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1 LANGIND E DOCNUM I7 AUTHOR Zannese, Lisa DESCKEY 26 RATEKEY 2 REFDATE SUBJECT Issues par. 149(1)(c) and prpsed par.149(1)(d.5) SECTION 149(1)(c); 149(1)(d.5); 149(1.2) SECTION SECTION SECTION $$$$ Please nte that the fllwing dcument, althugh believed t be crrect at the time f issue, may nt represent the current psitin f the CRA. Prenez nte que ce dcument, bien qu'exact au mment émis, peut ne pas représenter la psitin actuelle de l'arc. PRINCIPAL ISSUES: 1. Is the Indian band a public bdy perfrming a functin f gvernment as that term is used in paragraph 149(1)(c)? 2. What are ur views n the payment f management fees by a crpratin wned by the band t the band such that the crpratins incme is reduced t nil. 3. Des the crpratin qualify fr the tax exemptin prvided by prpsed paragraph 149(1)(d.5)? POSITION: 1. Yes fr years after XXXXXXXXXX ; likely yes fr years befre this time. 2. The payment f fees shuld be reviewed t determine if the amunts paid were reasnable. 3. Likely nt, but shuld cnsider applicatin f prpsed subsectin 149(1.2) REASONS: 1. Passed sectin 81 and 83 by-laws (83 by-law accepted by INAC in XXXXXXXXXX). Befre this time ffered many municipal and prvincial type services t members. 2. Management fees d nt qualify under the plicy fr wner/sharehlders f CCPC's'; sectin 67 wuld apply. 3. Crpratin earns ver 95% f incme frm activities carried n ff the reserve. Cnsider whether prpsed subsectin149(1.2) culd apply. July 21, 2010 XXXXXXXXXX Tax Services Office Attentin: XXXXXXXXXX cc : XXXXXXXXXX HEADQUARTERS Incme Tax Rulings Directrate L. Zannese (613) XXXXXXXXXX -Management Fees Paid by XXXXXXXXXX This is in respnse t a letter we received frm XXXXXXXXXX, Team Leader -Technical Advisrs dated February 19, We als acknwledge receipt f the additinal infrmatin XXXXXXXXXX sent t us n May 18, 2010,

2 which included the package f materials frm the taxpayer's representative. In his letter, XXXXXXXXXX requested ur views n the fllwing: 1. The applicatin f paragraph 149(1)(c) f the Incme Tax Act (the "Act") t the XXXXXXXXXX ( the "First Natin"); 2. The taxatin f management fees paid by the XXXXXXXXXX ( the "Crpratin") t the First Natin; and 3. Whether the Crpratin qualifies fr the exemptin frm tax prvided by prpsed paragraph 149(1)(d.5) f the Act. FACTS Based n the infrmatin sent t us, these are the facts as we understand them: * The First Natin claims that it is exempt frm tax pursuant t paragraph 149(1)(c) f the Act. * The First Natin has passed by-laws under bth sectins 81 and 83 f the Indian Act. * The First Natin prvides the fllwing services t its members: water and sewer services; health services; husing; educatin; public daycare services and access; ecnmic develpment; envirnmental services; cnsultatin services; scial develpment; elder care; and prperty tax cllectin.

3 * All the shares f the Crpratin are held in trust by the Chief and Cuncil f the First Natin fr the benefit f the First Natin. * The Crpratin earns mst f its incme by prviding services t cmpanies invlved in the XXXXXXXXXX. * The Crpratin is invlved mainly in XXXXXXXXXX. In additin, the Crpratin uses its equipment n the reserve t maintain XXXXXXXXXX and fr general upkeep. * Over 95% f the Crpratin's revenue is related t services that are prvided n land that is nt a reserve. * The Crpratin perates ut f the band ffice which is lcated n the First Natin's reserve. * The majrity f the Crpratin's emplyees are Indians as defined in sectin 2 f the Indian Act. * The financial statements fr the Crpratin shw net incme fr the years XXXXXXXXXX and XXXXXXXXXX, but that net incme is reduced t nil by means f an entry recrding management fees paid t the First Natin. In XXXXXXXXXX the amunt f management fees paid t the First Natin was $XXXXXXXXXX and in XXXXXXXXXX the payment was $XXXXXXXXXX. The XXXXXXXXXX and XXXXXXXXXX taxatin years each had a lss. * The Crpratin claims that its incme is earned frm activities undertaken n "traditinal land" f the First Natin such that it qualifies fr an exemptin frm tax under prpsed paragraph 149(1)(d.5) f the Act. ANALYSIS XXXXXXXXXX -Public Bdy Perfrming a Functin f Gvernment Paragraph 149(1)(c) f the Act prvides an exemptin frm tax n the taxable incme f a municipality r public bdy perfrming a functin f gvernment. As the curts have determined that an Indian band cannt be a municipality, an Indian band wuld have t qualify as a public bdy perfrming a functin f gvernment in rder t rely n the paragraph 149(1)(c) tax exemptin. The term "public bdy", as used in paragraph 149(1)(c) f the Act, is nt defined, and thus we must cnsider n the general usage f this term. Generally, the CRA has accepted that Indian bands r Indian rganizatins that clearly prvide gvernment services and are accuntable t either the federal, r a prvincial r territrial gvernment, r directly t the band members they represent (e.g., via electins), are public bdies. In additin t being a public bdy, an Indian band must als perfrm a "functin f gvernment" in rder t qualify fr the exemptin frm tax prvided by paragraph 149(1)(c) f the Act. Again, the term "functin f

4 gvernment" is nt defined in the Act and reference must be made t the rdinary usage f this term. Generally, a gvernment taxes its residents and sets laws fr the rderly management f the area ver which it has jurisdictin. As part f managing the area, the gvernment ffers a wide variety f services. It is imprtant t nte that any particular service prvided by a gvernment is nt necessarily equivalent t a "functin f gvernment". Our Directrate has accepted that prviding municipal-type services, such as water, sewage remval, the pick-up f garbage and the maintenance f infrastructure such as rads, sewers and public buildings is a functin f gvernment. Further, prviding a key service traditinally ffered by the prvinces r territries such as scial services, verseeing f the envirnment, health services, r educatin is generally cnsidered t cnstitute perfrming a functin f gvernment. Our Directrate has acknwledged that an Indian band prviding health services pursuant t a "Health Transfer Agreement", in which several health-related services are transferred frm Her Majesty the Queen t the Indian band, is perfrming a functin f gvernment. Our Directrate als accepts that negtiating a treaty with the federal gvernment, r a prvincial r territrial gvernment, is a functin f gvernment. Indian bands are granted the authrity under the Indian Act t pass bylaws regulating the activities f members n a reserve (sectin 81 bylaws), as well as prperty tax by-laws affecting a reserve (sectin 83 bylaws). These by-laws must be apprved by the Minister f Indian and Nrthern Affairs. As sectins 81 and 83 f the Indian Act give an Indian band similar law-making authrity t a municipality, ur Directrate accepts that an Indian band that has passed sectin 81 and 83 by-laws pursuant t the Indian Act is a public bdy prviding a functin f gvernment. As the First Natin has passed by-laws under bth sectins 81 and 83 f the Indian Act, and these by-laws have been apprved by the Minister f Indian and Nrthern Affairs we accept that the First Natin is a public bdy perfrming a functin f gvernment. We nte that the sectin 83 by-law appears t have been passed in XXXXXXXXXX, and apprved by the Minister f Indian and Nrthern Affairs in XXXXXXXXXX. Thus fr years prir t XXXXXXXXXX reference shuld be made t the gvernance peratins f the First Natin, and t the services and activities it prvided t its members, in rder t cnfirm that it met the requirements t be a public bdy perfrming a functin f gvernment under paragraph 149(1)(c) f the Act fr thse years. Based n the infrmatin prvided t us, it is ur view that the services prvided by the First Natin t its members supprt the view that the First Natin is perfrming a functin f gvernment. Yu need t cnfirm that these services were prvided fr the years prir t XXXXXXXXXX in rder t determine if the First Natin was a public bdy perfrming a functin f gvernment fr thse years. Management Fees The Crpratin has been paying management fees t the First Natin in years in which the Crpratin has had taxable incme. Based n the

5 infrmatin prvided, the fees were nt paid pursuant t a written cntract between the Crpratin and the First Natin. The amunt f the fees has varied ver the years, yet the result has been cnsistent-the payment reduces the incme f the Crpratin t nil r puts the Crpratin in a lss psitin. XXXXXXXXXX. The Crpratin may believe that it cmes within the CRA's plicy with respect t the payment f amunts t wner/sharehlders by Canadian cntrlled private crpratins ("CCPCs"). Under this plicy, the CRA allws CCPCs t pay ut incme in the frm f management fees t wner/sharehlders, and t take a deductin fr such payments, withut CRA questining the quantum f the fees, if certain criteria are met. The criteria include: * payments must be made t an individual wner/sharehlder f the crpratin; * the wner/sharehlder must have been actively invlved in the business; * the incme paid must be a result f rdinary business peratins; and * the wner/sharehlder must be a Canadian resident wh will include the amunt received in incme fr incme tax purpses. The payment f management fees by the Crpratin t the First Natin is nt cvered by the wner/sharehlder remuneratin plicy described abve, as the management fees are being paid t an Indian band and nt t an individual wner/sharehlder. Mrever, the plicy cntemplates that tax will be paid in Canada n the amunt paid t the wner/sharehlder; fr example, the plicy des nt apply t nn-resident sharehlders. The plicy was nt intended t prvide a reductin r eliminatin f taxes, but rather t allw fr apprpriate tax integratin and t acknwledge the rle f the individual wner/sharehlder. As the plicy des nt apply t the payment f management fees frm the Crpratin t the First Natin, yu shuld review these payments and cnsider whether the amunts are reasnable in the circumstances. In ur view, the management fees shuld reflect the value f the services prvided t the Crpratin by the First Natin, XXXXXXXXXX. (iii) Applicatin f Prpsed Paragraph 149(1)(d.5) t the Crpratin The Act cntemplates municipalities r public bdies (paragraph 149(1)(c) entities) establishing subsidiary rganizatins, and prvides a specific exemptin frm tax fr such subsidiaries, with restrictins. Prpsed paragraph 149(1)(d.5) f the Act cntains an exemptin fr crpratins, cmmissins and assciatins, where nt less than 90% f the capital is wned by a municipality r public bdy, prvided that nt mre than 10% f the incme f the crpratin, cmmissin r assciatin is earned frm

6 activities carried n utside the gegraphical bundaries f the municipality r public bdy. Prpsed paragraph 149(11) f the Act defines the gegraphical bundaries f a paragraph 149(1)(c) entity t be either: "...(a) the gegraphical bundaries that encmpass the area in respect f which an Act f Parliament r an agreement given effect by an Act f Parliament recgnizes r grants t the bdy a pwer t impse taxes; r (b) if paragraph (a) des nt apply, the gegraphical bundaries within which that bdy has been authrized by the laws f Canada r a prvince t exercise that functin..." Generally, the gegraphical bundaries f an Indian band are the bundaries f either its reserve r lands transferred t it pursuant t a land settlement agreement r self-gvernment agreement. The existence f prpsed paragraph 149(1)(d.5) suggests that the scheme f the Act is t exempt a public bdy perfrming a functin f gvernment frm tax under paragraph 149(1)(c) f the Act, and t exempt subsidiaries f such a bdy under prpsed paragraph 149(1)(d.5) f the Act (where certain cnditins are met). The Act clearly cntemplates that subsidiaries f paragraph 149(1)(c) entities will nt necessarily themselves be paragraph 149(1)(c) entities. In the situatin yu have described, the Crpratin is 100% wned by the First Natin. Thus, the Crpratin meets the wnership requirements necessary t qualify fr the exemptin frm tax prvided under prpsed paragraph 149(1)(d.5) f the Act. Hwever, yu advise that mst f the incme earned by the Crpratin was earned frm activities carried ut n land that is nt a reserve. This means that the Crpratin earned mre than 10% f its incme frm activities carried n utside the gegraphical bundaries f the First Natin. If yu cnfirm that this is the case, then the Crpratin will nt qualify fr the tax exemptin. The gegraphical bundaries f the First Natin are the bundaries f its reserve; the term "reserve" has a defined meaning in the Indian Act which, generally, is land set aside fr the use and benefit f a band. Traditinal lands f a First Natin d nt meet the definitin f "reserve". Thus, when determining the amunt f incme earned frm activities carried n utside the gegraphical bundaries f the First Natin, all incme earned frm activities carried ut n traditinal land that is nt part f the First Natin's reserve is included. We draw yur attentin t prpsed subsectin 149(1.2) f the Act. This prpsed subsectin prvides that the incme earned by a 149(1)(d.5) entity utside the gegraphical bundaries f its parent entity (i.e., in cnsidering the 10% limit discussed abve) des nt include certain incme where: the incme is a result f activities carried n under an agreement in writing between the crpratin, cmmissin r assciatin and Her

7 Majesty in Right f Canada, r a Prvince r a municipal r public bdy r crpratin t which paragraphs 149(1)(d) t 149(1)(d.6) applies; and the activities are carried ut within the gegraphical bundaries f the entity described in the abve bullet. Thus, it is imprtant t determine whether the Crpratin has entered int any cntracts with ne r mre f the federal, prvincial r territrial gvernments r a municipality r a federal, prvincial r territrial crwn crpratin. If there are such cntracts, then the Crpratin culd meet the requirements t be exempt frm tax under prpsed paragraph 149(1)(d.5) in certain tax years. If yu have questins regarding the applicatin f prpsed subsectin 149(1.2) please feel free t cntact us. CONCLUSION We can cnfirm that the First Natin has been a public bdy perfrming a functin f gvernment since XXXXXXXXXX as it has passed by-laws under sectins 81 and 83 f the Indian Act. Fr years prir t this, yu will need t cnfirm the type f services the First Natin prvided t its members and whether any f these, r all f them tgether, amunted t the First Natin perfrming a functin f gvernment. Based n the limited infrmatin prvided t us by the taxpayer's representative, it is likely that the First Natin met the cnditins f paragraph 149(1)(c) f the Act prir t XXXXXXXXXX, hwever, yu will need t cnfirm that the services described were actually prvided t members f the band and fr what years. The plicy with respect t the payment f management fees t wner/sharehlders des nt apply t the payments made by the Crpratin t the First Natin. Thus, the payment f these amunts shuld be reviewed and it shuld be determined whether the amunts were reasnable based n the services prvided. Finally, based n the limited infrmatin prvided, it is ur view that the Crpratin likely des nt qualify fr the tax exemptin prvided by prpsed paragraph 149(1)(d.5) f the Act. Mst f the incme earned by the Crpratin appears t arise frm activities carried n utside the gegraphical bundaries f the First Natin. It des nt matter that the lcatin where the incme-earning activities tk place was part f the "traditinal land" f the First Natin. Because the First Natin has a reserve, the bundaries f the reserve determine the gegraphical bundaries f the First Natin fr purpses f prpsed paragraph 149(1)(d.5). Hwever, it is nt clear t us, based n the infrmatin prvided, whether prpsed subsectin 149(1.2) f the Act culd apply. XXXXXXXXXX. We trust that these cmments will be f assistance. If yu have any further questins nce yu have cmpleted yur audit please feel free t cntact us again.

8 Fr yur infrmatin, unless exempted, a cpy f this memrandum will be severed using the Access t Infrmatin Act criteria and placed in the Canada Revenue Agency's electrnic library. A severed cpy will als be distributed t the cmmercial tax publishers fr inclusin in their databases. The severing prcess will remve all material that is nt subject t disclsure, including infrmatin that culd disclse the identity f the taxpayer. Shuld the taxpayer request a cpy f this memrandum, they may request a severed cpy using the Privacy Act criteria, which des nt remve taxpayer identity. Requests fr this latter versin shuld be made by yu t Mrs. Celine Charbnneau at (613) In such cases, a cpy will be sent t yu fr delivery t the taxpayer. Eliza Erskine Manager Nn-Prfit Organizatins and Abriginal Issues Financial Sectr and Exempt Entities Divisin Incme Tax Rulings Directrate Legislative Plicy and Regulatry Affairs Branch