20 November 1995 Internal T.I. 9529326 - INDIANS - BUSINESS 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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues:

1.What is the basis for determining whether an Indian's business income is considered to be connected to a reserve and therefore exempt from taxation under paragraph 81(1)(a)?

2.Do treaties with Indians not provide tax exemption?

Position:

1.Consider whether the place of business (formerly referred to as "the permanent establishment") is located on reserve. To determine this, consider:

- the place where the business activities are carried out, viz., where employees report for work, where transactions with customers are arranged, and where the inventory is located;

- the location of the head office; and

- the location of the books and records.

2.No.

Reasons:

1.Previously-adopted position on "permanent establishments" as referred to in IT-62.

2.Previously considered.

							November 20, 1995

J. J. Fennelly				HEADQUARTERS
	Small and Medium Business		J.D. Brooks
	  Enterprises Division			957-2103

							952932

Proposed Reassessment of XXXXXXXXXX

This is in reply to your memorandum of November 7, 1995 in which you requested our opinion on the proposed reassessment of XXXXXXXXXX. You attached a letter from XXXXXXXXXX addressed to The Honourable David Anderson, as well as other correspondence concerning the reassessment.

The auditor's proposed reassessment, as per his May 31, 1995 letter, was initially based on an extension of the Indian Act Exemption for Employment Income Guidelines (the "Guidelines"). However, the Guidelines do not assist in applying the Indian Act exemption to business income, and reference to the Guidelines creates the impression that the Department is trying to apply the Guidelines retroactively. The auditor's letter of July 26, 1995 provides a better rationale for the reassessment as it addresses the issue of where the income is earned.

The reassessment has support from the Department's longstanding view that business income is taxable where it is earned at a location off reserve. In the former Interpretation Bulletin IT-62 (withdrawn on July 15, 1995), this position was stated in paragraph 6(g) which stated:

The key factor is determining whether or not a specific item of income received by an Indian is taxable or exempt is the location where the income is earned. Income earned on a reserve by an Indian is considered exempt. Income earned away from the reserve is taxable.

In paragraph 6(h) of IT-62, it dealt specifically with business income and stated:

Business income is normally allocable to the permanent establishment. For example, for a self-employed merchant it would be at his store.

Although it would be preferable to refer to, say, a place of business rather than a permanent establishment (since "permanent establishment" is a defined term that should be used only in reference to provisions of the Income Tax Act and Regulations that use that term), the concept remains valid.

As the auditor has noted, Rulings Directorate has previously stated that, in determining the location of the permanent establishment of a business, the following factors will be considered:

a)the location where the business activities are carried out, viz., where employees report for work, where transactions with customers are arranged, and where the inventory is located;

b)the location of the head office; and

c)the location of the books and records.

It is a question of fact as to where a business is located. The auditor has considered the facts of the case and determined that XXXXXXXXXX business is operated mostly at a place or places that are off reserve. We agree that it is significant that XXXXXXXXXX employees do not report for work on reserve. It is also relevant that the auditor has noted that transactions with customers may, in fact, be arranged from locations off reserve, and that inventory is not maintained on the reserve. The fact that it is several hours' driving distance from the reserve to the location where services are provided to the housing corporation adds support to the auditor's view that the business is located (primarily) in XXXXXXXXXX.

Perhaps some of XXXXXXXXXX business income would be considered to be earned at the office on reserve, although it is not possible from the facts presented to determine what proportion of his income could be so described. In supporting the reassessment, it would be useful to determine the extent to which activities are carried out at the office on reserve and which employees, if any, work there.

The auditor's letter of July 26, 1995 refers to the cases of Charleson, Pete, Nowegijick and Williams to support the argument that the business income is not earned at the office on reserve. While the auditor relies on these cases as support for the residence of the debtor test, we would point out that it was decided in Williams, the current leading case on the taxation of Indians, that one should not rely on one test alone in determining whether income is connected to a reserve. What was stated in Williams was:

The only justification given in these cases for locating the situs of a debt at the residence of the debtor is that this is the rule applied in the conflict of laws. ...

In resolving this question, it is readily apparent that to simply adopt general conflicts principles in the present context would be entirely out of keeping with the scheme and purposes of the Indian Act and Income Tax Act. The purposes of the conflict of laws have little or nothing in common with the purposes underlying the Indian Act. It is simply not apparent how the place where a debt may normally be enforced has any relevance to the question whether to tax the receipt of the payment of that debt would amount to the erosion of the entitlements of an Indian qua Indian on a reserve. The test for situs under the Indian Act must be constructed according to its purposes, not the purposes of the conflict of laws. Therefore, the position that the residence of the debtor exclusively determines the situs of benefits such as those paid in this case must be closely reexamined in light of the purposes of the Indian Act. It may be that the residence of the debtor remains an important factor, or even the exclusive one. However, this conclusion cannot be directly drawn from an analysis of how the conflict of laws deals with such an issue.

Rather than relying on one test which can be easily manipulated, Williams requires one to consider and weigh the factors that serve to connect income to a location on or off reserve, as noted here:

The first step is to identify the various connecting factors which are potentially relevant. These factors should then be analyzed to determine what weight they should be given in identifying the location of the property, in light of three considerations: (1) the purpose of the exemption under the Indian Act; (2) the type of property in question; and (3) the nature of the taxation of that property.

XXXXXXXXXX argues in his October 10, 1995 letter that Indians are immune to taxation by non-Indian governments. In addressing this, we would point to Williams, wherein it was stated that:

It is also important to underscore the corollary to the conclusion I have just drawn. The fact that the modern-day legislation, like its historical counterparts, is so careful to underline that exemptions from taxation and distraint apply only in respect of personal property situated on reserves demonstrates that the purpose of the legislation is not to remedy the economically disadvantaged position of Indians by ensuring that Indians may acquire, hold, and deal with property in the commercial mainstream on different terms than their fellow citizens. An examination of the decisions bearing on these sections confirms that Indians who acquire and deal in property outside lands reserved for their use, deal with it on the same basis as all other Canadians.

We have used the following in correspondence in response to this issue being raised:

The courts have never recognized that an exemption from taxation was granted under any aboriginal or treaty right. On the contrary, the courts have recognized that the Indian tax exemption is a statutory one. Paragraph 81(1)(a) of the Income Tax Act and section 87 of the Indian Act provide the principal Indian exemption from taxation, which is that personal property of an Indian situated on a reserve is exempt from taxation.

As to the Guidelines, XXXXXXXXXX received a letter from Otto Jelinek as Minister of National Revenue dated February 16, 1993 which explained the drafting of the Guidelines following the Williams decision and requested his input into their development. Also, given that the Guidelines are not relevant to this reassessment, there should be no need for you to justify the Guidelines.

for Director
Business and General Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch