Oklahoma Bar Journal
Industrial Hemp Production and the 2018 Farm Bill: Tax Implications for Tribal Producers
By G. Blake Jackson
The passage of the 2018 Farm Bill1 marked a historic development for Indian country, cementing 63 new provisions across 11 of the 12 titles aimed at specifically supporting the production of food, fiber and jobs for tribal governments and individual tribal producers. This created a number of new opportunities for the exercise of tribal sovereignty and opened new pathways for individual tribal producers to access federal programs. A critical development in this arena exists in the horticulture title, where Congress legalized the production of industrial hemp and fully authorized tribes to regulate hemp production in a manner consistent with their state counterparts.
Industrial hemp is a derivative of the cannabis sativa plant previously outlawed by the Controlled Substances Act of 1970 (CSA)2 because of its similar appearance to marijuana.3 The paradigm shift of fully legalizing hemp production under the 2018 Farm Bill has attracted the attention of those throughout the agricultural sector because it opens a new, value-added market for a plant which can be grown as a fiber, seed or dual-purpose crop. There are currently over 25,000 documented uses for hemp spanning across nine submarkets: agriculture, textiles, recycling, transportation, food and beverage, paper, construction materials and personal care.4 In fact, domestic sales of hemp-based retail products were an estimated $820 billion in 2017.5 Given that a local economy can add approximately 20.8 cents to the local food dollar by streamlining its supply chain by including processing, packaging and transportation,6 tribal regulation and production of industrial hemp holds great promise for Indian country as a new market for job creation and building strong, diverse agricultural economies.
Although the development is promising, legal prerequisites must be fulfilled before hemp can be produced in accordance with the 2018 Farm Bill provisions. One requirement is that the state or tribal jurisdiction of intended production must have a hemp regulatory plan approved by the U.S. Department of Agriculture.7 At a minimum, these plans must detail the jurisdiction’s procedure for maintaining land records of where hemp is produced, THC testing procedures, disposal methods for plants and products over the 0.3% THC limit and a procedure for properly handling violations of federal hemp laws.8 If the state or tribe does not develop such a plan, the USDA will assume regulatory authority within that jurisdiction according to a federally drafted regulatory plan meeting similar standards.9 Regardless, nothing in the legislation is intended to pre-empt state or tribal laws prohibiting hemp production.10
While the 2018 Farm Bill afforded both Indian tribes and states full parity to regulate industrial hemp production within their respective jurisdictions, its legislative language lacks precision in clearly delineating this authority between the two sovereigns.11 Accordingly, this article attempts to clarify these boundaries, specifically focusing on federal and state taxation of industrial hemp production by tribes and individual Indian producers in a tribal jurisdiction.12
TAXATION OF HEMP PRODUCTION IN INDIAN COUNTRY
The power to tax is essential for any sovereign’s functionality, and this is certainly the case when examining federal, state and tribal governments. When these governments all have varying levels of authority to levy taxes upon individuals within a geographic area, a careful evaluation of the parties involved and the type of taxes sought to be imposed is necessary to determine the bounds of each sovereign’s authority. This analysis is further complicated by the jurisdictional complexities of federal Indian law when tribal members, Indian tribes and their property are involved.
Defining ‘Indian Country’
Determining whether an area is “Indian country” is a threshold question in examining jurisdiction to tax tribes and individual Indians. Thus, as a starting point, one must first define “Indian country” and understand when this definition applies as determined by Congress. This term of art identifies the geographical area in which federal and tribal laws apply (taxes, in this case), normally to the exclusion of state law.13 Specifically, 18 U.S.C. §1151 provides:
[T]he term “Indian country”, as used in this chapter, means (a) all land within the limits of any Indian reservation under the jurisdiction of the United States Government, notwithstanding the issuance of any patent, and, including rights-of-way running through the reservation, (b) all dependent Indian communities within the borders of the United States whether within the original or subsequently acquired territory thereof, and whether within or without the limits of a state, and (c) all Indian allotments, the Indian titles to which have not been extinguished, including rights-of-way running through the same.14
Although this statute is contained in the U.S. criminal code, the Supreme Court has extended this provision to apply to the civil context.15 The court has also held that, in enacting this statute, “Congress has defined Indian country broadly to include formal and informal reservations, dependent Indian communities, and Indian allotments, whether restricted or held in trust by the United States.”16 This statute merely codified the common law test for Indian country, which simply asked if the land in question was “validly set apart for the use of Indians as such, under the superintendence of the [federal government]”17 and did not distinguish between reservation and trust land (individual or tribal).18
Congressional actions can terminate the Indian country status of reservation land.19 An example of this is the “Indian allotment program” of the early 1900s where Congress broke up the tribal land base by allotting parcels of land to individual tribal members and then opening the “surplus land” of the tribe’s reservation to non-Indian settlement.20 The devastating aftermath of allotment leaves us with a jurisdictional conundrum in modern-day Indian law cases – deciding whether reservation “diminishment” or “disestablishment” occurred, resulting in a loss of tribal jurisdiction over the lands opened for non-Indian settlement.21 Where diminishment has occurred, “the reservation itself remains intact, but the homesteaded lands are no longer part of it.”22 Disestablishment has occurred if “the reservation itself ceases to exist, [but]... tribal trust lands and trust allotments within the former reservation boundaries... still remain Indian country.”23 Otherwise stated, diminishment leaves reservations intact but homesteaded parcels are no longer Indian country, whereas disestablishment leaves no reservation but the trust and allotted lands remain Indian country.
Although the Indian allotment program was initially implemented on a national scale, the situation was later dealt with on a reservation-by-reservation basis.24 Each of these individual surplus land acts contained its own language, which resulted from tribal negotiations and legislative compromises involved in each instance.25 These acts largely did not state whether the open lands remained part of the reservation or were divested of their Indian country status.26 The court, however, has never been willing to unilaterally assert that congressional intent for passing each surplus land act was to diminish the reservations involved. 27 While some acts did diminish tribal reservations and others did not, one can only determine the effect of each act by analyzing its language, legislative history and other factors surrounding its passage.28
Reservation diminishment, the Supreme Court has said, “will not be lightly inferred.”29 Rather, Congress must clearly show that it did, in fact, actually intend to change reservation boundaries.30 The strongest evidence of intended diminishment is the language of the act that opened the reservation to non-Indian settlement.31 When the statute explicitly references cession or otherwise displays “the present and total surrender of all tribal interests,” the court has indicated that this “strongly suggests” an intent to diminish a tribe’s reservation.32 If such statutory language is coupled with an “unconditional commitment from Congress to compensate an Indian tribe for its opened land,” this heightens that “strong suggestion” to an “insurmountable presumption” of congressional intent to diminish a tribe’s land base.33
However, a finding of diminishment has also been found in the absence of these factors.34 For example, “[w]hen events surrounding the passage of a surplus land act ... unequivocally reveal a widely-held, contemporaneous understanding that the affected reservation would shrink as a result of the proposed legislation,” the court has been willing to infer congressional intent to diminish the tribal land base.35 To the dismay of tribal interests involved, this has been the case even when the statutory language otherwise indicated intent that the boundaries would remain unaffected.36
The court has also looked to the events occurring after the passage of these acts to determine congressional intent.37 For example, subsequent treatment of the opened lands by Congress and governmental authorities.38 In addition, where a large influx of non-Indians later settled the land, the court has stated, “de facto, if not de jure, diminishment may have occurred.”39 In any case, if the surplus land act and its history lacks “substantial and compelling evidence of congressional intent to diminish Indian lands,” then the land remains Indian country.40
State Power to Tax Tribes and Tribal Members in Indian Country
In one of the earliest Supreme Court cases, Chief Justice John Marshall described Indian tribes not as states or foreign nations, but rather as “domestic dependent nations” whose “relation to the United States resembles that of a ward to his guardian.”41 The next year, Chief Justice Marshall explained that this relationship did not extinguish the power of tribal self-governance because “the settled doctrine of the law of nations is, that a weaker power does not surrender its independence—its right to self-government, by associating with stronger, and taking its protection.”42
Along these parameters, the court has held in three seminal cases that a state may not tax the activities of Indian tribes and their members within Indian country.43 This principle is clearly articulated in McClanahan v. Arizona State Tax Commission, where the state sought to tax the income of a citizen of the Navajo Nation who lived on the reservation and whose income was solely derived from on-reservation sources.44 The court articulated the principle that “[s]tate laws generally are not applicable to tribal Indians on Indian reservations except where Congress has expressly provided” otherwise.45 Accordingly, because there was no congressional measure expressly authorizing state taxes on the Navajo Reservation, the state could not impose its income taxes on the tribal member in the case.46
The court revisited this rule in Oklahoma Tax Comm’n v. Sac and Fox Nation.47 In Sac and Fox, the nation brought suit against the Oklahoma Tax Commission seeking to avoid the state’s income and vehicle registration and excise taxes.48 The commissioner argued that McClanahan did not apply because the relevant boundary to determine taxation authority is “the perimeter of a formal reservation.”49 The court held for the nation by stating that the only relevant determination under McClanahan was “whether the land [was] Indian country,” which is land “within reservation boundaries, on allotted lands, or in dependent communities.”50
Later, in Oklahoma Tax Comm’n v. Chickasaw Nation, the state of Oklahoma sought to impose personal income taxes upon tribal members who lived outside Indian country, as well as its motor fuels excise tax upon fuel sold at tribal travel plazas on trust land.51 The unanimous court provided that a state attempt to levy a tax directly on a tribe or tribal members in Indian country is not subject to a “balancing inquiry,” but is rather analyzed by a “categorical approach.”52 Accordingly, states lack power to tax reservation lands and reservations “[a]bsent cession of jurisdiction or other federal statutes permitting it.”53
Notwithstanding these cases, other precedent has shown circumstances where land fitting Indian country may be taxable, such as the presence of a congressional act allowing for alienation. Such was the case in County of Yakima v. Confederated Tribes & Bands of the Yakima Indian Nation,54 where the court upheld a county ad valorem tax upon the sale of fee-patented lands within the Yakima Reservation (i.e., lands within Indian country) because of statutory language removing “all restrictions as [its] to sale, incumbrance, or taxation.”55 Similarly, in Cass County v. Leech Lake Band of Chippewa Indians,56 the court upheld county ad valorem taxes on re-acquired tribal fee land based upon its intervening, non-Indian ownership and congressional allotment statute authorizing the parcel’s initial alienation.57 Lastly, in City of Sherrill v. Oneida Indian Nation,58 the court upheld a city ad valorem tax where the nation re-acquired original reservation lands after 200 years of non-Indian possession, even though no act of Congress authorized initial alienation in fee.59
An evaluation of the court’s precedent in this area suggests that hemp production in Indian country is best protected from state taxation at the zenith of tribal sovereignty – when done by individual tribal producers or Indian tribes themselves on trust or restricted fee land. This assertion is buttressed by cases imposing strong categorical prohibitions on such taxation – McClanahan, Sac & FoxandChickasaw. These protections seemingly weaken where an intervening congressional act makes the land freely alienable to non-Indian ownership, even in cases where the reservation may not have been diminished or entirely disestablished.60 Similarly, intervening conveyances from tribal to non-Indian fee ownership, whether done by congressional act or not, may subject a parcel to state taxation. The longer the time of such intervening non-Indian ownership, the stronger the justification for state taxation seems to be, as per Sherrill. Therefore, avoidance of state taxes on tribal hemp production is best avoided when done by individual Indian producers or tribal governments on federal trust land or restricted fee land and is likely to be maintained so long as the land stays in Indian ownership.
Federal Power to Tax Tribes and Tribal Members in Indian Country
The Internal Revenue Code (IRC) 61 specifies that “gross income” shall include “all income, from whatever source derived.”62 In interpreting this statute, the Supreme Court originally defined “gross income” to mean “the gain derived from capital, from labor, or from both combined,”63 but has since expanded this definition to include all “undeniable accessions to wealth, clearly realized, and over which the taxpayer ha[s] complete dominion.”64 Based on these definitions, an individual’s tax liability is derived from all portions of gross income not otherwise deductible or exempt under federal law.65
While Indian tribes are nontaxable entities under federal law, no provision of the IRC exempts an individual’s gross income from federal taxation based on his or her status as an Indian.66 Instead, such an exclusion must be based on the interpretation of a tribe’s treaties with the federal government or a related act of Congress.67
In Squire v. Capoeman,68 the Supreme Court examined whether proceeds gained from selling timber harvested from an allotment held in trust by the federal government for an individual Indian qualified for a federal income tax exemption as per the General Allotment Act of 1887. Section 5 of the act stated that allotted lands were to be held in trust by the federal government for the individual allottee for a period not less than 25 years, then transferred to the allottee “free of all charge or encumbrance whatsoever.”69 Section 6 of the act provided that once an allottee received a patent in fee simple for his allotment, “all restrictions as to the sale, encumbrance, or taxation, of said land shall be removed, and said land shall not liable to the satisfaction of any debt contracted prior to the issuing of such patent.”70 To evaluate this matter, the court utilized an Indian law canon of construction under which ambiguities in federal law are interpreted liberally to benefit the rights of Indians involved.71 Under this criteria, the court concluded these provisions manifested a congressional intent to leave Indian allotments tax exempt until the allottee is issued a fee patent, and held that income derived directly from the allotment was to be excluded from taxable income.72
The Internal Revenue Service used the Capoeman doctrine to develop its position that income derived directly from allotted Indian land73 is exempt from federal taxation, provided that all of the following is fulfilled:
- The land in question is held in trust by the United States Government;
- Such land is restricted and allotted and is held for an individual... Indian, and
not for a tribe;
- The income is ‘derived directly’ from the land;
- The statute, treaty, or other authority involved evinces congressional intent that the allotment be used as a means of protecting the Indian from [unjust financial dealing]; and
- The authority in question contains language indicating a clear congressional intent that the land, until conveyed in fee simple to the allottee, is not subject to taxation.74
The IRS has interpreted “derived directly from the land” under Capoeman to include “rentals (including crop rentals), royalties, proceeds from the sale of natural resources of the land, income from the sale of crops grown on 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.”75 Additionally, certain federal conservation and farm program payments are considered “derived directly from the land” as such payments are made to individual Indians “for agreeing to use the land in certain ways, and for agreeing not to use the land in certain ways.”76
Accordingly, an individual Indian producer’s proceeds from growing hemp on allotted trust or restricted fee land will likely be tax exempt as per the IRS interpretation of Capoeman, because such activity would constitute “income from the sale of crops grown on the land.” This assertion is further supported by congressional intent for the federal government to treat hemp much in the manner it does other commodities.77 Similarly, an individual Indian hemp grower may be able to exclude certain conservation or federal farm program payments under the IRS interpretation based on the same premise. Thus, there appears to be a wide array of federal tax benefits for tribal producers looking to enter this emerging market. The same holds true for tribal governments looking to enter this sector, as Indian tribes are not taxable entities for federal income tax purposes.
The 2017 Census of Agriculture78 indicates that 58.7 million acres of land throughout Indian country are already engaged in some type of food and/or agricultural production valued at $3.5 billion nationally.79 The legalization of industrial hemp production marks a potential historic economic development opportunity for cultivation and value-added agriculture throughout Indian country. Still, there are many unknown quantities when one considers the outlook of this new market. Based upon existing doctrines of federal Indian law, it appears the protections from state taxation are best enjoyed when done by individual Indians or tribal governments on trust or restricted land that has remained in Indian possession. Federal protections appear to align closely with this assessment, as income derived directly from allotted trust or restricted land is exempt from individual Indian income as per Capoeman. In any instance, a careful approach to entering this market could hold potential for newfound economic stimulation throughout the rural and remote parts of Indian country, many of which are all too often forgotten.
ABOUT THE AUTHOR
G. Blake Jackson is the policy officer and a staff attorney with the Indigenous Food and Agriculture Initiative (IFAI), located at the University of Arkansas Office of Economic Development. His work involves providing policy analysis and technical assistance to Indian tribes and individual tribal producers across the United States in the areas of value-added agriculture, food safety and rural economic development. He graduated from the OU College of Law in 2016, where he served on the American Indian Law Review and was president of the Native American Law Students Association.
1. The Agricultural Improvement Act of 2018, Pub. L. 115-334.
2. See generally 21 U.S.C. §801 et. seq.
3. Marijuana, another derivative of the Cannabis sativa plant, was outlawed as a Schedule I substance under the CSA due to its high contractions of a psychoactive substance known as 9-tetrahydrocannabinol (THC). Under Section 10113 of the 2018 Farm Bill, industrial hemp cannot contain more than 0.3%THC on a dry weight basis.
4. CRS Report RL32725, Hemp as an Agricultural Commodity.
6. U.S. Dept. of Agric., Food Dollar Series (2019), data.ers.usda.gov/reports.aspx?ID=17885.
7. Section 10113 of the 2018 Farm Bill.
11. Section 10113 uses terminology such as “territory of an Indian tribe” to define tribal jurisdiction, which is divergent from other provisions of federal law defining tribal jurisdiction as “Indian country.” For more discussion of the latter, please see infra Subsection 1.
12. There are additional layers of legal analysis when one considers possible non-Indian producers within a tribal jurisdiction.
13. Alaska v. Native Vill. of Venetie, 522 U.S. 520, 527 n.1 (1998).
14. 18 U.S.C. §1151.
15. California v. Cabazon Band of Mission Indians, 480 U.S. 202, 208 n.5 (1987) (“[The Indian country] definition applies to both criminal and civil jurisdiction.”) (superseded by statute on other grounds).
16. Oklahoma Tax Comm’n v. Sac & Fox Nation, 508 U.S. 114 (1993).
17. Oklahoma Tax Comm’n v. Citizen Band Potawatomi Tribe of Oklahoma, 498 U.S. 505, 511 (1991).
19. Solem v. Bartlett, 465 U.S. 463, 467 (1984).
20. Id. at 466-67.
21. Judith V. Royster et al., Native American Natural Resources: Cases and Materials 99 (3rd ed. 2013); it is worth noting that the court has used the terms “disestablishment” and “diminishment” interchangeably, but the analysis for both remains the same.
24. Solem, 465 U.S. at 467.
26. Id. at 468.
27. Id. at 468-69.
28. Id. at 469.
29. Id. at 470.
33. Id. at 470-71.
34. Id. at 471.
40. Id. at 472.
41. Cherokee Nation v. Georgia, 30 U.S. 1 (1831).
42. Worcester v. Georgia, 31 U.S. 515, 560-61 (1832) (emphasis added).
43. See infra at 37, 40, 44.
44. 411 U.S. 164, 165 (1973).
45. Id. at 170-71.
47. 508 U.S. 114 (1993).
48. Id. at 120.
49. Id. at 124.
50. Id. at 125-26.
51. 515 U.S. 450, 452-53 (1995).
52. Id. at 459.
53. Id. (citation omitted).
54. 502 U.S. 251 (1992).
55. Id. at 255.
56. 524 U.S. 103 (1998).
57. Id. at 114-15.
58. 544 U.S. 197 (2005).
59. Id. at 213-24. Sherrill also specified that placing the land back in federal trust would be the proper vehicle to remove it from city/state taxation.
60. There appears to be no precedent for this matter on record, but this assertion is based on the ability of a state to tax tribal land that has been subject to alienation or has passed to non-Indian ownership – both issues giving rise to the diminishment and disestablishment analyses.
61. 26 U.S.C. §61.
62. Id. at (14).
63. Eisner v. Macomber, 252 U.S. 189, 205 (1920).
64. Glenshaw Glass Co. v. Commissioner, 348 U.S. 426, 431 (1955).
65. Kratzke, William P., Basic Income Tax 2018-2019 Edition Incorporating Tax Cuts and Jobs Act 9 (6th ed 2018).
66. Rev. Rul. 67-284.
68. 351 U.S. 1 (1956).
69. Id. at 3.
70. Id. at 7.
71. Id. at 6-7.
72. Id. at 8-10.
73. This IRS has clarified that its interpretation of Capoeman extends beyond trust alloments to also include lands acquired by Section 1 of the Oklahoma Indian Welfare Act and the lands of the Five Civilized Tribes. See Rev. Rul. 59-349; see also, Rev. Rul 74-13 (extending exemption to restricted lands in addition to those under a General Allotment Act).
74. See supra 65.
76. Rev-Rul. 69-289; this provision includes a number of USDA programs no longer operational under federal law, but the rationale of the ruling is still considered good precedent by the IRS at the time of this writing. Thus, it appears the principle arguably still applies to current farm program and conservation payments. The payments of one such program, the Conservation Reserve Program, are tax-exempt outside of the tribal context, as per the IRS website. See Conservation Reserve Program “Annual Rental Payments” and Self Employment Tax, Internal Revenue Serv. (July 21, 2019), www.irs.gov/businesses/small-businesses-self-employed/conservation-reserve-program-annual-rental-payments-and-self-employment-tax. But see Understanding Your Federal Farm Income Taxes, Penn State Extension (Jan. 8, 2013), extension.psu.edu/understanding-your-federal-farm-income-taxes (describing the taxability of certain farm program payments).
77. For instance, Section 11101 of the 2018 Farm Bill allows hemp growers to utilize federal crop insurance for their crop, a practice widely used by large-scale growers of agricultural commodities. The Farm Credit Administration has also announced that it will soon be releasing guidance concerning agricultural lending to hemp producers. See Dallas P. Tonsanger, chairman and CEO, Farm Credit Admin., Remarks at Farm Credit Council Annual Meeting (Jan. 30, 2019)(transcript available at: www.fca.gov/template-fca/news/Tonsager30Jan2019.pdf).
78. U.S. Dept. of Agric., 2017 Census of Agricultur: United States Summary and State Data Volume I, Geographic Area Series, Part 51 72 (2019), www.nass.usda.gov/Publications/AgCensus/2017/Full_Report/Volume_1,_Chapter_1_US/usv1.pdf.