On October 7, 2024, the Department of Treasury (Treasury) and the Internal Revenue Service (IRS) issued proposed regulations (Proposed Regulations) clarifying the federal tax classification of certain entities wholly owned by Native American Tribes.
The IRS has long recognized that Native American Tribes are exempt from the federal income tax. This exemption applies both to commercial and non-commercial activities. If the Tribe is incorporated under section 17 of the Indian Reorganization Act of 1934, as amended (25 U.S.C. 5124) or under section 3 of the Oklahoma Indian Welfare Act, as amended (25 U.S.C. 5203), such a corporation has been treated as an entity that is not separate from the Tribe for federal tax purposes, with the result that such entities are also exempt from the federal income tax. However, the tax status of certain for-profit corporations and other entities wholly owned by Native American Tribes and chartered under Tribal law (Wholly Owned Tribal Entities) has not been previously addressed by Treasury. Tribes charter Wholly Owned Tribal Entities to provide limited liability for projects that support the generation of revenue for Native American Tribal governments. While the entity classification regulations under Treas. Reg. § 301.7701-1(a)(3) made it clear that entities formed under local laws are not always recognized as separate entities for federal tax purposes, these regulations did not address the treatment of Wholly Owned Tribal Entities. For decades, Tribal leaders sought clarity on the federal tax status of Wholly Owned Tribal Entities.
The open question became even more relevant after the Inflation Reduction Act of 2022 (the IRA) expanded opportunities for certain governments (including Tribal governments) and other tax-exempt organizations to claim energy tax credits. The direct pay election allows certain governments and organizations exempt from federal taxation to take advantage of tax credits by electing to receive a payment directly from the Federal government in lieu of a tax credit. (See here and here for previous coverage on the direct pay election and subsequent regulations).
The Proposed Regulations amend the entity classification regulations to provide Tribal governments with long awaited answers. Under Prop. Reg. § 301.7701-1(a)(4), a Wholly Owned Tribal Entity is not recognized as a separate entity from the Tribe that owns it. To qualify as a Wholly Owned Tribal Entity, the entity must be wholly owned by one or more Native American Tribes, and the entity must be chartered under the laws of the Tribe or Tribes that own it. This treatment applies regardless of whether such entity is an “integral part” of Tribal government. Note that separate entity treatment is not available to corporations formed under State law. Moreover, such treatment does not apply to corporations that are not wholly owned by Native American Tribes.1 Treasury continues to study how corporations that are not wholly owned by such Tribes should be classified for US federal income tax purposes.
This clarification also has implications for the direct pay elections under section 6417. Specifically, the Proposed Regulations provide that for the purposes of making a section 6417 election, Wholly Owned Tribal Entities are treated as instrumentalities of the Tribes that own them. This clarifies the ability for Wholly Owned Tribal Entities to make the direct pay election under section 6417. The Wholly Owned Tribal Entity engaged in the project generating the tax credit will be the entity responsible for making the direct pay election and eligible to receive payment pursuant to such election. This appears to be a rule of administrative convenience. The election would be made by filing a Form 990-T as described in Treas. Reg. § 1.6417-1(b)(2) under the entity’s own name and employer identification number.
These new regulations are generally effective for tax years ending after the date of publication of the final regulations, but may be applied to earlier years if the Tribe that owns the entity applies the new regulations consistently for such entity for all years. However, elective retroactivity is not available for a federal excise tax or federal employment tax issue with respect to which the entity was a party to any administrative or judicial proceeding as of the date of such publication.
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1 The Preamble to the Proposed Regulations warns that traditional debt/equity recharacterization principles apply in determining whether an entity is or is not wholly owned by Tribes.
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