Principal Issues: [TaxInterpretations translation] Does a salary advance received by an Indian qualify for the 81(1)(a) exemption?
Position: No
Reasons: It is impossible to know the connecting factors in advance.
XXXXXXXXXX 2010-035844 Catherine Ayotte, Notary, M.Fisc. November 4, 2010
Dear Madam,
Subject: Salary Advance to an Indian
This is further to your email of February 24, 2010, in which you asked for our opinion on the tax treatment of a salary advance received by an Indian (footnote 1) from an employer who does not reside on the reserve. Specifically, this Indian lives on a reserve and approximately XXXXXXXXXX% of the duties related to his employment are performed on a reserve. This Indian is taking an unpaid leave of absence that will be funded by a salary advance. The agreement with this employer provides that he will repay this advance over a period of XXXXXXXXXX years.
Please note that, unless otherwise indicated, all statutory references herein are to the provisions of the Income Tax Act (the "Act").
It appears to us that the situation described in your letter may constitute an actual situation involving taxpayers. As explained in Information Circular 70-6R5, it is not the Directorate's practice to comment on proposed transactions involving specific taxpayers otherwise than in the form of an advance income tax ruling. If your situation involves a specific taxpayer and a transaction, you should provide all relevant facts and documentation to the appropriate tax services office for their views. However, we are prepared to provide the following general comments that may be helpful to you.
General
Where Indians are in receipt of income, paragraph 81(1)(a) and section 87 of the Indian Act provide an exemption from tax for an Indian's personal property situated on a reserve. The courts have held that for the purposes of this exemption, income is personal property. Therefore, the issue is whether an Indian's income is situated on a reserve.
The Supreme Court of Canada considered this issue in Williams v. The Queen, 92 DTC 6320. In that decision, the Court indicated that one must first identify the various connecting factors that are relevant to the property. These factors must then be analyzed to determine the weight to be given to them in identifying the location of the property. If the most significant connecting factors link the location of the property to a reserve, the income will be exempt from income tax.
In order to assist Indian communities, the Canada Revenue Agency ("CRA") has developed the Indian Act Exemption for Employment Income Guidelines ("Guidelines"). Taking into account the various connecting factors, these Guidelines describe the employment situations that the CRA considers to fall within the scope of section 87 of the Indian Act. You can obtain a copy of the Guidelines on the CRA Internet site at http://www.cra-arc.gc.ca/brgnls/gdlns-eng.html.
Tax Treatment of the Salary Advance
In determining whether employment income is exempt from tax, we are of the view that the fact that the duties of an employment are performed on a reserve is an important connecting factor. Consequently, in applying the prorating rule in Guideline #1 to an Indian's employment income, the issue is to determine where the duties are performed. In the situation of a salary advance, it is not possible to tie the employment income to the reserve since the employment duties have not yet been performed. Consequently, paragraph 81(1)(a) does not apply to this amount and the Indian will have to include the salary advances in income for the year under subsections 6(3) and 5(1).
For the period after the leave, subsections 6(3) and 5(1) require that the total salary earned by the employee during that period be included in income (gross amounts before deduction of reimbursement amounts). However, where such salary is earned by an Indian, it is possible that all or part of his or her employment income may be exempt from tax under paragraph 81(1)(a). This determination will be made in light of his or her employment status, the duties performed and the connecting factors applicable at that time.
Tax Treatment of the Salary Reimbursement to the Employer
Paragraph 8(1)(n) clarifies the tax treatment of a salary reimbursement to an employer. Paragraph 8(1)(n) generally permits a deduction in computing income from an office or employment to the extent that the amount to be repaid was previously included in computing income from an office or employment. If the deduction in a taxation year is greater than the amount of employment income for the year, then there will be a loss arising from employment, which could be considered a non-capital loss as defined in subsection 111(8).
We hope that our comments are of assistance.
Best regards,
Louise J. Roy
Manager of the Financial Sector and Exempt Entities Section
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Directorate.
FOOTNOTES
1 As defined in the Indian Act, being a person who is registered as an Indian or is entitled to be registered as an Indian. Whether a person is entitled to be registered as an Indian is a question of fact. In order for the CRA to provide tax benefits to Indians, it requires confirmation of entitlement from Indian and Northern Affairs Canada.