of the "remedial method" under Treasury Regulation § 1.704-3(d) for the IP contribution, as this method most effectively eliminates the book-tax disparity that would otherwise shift economic tax costs from TerraVault to Greenfield.
As a preliminary caveat, the analysis in this memorandum assumes that the SoilPulse™ technology license is valued at $2,400,000, consistent with Greenfield's proposed compromise position. The parties have not yet resolved the IP valuation dispute: Greenfield's independent consultant, Velthorn IP Consulting LLC, valued the license at $1,800,000, while TerraVault's financial advisor, Ridgeline Advisors LLC, valued it at $4,500,000. TerraVault has demanded a valuation of $3,600,000, which would imply a $6,000,000 total contribution by TerraVault and a 50% equity stake in the JV Entity. If TerraVault's demanded valuation were adopted, the analysis in this memorandum — particularly with respect to built-in gain amounts, IRC § 704(c) allocation magnitudes, and the relative equity percentages — would require material revision. The sensitivity of the tax analysis to the IP valuation is addressed throughout this memorandum and specifically in Sections IV.D, V.B, and XI.
II. Background and Proposed Transaction Structure
A. The Parties
1. Greenfield Agricultural Partners LLC
Greenfield Agricultural Partners LLC is an Iowa limited liability company with its principal offices located at 4100 Grand Prairie Drive, Suite 300, Des Moines, Iowa 50309. Greenfield's Employer Identification Number is 47-3281904. Greenfield is a strategic private investment firm focused on the agricultural and chemicals sectors. It was founded in 2009 by Marcus J. Linden and currently manages approximately $680 million in committed capital across three fund vintages. Greenfield's portfolio includes fourteen active portfolio companies spanning the agricultural value chain, including crop inputs, precision agriculture, supply chain logistics, and agricultural biotechnology. Greenfield serves as the operating partner and majority investor in the proposed joint venture.
Greenfield is itself a pass-through entity for federal income tax purposes. Its fund structure involves multiple tiers of pass-through entities through which investment income flows to its underlying limited partners and fund investors. The precise tiered partnership structure is relevant to the tax analysis insofar as it may create additional allocation considerations and potential cascading effects on distributions and tax reporting. Confirmation of the details of this fund structure has been referred to Clarendon & Marsh CPAs LLP (William Desmond), as noted in Section X below.
2. TerraVault BioSciences Inc.
TerraVault BioSciences Inc. is a Delaware corporation qualified to do business in Illinois, with its principal offices located at 1720 Innovation Parkway, Champaign, Illinois 61820. TerraVault's Employer Identification Number is 82-6047231. TerraVault is a precision agriculture technology company co-founded in 2017 by Dr. Anand Mehta, who serves as Chief Executive Officer, and Dr. Lian Xu, who serves as Chief Technology Officer. TerraVault has raised approximately $38 million in cumulative venture capital funding through its Series B round. Meridian Venture Partners led the Series A financing at $8 million, and Bluestem Capital Group led the Series B financing at $18 million. For the fiscal year ending December 31, 2022, TerraVault projects revenue of approximately $6.2 million and an EBITDA loss of approximately $(3.8) million. As a Delaware C corporation, TerraVault will report its distributive share of JV income and loss on its corporate federal and state income tax returns.
3. SoilPulse™ Technology
TerraVault's principal technology asset relevant to this transaction is its proprietary SoilPulse™ real-time soil nutrient and moisture sensor array. The SoilPulse™ platform has been deployed in pilot programs covering approximately 45,000 acres of commercial row-crop farmland across Illinois, Indiana, and Iowa. The technology is protected by the following intellectual property rights:
• U.S. Patent No. 10,842,317 — Issued March 9, 2021 (utility patent covering the core sensor array architecture and data processing methodology)
• U.S. Patent Application No. 17/509,664 — Filed October 25, 2021 (pending application covering next-generation sensor integration and predictive analytics functionality)
• U.S. Trademark Registration No. 6,318,205 — Registered trademark for the "SoilPulse" word mark in connection with agricultural technology and sensor products
The scope and valuation of the intellectual property rights to be contributed to the JV Entity are central issues in both the commercial negotiation and the tax structuring analysis.
B. Proposed JV Entity
The proposed joint venture entity is PrairieSense Technologies LLC. PrairieSense has not yet been formed; the parties contemplate that it will be organized as an Iowa limited liability company under the Iowa Revised Uniform Limited Liability Company Act (Iowa Code Chapter 489). PrairieSense's stated business purpose will be the development, manufacturing, and commercialization of integrated soil-health sensor systems for commercial row-crop agriculture in the U.S. Midwest. The governing law of the JV Operating Agreement will be Iowa law.
As discussed in Section III below, PrairieSense will be classified by default as a partnership for federal income tax purposes, and we recommend that the parties not make a "check-the-box" election to alter this default classification.
C. Proposed Capital Contributions
The proposed total initial capital commitment for PrairieSense is $12,000,000, to be contributed by the two members as follows:
TerraVault's in-kind contribution consists of an exclusive technology license for the SoilPulse™ platform, granting PrairieSense the right to develop, manufacture, and commercialize products based on the SoilPulse™ technology within the JV's designated field of use and territory. The precise scope, duration, and exclusivity provisions of the technology license will be set forth in a technology license agreement to be embedded in or appended to the JV Operating Agreement.
IP Valuation Dispute. The agreed-upon fair market value of TerraVault's IP contribution remains a contested issue between the parties. The following valuations have been presented:
• Velthorn IP Consulting LLC (lead consultant Dr. Miriam Sokoloff): $1,800,000 — This valuation was commissioned by Greenfield and delivered on October 17, 2022. Velthorn's report utilized a discounted cash flow methodology and applied technology risk adjustments reflecting the early-stage nature of the SoilPulse™ platform.
• Ridgeline Advisors LLC (Catherine Holloway, Managing Director, financial advisor to TerraVault): $4,500,000 — This valuation was prepared on behalf of TerraVault and utilized a market-comparable and replacement-cost blended approach, which Ridgeline characterized as reflective of the strategic value of the technology within the JV context.
• Greenfield's proposed compromise position: $2,400,000 — This figure represents a negotiated midpoint that Greenfield has proposed in an effort to resolve the dispute.
• TerraVault's demanded valuation: $3,600,000 — If adopted, this valuation would imply a total TerraVault contribution of $6,000,000 ($2,400,000 in cash plus $3,600,000 in IP) and a 50% equity stake in PrairieSense ($6,000,000 / $12,000,000 total capitalization, assuming Greenfield's cash contribution remains at $7,200,000 and total capitalization is adjusted to $13,200,000 — or, alternatively, if total capitalization remains at $12,000,000, a reduction in Greenfield's equity percentage).
This memorandum assumes the $2,400,000 valuation consistent with Greenfield's proposed compromise position. As discussed in Section IV.D and throughout this memorandum, adoption of a higher valuation would materially alter the tax analysis, particularly with respect to the magnitude of built-in gain subject to IRC § 704(c) allocations.
Proposed Revolving Credit Facility. In addition to the equity contributions described above, Greenfield has engaged in preliminary discussions with Heartland National Bank, N.A. (Douglas Fenn, Senior Vice President, Agribusiness Lending) regarding the availability of a $4,000,000 revolving credit facility for PrairieSense to fund working capital needs. No term sheet has been executed, and the terms and conditions of any such facility (including interest rate, collateral, guarantees, and covenants) have not been finalized. The tax implications of JV-level debt are addressed in Section VIII below.
D. Proposed Financial Projections (Preliminary, Never Finalized)
Greenfield's deal team has prepared preliminary financial projections for PrairieSense based on assumptions regarding market adoption, pricing, manufacturing costs, and operating expenses. These projections have not been finalized by the parties and are subject to revision. For purposes of illustrating the tax implications of the proposed structure, the key financial projections are summarized as follows:
Breakeven is expected in Year 2, with projected Year 2 EBITDA of approximately $420,000. The five-year cumulative EBITDA projection is approximately $18,600,000. These projections are relevant to the tax analysis in the following respects:
• Early-year losses. PrairieSense is projected to generate operating losses in Year 1, which will flow through to the members in proportion to their respective allocation percentages (60% to Greenfield, 40% to TerraVault). The ability of each member to utilize these losses is subject to the at-risk rules (IRC § 465), passive activity loss limitations (IRC § 469), and excess business loss limitations (IRC § 461(l)), as discussed in Section V.A below.
• Transition to profitability. The projected transition to profitability in Year 2 affects the timing of income allocations and the commencement of distributions. It also triggers the practical significance of the tax distribution provisions recommended in Section V.D below, as members will begin to incur tax liabilities on their allocable shares of JV income.
• Revenue growth and multi-state expansion. The projected revenue growth from $3,500,000 in Year 1 to $28,000,000 in Year 5 implies a significant expansion of PrairieSense's operations across the U.S. Midwest, which in turn implies an expanding multi-state tax filing footprint, as discussed in Section VII below.
Clarendon & Marsh CPAs LLP (William Desmond) has been engaged to prepare detailed tax allocation models based on these preliminary financial projections, as set forth in Section X.
III. Entity Classification and Pass-Through Treatment
A. Federal Tax Classification
PrairieSense Technologies LLC, as a domestic limited liability company with two or more members, will be classified by default as a partnership for federal income tax purposes under Treasury Regulation § 301.7701-3(b)(1). Under the so-called "check-the-box" regulations (Treas. Reg. §§ 301.7701-1 through 301.7701-3), a domestic eligible entity with two or more members that does not affirmatively elect to be classified as an association taxable as a corporation is treated as a partnership. No affirmative filing or election is required to achieve partnership classification; it is the default rule.
We do not recommend that PrairieSense file a Form 8832 (Entity Classification Election) to elect treatment as a corporation. Partnership classification provides pass-through treatment, meaning that PrairieSense itself will not be subject to entity-level federal income tax. Instead, each item of income, gain, loss, deduction, and credit will be allocated to the members in accordance with the JV Operating Agreement (subject to the requirements of IRC § 704(b) and related provisions), and each member will report its distributive share on its own federal income tax return.
The pass-through structure has several advantages in the context of this joint venture. First, it avoids the double-taxation regime applicable to C corporations, under which income is taxed once at the entity level and again upon distribution to shareholders. Second, it permits early-year operating losses to flow through to the members, who may be able to use those losses to offset other income (subject to applicable limitations). Third, it provides flexibility in structuring allocations and distributions in a manner that reflects the differing economic bargains of the two members, particularly the distinction between Greenfield's cash contribution and TerraVault's combination of cash and IP.
The classification consequences for each member are as follows:
• TerraVault BioSciences Inc., as a Delaware C corporation, will report its distributive share of PrairieSense income and loss on its corporate federal income tax return (Form 1120). JV income allocable to TerraVault will be subject to the corporate tax rate (currently 21% under IRC § 11(b)). JV losses allocable to TerraVault may offset TerraVault's other income, subject to applicable corporate loss limitations.
• Greenfield Agricultural Partners LLC, as an Iowa limited liability company that is itself likely classified as a partnership for federal income tax purposes, will include its distributive share of PrairieSense income and loss in its own partnership return (Form 1065), which in turn will flow through to Greenfield's members and fund investors on their respective Schedule K-1s. This creates a tiered partnership structure that may require additional allocation analysis to ensure that the JV-level allocations are properly reflected at each tier.
We note the importance of confirming with Clarendon & Marsh CPAs LLP (William Desmond) whether Greenfield's fund structure involves any tiered partnership issues that would require additional analysis under Treasury Regulation § 1.704-1(b)(2)(iii)(d) (relating to the treatment of obligations to restore deficit capital account balances through tiered partnerships) or other applicable provisions. This confirmation has been included in the list of matters referred to Clarendon & Marsh, as set forth in Section X.
B. Iowa State Tax Classification
The State of Iowa follows federal entity classification rules for purposes of Iowa income tax. Accordingly, PrairieSense will be treated as a partnership for Iowa income tax purposes. Iowa does not impose an entity-level income tax on partnerships. Instead, partnership income passes through to the partners, who report their respective shares on their Iowa income tax returns (or, for nonresident partners, on their returns in their states of residence, claiming credits for taxes paid to Iowa as applicable).
An important planning opportunity exists with respect to Iowa's recently enacted elective pass-through entity tax. Iowa Code § 422.16B, effective for tax years beginning on or after January 1, 2022, permits qualifying pass-through entities (including partnerships and LLCs classified as partnerships) to elect to pay Iowa income tax at the entity level on behalf of their members. The members then receive a corresponding deduction or credit, depending on the specific mechanism. The principal benefit of this election is that it allows the entity-level Iowa tax payment to be deducted on the entity's federal return as a business expense, thereby circumventing the $10,000 limitation on the federal deduction for state and local taxes imposed by IRC § 164(b)(6) (the "SALT cap" enacted as part of the Tax Cuts and Jobs Act of 2017).
Whether PrairieSense should make the Iowa pass-through entity tax election depends in significant part on the composition of Greenfield's investor base and the extent to which individual investors are affected by the SALT cap. This analysis is highly fact-specific and has been referred to Clarendon & Marsh CPAs LLP (William Desmond) for further evaluation, as noted in Section VII.A and Section X below.
C. Annual Filing Requirements
PrairieSense will be required to file the following tax returns on an annual basis:
Federal: Form 1065 (U.S. Return of Partnership Income), together with Schedule K-1 (Partner's Share of Income, Deductions, Credits, etc.) to each member. The Form 1065 is due on the fifteenth day of the third month following the close of PrairieSense's taxable year (i.e., March 15 for a calendar-year entity), with extensions available.
Iowa: IA 1065 (Iowa Partnership Return of Income), together with Iowa Schedule K-1s to each member. Iowa filing deadlines generally conform to federal deadlines.
Illinois and Other States: PrairieSense may have filing obligations in Illinois and other states in which it conducts business or has nexus. These potential obligations are discussed in Section VII below.
IV. Tax Treatment of Capital Contributions
A. Greenfield's Cash Contribution — $7,200,000
Under IRC § 721(a), no gain or loss is recognized by either a partnership or any of its partners upon the contribution of property (including cash) to the partnership in exchange for an interest in the partnership. Accordingly, no gain or loss will be recognized by Greenfield or by PrairieSense upon Greenfield's contribution of $7,200,000 in cash in exchange for a 60% membership interest in PrairieSense.
Under IRC § 722, Greenfield's initial outside tax basis in its PrairieSense membership interest will be equal to the amount of cash contributed — that is, $7,200,000. Greenfield's outside basis will subsequently be adjusted upward for allocations of JV income and additional contributions, and downward for allocations of JV losses and distributions, in accordance with IRC § 705.
Under IRC § 723, PrairieSense's inside basis in the contributed cash is $7,200,000 — which is trivially the face amount of the cash received. There is no book-tax disparity arising from Greenfield's cash contribution.
B. TerraVault's Cash Contribution — $2,400,000
The same analysis applies to TerraVault's cash contribution of $2,400,000. Under IRC § 721(a), no gain or loss is recognized by TerraVault or by PrairieSense on this portion of TerraVault's contribution. The $2,400,000 in cash contributes $2,400,000 to TerraVault's outside basis in its PrairieSense membership interest (IRC § 722) and $2,400,000 to PrairieSense's inside basis in the contributed cash (IRC § 723). No book-tax disparity arises from this portion of TerraVault's contribution.
C. TerraVault's IP/Technology License Contribution — $2,400,000
1. Nonrecognition Under IRC § 721(a)
The general rule of IRC § 721(a) provides that no gain or loss is recognized to a partnership or any of its partners upon the contribution of property to the partnership in exchange for an interest in the partnership. This nonrecognition rule applies broadly to contributions of property, including contributions of intangible property such as patents, copyrights, trademarks, trade secrets, and licenses. Accordingly, provided that TerraVault's contribution of the SoilPulse™ technology license qualifies as a contribution of "property" to PrairieSense in exchange for a partnership interest, TerraVault will not recognize gain or loss on the contribution, notwithstanding the fact that the fair market value of the contributed license ($2,400,000) substantially exceeds TerraVault's adjusted tax basis in the license (estimated at approximately $350,000, as discussed below).
It is important to note that the nonrecognition treatment under IRC § 721(a) applies only to contributions of "property" and does not extend to transfers made in exchange for services. If any portion of TerraVault's membership interest were treated as received in exchange for services (rather than in exchange for property), IRC § 721 would not apply to that portion, and TerraVault could recognize ordinary income equal to the fair market value of the partnership interest received for services. This "services vs. property" concern is addressed in Section IV.C.4 below.
2. Characterization of the IP Contribution
A critical threshold question in analyzing TerraVault's IP contribution is whether TerraVault is contributing an ownership interest in the SoilPulse™ intellectual property or merely granting a license to use the technology. This distinction has significant implications for the applicability of IRC § 721(a) and for the ongoing tax treatment of the contributed asset within the partnership.
Based on the preliminary term sheet and the parties' discussions to date, TerraVault will retain full ownership of the underlying SoilPulse™ patents (U.S. Patent No. 10,842,317 and pending U.S. Application No. 17/509,664) and the SoilPulse™ trademark (U.S. Trademark Reg. No. 6,318,205). TerraVault will grant PrairieSense an exclusive license to use, develop, modify, and commercialize products and services based on the SoilPulse™ technology within a defined field of use (integrated soil-health sensor systems for commercial row-crop agriculture) and a defined territory (the U.S. Midwest).
The contribution of a license, as opposed to an outright transfer of ownership, is treated as a contribution of "property" for purposes of IRC § 721(a), provided that the license conveys a sufficiently substantial bundle of rights to constitute a property interest. In this regard, we note the following factors supporting the treatment of TerraVault's license contribution as a contribution of property:
• The license is exclusive within the defined field of use and territory, meaning that TerraVault may not grant competing licenses or use the technology itself in competition with PrairieSense within the scope of the license.
• The license is expected to be perpetual in duration (or, at minimum, co-terminous with the term of the JV), which distinguishes it from a short-term service arrangement or consulting engagement.
• The license conveys the right to develop derivative works and modifications, which is a hallmark of a property interest rather than a mere service contract.
• The proposed non-compete covering the U.S. Midwest (Iowa, Illinois, Indiana, Minnesota, Wisconsin, Missouri, Nebraska, Kansas, South Dakota, North Dakota, and Ohio) for a period of three years following formation further reinforces the exclusive nature of the license within the JV's operating territory and supports the characterization of the license as a contribution of a substantial property interest.
Recommendation: The technology license agreement embedded in or appended to the JV Operating Agreement should be carefully drafted to convey exclusive, perpetual (or JV-term-length) rights within the defined field of use and territory, thereby supporting the characterization of the license as a contribution of "property" for purposes of IRC § 721(a). We recommend that our corporate colleagues review the license agreement with this tax characterization objective in mind.
3. Basis and Built-In Gain Issues
Under IRC § 722, TerraVault's total outside basis in its PrairieSense membership interest will be the sum of the cash contributed ($2,400,000) and TerraVault's adjusted tax basis in the contributed IP license. Under IRC § 723, PrairieSense's inside basis in the contributed IP license will be TerraVault's adjusted tax basis in the license at the time of contribution (i.e., the carryover basis), not the agreed-upon fair market value.
TerraVault's adjusted tax basis in the SoilPulse™ technology license is a critical input to this analysis. Based on consultation with Clarendon & Marsh CPAs LLP (William Desmond) and publicly available information regarding TerraVault's development history, TerraVault's internal costs of developing the SoilPulse™ technology were likely treated as research and experimental expenditures under IRC § 174 and either expensed in the year incurred (for taxable years beginning before January 1, 2022) or, for amounts paid or incurred after December 31, 2021, capitalized and amortized over five years under the amended IRC § 174 (as revised by the Tax Cuts and Jobs Act of 2017, effective for taxable years beginning after December 31, 2021). In either case, TerraVault's adjusted tax basis in the contributed IP is likely substantially below the agreed-upon fair market value of $2,400,000.
For purposes of this memorandum, we assume that TerraVault's adjusted tax basis in the contributed SoilPulse™ technology license is approximately $350,000. This assumed basis is a placeholder pending independent confirmation from TerraVault and its tax advisors, which has been requested through counsel. The actual basis should be confirmed before the JV Operating Agreement is finalized and any IRC § 704(c) elections are made.
Based on this assumed basis, the following calculations summarize the basis and built-in gain implications:
Several important observations arise from this analysis:
Book-tax disparity. For book (capital account) purposes, TerraVault's IP contribution is reflected at $2,400,000 (fair market value), resulting in an initial capital account balance for TerraVault of $4,800,000. However, for federal income tax purposes, TerraVault's outside basis in its PrairieSense interest is only $2,750,000 ($2,400,000 cash + $350,000 IP carryover basis). This $2,050,000 book-tax disparity drives the IRC § 704(c) allocation issues discussed in Section V.B below.
Inside basis disparity. Similarly, PrairieSense's aggregate inside basis in its assets ($9,950,000) is $2,050,000 less than the aggregate book value of its assets ($12,000,000). This disparity will affect the computation of tax depreciation and amortization deductions available to the partnership and the allocation of those deductions among the members.
4. Services vs. Property Concern
As noted above, IRC § 721(a) applies only to contributions of property and does not extend to partnership interests received in exchange for services. If any portion of TerraVault's 40% membership interest in PrairieSense were deemed to be received in exchange for ongoing services — for example, the continued involvement of Dr. Lian Xu (CTO of TerraVault) in technology development for the JV — that portion would not qualify for nonrecognition under IRC § 721(a). Instead, it would be treated as a compensatory partnership interest, potentially taxable to TerraVault under IRC § 83 and the principles of Revenue Procedure 93-27 and Revenue Procedure 2001-43.
Under Rev. Proc. 93-27, the receipt of a partnership profits interest in exchange for services is generally not a taxable event, provided certain conditions are met (including that the interest is not disposed of within two years and does not relate to a substantially certain and predictable stream of income). However, if the interest received includes a capital interest (i.e., an interest in existing partnership capital, as opposed to solely a share of future profits), the receipt is taxable to the extent of the fair market value of the capital interest received.
In the proposed structure, TerraVault is receiving a capital interest in PrairieSense (reflected in a $4,800,000 initial capital account balance) in exchange for cash and IP. If any portion of that capital interest were recharacterized as received for services, TerraVault could recognize ordinary income equal to the fair market value of the recharacterized portion.
Recommendation: To preserve the tax-free treatment of TerraVault's IP contribution under IRC § 721(a), the JV Operating Agreement and related transaction documents should clearly segregate the IP license contribution from any employment, consulting, or service arrangements with TerraVault or its personnel. Specifically:
(a) The technology license agreement should be structured and documented as a transfer of a property interest (an exclusive license) from TerraVault to PrairieSense, independent of any obligation by TerraVault or its employees to perform services for the JV.
(b) Any ongoing technology development, consulting, or management services to be provided by TerraVault personnel (including Dr. Mehta and Dr. Xu) should be documented in separate service agreements with arm's-length compensation terms, and the service obligations should not be conditions of or linked to TerraVault's equity interest in the JV.
(c) TerraVault's 40% membership interest should be documented as received solely in exchange for the cash and IP contributions described above, and not as compensation for services.
D. Impact of Valuation Dispute on Tax Analysis
As noted in Sections I and II.C, the parties have not yet resolved the dispute over the fair market value of TerraVault's SoilPulse™ technology license contribution. If TerraVault's demanded valuation of $3,600,000 were adopted (rather than Greenfield's proposed compromise of $2,400,000), the tax analysis presented in this memorandum would be materially affected in the following respects:
(a) Equity split. TerraVault's total contribution would be $6,000,000 ($2,400,000 cash + $3,600,000 IP), implying a 50% equity stake in PrairieSense (assuming total capitalization is adjusted to $13,200,000, with Greenfield's $7,200,000 representing approximately 54.5%, or, if total capitalization remains at $12,000,000, the equity split would need to be renegotiated). The precise equity implications depend on how the parties structure the overall capitalization.
(b) Built-in gain. The built-in gain on TerraVault's IP contribution would increase to approximately $3,250,000 ($3,600,000 FMV − $350,000 assumed tax basis), representing a 59% increase over the $2,050,000 built-in gain under the $2,400,000 valuation.
(c) IRC § 704(c) allocations. The magnitude of the annual remedial allocations under IRC § 704(c) would increase proportionally, creating larger notional income allocations to TerraVault and larger notional amortization deductions for Greenfield. While this protects Greenfield under the remedial method, it increases the overall complexity of the tax allocation structure and may create cash flow tensions if tax distributions are not carefully coordinated with book distributions.
(d) Disguised sale risk. A higher IP valuation coupled with early distributions to TerraVault could increase the risk that the IRS recharacterizes a portion of the transaction as a disguised sale under IRC § 707(a)(2)(B), particularly if TerraVault receives distributions in excess of its allocable share of operating income during the first two years following formation.
For these reasons, Greenfield's interest in maintaining the $2,400,000 IP valuation is supported not only by business, governance, and equity considerations but also by the desire to limit the magnitude of IRC § 704(c) allocations that disproportionately affect the JV's tax efficiency and create ongoing administrative complexity.
V. Allocation of Income, Gain, Loss, and Deductions
A. General Allocation Framework — IRC § 704(b)
The JV Operating Agreement must contain allocation provisions that satisfy the requirements of IRC § 704(b) and the substantial economic effect ("SEE") safe harbor set forth in Treasury Regulation § 1.704-1(b). Under IRC § 704(b), a partner's distributive share of income, gain, loss, deduction, or credit is determined by the partnership agreement, provided that the allocation has "substantial economic effect." If an allocation lacks substantial economic effect, the partner's distributive share is determined in accordance with the partner's interest in the partnership, taking into account all facts and circumstances.
The regulations establish a two-part test for substantial economic effect: (1) the allocation must have "economic effect," and (2) the economic effect must be "substantial." The economic effect test, in turn, can be satisfied through either the primary test (which requires maintenance of capital accounts, liquidating distributions in accordance with capital account balances, and an unlimited deficit restoration obligation) or the alternate test (which substitutes a "qualified income offset" for the unlimited deficit restoration obligation and imposes a limitation that allocations may not cause a deficit capital account balance in excess of any limited deficit restoration obligation).
We recommend the following approach for the PrairieSense Operating Agreement:
(a) Capital account maintenance. The Operating Agreement should require that capital accounts be maintained in accordance with the detailed rules of Treasury Regulation § 1.704-1(b)(2)(iv). This includes crediting contributions at fair market value, crediting allocations of book income and gain, debiting allocations of book loss and deduction, and debiting distributions at fair market value.
(b) Alternate test for economic effect. Given that neither member is expected to agree to an unlimited deficit restoration obligation, the Operating Agreement should satisfy the alternate test by including a "qualified income offset" provision. Under the qualified income offset, if a member unexpectedly receives an adjustment, allocation, or distribution that creates or increases a deficit balance in the member's capital account in excess of any limited deficit restoration obligation, items of income and gain will be specially allocated to that member in an amount and manner sufficient to eliminate the deficit balance as quickly as possible.
(c) Minimum gain chargeback. The Operating Agreement should include a "minimum gain chargeback" provision as required by Treasury Regulation § 1.704-2(f), which ensures that if there is a net decrease in partnership minimum gain during any taxable year, each partner is allocated items of income and gain equal to that partner's share of the net decrease. This provision is particularly relevant if PrairieSense incurs nonrecourse debt (such as the proposed Heartland National Bank revolving credit facility), which would create partnership minimum gain.
(d) Substantiality. The economic effect of the allocations must be "substantial," meaning that there must be a reasonable possibility that the allocation will affect substantially the dollar amounts to be received by the partners from the partnership, independent of tax consequences. The proposed 60/40 allocation, which matches the economic ownership percentages and capital account ratios, should readily satisfy the substantiality requirement.
Base allocations. Subject to the special allocation provisions discussed below, PrairieSense's items of income, gain, loss, deduction, and credit will be allocated 60% to Greenfield and 40% to TerraVault, consistent with the members' respective ownership percentages and initial capital account ratios.
Early-year losses. Based on the preliminary financial projections, PrairieSense is expected to generate operating losses in Year 1 (projected Year 1 revenue of $3,500,000 with negative EBITDA). These losses will flow through 60% to Greenfield and 40% to TerraVault, subject to each member's ability to utilize the losses under the following limitation provisions:
• Outside basis limitation (IRC § 704(d)). A partner may not deduct its share of partnership losses in excess of its adjusted outside basis in its partnership interest. Greenfield's initial outside basis is $7,200,000, and TerraVault's initial outside basis is $2,750,000, providing substantial capacity to absorb early-year losses.
• At-risk limitation (IRC § 465). Each member may deduct losses only to the extent it is "at risk" with respect to the partnership activity. For a corporate partner such as TerraVault, the at-risk rules of IRC § 465 apply to closely held C corporations (defined in IRC § 465(a)(1)(B) as C corporations in which five or fewer individuals own more than 50% of the stock). Whether TerraVault is a closely held corporation for this purpose should be confirmed based on its capitalization table.
• Passive activity loss limitation (IRC § 469). For TerraVault, as a C corporation, the passive activity loss rules of IRC § 469 apply to closely held C corporations and personal service corporations. If TerraVault is a closely held C corporation, it may offset passive losses against active business income but not against portfolio income. For Greenfield's individual fund investors, the passive activity loss rules may apply at the investor level, depending on each investor's level of material participation in the JV's activities.
• Excess business loss limitation (IRC § 461(l)). For taxable years beginning after December 31, 2020, and before January 1, 2029, noncorporate taxpayers may not deduct excess business losses (defined as aggregate deductions attributable to trades or businesses exceeding aggregate gross income from trades or businesses by more than $270,000 for single filers or $540,000 for joint filers, adjusted for inflation). This limitation may affect individual investors in Greenfield's fund structure.
B. IRC § 704(c) Allocations — Addressing the IP Built-In Gain
1. The IRC § 704(c) Requirement
IRC § 704(c)(1)(A) provides that income, gain, loss, and deduction with respect to property contributed to the partnership by a partner shall be shared among the partners so as to take into account the variation between the adjusted tax basis of the property and its fair market value at the time of contribution. This provision is designed to prevent the shifting of tax consequences of built-in gain or loss from the contributing partner to non-contributing partners.
In the context of the proposed PrairieSense joint venture, the built-in gain in TerraVault's contributed SoilPulse™ technology license — estimated at $2,050,000 (assuming $2,400,000 FMV and $350,000 adjusted tax basis) — must be taken into account through special tax allocations under IRC § 704(c). The objective is to ensure that the $2,050,000 built-in gain is allocated to TerraVault (the contributing partner) when it is recognized, and that Greenfield (the non-contributing partner) is not required to bear tax burdens attributable to TerraVault's contribution of low-basis property.
2. Permissible Methods Under Treasury Regulation § 1.704-3
Treasury Regulation § 1.704-3 provides three permissible methods for making IRC § 704(c) allocations. The partnership must select one of these methods (or a combination of methods, applied consistently) and specify the selected method in the partnership agreement. If the partnership agreement is silent, the default is the traditional method, which is the least protective of the non-contributing partner. The three methods are as follows:
Traditional Method (Treas. Reg. § 1.704-3(b)). Under the traditional method, tax items are allocated to the contributing partner (TerraVault) to the extent necessary to match the book allocations, but only to the extent that sufficient tax items exist. The traditional method is subject to the "ceiling rule," which provides that the total tax item allocated to the partners cannot exceed the total tax item of the partnership. In the context of amortization of the SoilPulse™ IP, PrairieSense's total tax amortization is limited to $23,333 per year ($350,000 carryover basis / 15 years), whereas the total book amortization is $160,000 per year ($2,400,000 FMV / 15 years). Under the traditional method, Greenfield's share of tax amortization would be limited to a pro rata portion of the $23,333 total tax amortization, rather than 60% of the $160,000 book amortization ($96,000). This ceiling rule limitation would cause Greenfield to bear a disproportionate tax burden by receiving substantially less tax amortization than its share of book amortization, effectively shifting the tax cost of TerraVault's low-basis IP to Greenfield.
Traditional Method with Curative Allocations (Treas. Reg. § 1.704-3(c)). The curative allocations method addresses the ceiling rule limitation by permitting the partnership to allocate other tax items (e.g., taxable income from operations) to offset the distortion created by the ceiling rule. For example, additional tax deductions could be allocated to Greenfield, or additional tax income could be allocated to TerraVault, to compensate for the shortfall in tax amortization deductions allocable to Greenfield. Curative allocations provide better protection for Greenfield than the traditional method but are limited to actual tax items of the partnership and may not fully eliminate the disparity in all years.
Remedial Method (Treas. Reg. § 1.704-3(d)). The remedial method is the most protective method for the non-contributing partner. Under this method, the partnership creates notional (or "remedial") tax items — that is, items that do not correspond to any actual economic event — to eliminate the book-tax disparity attributable to contributed property. Specifically, the partnership creates a notional amortization deduction for the non-contributing partner (Greenfield) equal to Greenfield's share of the book-tax disparity in amortization, and creates an equal and offsetting notional item of ordinary income for the contributing partner (TerraVault). The effect is to place Greenfield in exactly the same tax position as if the contributed IP had a tax basis equal to its fair market value at the time of contribution.
3. Recommendation: Adopt the Remedial Method
We strongly recommend that the JV Operating Agreement adopt the remedial method under Treasury Regulation § 1.704-3(d) for the SoilPulse™ technology license contributed by TerraVault. The remedial method is the most effective means of protecting Greenfield from bearing tax costs attributable to the built-in gain in TerraVault's contributed IP. Under this method:
(a) Greenfield will receive its full share of amortization deductions on a tax basis commensurate with its 60% share of the $2,400,000 book value of the contributed IP, rather than being limited to a pro rata share of the $350,000 carryover tax basis.
(b) TerraVault will be allocated offsetting notional ordinary income, reflecting the fact that TerraVault contributed low-basis property and should bear the tax cost of the resulting book-tax disparity.
(c) The distortion created by the ceiling rule under the traditional method is fully eliminated, ensuring that Greenfield's after-tax return on its investment is not eroded by tax burdens properly attributable to TerraVault.
We acknowledge that the remedial method is less favorable to TerraVault, as it results in TerraVault recognizing notional ordinary income annually over the amortization period of the contributed IP. TerraVault may therefore object to the adoption of the remedial method during Operating Agreement negotiations. However, from Greenfield's perspective, the remedial method is the appropriate mechanism to ensure that the economic bargain (60% membership interest for $7,200,000 in cash) is not undermined by tax allocation distortions arising from TerraVault's low-basis IP contribution.
The JV Operating Agreement should explicitly specify the IRC § 704(c) method applicable to TerraVault's IP contribution. If the Operating Agreement is silent on this point, the default under Treasury Regulation § 1.704-3(a)(1) is the traditional method, which — as explained above — is the method least protective of Greenfield's tax interests.
C. Amortization of Contributed IP
Under IRC § 197, certain intangible assets acquired in connection with the conduct of a trade or business are amortizable on a straight-line basis over a 15-year period. The SoilPulse™ technology license, assuming it qualifies as a "Section 197 intangible" (which includes patents, copyrights, know-how, licenses, and similar items), will be amortizable by PrairieSense over 15 years.
Critically, however, PrairieSense's tax basis for amortization of the contributed IP is the carryover basis of $350,000 (under IRC § 723), not the $2,400,000 book value at which the IP is reflected in PrairieSense's capital accounts. This creates a significant annual book-tax amortization disparity, as illustrated in the following table:
This $136,667 annual book-tax amortization disparity is the engine that drives the IRC § 704(c) allocation issues discussed above. Under the remedial method:
(a) Greenfield's remedial amortization deduction: 60% × $136,667 = approximately $82,000 per year. This notional deduction is allocated to Greenfield in addition to Greenfield's share of the actual tax amortization, placing Greenfield in the same tax position as if the contributed IP had a full $2,400,000 tax basis.
(b) TerraVault's remedial ordinary income: An equal and offsetting amount of approximately $82,000 per year is allocated to TerraVault as notional ordinary income. This ensures that TerraVault, as the contributing partner, bears the tax cost of the book-tax disparity attributable to its low-basis IP contribution.
These remedial allocations will continue for the full 15-year amortization period of the contributed IP (or until the IP is disposed of or the JV is dissolved, whichever occurs first). Over the 15-year period, the cumulative remedial allocations will equal the total built-in gain of $2,050,000, fully eliminating the book-tax disparity.
D. Special Allocation and Distribution Provisions — Recommendations
Based on the foregoing analysis, we recommend that the JV Operating Agreement include the following tax-related provisions:
1. Detailed capital account maintenance provisions compliant with Treasury Regulation § 1.704-1(b)(2)(iv), including rules for crediting contributions at fair market value, crediting and debiting allocations of book income and loss, and debiting distributions.
2. Explicit designation of the remedial method under IRC § 704(c) for TerraVault's IP contribution. The Operating Agreement should state with specificity that the remedial method under Treasury Regulation § 1.704-3(d) applies to the SoilPulse™ technology license contributed by TerraVault, and should describe the mechanics of the notional remedial allocations.
3. Qualified income offset provision as required by the alternate test for economic effect under Treasury Regulation § 1.704-1(b)(2)(ii)(d).
4. Minimum gain chargeback provision as required by Treasury Regulation § 1.704-2(f). This provision is particularly important if PrairieSense incurs nonrecourse debt, such as the proposed Heartland National Bank revolving credit facility discussed in Section VIII.
5. Mandatory tax distribution provisions. The Operating Agreement should require PrairieSense to make mandatory quarterly (or at least annual) distributions of cash to each member in an amount sufficient to cover the member's estimated tax liabilities arising from its allocable share of JV income. These "tax distribution" provisions should have priority over all other distributions (including preferred returns or profit-sharing distributions) to ensure that neither member is required to fund tax liabilities out of its own resources. The tax distribution rate should be set at the higher of the individual and corporate maximum marginal rates to accommodate both members' tax profiles.
6. Distribution provisions tracking book/economic allocations. Cash distributions (other than tax distributions) should track the 60/40 book/economic allocation ratios, and should not diverge due to tax allocation adjustments under IRC § 704(c) or the remedial method. This ensures that the economic bargain between the parties is preserved notwithstanding the complexity of the tax allocation structure.
7. Anti-abuse provisions. The Operating Agreement should include provisions ensuring that TerraVault does not receive cumulative economic distributions in excess of its book capital account balance, thereby preventing an inadvertent wealth transfer from Greenfield to TerraVault through the distribution mechanism.
VI. Potential Built-In Gain Issues Under IRC § 704(c)(1)(B) and § 737
A. IRC § 704(c)(1)(B) — Distribution of Contributed Property
IRC § 704(c)(1)(B) provides that if any contributed property is distributed to a partner other than the contributing partner within seven years of the contribution, the contributing partner is treated as recognizing gain or loss on the distribution equal to the amount of gain or loss that would have been allocated to the contributing partner under IRC § 704(c)(1)(A) if the partnership had sold the contributed property at its fair market value at the time of the distribution.
Applied to the proposed PrairieSense joint venture: if PrairieSense were to distribute the SoilPulse™ technology license (or any successor intellectual property derived from or substituted for the contributed license) to Greenfield (the non-contributing partner) within seven years of TerraVault's contribution, TerraVault would be required to recognize the built-in gain — estimated at $2,050,000 — at the time of the distribution. This result would be adverse to TerraVault and could also create complications for PrairieSense's tax reporting obligations.
Recommendation: The JV Operating Agreement should include a provision restricting distributions of contributed IP (or any successor or substitute IP derived from the contributed SoilPulse™ technology license) to non-contributing members within the seven-year period following the date of contribution. At a minimum, any such distribution should require the prior written consent of both members and should include an acknowledgment by the contributing member (TerraVault) of the gain recognition consequences under IRC § 704(c)(1)(B). This protective provision ensures that a distribution of IP to Greenfield does not inadvertently trigger gain recognition for TerraVault and disrupt the economic expectations of the parties.
B. IRC § 737 — Distribution of Other Property to Contributing Partner
IRC § 737 provides that if property (other than cash) is distributed by a partnership to a partner who has previously contributed property with built-in gain to the partnership, and the distribution occurs within seven years of the contribution, the distributee partner must recognize gain to the extent that the fair market value of the distributed property exceeds the partner's adjusted outside basis in its partnership interest (reduced, but not below zero, by the amount of money received in the distribution).
Applied to PrairieSense: if PrairieSense distributes property (other than cash) to TerraVault within seven years of TerraVault's IP contribution, and the fair market value of the distributed property exceeds TerraVault's outside basis (initially $2,750,000), TerraVault may be required to recognize gain under IRC § 737. The gain recognized is limited to the lesser of (i) the excess of the FMV of the distributed property over TerraVault's outside basis, and (ii) the net pre-contribution gain (i.e., the remaining built-in gain on all property contributed by TerraVault to the partnership).
This provision is principally a risk to TerraVault rather than Greenfield, as it is triggered by distributions to the contributing partner. Nevertheless, it should be addressed in the Operating Agreement to ensure that the parties are aware of the potential tax acceleration and to avoid inadvertent triggering of gain recognition through non-cash distributions to TerraVault during the seven-year window.
Recommendation: The Operating Agreement should include a provision requiring that any non-cash distribution to TerraVault during the seven-year period following TerraVault's IP contribution be made only after consideration of the IRC § 737 implications, and that the managing member (expected to be Greenfield, as the 60% majority member) notify TerraVault of the potential gain recognition consequences in advance of any such distribution.
C. Disguised Sale Rules — IRC § 707(a)(2)(B)
IRC § 707(a)(2)(B) and the implementing regulations at Treasury Regulation § 1.707-3 provide that if a partner contributes property to a partnership and the partnership distributes money or other consideration to the partner within a specified period, and the contribution and distribution, when viewed together, are properly characterized as a sale of the contributed property, the transaction will be recharacterized as a disguised sale. The effect of a disguised sale recharacterization is that the contributing partner recognizes gain on the "sold" portion of the property, and the nonrecognition treatment of IRC § 721(a) is unwound with respect to that portion.
Under Treasury Regulation § 1.707-3(c), if a partner contributes property to a partnership and the partnership makes a related transfer of money or other consideration to the partner within two years before or after the contribution, the transfers are presumed to be a sale of the property to the partnership unless the facts and circumstances clearly establish otherwise. Conversely, if the transfer of consideration occurs more than two years after the contribution, the transfers are presumed not to be a sale. The two-year presumption is a critical planning consideration.
Applied to PrairieSense: if TerraVault contributes the SoilPulse™ technology license to PrairieSense and receives distributions of cash from PrairieSense within two years of the contribution, the IRS could recharacterize the transactions as a disguised sale of all or a portion of the IP. A disguised sale recharacterization would cause TerraVault to recognize gain on the deemed "sold" portion of the IP, converting the intended tax-free contribution into a taxable sale. The gain would likely be characterized as ordinary income to the extent the IP constitutes "unrealized receivables" or "inventory items" under IRC § 751, or as capital gain if the IP qualifies as a capital asset.
Several factors are relevant to the disguised sale analysis under Treasury Regulation § 1.707-3(b):
• Whether the distribution to TerraVault exceeds TerraVault's allocable share of JV operating income (distributions in excess of the distributee's share of income are more likely to be recharacterized as sale proceeds);
• Whether the distribution is subject to significant entrepreneurial risk of the partnership's operations (guaranteed payments or fixed distributions are more suggestive of a sale);
• Whether the timing and amount of the distribution are determinable with reasonable certainty at the time of the contribution;
• Whether the distribution right is secured by the contributed property or other partnership assets; and
• The overall economic substance of the arrangement.
Recommendation: The JV Operating Agreement should include provisions ensuring that distributions to TerraVault during the first two years following the formation of PrairieSense are limited to TerraVault's allocable share of operating income (i.e., 40% of distributable cash flow) and do not include any preferential or guaranteed distributions that could create a disguised sale inference. Specifically:
(a) No guaranteed payments or fixed distributions should be made to TerraVault during the first two years following formation.
(b) Distributions to TerraVault should be made pro rata with distributions to Greenfield, in proportion to the 60/40 allocation ratios.
(c) Any tax distributions to TerraVault during the first two years should be structured to fall within the "reasonable guaranteed payments" exception or the "operating cash flow distributions" exception under Treasury Regulation § 1.707-4, to the extent applicable.
(d) We recommend coordinating with Clarendon & Marsh CPAs LLP (William Desmond) on the structuring and documentation of distributions during the first two years to minimize disguised sale risk.
VII. Iowa and Multi-State Tax Considerations
A. Iowa Pass-Through Treatment
As discussed in Section III.B above, Iowa follows federal partnership classification rules, and PrairieSense will not be subject to entity-level Iowa income tax. PrairieSense's items of Iowa-source income, gain, loss, deduction, and credit will pass through to the members, who will report their respective shares on their Iowa inco

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