Unbalanced Constitutional Federalism: IRS Taxation of American Indian Tribal Government Assistance Benefits and Bonds
The political power fronts between federal and state governments are complicated and sometimes volatile. From the validity of healthcare reform legislation, states’ rights, and congressional power to regulate commerce, the political struggle between the federal government and states touches on all facets of American society. To facilitate these political tensions, our constitutional framework appoints federalism as a principle to measure and define the range of governmental authority that states and the federal government exercise with respect to one another. This cooperative relationship between federal and state governments is of course in continued political evolution. Often overlooked but absolutely integral to continued constitutional evolution are American Indian tribal governments.
A disruptive trend in governmental relations was revealed in recent Senate hearings over IRS taxation of American Indian tribal government functions. A fundamental component to constitutional federalism, intergovernmental immunity restricts federal, state and tribal governments from intruding upon (i.e. through taxation) the sovereign activities of one another. Like state governments, American Indian tribal governments offer financial assistance under social benefit programs to financial-need members for such things as housing, food, school, clothes, healthcare, and burial aid. In acting to define and regulate such government assistance, the IRS instituted the General Welfare Exclusion, which determines whether government provided assistance will ultimately count as income for federal tax purposes. The Exclusion instructs that: benefit payments made from a government fund, for promotion of general welfare, based on individual or family need, not as payment for services are excused from income taxation.
Insisting on a "means testing" General Welfare Exclusion application, the IRS has stepped up its scrutiny of tribal assistance to tribal members. As tribes traditionally grant benefits to members without a means examination, this application has ignited resistance from tribal leaders and U.S. Senate Members who assert a compelling administration of this taxation doctrine directly frustrates internal tribal governmental functions. Senator Daniel Akaka, (D-Hawaii) Chairman of the Senate Indian Affairs Committee, remarked that providing benefits to tribal members is "truly critical to the self-determination of tribal governments." Indeed, the government assistance efforts examined under the General Welfare Exclusion are of the classic essential governmental functions that a government undertakes to provide for its citizens.
For American Indian tribes, reserving their standing in United States federalism is an ongoing struggle marked with legal, economic, social and even physical barriers. One notorious physical barrier stood in New York City. Built in 1653, the original wall on Wall Street was built to shut American Indians out of Manhattan Island. As that original wall has long since been lowered, the legacy of that barricade persists today in obstructive IRS tax laws that impede American Indian tribes’ ability to issue tax-exempt bonds for infrastructural and economic development.
To finance infrastructural improvements, state and local governments utilize traditional public finance methods including the issuance of municipal bonds. A compelling feature that enhances a state or local government’s ability to fully utilize their municipal bonds is the authority to issue bond debt that is tax-exempt. Municipal bonds enjoy an exemption from federal income tax on the interest returns paid to investing bondholders. Thus, bond-purchasing investors can exclude bond interest returns from their gross incomes and are not required to pay income taxes on municipal bond proceeds. For state and municipal government bond issuers, this tax-exemption lowers their borrowing costs. Indeed, “[l]ong-term debt obligations are an essential source of funding for state and local governments” and undermining that necessary prerogative “may strike at the very heart of state and local government activities.” South Carolina v. Baker, 485 U.S. 505, 531 (1988). This indispensable prerogative is largely unavailable to American Indian tribal governments.
In issuing bond debt, tribes are subject to exclusive Internal Revenue Code statutory restrictions as the Tribal Governmental Tax Status Act impedes tribal access to U.S. capital markets. Section 7871(b) of that Act requires that tribal tax-free bond proceeds be used only for “essential governmental functions.” The Act was later amended to include 7871(e) that further restricts tribal tax-exempt bond proceeds to projects “customarily performed by state and local governments” without providing any guidance on what activities are customary. Thus, tribal bond issuing authority is restricted to where ‘substantially all’ of the borrowed proceeds “are to be used in the exercise of any essential governmental function, and the term ‘essential governmental function’ shall not include any function which is not customarily performed by state and local governments with general taxing powers.” These congressional restrictions were never imposed upon municipal bonds, illustrating the lack of parity between tribes and their state and municipal government counterparts in issuing tax-exempt bond debt for infrastructural and economic development.
In 2008, as apart of a greater economic stimulus effort, Section 1402 of the American Recovery and Reinvestment Act temporarily amended the Indian Tax Status Act to permit a $2 billion allocation of "Tribal Economic Development Bonds" (TED bonds). TED bonds bypass the restrictive tax constraints and tribes are liberated to finance projects and facilities not strictly deemed essential governmental functions but nonetheless vital to economic development on tribal reservations. Such projects include: convention centers, sports stadiums and facilities, commercial energy plants, golf courses, hotels, restaurants, entertainment venues, real estate for commercial leasing, and other revenue producing projects. While TED bond rations put tribes on par with state and local governments in issuing tax-exempt debt, they ultimately are a short-term allowance to issue tax-exempt debt on equal footing with state and local governments.
Taxed in development endeavors and taxed in government assistance efforts, American Indian tribes operate under a ‘tax if they do—tax if they don’t’ tax administration scheme that effectively undermines tribal economic development and is incongruent with intergovernmental immunity. Under federalism, the strength of all our constitutional governments are fundamentally connected. If continually restrained, American Indian tribal economic development efforts are tied to the ground.
However, two developments merit awareness in working to balance constitutional federalism. First, compelled by mounting pressure and Executive Order 13175, the IRS is consulting with tribes on application of the General Welfare Exclusion. While certainly a productive effort, the IRS is actively moving forward with audits of tribal government activities. The continued audits in the midst of Senate hearings mark an impartial approach to discussions and underline a broader tax offensive on tribal governmental functions. Second, Senator Max Baucus, (D-Montana) Chairman of the Senate Finance Committee, earlier this month announced progress on a detailed tax reform proposal that would elevate tribes onto equal bond issuing authority for issuing tax-exempt debt. Citing a U.S. Treasury report, Senator Baucas called on Congress to support efforts to broaden bond-issuing authority for tribal governments and to help clarify the General Welfare Exemption in a manner respective to sovereign tribal governments’ assistance to tribal members.
Like the progress of the United States, relations between tribal, federal, and state governments are in constant development. As a testament to this notion, the incomplete pyramid on the reverse side of our one-dollar bill is a reminder that our country and relations amongst one another continually remain incomplete, but persist in working toward a perpetually strong United States of America.
Chad Yazzie, LL.M., University of Fribourg, Switzerland; J.D., University of New Mexico School of Law; is an enrolled member of the Navajo Nation.