2023-0972671E5 Indian Act tax exemption and Employment Income

Principal Issues: 1. Do Guidelines 1, 2 or 3 of the Indian Act Exemption for Employment Income Guidelines apply to the employment income of an organization’s employees who do not live on reserve? 2. Does Guideline 4 of the Indian Act Exemption for Employment Income Guidelines apply to the employment income of an organization’s employees? 3. Is the fact that the organization provides services that benefit Indigenous individuals, including First Nations individuals, sufficient to situate the employment income on a reserve for the purposes of the Indian Act tax exemption.

Position: 1. Guideline 1 or 3 may apply to employees who live off-reserve but work on-reserve. 2. No. 3. Not likely.

Reasons: 1. Guidelines 1 or 3 may apply depending on the amount of time that the employee perform their required duties of employment on a reserve. 2. Guideline 4 would not apply as the services provided do not appear to be dedicated exclusively to First Nations individuals who for the most part live on reserves. 3. Based on the connecting factors identified and consistent with jurisprudence, the fact that the organization and its employees are providing child and family services that benefit Indigenous individuals, including First Nations individuals is not a factor that is given significant weight in a connecting factors test.

Author: Gauthier, Michel
Section: 81(1)(a); 153(1); 227(8); 227(8.3), 87(1)(b) of the Indian Act

XXXXXXXXXX                                                                2023-097267
                                                                                       M. Gauthier

September 24, 2024

Dear XXXXXXXXXX:

Re: Indian Act Tax Exemption and Employment Income

This is in reply to your letter dated May 2, 2023, requesting our comments on the application of the income tax exemption under section 87 of the Indian Act to the employment income of employees of the XXXXXXXXXX (Employer), who are registered under the Indian Act and who live off-reserve (Employees).

Based on the information you provided:

* The Employer is an XXXXXXXXXX that provides child and family services to First Nations, Inuit, and Métis children, youth, and families (Clientele). The Clientele live both on-reserve and off-reserve.

* The Employer is a non-share corporation operating as a registered charity.

* The board of directors (Board) of the Employer is comprised of eight members, each of whom is a representative from eight different First Nations that all have reserves. Each Board member is appointed by their respective First Nation and all Board meetings take place either virtually from a location on-reserve or physically on a reserve.

* The organizational structure of the Employer includes the executive director who reports directly to the Board and works on-reserve. The executive director provides direction to a senior leadership team (Team) that all work on-reserve. Most Team meetings take place on-reserve. The administration of payroll and finance, as well as the main human resources occur on-reserve.

* The Employer has satellite offices that are located on-reserve and off-reserve.

* The location where the Employees are required to perform their employment duties varies depending on their position. It could be on-reserve, off-reserve, or both.

Our Comments:

This technical interpretation provides general comments about the provisions of the Income Tax Act (Act) and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R12, Advance Income Tax Rulings and Technical Interpretations.

Employment income earned by an individual who is registered or entitled to be registered under the Indian Act (First Nations individual), is exempt from income tax under section 87 of the Indian Act and paragraph 81(1)(a) of the Act only if the income is situated on a reserve. The courts have established that determining whether income is situated on a reserve, and thus exempt from income tax, requires identifying the various factors connecting the income to a reserve and weighing the significance of each factor. This is referred to as the “connecting factors test”.

To simplify the application of the connecting factors test with respect to common employment situations, the Canada Revenue Agency (CRA) together with interested First Nations organizations, developed the Indian Act Exemption for Employment Income Guidelines (Guidelines). There are four Guidelines, and they only apply to employees who are First Nations individuals.

Guideline 1

Under this guideline, when at least 90% of a First Nations individual’s employment duties are performed on a reserve, all their income from that employment will usually be exempt from income tax. When less than 90%, but more than an incidental proportion, of the duties are performed on a reserve, and none of the other Guidelines apply, the exemption is prorated and only the portion of the income related to the duties that are performed on a reserve will be exempt (the proration rule).

Based on our understanding of the information provided, the Employees may be required to perform their employment duties on-reserve, off-reserve, or both. Therefore, depending on the percentage of their employment duties performed on-reserve,

Guideline 1 may apply and their employment income from that employment may be fully or partially exempt from income tax.

Guideline 2

Under this guideline, when the First Nations individual lives on a reserve and their employer is resident on a reserve, all their employment income will usually be exempt from income tax.

Guideline 2 is not applicable because the Employees do not live on-reserve.

Guideline 3

Under this guideline, when more than 50% of the First Nations individual’s employment duties are performed on a reserve and either the employer is resident on a reserve or the individual lives on a reserve, all the employment income of the individual will usually be exempt from income tax.

Whether the Employer is resident on a reserve is a question of fact. However, based on the information provided, the Employer is likely resident on a reserve because its central management and control appears to be exercised on-reserve. That is, the executive director and the Team work from offices located on-reserve, the Employer’s head office is located on a reserve, and the Board meetings take place either virtually or physically from on-reserve locations.

Therefore, if an Employee performs more than 50% of their employment duties on a reserve, then Guideline 3 would likely apply, and all the Employee’s employment income will be exempt from tax.

Guideline 4

Under this guideline, all the employment income of a First Nations individual will usually be exempt from income tax regardless of where their employment duties are performed or where they live, if all the following conditions are met:

1. The employer is resident on a reserve

2. The employer is:

a. a First Nation that has a reserve (FNR), or a tribal council representing one or more FNRs; or

b. an organization controlled by one or more such FNRs or tribal councils, if the organization is dedicated exclusively to the social, cultural, educational, or economic development of First Nations individuals who for the most part live on reserves; and

3. The duties of employment are in connection with the employer’s non-commercial activities carried on exclusively for the benefit of First Nations individuals who for the most part live on reserves.

It is the CRA's view that Guideline 4 is a generous interpretation of the connecting factors test established by the courts. Therefore, it is appropriate to restrict the application of Guideline 4 to situations that squarely fit the criteria. In other words, all the conditions of Guideline 4 must be satisfied in order for it to apply.

As noted above, the Employer is likely resident on a reserve, therefore, condition 1 appears to be met.

You stated that the Employer is a non-share corporation. In these situations, it is the CRA’s view that where a FNR or tribal council has the ability to appoint or replace the members of the employer’s board of directors, it is considered to control the corporation. The control contemplated in Guideline 4 is direct control by one or more FNRs or tribal councils, as opposed to indirect control through tiered organizations. Based on our understanding of the information provided, the Employer appears to be directly controlled by the eight FNRs that each appoint a member to the Board. Therefore, the first part of condition 2b appears to be met.

The second part of condition 2b requires the employer to be dedicated exclusively to the social, cultural, educational, or economic development of First Nations individuals who, for the most part (i.e., the majority), live on reserves. You stated that the Employer’s services are provided to First Nations, Inuit, and Métis individuals. In addition, you stated that the Clientele live both on-reserve and off-reserve, but the proportion is unknown. Therefore, it is our view that the Employer is not dedicated exclusively to the social, cultural, educational, or economic development of First Nations individuals who for the most part live on reserves. Consequently, no part of the Employees’ duties of employment could be carried on exclusively for the benefit of First Nations individuals who, for the most part, live on reserves. This means the second part of condition 2b and condition 3 are not met and Guideline 4 would not apply to the employment situation of any of the Employer’s employees.

However, the Guidelines are an administrative tool created to address the most common employment situations. There may be situations where there are other connecting factors that may result in employment income being treated differently than under the Guidelines. In such situations, it is necessary to apply the connecting factors test as established by the courts.

Connecting factors that have been considered and given weight by the courts in employment income situations include:

* the location where the work is performed,
* the residence of the employee,
* the residence of the employer,
* the nature of the services performed, and
* the special circumstances in which they were performed.

The courts have established that the weight assigned to each connecting factor is determined by considering the purpose of the exemption, the type of property in question, and the nature of the taxation of the property. The Federal Court of Appeal (FCA) discussed the purpose of section 87 of the Indian Act in Monias v. The Queen (endnote 1) (Monias) and stated:

“Rather, like the companion provision in section 89, the more limited and specific purpose of section 87 is to protect reserve lands, and Indians’ personal property on a reserve, from erosion, so that the Bands are able to sustain themselves on the reserves as economic and social units. Hence, it is fully consistent with legislative policy to apply section 87 to income that is earned by Indians who reside on a reserve from work that is performed on a reserve.”[our emphasis]

In employment situations, the courts have concluded that employment income earned from duties performed off-reserve, but benefitting First Nations individuals who live on reserves, is not situated on a reserve for purposes of the Indian Act tax exemption.

In Monias, the FCA stated:

“That the work from which employment income is earned benefits Indians on reserves, and indeed may be integral to maintaining the reserves as viable social units, is not in itself sufficient to situate the employment income there. It is not the policy of paragraph 87(1)(b) to provide a tax subsidy for services provided to and for the benefit of reserves. Rather, it is to protect from erosion by taxation the property of individual Indians that they acquire, hold and use on a reserve, although in the case of an intangible, such as employment income, it is the situs of its acquisition that is particularly important.” [Our emphasis]

Further, in Desnomie v. The Queen (endnote 2) . the FCA stated:

“The implication of the appellant’s argument is that as long as an Indian is performing work for an Indian employer and for Indians from reserves, his employment income should be tax exempt, irrespective of where he, his employer, or the place of the employment is located, or where he is paid. There is no doubt the nature of the appellant’s work is related to assisting reserve Indians when they move off the reserve. There is also no doubt that his employer is an Indian organization. The problem is that these considerations do not connect the appellant’s employment income to any particular reserve....” [our emphasis]

Consistent with jurisprudence, the fact that the Employer is providing services that benefit First Nations individuals and reserves is not sufficient, in and of itself, to situate the employment income of the Employees on-reserve.

In summary, under Guideline 1 or 3, all or a portion of an Employee’s employment income may be exempt from tax under section 87 of the Indian Act depending on the percentage of their employment duties performed on a reserve. If an Employee does not perform any of their duties on a reserve and absent the identification of additional connecting factors, their employment income from that employment is not situated on a reserve and is not exempt from tax under section 87 of the Indian Act and paragraph 81(1)(a) of the Act.

We trust that these comments will be of assistance.

Yours truly,

Ms. Nerill Thomas-Wilkinson, CPA, CA
Manager
Non-Profit Organizations and Indigenous Issues
Specialty Tax Division
Income Tax Rulings Directorate

ENDNOTES

1 The Queen v Monias, 2001 DTC 5450 (FCA)

2 Desnomie v The Queen, 2000 DTC 6250 (FCA)

All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without the prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5.

© His Majesty the King in Right of Canada, 2024

Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistribuer de l'information, sous quelque forme ou par quelque moyen que ce soit, de façon électronique, mécanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.

© Sa Majesté le Roi du Chef du Canada, 2024