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December 15, 2011

Taxation of Investment Income under the Indian Act: SCC decisions in Bastien Estate v Canada and Dubé v Canada

by Johanna Caithness

On July 22, 2011, the Supreme Court of Canada released its decisions in Bastien Estate v. Canada and Dubé v. Canada. The decisions held that certain investment income earned by an Indian (as defined in the Indian Act) was exempt from taxation under section 87 of the Indian Act on the basis that it was “personal property of an Indian or a band situated on a reserve.” These decisions clarified the proper test for the application of the exemption under section 87. Prior to these decisions, courts had increasingly been focusing on whether the property or activity which generated the property in question was connected with traditional Indian ways of life.

Rolland Bastien was a status Indian and belonged to the Huron-Wendat Nation. He lived and died on the Wendake Reserve in Quebec. He operated a moccasin manufacturing business on the Wendake Reserve until 1997 when he sold the business to his children, and invested some of the income from the business in term deposits with two caisses populaires on Indian reserves. One of the caisses was located on the Wendake Reserve and only the income from the investments with that caisse was in issue. Since its founding in 1965, the caisse had its head office, its only place of business and its sole fixed asset on the Wendake Reserve. In 2001, Mr. Bastien held certificates of deposit at the caisse. These investments paid interest which was deposited to a transaction savings account at the caisse. Mr. Bastien considered this income to be exempt from tax, but in 2003 the CRA issued and assessment and added the investment income to Mr. Bastien’s 2001 income. The assessment was confirmed and Mr. Bastien’s estate’s appeals to the Tax Court of Canada and Federal Court of Appeal were denied.

Alexandre Dubé was a status Indian and a member of the Obedjiwan Reserve. Since the early 1980s, he operated a passenger transport business, transporting persons from the Obedjiwan Reserve to Roberval, Quebec for medical treatment. There were no financial institutions on the Obedjiwan Reserve and Mr. Dubé used the services of a caisse populaire on another reserve. Mr. Dubé held certificates of deposit issued by the caisse and interest was deposited to a savings account at the caisse. Mr. Dubé considered the income to be exempt from tax but the CRA issued an assessment and added the investment income to Mr. Dubé’s income for 1997 to 2002. The assessment was confirmed and Mr. Dubé’s appeals to the Tax Court of Canada and Federal Court of Appeal were denied.

The majority, with Justice Cromwell writing both decisions, determined that the interest income earned in both cases was exempt from taxation. Justice Deschamps and Justice Rothstein disagreed with the majority’s reasoning in both decisions. They agreed that the exemption applied in Bastien but did not agree that it applied in Dubé.

Prior to the decisions in Bastien and Dubé, an inquiry into whether the personal property in question benefitted traditional ways of life of Indian communities had formed a part of the analysis under section 87 of the Indian Act. The Bastien and Dubé decisions clarified that there is no requirement that the personal property be integral to the life of the reserve or that it must benefit what the court takes to be the traditional Indian way of life.

The Supreme Court has now confirmed that the appropriate test requires the court to first identify the connecting factors for the type of property in question, which might include the residence of the debtor, the residence of the person receiving the benefits, the place the benefits are paid, and the location of the employment income giving rise to the qualification for benefits, and then to analyze these factors purposively to assess the weight to be given to them. The analysis considers the purpose of the exemption, the type of property in question, and the nature of the taxation of the property.

In both Bastien and Dubé, the majority placed significant weight on the fact that the contract of investment was entered into on a reserve, the contract was to be performed on a reserve, and the caisse was located on a reserve. The majority stated that the fact that the caisses’ income-generating activities were in general commercial markets off-reserve was not relevant. In addition, the majority stated that the location where the investment income was spent is not a relevant connecting factor.

Justice Deschamps agreed that there is no need to consider whether the property or activity which generated the property is connected with traditional Indian ways of life, and that the off-reserve commercial activities of the caisses are not a valid factor in determining whether the exemption applies. However, she disagreed with the majority’s analysis because she thought that the majority’s analysis essentially resulted in the debtor’s place of residence being the determinative factor, which is inconsistent with the historical purpose of the exemption. She was concerned that the majority’s reasoning would lead to artificial tax avoidance schemes. According to Justice Deschamps, if the income invested had been generated on the reserve, as was the case with Mr. Bastien, the interest on that income should not be taxed. However, Dubé had not generated his funds from activity on the reserve and she would not have exempted the investment income earned by him from taxation.

It is a positive development that the Supreme Court rejected the line of reasoning which had developed tying the exemption to “traditional” cultural activities. However, the concern of Justice Deschamps as to artificial tax avoidance schemes is a legitimate one. Both Bastien and Dubé dealt with term deposits only, which could result in a restricted application of the majority’s reasoning.

Justice Cromwell, in the majority decision in Bastien, attempted to address this concern and stated that the court should look at the substance of a transaction giving rise to income as well as form and that if, in substance, investment income arises from an Indian’s off-reserve investment activities that will be a factor suggesting that less weight should be given to the legal form of the investment vehicle. Despite this statement, however, in Dubé the only factor given any significant weight by the majority was the fact that the investment income was derived from a contractual obligation entered into on a reserve with an institution located on that reserve.

Bastien and Dubé clarify the proper test and factors to be applied in determining the application of the exemption under section 87 of the Indian Act, but different facts may lead to different results.

Johanna C.C. Caithness is an associate practising primarily in the areas of taxation, wills and estates and corporate and commercial law. She can be reached directly by telephone at (204) 957-8301, by fax at (204) 954-0310 or by email at jcaithness@fillmoreriley.com

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