13 July 2009 Internal T.I. 2009-0316601I7 - Taxation of an Indian's Employment Income

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principal Issues: Is the employment income earned by members of the XXXXXXXXXX exempt from tax?

Position: Not on facts as given by Audit.

Reasons: The Guidelines do not apply to exempt this income from tax. The factors connecting the employment income to the reserve are not sufficient to conclude that the income is situated on a reserve.

July 13, 2009

Taxation of an Indian's Employment Income Earned from XXXXXXXXXX

We are writing in response to your request for our views on whether the employment income earned by Indians employed at the XXXXXXXXXX would be exempt from tax.

FACTS

XXXXXXXXXX is located in XXXXXXXXXX , on land that is owned by the XXXXXXXXXX The land is XXXXXXXXXX

XXXXXXXXXX

ISSUE

Is the employment income earned by members of the First Nation employed at XXXXXXXXXX exempt from tax under section 87 of the Indian Act and paragraph 81(1)(a) of the Income Tax Act?

ANALYSIS

Our comments are based on the assumption that XXXXXXXXXX is not located on a reserve. If the land is determined to be reserve land, then Guideline 1 would likely apply to exempt from tax employment income earned by Indians working at this location.

The decision of the Supreme Court of Canada in Williams v. The Queen established the "connecting factors test" in which all factors that connect an Indian's income to a reserve are analysed and weighed. If sufficient factors of sufficient weight suggest that the income is situated on the reserve then the income will be exempt from tax pursuant to section 87 of the Indian Act and paragraph 81(1)(a) of the Income Tax Act. Significant factors to consider for employment income are:

(i) the location where the employment duties are completed;
(ii) the nature and circumstances surrounding the employment;
(iii) the residence of the employer; and
(iv) the residence of the employee.

To simplify applying the connecting factors test to an Indian's employment income, the Canada Revenue Agency developed the Indian Act Exemption for Employment Income Guidelines (the "Guidelines"). None of the Guidelines apply in the present situation to exempt the employment income from tax. However, because the Guidelines were developed as an administrative tool, they do not constitute a definitive test. It is acknowledged that occasionally there may be situations in which additional connecting factors are relevant and may be given significant weight.

In the present situation, the only factors connecting the employment income to the Reserve are the residence of the employee and the historical circumstances surrounding the land on which XXXXXXXXXX is located. The courts have concluded that these two factors can be sufficient to situate employment income on a reserve as seen in the decisions of Folster v. The Queen, 97 DTC 5315 (FCA), Amos v. The Queen, 99 DTC 5333 (FCA), and Boubard v. The Queen 2009 DTC 5035 (FCA).

The decision of the Federal Court of Appeal (the "FCA") in Folster involved a fact situation in which the Court concluded that the location of the employment was of less significance due to the circumstances surrounding the employment. In this case, the taxpayer was an Indian residing on a reserve. She was employed by the local hospital, which was built to serve the First Nations community living in the area. It was estimated that 90% of the patients were members of that community. The original hospital had been located on the reserve, however it was destroyed by fire. When the hospital was rebuilt it was situated off-reserve. The FCA, in reversing the decision of the Tax Court of Canada, concluded that the historical factors surrounding the employment were sufficient to connect the income earned from the employment to the reserve. The fact that the hospital was located off-reserve was given little weight.

Amos involved a situation in which a portion of a reserve was surrendered to the Crown and then leased to a corporation that used the land as a storage location for its pulp and paper mill operations. The band entered into this arrangement in order to obtain "preferential hiring treatment" for its members.

The FCA concluded that the employment income was situated on a reserve. The FCA gave significant weight to the fact that the lease was entered into to obtain employment for band members. Although many of the Indians employed at the pulp and paper mill completed duties on land that had never been part of the reserve, this fact was given less weight. The circumstances surrounding the employment combined with the fact that the employees resided on a reserve led the FCA to conclude that the employment income earned at the pulp and paper mill was situated on a reserve and thus exempt from tax.

Boubard is a recent decision of the FCA in which the FCA concluded that a decision to absolutely surrender reserve land in order to obtain employment for band members is a connecting factor to which significant weight should be given when determining whether employment income earned from duties completed on the surrendered land is exempt from tax. Boubard involved the Sagkeeng First Nation and the decision by this First Nation in the 1920s to surrender a portion of their reserve so as to allow for the construction of a pulp and paper mill. Originally the land was surrendered and a lease was entered into with the owners of the mill. The mill later insisted that it had to own the land. The land was then surrendered absolutely, and sold to the mill.

The Tax Court of Canada found that the Sagkeeng First Nation had only reluctantly surrendered its land for sale, and did so in exchange for the promise of employment for its members. The Tax Court of Canada concluded that this factor should be given significant weight, such that the employment income earned from working on the surrendered reserve land was determined to be exempt from tax. Little was said about the residence of the employees, although it appears that only one of the three employees involved in this case lived on a reserve. This decision was confirmed by the FCA.

The facts of the present situation are different from those in the above-mentioned cases. In Folster, the location of the employer was changed due to an unforeseen event, which is not the case with XXXXXXXXXX has always been on land that is not a reserve. While the land where XXXXXXXXXX We are not aware of any facts supporting the position that the XXXXXXXXXX. Thus, the connection between the employment and the land upon which the employer is located is not as strong in the present situation as it was in Amos or Boubard.

Another significant difference between this situation and Amos and Boubard, is that there is no indication that the lease entered into between XXXXXXXXXX provided for preferential hiring of band members. We note that even if there were such a provision in the current lease, such preferential hiring to members of the First Nation would have been given in exchange for the use of land that was not reserve land. Thus, this factor, if it is found on review to exist, should not be given any significant weight.

In summary, the only factors connecting the employment income to the Reserve are that the land upon which XXXXXXXXXX , and that some of the employees reside on the Reserve. There is no indication that XXXXXXXXXX conducts any activities on the Reserve, or what

benefits, if any, the Reserve as a whole has received as a result of the location of XXXXXXXXXX . In our view, the fact that the land XXXXXXXXXX should not be given significant weight, as there appears to be no connection between XXXXXXXXXX and the present employment opportunities at XXXXXXXXXX .

CONCLUSION

In our view, the employment income of the Indians employed at XXXXXXXXXX is taxable. None of the Guidelines apply to this employment income. Applying the connecting factors test in this situation results in the income being situated off-reserve, as the only significant factor connecting the employment income to a reserve is that the employer XXXXXXXXXX . As XXXXXXXXXX , this factor does not have sufficient weight to result in the employment income being situated on a reserve. With respect to employees residing on the Reserve, we are of the view that, even taken together, these two factors are not sufficient to situate the employment income on the Reserve.

We note that if the XXXXXXXXXX

We trust that these comments will be of assistance.

For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Revenue Agency's electronic library. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, they can be provided with the electronic library version, or they may request a severed copy using the Privacy Act criteria, which does not remove client identity. You should make requests for this latter version to Mrs. Jackie Page at (819) 994-2898. A copy will be sent to you for delivery to the client.

Eliza Erskine
A/Manager
Non-Profit Organizations and
Aboriginal Issues
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch