The Search for Tax Justice is a Tax Notes State series examining the inequities inherent in state and federal taxes.
In this installment, Sam Hirsch, a partner in the Washington office of Jenner & Block LLP, argues that Congress should enact a categorical exemption covering all state or local taxes burdening real property interests in, permanent improvements on, or income derived directly from Indian trust or restricted lands.
Although states cannot tax American Indian trust land (federally owned land set aside for a tribe or its members), states usually can tax commercial activities or transactions that non-Indians conduct on that land. But what if a non-Indian company or individual leases trust land from a tribe or its members and then builds and owns a permanent improvement on the land, or directly derives income from the land by farming it, harvesting its timber, or extracting and selling other natural resources? Is the non-Indian liable for state taxes? The best reading of the judicial precedents, which comport with fundamental principles of federal Indian law, is that state or local taxes on those leasehold interests, permanent improvements, and income streams are preempted by federal law and thus invalid. But too often the courts get this wrong. It is time for Congress to step in and clarify the law.
Indian Lands and Immunity From State Taxation
An Indian tribe is a distinct sovereign political community with its own citizenry and territory. And tribal sovereignty is subordinate to “only the Federal Government, not the States.”1 For most of the last century, Congress has promoted tribal sovereignty, Indian self-sufficiency, and reservation economic development — and those broad policies must inform any analysis of whether federal law preempts state or local taxes.
For tribes, land is not just about ownership or resources. Ancestral lands are a source of identity, culture, and history. The arrival of non-Indians in North America began a new era, which inflicted on numerous tribes forced relocations, mass dispossession, and broken promises. It is only since the 1930s that the loss of native lands has slowly and unsteadily been reversed. Although some tribes in recent decades have begun to rebuild at least part of their land bases, most control only a fraction of the acreage that once comprised their ancestral homelands. Land has thus been at the center of the attempts to tear down tribal sovereignty, as well as the efforts by tribes to preserve and rebuild that sovereignty.
Under treaties and statutes stretching back centuries, the United States today holds more than 50 million acres of land in trust for 574 federally recognized Indian tribes or their members. Most of this trust land is on Indian reservations. The constitutional authority for the United States to hold title to these Indian lands, and to restrict them from alienation, flows in large part from Article II’s treaty clause and Article IV’s territory (or property) clause, which grants Congress the “Power to dispose of and make all needful Rules and Regulations respecting the Territory or other Property belonging to the United States.” Each tract of Indian trust land “belongs” to the United States because the United States holds the legal title. But a tribe or individual Indian holds the equitable title, which includes a right to possess and use the land or to lease it to anyone, Indian or non-Indian, but not to alienate or encumber the land.
Just as Indian trust land cannot be alienated, it also cannot be taxed directly by any state or political subdivision.2 No state property tax can be imposed on the federal government’s legal interests in Indian trust lands or on Indians’ equitable or beneficial interests in those lands. Nor can a state tax the rental income a Tribe or its members receive from leasing those lands. This rule dates to the Northwest Ordinance of 1787. And federal law expressly renders many lands that the Secretary of the Interior has acquired in trust for Indians “exempt from State and local taxation.”3
Non-Indian Activities and Transactions On Indian Lands
In many instances states can, however, tax non-Indians for their activities and transactions on Indian lands. As a general matter, whenever a state regulates or taxes “the conduct of non-Indians engaging in activity on the reservation,” courts apply the Bracker balancing test, which demands “a particularized inquiry into the nature of the state, federal, and tribal interests at stake,” including the extent of federal and tribal regulation, the state’s and tribe’s revenue-raising and regulatory interests, and the provision of state or tribal services.4 A state may tax the activities of non-Indians engaged in commerce on an Indian reservation if the state’s interests outweigh the federal and tribal interests. Tribes and their members should never be liable for these state taxes, and their trust lands should never be subject to liens or foreclosure for nonpayment. But as described below, these taxes can still cause Indians significant harm.
Some of the weakest cases for preemption under Bracker involve commercial activities that happen to have occurred on tribal land but could just as easily have happened elsewhere. To take an extreme example, a transaction between two non-Indians in which Ann sells Bob a widget should not become immune from state taxation just because they drove to a nearby Indian reservation before consummating the deal. The normal state interests in regulating transactions, raising revenue, and providing governmental services to non-Indian taxpayers like Ann and Bob surely outweigh any federal or tribal interests implicated by the exchange taking place on an Indian reservation.
By contrast, some of the strongest cases for preemption under Bracker involve state taxation of real property interests in land, permanent improvements on land, or income derived directly from land. In these cases federal and tribal interests are strong because land is fundamental to tribal self-government and to the federal trust relationship with the tribes. The United States’ responsibility to protect Indian lands from both alienation and state taxation is critically important. And the federal interest is further strengthened by federal laws comprehensively regulating the leasing of Indian land.5
The Tribal Interests at Stake
Tribal interests are especially weighty in these cases, for four reasons.
First, a lessee’s use and enjoyment of a tract of Indian land should be immune from state taxation for the same reasons that the land itself is immune. Taxing the former is tantamount to taxing the latter. As the Supreme Court has long recognized, “‘use’ is among the ‘bundle of privileges that make up property or ownership’ of property and, in this sense, at least, a tax upon ‘use’ is a tax upon the property itself.”6 Because occupying and farming or harvesting timber or building improvements on a tract of Indian land is part of enjoying the benefits of that land, allowing states to tax that conduct would deprive Indians of benefits that are rightly theirs.
Second, these taxes jeopardize tribes’ core sovereignty interests in shaping the future of their own lands. A tax on leasehold interests or permanent improvements or income derived directly from Indian lands reflects a suite of policy choices regarding whether and how land should be developed. As Chief Justice John Marshall recognized more than 200 years ago, the power to tax is the “power to destroy.”7 The power to tax is also the power to regulate, because every tax is to some extent regulatory. When a state imposes taxes directly related to Indian lands, it necessarily supplants the tribe’s regulatory choices with those of the state, thus weakening tribes’ sovereign power to develop and manage their own lands.
Third, these state taxes threaten tribal self-government by depriving tribes of potentially vital sources of tax revenue. As Justice Sonia Sotomayor recently noted, these taxes threaten to create a double-taxation problem: Unless the state provides a credit against state taxes for taxes paid to the tribe, imposing both state and tribal taxes on the same sources “would discourage economic growth,” as firms “‘may find it easier to avoid doing business on our reservations . . . [than to] bear the brunt of an added tax burden.’”8 So, empowering a state to tax a non-Indian lessee of Indian lands disempowers the tribe. “The market can bear only so much taxation, and it is inevitable that a point will be reached at which the State’s taxes will impose a ceiling on tribal tax revenues.”9 And lost tribal revenues in turn will prevent tribal governments from providing essential social services to some of America’s poorest communities.
Fourth, if state taxes are preempted and not replaced by tribal taxes, benefits will flow to tribes or their individual members as lessors. As the Department of the Interior recently concluded, state taxes “increase project costs for the lessee and decrease the funds available to the lessee to make rental payments,” which in turn “can impede a tribe’s ability to attract non-Indian investment to Indian lands,” undermining “strong tribal interests in sovereignty and economic self-sufficiency.”10
The Need for a Categorical Rule of Immunity
These tribal interests support a categorical rule of preemption — both because they are weighty and because they flow from property rights that the Constitution, treaties, and statutes guarantee to Indians and that thus cannot properly be traded off against state or local interests. Too often, however, Indian land rights get short shrift from state and federal judges who get lost in the painstaking, fact-specific balancing of competing interests. Moreover, when courts apply Bracker, they typically conceptualize the case, mistakenly, as a clash between Indians and non-Indians over a commercial transaction, rather than as an issue of property rights.
This misconceptualization can lead to absurd results. For example, the Ninth Circuit recently applied Bracker and held that a California county could impose a possessory-interest tax against an Indian tribe that had subleased a parcel of Indian land from a non-Indian who in turn had leased the land from one of the tribe’s members.11 So even though the state tax could never have been imposed against the tribe directly, the tribe ended up on the hook because the tax effectively had been “laundered” through a non-Indian lessee.
Rebalancing the federal, tribal, and state interests in each new case in which the tax’s legal incidence falls on a non-Indian lessee leads directly to these sorts of judicial errors. Instead of focusing on who is being taxed (that is, the identity of the lessee as non-Indian), courts should focus in these cases on what is being taxed: interests in Indian lands. There is little to commend a doctrine that categorically preempts a state tax whose legal incidence falls on an Indian but then upholds under Bracker an essentially identical tax whose legal incidence falls on a non-Indian. This is formalism run amok.
A categorical rule — like the categorical rule exempting the land itself from state taxation — makes sense here, when substantial interests in the land are directly implicated. Absent an unmistakably clear statement from Congress to the contrary, a state tax burdening an interest in Indian trust land should be categorically preempted. Nothing in precedent forecloses federal and state courts from recognizing this rule of implied preemption. They should do so now.
What Congress Should Do to Clarify the Law
Better yet, Congress should enact this categorical rule of preemption expressly. Specifically, federal legislation should address the following eight questions.12
Which lands are covered? The legislation should cover all “Indian lands,” defined here as any tract in which any interest is owned by a tribe or individual Indian in “trust or restricted status,” which in turn would be defined to mean that the United States holds title to the tract or interest in trust for one or more tribes or individual Indians, or that one or more tribes or individual Indians holds title to the tract or interest but can alienate or encumber it only with approval from the United States.13
Which governments’ taxes are preempted? Federal legislation should expressly preempt any fee, tax, assessment, levy, or other charge imposed by any state or political subdivision of a state.
Which governments’ taxes are not preempted? The legislation should expressly allow taxation by any Indian tribe with jurisdiction.
Which types of tax burdens are covered? The legislation should cover any tax that burdens any of “the three I’s”: real property interests in Indian lands; permanent improvements on Indian lands; and income derived directly from Indian lands.
Real property interests in Indian lands. These include a leasehold or possessory interest, regardless of its duration. Rental payments under a lease are “so connected to the land” that a state tax on them “amounts to a tax on the land itself.”14
Permanent improvements on Indian lands. These include buildings, other structures, and associated infrastructure attached to the land. Because “permanent improvements are, by their very definition, affixed to the land,” taxing “the improvements burdens the land” itself.15
Income derived directly from Indian lands. This would include, among other things, “rentals (including crop rentals), royalties, proceeds from the sale of the natural resources of the land, income from the sale of crops grown upon the land and from the use of the land for grazing purposes, and income from the sale or exchange of cattle or other livestock raised on the land.”16 In each instance, the income is derived directly from value generated on the tract of Indian land.
Which activities or transactions are not covered? The federal legislation should not exempt from state taxation a commercial activity or transaction that the parties could just as easily have conducted outside Indian country. Although in some circumstances the activity or transaction might well be exempt from state taxation under the Bracker balancing test, it should not be covered by the proposed legislation’s categorical rule because it is not sufficiently tied to the Indian tract.
Does the owner’s identity matter? The legislation should expressly state that the categorical exemption from state taxation does not depend on the identity or legal status of the individual or entity that owns the interest or improvement or receives the income.
Does the tax’s legal incidence matter? The legislation should expressly state that the categorical exemption from state taxation does not depend on the identity or legal status of the individual or entity that, absent the exemption, would be required to pay the tax.
What constitutional provisions authorize this legislation? The findings in the federal legislation should expressly state that Congress has the constitutional authority to enact the bill under not only the Indian commerce and treaty clauses, but also the territory (or property) clause in Article IV, section 3, clause 2. This statement would comport with the clause’s original intent. As the findings could explain, because the Articles of Confederation had left Congress powerless to acquire or own land, the states had filled the vacuum, strong-arming Indians into ceding land and signing treaties, sometimes directly clashing with federal treaty negotiators. James Madison responded at the Constitutional Convention by championing the territory clause, which gives Congress what he called in The Federalist Papers a sweeping “power of very great importance” to protect the value, use, and enjoyment of Indian lands from state interference.17
Conclusion
In most cases, state or local taxes that burden interests in Indian lands are preempted by federal law and thus invalid. But because courts too often miss this point, Congress should clarify the law by enacting an express categorical exemption covering all state or local taxes burdening real property interests in, permanent improvements on, or income derived directly from Indian trust or restricted lands.
FOOTNOTES
1 Washington v. Confederated Tribes of Colville Indian Reservation, 447 U.S. 134, 154 (1980).
2 See In re Kansas Indians, 72 U.S. (5 Wall.) 737, 751-61 (1866). The term “trust land” is sometimes used here as shorthand for both trust land and restricted land. Because an Indian tribe or individual cannot alienate either type of land without federal approval, their tax status is usually the same. See 25 C.F.R. section 162.003.
3 25 U.S.C. section 5108.
4 White Mountain Apache Tribe v. Bracker, 448 U.S. 136, 144-45 (1980).
5 See, e.g., Long-Term Leasing Act, 25 U.S.C. section 415; 25 C.F.R. pt. 162.
6 Mescalero Apache Tribe v. Jones, 411 U.S. 145, 158 (1973) (citation omitted).
7 McCulloch v. Maryland, 17 U.S. (4 Wheat.) 316, 431 (1819).
8 Michigan v. Bay Mills Indian Community, 572 U.S. 782, 811 (2014) (Sotomayor, J., concurring) (citation omitted).
9 Cotton Petroleum Corp. v. New Mexico, 490 U.S. 163, 210 (1989) (Blackmun, J., dissenting).
10 77 Fed. Reg. 72,440, 72,448 (Dec. 5, 2012).
11 See Agua Caliente Band of Cahuilla Indians v. Riverside County, 749 Fed. App’x 650, 651 (9th Cir. 2019) (affirming Agua Caliente Band of Cahuilla Indians v. Riverside County, No. 5-14-cv-0007, 2017 WL 4533698, at *3 (C.D. Cal. June 15, 2017) (noting that the tribe paid the tax as a sublessee)). But see Herpel v. County of Riverside, 258 Cal. Rptr. 3d 444, 448 n.4 (Cal. Ct. App. 4th Dist. 2020) (suggesting that an Indian taxpayer might successfully challenge the same state tax).
12 Parts of this proposal track the Indian leasing regulation that the Department of the Interior promulgated in 2012 and is now codified in 25 C.F.R. pt. 162.
13 Congress also could consider including land owned in fee simple by a tribe or its individual members if the land is on the tribe’s reservation (or otherwise in the tribe’s Indian country). Otherwise, “when Congress makes Indian reservation land freely alienable, it manifests an unmistakably clear intent to render such land subject to state and local taxation.” Cass County v. Leech Lake Band of Chippewa Indians, 524 U.S. 103, 115 (1998).
14 Seminole Tribe of Florida v. Stranburg, 799 F.3d 1324, 1329 (11th Cir. 2015), cert. denied, 136 S. Ct. 2480 (2016).
15 77 Fed. Reg. 72,440, 72,448 (Dec. 5, 2012); see also Stranburg, 799 F.3d at 1330.
16 Rev. Rul. 67-284, 1967-2 C.B. 55.
17 The Federalist No. 43, at 274 (James Madison) (Clinton Rossiter ed., 1961). The history and significance of this clause is discussed at length in the amicus curiae brief for the National Congress of American Indians in Agua Caliente Band of Cahuilla Indians v. Riverside County, No. 17-56003 (9th Cir. filed Dec. 28, 2017), and in John Hayden Dossett’s seminal scholarship. See Dossett, “Indian Country and the Territory Clause: Washington’s Promise at the Framing,” 68 Am. U. L. Rev. 205 (2018).
END FOOTNOTES