[Senate Hearing 112-772]
[From the U.S. Government Publishing Office]



                                                      S. Hrg. 112-772
 
                  TAX REFORM: WHAT IT COULD MEAN FOR 

                         TRIBES AND TERRITORIES
=======================================================================


                                HEARING

                               before the

                          COMMITTEE ON FINANCE

                          UNITED STATES SENATE

                      ONE HUNDRED TWELFTH CONGRESS

                             SECOND SESSION

                               __________

                              MAY 15, 2012

                               __________

                                     
                                     

            Printed for the use of the Committee on Finance





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                          COMMITTEE ON FINANCE

                     MAX BAUCUS, Montana, Chairman

JOHN D. ROCKEFELLER IV, West         ORRIN G. HATCH, Utah
Virginia                             CHUCK GRASSLEY, Iowa
KENT CONRAD, North Dakota            OLYMPIA J. SNOWE, Maine
JEFF BINGAMAN, New Mexico            JON KYL, Arizona
JOHN F. KERRY, Massachusetts         MIKE CRAPO, Idaho
RON WYDEN, Oregon                    PAT ROBERTS, Kansas
CHARLES E. SCHUMER, New York         MICHAEL B. ENZI, Wyoming
DEBBIE STABENOW, Michigan            JOHN CORNYN, Texas
MARIA CANTWELL, Washington           TOM COBURN, Oklahoma
BILL NELSON, Florida                 JOHN THUNE, South Dakota
ROBERT MENENDEZ, New Jersey          RICHARD BURR, North Carolina
THOMAS R. CARPER, Delaware
BENJAMIN L. CARDIN, Maryland

                    Russell Sullivan, Staff Director

               Chris Campbell, Republican Staff Director

                                  (ii)



                            C O N T E N T S

                               __________

                           OPENING STATEMENTS

                                                                   Page
Baucus, Hon. Max, a U.S. Senator from Montana, chairman, 
  Committee on Finance...........................................     1
Hatch, Hon. Orrin G., a U.S. Senator from Utah...................     3

                               WITNESSES

Ingram, Sarah Hall, Commissioner, Tax Exempt and Government 
  Entities, Internal Revenue Service, Washington, DC.............     4
Porter, Hon. Robert Odawi, president, Seneca Nation of Indians, 
  Salamanca, NY..................................................     6
Robertson, Dr. Lindsay G., professor of law, University of 
  Oklahoma College of Law, Norman, OK............................     8
Maguire, Dr. Steven, Specialist in Public Finance, Congressional 
  Research Service, Washington, DC...............................    10

               ALPHABETICAL LISTING AND APPENDIX MATERIAL

Baucus, Hon. Max:
    Opening statement............................................     1
    Prepared statement...........................................    23
Begich, Hon. Mark:
    Prepared statement...........................................    25
Hatch, Hon. Orrin G.:
    Opening statement............................................     3
    Prepared statement...........................................    27
Ingram, Sarah Hall:
    Testimony....................................................     4
    Prepared statement...........................................    29
Maguire, Dr. Steven:
    Testimony....................................................    10
    Prepared statement...........................................    35
Porter, Hon. Robert Odawi:
    Testimony....................................................     6
    Prepared statement...........................................    42
Robertson, Dr. Lindsay G.:
    Testimony....................................................     8
    Prepared statement...........................................    51
    Response to a question from Senator Hatch....................    53

                             Communications

Arctic Slope Regional Corporation (ASRC).........................    55
Center for Fiscal Equity.........................................    59
Christensen, Hon. Donna M........................................    61
Crow Tribe of Montana............................................    66
Jamestown S'Klallam Tribe........................................    74
Mandan, Hidatsa, and Arikara Nation..............................    84
National Congress of American Indians............................    91
Oglala Sioux Tribe...............................................   101

                                 (iii)


       TAX REFORM: WHAT IT COULD MEAN FOR TRIBES AND TERRITORIES

                              ----------                              


                         TUESDAY, MAY 15, 2012

                                       U.S. Senate,
                                      Committee on Finance,
                                                    Washington, DC.
    The hearing was convened, pursuant to notice, at 10:05 
a.m., in room SD-215, Dirksen Senate Office Building, Hon. Max 
Baucus (chairman of the committee) presiding.
    Present: Senators Bingaman, Cantwell, Menendez, and Hatch.
    Also present: Democratic Staff: Russ Sullivan, Staff 
Director; Lily Batchelder, Chief Tax Counsel; Richard Litsey, 
Counsel and Senior Advisor for Indian Affairs; Ryan Abraham, 
Tax Counsel; Tiffany Smith, Tax Counsel; and Jeff VanderWolk, 
International Trade Counsel. Republican Staff: Chris Campbell, 
Staff Director; Tony Coughlan, Tax Counsel; and Nick Wyatt, Tax 
and Nominations Professional Staff Member.

   OPENING STATEMENT OF HON. MAX BAUCUS, A U.S. SENATOR FROM 
            MONTANA, CHAIRMAN, COMMITTEE ON FINANCE

    The Chairman. The committee will come to order.
    There is a Crow proverb that says, ``Man's law changes with 
his understanding of man. Only the laws of the spirit remain 
always the same.''
    Our desire to spur broad-based economic growth and give 
help to those who need it stays the same, but our laws are 
ever-changing. And, while some are well-intentioned, the 15,000 
changes made to the tax code since 1986 have created too much 
complexity and unfairness. Tax reform needs to simplify the 
code in a way that creates jobs and encourages growth.
    Today we will look at tax reform and how it affects Indian 
tribes and the United States' five territories--Puerto Rico, 
U.S. Virgin Islands, Guam, American Samoa, and the Northern 
Mariana Islands.
    Indian governments and the territories are in some ways 
similar to State governments: each provides hospitals, public 
schools, and law enforcement, for example. But U.S. policies do 
not recognize tribal governments or territories as States or 
fully sovereign nations. Instead, U.S. law has a patchwork of 
complicated rules for each territory. Every tribal government's 
U.S. policies are inconsistent.
    Tax policy is a microcosm of this inconsistency. The 
unemployment rate on some reservations, such as the northern 
Cheyenne reservation in Montana and the Pine Ridge reservation 
in South Dakota, is 80 percent. One in four Indians lives below 
the poverty line. American Indians' median income is 31 percent 
less than all other Americans. U.S. territories and 
commonwealths also suffer from high unemployment.
    In the past, Congress has recognized the special status of 
tribal governments and the island territories and taken steps 
through our tax policies to improve their economic conditions. 
We provided accelerated depreciation for capital investments 
and an employment credit for businesses located in Indian 
country. Congress also allowed businesses to claim a credit for 
the production of coal from Indian land.
    The accelerated depreciation provision brought jobs and 
economic activity to the Crow tribe in Montana when 
Westmoreland Coal used it to boost profits. But there are 
issues with these provisions. Two-thirds of the State of 
Oklahoma qualifies as an eligible Indian reservation under the 
accelerated depreciation provision and employment tax credit; 
perhaps the tax laws need to be better targeted.
    Congress should also level the playing field for tax-exempt 
bonds. States are currently allowed to issue tax-exempt bonds 
for any public purpose. These bonds help governments access 
cheap capital to build schools or courthouses. States can also 
use them to finance tourism and economic development projects 
like municipal golf courses, convention centers, and hotels.
    In contrast, tribal governments can only issue bonds for 
government buildings. Their bonds have to pass what is called 
an ``essential government'' test. To address this inequity, in 
2009 Congress authorized $2 billion of tribal economic 
development bonds for any purpose other than gambling 
facilities. The Treasury Department studied the program, and it 
recommended that Congress repeal the essential government test. 
We should do this as part of tax reform.
    Another area of concern for tribal governments is the 
application of the general welfare doctrine. This doctrine 
allows governments to provide benefits to citizens without 
those benefits counting as taxable income.
    Tribes provide many benefits to their members, including 
educational assistance and cultural awareness, along with 
housing and meals. But it is often unclear which benefits are 
eligible for the exemption. That uncertainty is tough on 
families and tribal governments, and it is something we should 
fix.
    For U.S. territories, Federal tax law previously contained 
an economic activity tax credit and a possessions tax credit to 
encourage investment. These credits expired at the end of 2005. 
Another provision set to expire sends a portion of excise taxes 
on rum to two territories to help fund their government 
operations.
    Today's hearing provides an opportunity to consider these 
issues in the context of broader tax reform. I hope today's 
witnesses will help us understand what roadblocks should be 
eliminated and what incentives work for Indian country and for 
the territories.
    When I talk with tribes in Montana, they tell me the same 
thing: they want a better future for their children and less 
reliance on the Federal Government. These are goals we share.
    So let us use tax reform as an opportunity to achieve these 
goals. Let us think outside the box. Let us be creative here. 
Let us hear what might be done to help tribes and territories 
meet their goals. And, in the spirit of the Crow proverb, let 
us take this opportunity to make man's law reflect our common 
desires.
    [The prepared statement of Chairman Baucus appears in the 
appendix.]
    The Chairman. Senator Hatch?

           OPENING STATEMENT OF HON. ORRIN G. HATCH, 
                    A U.S. SENATOR FROM UTAH

    Senator Hatch. Well, thank you, Mr. Chairman. This hearing 
deals with, as you said, two very important, yet distinct, 
subject topics: tribal tax issues and territory tax issues. I 
want to stress that I do not come into this hearing with any 
pre-conceived agenda as to how we ought to treat tribes and 
territories. Rather, we must consider how we can be most 
productive on these matters when we undertake fundamental tax 
reform.
    With respect to tribal tax issues, certain of them, such as 
the general welfare exclusion, seem to have been outstanding 
for several years. This committee needs to determine the scope 
of actions to be taken when final tax reform is finally 
realized.
    Aside from the long-term implications for tax reform, there 
are short-term questions concerning the subject matter of 
today's hearing. Several so-called tax extenders explicitly 
designed to aid Native American tribes, such as accelerated 
depreciation for business property on Indian reservations, have 
actually expired. A credit for the production of Indian coal 
will expire at the end of this year. If we are going to break 
out of the repetitive loop of short-term extensions, we should 
not put off a discussion of these temporary measures, even 
prior to comprehensive tax reform.
    I am also interested to hear about the tax treatment of 
territories. In a nutshell, even though the people of the 
various possessions are United States citizens or nationals, 
most do not pay tax to the Federal Government but rather to 
their possession's government.
    Some U.S. possessions have a mirror tax code with tax laws 
essentially identical to the U.S. Internal Revenue Code, simply 
swapping the name of the possession wherever the Internal 
Revenue Code says ``United States.'' Yet, others are given more 
autonomy to write their own tax laws as they see fit.
    In some ways, possessions are treated like foreign 
countries. In other ways, however, they are treated like 
States. For example, research and development in a territory is 
eligible for the R&D credit, just as if the R&D were performed 
in a U.S. State. However, income taxes paid to a possession's 
government are generally eligible for a U.S. foreign tax 
credit, just as if paid to a foreign government. Of course, 
taxes paid to a State government are not creditable, and only 
sometimes deductible.
    I will be interested in understanding whether greater 
consistency in the tax treatment of possessions is desirable or 
feasible. Now, I do share the chairman's dedication to 
thoroughness that this committee's tax reform hearings 
represent and the emphasis they place on technical knowledge, 
and I expect that this hearing will make a worthy contribution 
to that particular effort.
    Thank you, Mr. Chairman.
    The Chairman. Thank you, Senator.
    [The prepared statement of Senator Hatch appears in the 
appendix.]
    The Chairman. I would now like to introduce our four 
witnesses. First is Ms. Sarah Ingram. Ms. Ingram is the 
Commissioner for Tax Exempt and Government Entities at the 
Internal Revenue Service. Thank you for coming. We will be 
asking some questions. Next, the Honorable Robert Porter, 
president of the Seneca Nation of Indians. Thank you, Mr. 
President, for being here. Our third witness is Dr. Lindsay 
Robertson, professor of law at the University of Oklahoma. 
Finally, Dr. Steven Maguire, a Specialist in Public Finance at 
the Congressional Research Service. Thank you all very much for 
coming.
    You probably know our usual practice here is, your 
statement is automatically included. You may each speak about 5 
minutes. I say this all the time and keep on saying it: do not 
pull any punches, say what you think, be candid. You cannot 
take it with you. Tomorrow is gone after today. [Laughter.]
    So, Ms. Ingram?

 STATEMENT OF SARAH HALL INGRAM, COMMISSIONER, TAX EXEMPT AND 
 GOVERNMENT ENTITIES, INTERNAL REVENUE SERVICE, WASHINGTON, DC

    Ms. Ingram. Thank you. Good morning, Chairman Baucus, 
Ranking Member Hatch, and members of the committee. I 
appreciate the opportunity to be here to discuss the general 
welfare exclusion as it applies to tribal programs and to 
discuss tribally issued tax-exempt bonds.
    As I begin, I want to acknowledge that the United States 
has a unique government-to-government relationship with the 
Indian tribes, as set forth in the Constitution of the United 
States, treaties, statutes, executive orders, and court 
decisions.
    The Office of Indian Tribal Governments within the IRS was 
created more than a decade ago in response to requests by 
tribal leaders. The office exists to facilitate the government-
to-government relationship and to assist tribes in meeting 
their Federal tax obligations.
    First, I would like to address the general welfare 
exclusion. Tribes, like all governments, sponsor programs 
designed to support their members. To be very clear, whether 
this tax exclusion is or is not applied does not limit what 
benefits or social programs tribes can provide to their 
members. The question is whether payments made through these 
programs are excludable from the income of the recipient under 
the general welfare doctrine.
    There are two key tax concepts. First, code section 61 
provides that gross income includes all income derived from 
whatever source, and the second, the general welfare exclusion, 
is a non-code exception, an administrative exclusion that has 
been developed in official IRS guidance and recognized by the 
courts and Congress over more than 50 years.
    Despite the statutory breadth of section 61, the 
administrative rulings show that payments made by governmental 
units, tribal or non-tribal, can be excluded from a recipient's 
gross income under the general welfare doctrine, if the 
payments: (1) are made under a governmental program; (2) are 
for the promotion of general welfare generally based on 
individual, family, or other needs; and
(3) do not represent compensation for services.
    The IRS does not have, and has never had, a special program 
for examining tribal governments' social welfare programs. The 
question may arise if the tribe seeks a letter ruling about a 
specific program. It can also arise during an IRS review of 
tribal governments' tax reporting compliance.
    The code requires all persons, including Indian tribal 
governments, to report to the IRS certain payments of $600 or 
more. During an examination, records may show such payments to 
tribal members, requiring further inquiry as to whether the 
general welfare exclusion applies, because, if so, then the 
amounts do not have to be reported.
    The IRS always examines a program using the same 3-prong 
analysis. Comments from the tribal community have focused on 
whether the payments are being disbursed based on the needs of 
the recipient and on the issue of whether the payments 
constitute compensation received for services.
    While there are many tribal and non-tribal examples in 
administrative rulings, the difficulty has been that each 
application is fact-specific, and the historical and cultural 
context within the tribal government environment adds a layer 
of complexity.
    In response to concerns raised by various tribes and tribal 
leaders, the IRS issued Notice 2011-94 last November, inviting 
comments concerning the application of the general welfare 
exclusion to Indian tribal government programs and beginning a 
specific consultation process with tribes on how to find a 
solution that addresses their concerns and improves clarity and 
consistency of the tax law.
    Since then, the IRS has received numerous written comments 
from tribes and tribal leaders, which we are carefully 
reviewing, and the IRS and Treasury have engaged in multiple 
consultation sessions, such as in November during the White 
House Tribal Nations Conference, in March during the National 
Congress of American Indians' Annual Conference, and in a few 
weeks we will host another consultation session through 
teleconference to facilitate participation.
    The IRS plans to publish written guidance that will address 
issues and respond to concerns raised by tribes in their oral 
and written comments. Our intent is that this published 
guidance, along with improved internal coordination procedures, 
will provide increased clarity and consistency of the 
application of the general welfare doctrine. Tribal concerns 
are very important to us, and we look forward to continuing to 
work with tribes on this item in the future.
    My second topic is tribally issued tax-exempt bonds. In the 
interest of time, I would like to refer the committee to my 
written testimony, with just two notes. I would note that we 
are taking into account recent community input on the usage of 
American Recovery and Reinvestment Act Tribal Economic 
Development Bonds, and we expect to publish revised procedures 
to reallocate the unused amounts.
    Also, as requested by Congress, Treasury provided a report 
last December containing legislative proposals to facilitate 
the use of bond financing by tribal governments under rules 
more closely parallel to those applied to State and local 
governments.
    I am aware of the administration's commitment to strengthen 
and build the government-to-government relationship between the 
United States and tribal nations, and I appreciate the 
committee's interest in these matters.
    Thank you. That concludes my testimony. I would be happy to 
take any questions.
    The Chairman. Thank you, Ms. Ingram, very much.
    [The prepared statement of Ms. Ingram appears in the 
appendix.]
    The Chairman. President Porter?

STATEMENT OF HON. ROBERT ODAWI PORTER, PRESIDENT, SENECA NATION 
                   OF INDIANS, SALAMANCA, NY

    President Porter. Nya-weh Ske-no. Mr. Chairman, Vice 
Chairman Hatch, Senator Bingaman, Senator Cantwell, I am 
honored to be here, and I am thankful that you are all well.
    I am here to testify on the promise of tax reform for 
American Indian Nations and ask that my written testimony be 
placed into the record.
    [The prepared statement of President Porter appears in the 
appendix.]
    President Porter. I am here today on behalf of the Seneca 
Nation of Indians, which I serve as its elected president. The 
Seneca Nation is one of America's earliest allies, historically 
aligned with the other members of the six nations of the 
Haudenosaunee Confederacy and living in peace with the American 
people since the signing of the Canandaigua Treaty 217 years 
ago.
    In that treaty, the United States promised that it would 
recognize the Seneca Nation as a sovereign nation, that it 
would ensure that our property and activities would not be 
taxed, and that it would forever secure our title to our lands. 
This treaty belt that I hold up, the ``Guswhenta,'' or the Two 
Row Wampum belt, is a symbol of the continued recognition and 
respect that we agreed to hundreds of years ago.
    Because of our treaty-protected freedoms, the Seneca Nation 
has been able to achieve some economic success in recent years, 
mainly as a result of our commerce with non-Indians involving 
tobacco, gaming, and other related ventures. I encourage this 
committee to shape its tax reform effort for all Indian nations 
so that it maximizes our freedoms, which are premised upon 
treaties and territorial tribal sovereignty.
    In the Seneca Nation we have long believed that our 
treaties with the United States require that the Seneca Nation, 
our people, our activities, and our lands be treated as immune 
from all Federal and State taxation. However, many aspects of 
our treaty-recognized freedoms have been eroded over time, 
including tax burdens imposed by external governments which 
have diverted wealth from our territories and made much of 
Indian country unattractive for investment.
    For specific analysis of several areas of concern to Indian 
country, I draw your attention to the excellent comments that 
have been submitted by the United South and Eastern Tribes and 
the National Congress of American Indians. As a general matter, 
however, if tax reform is to work in Indian country, it must 
be, first, consistent with the principles that are at the 
foundation of Indian policy at its best.
    The tribal nations are governments whose exclusive 
authority is to govern all economic activity in our 
territories, and that is fully respected as a matter of Federal 
law. Resurrecting this tribal territorial sovereignty approach 
must be the focus of congressional tax reform efforts if they 
are to succeed.
    In recent decades, tax reform ideas, like the Indian 
Reservation Wage and Investment Tax Credits, have not been 
large enough, have not been of long enough duration, or have 
not even been as simple to administer as necessary to induce 
the private sector to invest and locate new jobs in Indian 
country. Because these proposals have made all of Indian 
country eligible, in theory the 
budget-scoring rules that estimate the costs of these reforms 
have led Congress to water down their benefits to useless 
levels.
    Many of the good people in this room have worked hard at 
tax reform ideas in the past. They sincerely thought that they 
would bring benefit to Indian country. But these complex 
schemes mainly created work for lawyers, accountants, 
consultants, and government administrators. With all due 
respect, they have produced little tangible benefit for Indian 
country. If you drive through most Indian territories in the 
Great Plains or anywhere else, you can see the evidence of the 
poverty that makes the undeniable point that these incentives 
have not worked.
    As you shape tax reform in Indian country, I urge you to 
keep it simple so that it can be implemented without Indian 
people having to hire an army of expensive lawyers, 
accountants, and consultants. Keep it simple so that local 
businesses and potential investors can make sense of it and 
generate jobs for native people.
    In my view, the accumulated decades of Federal tax policy 
failures in Indian country make the case for trying something 
bold and different based upon our aboriginal treaty 
relationship. Instead of dialing back potential tax incentive 
benefits to useless levels, I urge you to recognize unlimited 
tax immunity on a limited number of footprints in Indian 
country for a limited number of Indian nations. In other words, 
I suggest that you shape tax reform law so as to restore 
complete tax immunity in a demonstration or pilot project whose 
size is limited to make it cost-feasible but with unlimited 
benefits to facilitate chances of success.
    I have submitted proposed bill language for this tax reform 
idea. It would authorize a pilot project to establish up to 50 
tax-free tribal empowerment zones of limited acreage. These 
zones would be like tax-free economic oases in a desert, 
importing and recycling private sector money into Indian 
country where it has rarely, if ever, been invested for 
generations.
    Such a policy could induce a manufacturing company to 
locate in Indian country in Montana rather than going to India. 
It could also motivate a grocery store chain to build their 
next store in Indian country.
    Half of the tax-free tribal empowerment zones would be 
reserved for applicant Indian tribes with an unemployment rate 
exceeding 50 percent under the latest Bureau of Indian Affairs 
workforce reports. The remaining half of the zones would be 
awarded to applicant Indian tribes that competitively 
demonstrate the strongest available tribal institutions, 
fostering effective and stable self-
government, predictable legal infrastructure, and tribal 
policies facilitating entrepreneurial economic development in a 
business-friendly climate.
    Each tribal empowerment zone would be a tax-free territory, 
immune from all Federal, State, and local income, sales, and 
excise taxes, and would have an immediate impact on investment 
and job creation in Indian country.
    Mr. Chairman and Senators, to put it simply, current 
Federal tax incentive policies for Indian country have not 
worked. Persistent poverty and harsh unemployment still enslave 
Indian country and deprive too many Indian people of a fair 
chance at living a full and complete life. The social problems 
our people face are most often rooted in intergenerational 
poverty. We are tired of our territories being drained of their 
wealth for the benefit of others. Please help us restore the 
flow of wealth back into our nations.
    My hope is that you will keep your tax reform efforts 
simple and consistent with tribal territorial sovereignty. I 
would recommend for your consideration the creation of tax-free 
tribal empowerment zones in Indian country so that the private 
sector will be induced to re-enter Indian country in 
partnership with sovereign tribal governments and Indian 
entrepreneurs to let the marketplace create jobs and provide 
goods and services in Indian country.
    This model has worked with Indian gaming, where Federal law 
acknowledged tribal territorial sovereignty to protect Indian 
gaming markets and to allow billions of dollars to flow into 
Indian country, like islands in the middle of non-Indian gaming 
markets. Likewise, tax reform can create islands of tax-free 
tribal empowerment zones that attract private sector investment 
into Indian country markets.
    I want to thank you for this opportunity to be here, and I 
certainly would be glad to take any questions, if you have 
them.
    The Chairman. Thank you very much. That was very 
interesting.
    Next is Dr. Robertson.

   STATEMENT OF DR. LINDSAY G. ROBERTSON, PROFESSOR OF LAW, 
       UNIVERSITY OF OKLAHOMA COLLEGE OF LAW, NORMAN, OK

    Dr. Robertson. Good morning, Chairman Baucus, Ranking 
Member Hatch, and other distinguished members of the committee. 
My name is Lindsay Robertson. I am the Judge Haskell A. 
Holloman professor of law and faculty director of the Center 
for the Study of American Indian Law and Politics at the 
University of Oklahoma College of Law.
    I have been a professor of Federal Indian law for more than 
20 years. From 2000 to 2010, I served as Special Counsel on 
Indian Affairs for Oklahoma Governors Frank Keating and Brad 
Henry. It is an honor to have been invited to address this 
committee on this important topic.
    First, I would like to place the issue of tax policy and 
tribal economic life in historical perspective, then address 
potential reforms. While there are a number of areas in the 
Internal Revenue Code that could be improved to better serve 
tribes--input on which others, including President Porter and 
various organizations, are providing the committee--I would 
like to highlight two: the essential governmental function 
limitation on tribal tax-exempt bonding and current limitations 
on the application of the general welfare exclusion.
    Tribal governments in the United States are both pre-
constitutional and extra-constitutional. That is, they existed 
before European settlement and they operate apart from, and not 
directly subject to, the Constitution.
    The U.S. Supreme Court has characterized tribes as 
``domestic dependent nations''--nations, and not simply 
aggregations of individuals sharing a particular heritage, but 
domestic nations, not foreign nations, and therefore having a 
special relationship to the United States.
    In the same decision, Cherokee Nation v. Georgia, the court 
described that relationship as being like that of a ward to his 
guardian. In 1886 in Kagama v. United States, the court 
recognized the substantive legal consequence to this 
relationship. As guardian or trustee, the United States has 
power to legislate over Indian affairs, but also the 
responsibility to exercise that power to the ultimate benefit 
of the tribes.
    In furtherance of its trust responsibility, since Kagama 
the United States, at numerous stages, has acted proactively to 
address what it perceived to be problems in tribal economic 
development. These efforts have been bipartisan.
    For example, in the Indian Reorganization Act of 1934, 
President Franklin Roosevelt's key tribal legislation, the 
Congress established tribal economic development funds, 
authorized the creation of tribal corporations, and provided 
tribes the means to reestablish jurisdiction over lands lost 
during the allotment era of the late 19th century, when 
collectively owned tribal lands were divided up and sold.
    The Self-Determination and Education Assistance Act of 
1975, a Republican initiative, entrusted tribal governments 
with control over Federal programs operating within their 
communities, in part on the theory that only in that way would 
these programs be truly accountable to the people they served.
    Whether to comply with a trusteeship obligation grounded in 
law or morality, or because it simply makes economic sense, 
Congress has frequently employed its power to legislate tax 
policy to facilitate tribal economic development.
    Now I would like to say a few words in support of the two 
specific reforms I mentioned when I began my remarks. The first 
is the elimination of the essential governmental function 
limitation on tribal tax-exempt bonds found in 26 U.S.C. 
section 7871.
    Tribes are now, and have always been, handicapped under 
Federal law when it comes to the raising of capital for 
economic development activities. Since the Trade and 
Intercourse Act of 1790, tribal land sales without Federal 
authorization have been invalid under Federal law. While this 
restriction undoubtedly led to the retention of tribal lands 
that might otherwise have been lost, it had the unintended 
effect of making tribal lands unavailable as security for 
conventional loans.
    Free alienability of such lands is not the solution as long 
as tribal jurisdiction is closely tied to land tenure. Instead, 
the solution must involve the creation of compensatory capital 
generation devices.
    Authorizing tribes to issue tax-exempt bonds was a step in 
the right direction. However, the essential governmental 
function limitation imposed on the use of funds raised through 
such bonding limited its utility as an engine for economic 
development.
    It is worth noting that the essential governmental function 
limitation is not applied to limit the use of funds raised 
through tax-exempt bonding by States and municipalities, as 
Commissioner Ingram pointed out. The elimination of the 
limitation on tax-
exempt bonding by tribes would free tribes to raise capital 
otherwise unavailable to them and make it possible for them 
responsibly to create their own solutions in today's difficult 
economic times.
    A second important tax reform involves the general welfare 
exclusion, which is currently interpreted to apply only to 
tribal means-tested programs. Tribal governments commonly 
provide benefits to their members, including health, education, 
and other services. Some of these, including for example 
language education, are considered essential for the 
preservation of tribal culture. When the United States taxes 
these benefits, tribes are handicapped in the services they can 
provide. Presently, it appears that, not only are these 
services being taxed, they are being audited at a 
disproportionate rate. It is difficult to imagine that the 
revenue generated by taxation of these services outweighs the 
harm done to tribal governmental operations and cultural 
preservation.
    Moreover, where services are provided to make up for 
deficiencies resulting from adverse conditions not of the 
tribes' making, historical conditions, or indeed to further 
Federal policy objectives, taxing and auditing them appears to 
me inconsistent with the requirements of the Federal trust 
responsibility.
    I thank you for holding this hearing and for allowing me 
the opportunity to appear. I would be happy to answer any 
questions.
    Thank you.
    The Chairman. Thank you, Dr. Robertson.
    [The prepared statement of Dr. Robertson appears in the 
appendix.]
    The Chairman. You are last, Dr. Maguire, so you are the 
clean-up guy here.

STATEMENT OF DR. STEVEN MAGUIRE, SPECIALIST IN PUBLIC FINANCE, 
         CONGRESSIONAL RESEARCH SERVICE, WASHINGTON, DC

    Dr. Maguire. Chairman Baucus, Ranking Member Hatch, and 
members of the committee, on behalf of the Congressional 
Research Service, I thank you for the opportunity to appear 
before you today.
    I have been invited here today to discuss how tax reform 
could affect the territories. In this oral testimony I will 
briefly summarize the U.S. tax treatment of the territories and 
discuss a selected number of expiring provisions, commonly 
referred to as tax extenders, pertinent to the territories. 
Finally, I will outline how tax reform may affect the 
territories.
    Generally, Federal tax reform will have an impact on the 
territories in two ways. First, several territories use the 
United States' tax code as it is written, replacing the words 
``United States'' with the territory name. As a result, when 
the U.S. tax code changes, so does their tax code. Puerto Rico 
is the exception.
    Second, there are specific provisions in the U.S. tax code 
that directly benefit one or more of the territories. This 
group of provisions is often found in the so-called extenders 
legislation. I will discuss two extenders here.
    First, territories and taxation. The U.S. taxes residents 
and corporations located in the territories differently than if 
they resided in the United States. For individuals residing in 
the territories, their tax treatment is most similar to the tax 
treatment of foreign citizens. Generally, territorial residents 
are exempt from Federal taxes on territory-sourced income, but 
are, with some exceptions, taxed on income sourced in the U.S.
    In contrast, U.S. residents are subject to Federal taxes on 
their territory-sourced income as if it were foreign-source 
income. However, territorial taxes can be generally claimed as 
foreign tax credits to offset U.S. tax liability. Thus, as with 
foreign-source income, the United States concedes primary tax 
jurisdiction to the territory where the income is earned. With 
some exceptions, it retains primary tax jurisdiction of the 
U.S.-sourced income earned by territorial residents.
    Corporations chartered in the territories are treated like 
foreign chartered corporations under the Internal Revenue Code. 
In principle, they are exempt from Federal taxes on territorial 
income. U.S. firms that operate in the territories through 
subsidiaries can, at least potentially, defer Federal taxes on 
territory earnings. Generally, U.S. taxes are paid only when 
earnings are repatriated to the domestic parent, with the U.S. 
tax reduced by any foreign tax credits.
    The impact of U.S. tax reform on the territories would 
depend in large part on the specifics of U.S. tax reform and 
how the territories responded to the changes. One option would 
be for these territories to de-couple from the mirror system. 
This option would allow the territories to be largely 
unaffected by U.S. tax reform unless they choose to enact 
similar reforms; administrative complexity and compliance costs 
would likely rise with the de-coupling, however.
    Alternatively, continuing with a mirror system, the 
territories would incorporate the Federal changes. If the 
Federal changes focus on increasing progressivity of the tax 
code, such as higher rates for higher-income earners, the 
impact on territories would likely be muted, as average income 
is significantly lower in the territories. In any case, this 
option would effectively cede control of the territory's tax 
system to the U.S.
    Now I will discuss provisions in the U.S. tax code 
benefitting the territories. The U.S. tax code includes at 
least three provisions that directly benefit taxpayers who have 
income from activities in the territories or who are resident 
in the territories. If tax reform were to include scaling back 
tax expenditures generally, one or all of these may be 
curtailed or eliminated. Modifications or limitations to 
broader tax expenditures, such as tax-exempt interest on bonds 
issued by the territories, are not addressed in this testimony.
    Number one is the deduction allowable with respect to the 
income attributable to domestic production activities in Puerto 
Rico. U.S.-based entities, either individuals or corporations, 
are allowed to deduct 9 percent of taxable income that was 
earned in Puerto Rico.
    The deduction lowers the marginal effective tax rates of 
taxpayers, and the highest bracket amounts to just under 32 
percent. This confers a tax advantage for these entities 
because like-
situated entities without Puerto Rican or U.S.-sourced income 
cannot claim the same deduction unless they are taxed at a 
higher marginal rate.
    This provision expired on December 31, 2011. The 
President's 2013 budget proposes extending this provision 
through 2013. The expected revenue impact would be a reduction 
in Federal revenues of $312 million over the 3-year window of 
fiscal year 2012 through 2014.
    If Congress chooses to broaden the base of both the 
individual and corporate income tax, they may choose to 
eliminate the special provision for entities with Puerto Rico-
sourced income. The result may be some shifting of activity 
away from Puerto Rico, though the magnitude of this shift would 
seem minimal, especially in the short term, as much of the 
activity generating the income may not be easily or quickly 
shifted out of Puerto Rico. If Congress chooses additional 
structural reforms, such as lower overall rates, the value of 
the deduction to taxpayers would decline.
    Number two is a temporary increase on the limit of cover-
over of rum excise tax revenue from $10.50 to $13.25 per proof 
gallon to Puerto Rico and the U.S. Virgin Islands. The United 
States levies a $13.50 per proof gallon excise tax on distilled 
spirits produced in, or imported into, the United States. 
Through 2011, $13.25 per proof gallon of all imported rum is 
transferred, or covered over, to the treasuries of Puerto Rico 
and the U.S. Virgin Islands.
    The Caribbean Basin Economic Recovery Act of 1983 provides 
that all revenue from Federal excise tax on rum imported to the 
United States from any source, including any foreign country, 
is remitted to the treasuries of Puerto Rico and the U.S. 
Virgin Islands. In fiscal year 2011, Puerto Rico received over 
$449 million in revenue, and the U.S. Virgin Islands received 
$155 million.
    The law does not impose any restrictions on how Puerto Rico 
and the U.S. Virgin Islands can use the transferred revenue. 
Both territories use some portion of the revenue to promote and 
assist the rum industry. Reports of the size of the subsidy 
vary considerably, though the amount ranges from roughly 6 
percent of the covered-over revenue in Puerto Rico up to 18.5 
percent in the U.S. Virgin Islands as of 2009. Since then, 
however, the subsidy has increased significantly.
    Beginning on January 1, 2012, the amount covered over to 
Puerto Rico and the U.S. Virgin Islands reverted to $10.50 per 
proof gallon. The fiscal year 2013 budget proposes extending 
the $13.25 rate retroactively through 2013. The expected 
revenue impact of extending the higher rate will be a reduction 
in the Federal revenues of $222 million over a 3-year budget 
window of 2012 to 2014.
    I see that my time is up. In the interest of time, I will 
end here and open it up for questions.
    The Chairman. All right. Thank you, Dr. Maguire, very much.
    [The prepared statement of Dr. Maguire appears in the 
appendix.]
    The Chairman. I would like to ask all of you, all four of 
you, do you basically agree that the limitation on bonds issued 
by tribes--that is, the essential government functions 
limitation--should be repealed? Right down the line.
    Ms. Ingram. Yes.
    President Porter. Yes.
    Dr. Robertson. Yes.
    Dr. Maguire. Yes.
    The Chairman. All right. So we have agreement there.
    Next, with respect to the welfare limitation on taxable 
income, I would appreciate it if you, Dr. Robertson, and anyone 
else, would indicate, how should that be modified, if at all? I 
mean, the argument is that there are some benefits conferred by 
tribes on their members. Really, some of that should not be 
taxable income. So where is the line? What is the test? Would 
there be any limitation? Your views?
    Dr. Robertson. Well, I guess I would defer to a variety of 
organizations, including tribal governments, who have already 
been in communication with the Internal Revenue Service on this 
issue. But I can tell you, some of the proposals I am aware of 
include expanding the definition in the tribal context to 
eliminate the needs-based component of the analysis, maybe keep 
the other two elements of the analysis, but make the exemption 
from taxability no longer related to the income situation of 
the individual beneficiary, and maybe then loosen up the range 
of benefits provided that could qualify as welfare.
    Tribes do a lot of things that State governments do not do. 
I mentioned language education. Some tribes, to overcome 
traditions of poverty and for cultural reasons, provide 
clothing allowances to families to send their kids to school. 
Some of those families may be in poverty, some of them may not 
be in poverty, but this is something that is done across the 
board. To have some of those recipients singled out for 
taxation on the value of the benefit frustrates the tribes.
    The Chairman. All right. Either President Porter or Ms. 
Ingram, your thoughts?
    President Porter. Mr. Chairman, I have a hard time seeing 
why any of the benefits that we are providing to our people 
should fall under any taxation because the services that we 
provide for our people are to help them. We have the worst 
health care, we have the worst degree of social problems in our 
Nations.
    The sources of income that we derive from our businesses, 
from our grants that we use to provide services, are going 
directly back to our people. We are not starting from some 
exalted position of health care or socioeconomic status where 
these are luxuries, where these are things that are perceived 
to be things that most humans do not have. We are trying to get 
back to a position of normal after recovering from many, many 
generations of deprivation. So I would say that there should 
not be----
    The Chairman. Do tribes provide unemployment benefits?
    President Porter. We do not. We actually work in concert 
with the State system for purposes of unemployment insurance.
    The Chairman. All right. Sure.
    President Porter. But we do not.
    The Chairman. Ms. Ingram? The general proposition of 
welfare limitation.
    Ms. Ingram. I think we are in a position of trying to 
figure out how to administer something that is a creature of 
administrative rulings. It started in the environment of State 
and local governments, and over the years has been increasingly 
raising issues with Indian tribal government programs.
    I think our effort to step back for a moment, and through 
that notice and through a specific and formal consultation 
process, will allow us to hear a couple of things from the 
tribal community. One is, as has been mentioned, the kinds of 
programs that are either like those provided to the States or 
are unique in the tribal context and should be taken into 
account. We are listening very carefully to the input on that 
category of questions.
    Also, the question of the extent to which the taxation of 
the recipient should be based on their needs, is something that 
has been around for a long time in this string of 
administrative rulings, and is something we are hearing is of 
great concern. We have given favorable treatment or unfavorable 
treatment to lots and lots of governments, tribal and non-
tribal, based on those standards, and I think it is perfectly 
reasonable for us to listen to the tribal community.
    The Chairman. But do you have a recommendation how to 
simplify this so the tribes do not have to jump through all 
these hoops?
    Ms. Ingram. Well, I think we are on a journey with the 
tribal community to see if we can figure that out. This being 
an administrative doctrine and being very fact-specific in its 
nature, I think we would welcome, as much as the tribes would, 
trying to find a simpler way to approach this.
    The Chairman. All right. Thank you. My time is up. Thank 
you.
    Senator Hatch?
    Senator Hatch. Well, thank you, Mr. Chairman.
    President Porter, in your written testimony you are 
critical of many of the tax provisions that have been enacted 
in the past in order to aid Indian country. In their place, as 
I view it, you suggest the creation of a series of tax-free 
tribal empowerment zones. Now, from my reading of your idea, 
these areas would be exempt from all U.S. Federal and State 
taxes that might otherwise apply for a period of 10 years, as I 
understand it.
    Now, please describe how this process is fundamentally 
different from the renewal community and empowerment zone 
provisions that you criticize, and why do you think it would be 
more successful? How did you come to select 10 years as an 
appropriate lifetime for the proposal?
    President Porter. Well, the proposal is rooted in the idea, 
Mr. Vice Chairman, that the existing provisions of law simply 
are too incremental. They are never permanent. They never allow 
for any real foundation for growth and development. As a 
result, they do not work.
    Trying to attract companies to your territory, which I have 
tried to do, they look at these tax incentives, they look at 
the tax opportunities, and they say, well, who knows what is 
going to happen in a year or two, because it is not permanent. 
Congress has a pattern of delaying the extension. So from a 
business perspective, it is just not a very credible invite to 
be able to attract capital into our territory.
    Ten years might be a minimum. The idea that a company is 
going to work in our territories, in a zone in which there are 
no taxes, is patently attractive on its face. But then you get 
into the second-level questions, which are still a challenge: 
what is the legal infrastructure of the tribe? What is your 
access to markets if we are making a product? What is the 
demand for the services, if we are providing a service? There 
are still going to be other hurdles to overcome as it relates 
to this kind of development incentive.
    But I think, when it relates to creating an attractive 
magnet by which we can draw capital and investment--in my 
nation we have succeeded significantly, in the gaming context, 
to invite Wall Street money into our nation for investment for 
gaming facilities. I am a strong believer that we can do the 
same thing outside of gaming and help diversify our economies 
and become less dependent on that particular business, if we 
can have this kind of assistance from the Congress.
    Senator Hatch. Thank you.
    Dr. Maguire, let me ask you a question. As your testimony 
has made clear, there are areas where the territories could be 
treated in a more uniform fashion. For example, some have 
mirror codes and some have non-mirror codes; in some ways they 
are treated like foreign countries, in other ways, like States.
    Now, do you think greater uniformity is necessary or 
feasible or desirable? More specifically, does it make sense 
that the R&D performed in a territory qualifies for the R&D 
credit as if the territory were a U.S. State, while at the same 
time income taxes paid to a territory may be claimed as a 
foreign tax credit, as if the territory were really a foreign 
country?
    Dr. Maguire. Well, I think greater conformity across the 
territories would decrease compliance costs and increase 
administrative simplicity. On the other side of the coin, 
Congress has decided to confer certain tax advantages to the 
territories, recognizing their position economically.
    So it is true that the research and development tax credit 
would seem to be a ``double dipping'' for the territories if 
there is also a foreign tax credit available. So, when 
balancing greater uniformity with providing tax benefits to the 
territories as a general welfare, I think that is a question 
that Congress will have to answer, and unfortunately I do not 
have a good answer for you.
    Senator Hatch. Does it make sense that the section 199 
domestic manufacturing deduction may be claimed for activities 
in Puerto Rico but not in other territories?
    Dr. Maguire. That does not make sense to me, though those 
who crafted the legislation, I am sure, had legitimate reasons 
for structuring the section 199 the way it is structured.
    Senator Hatch. My time is about up.
    The Chairman. Thank you very much, Senator.
    Senator Menendez is not here, so we will move to Senator 
Bingaman.
    Senator Bingaman. Thank you very much.
    Let me ask Ms. Ingram, you indicate that the IRS plans to 
publish written guidance to address, particularly, this issue 
of the general welfare exclusion.
    Ms. Ingram. Yes.
    Senator Bingaman. Is there any consideration, or does it 
make any sense to consider the wealth of a tribe in those 
guidelines that you issue? I mean, my sense is that many tribes 
are as President Porter has described, and they have great 
needs and substantial poverty and all.
    But we have some exceptions. We have some tribes in this 
country that are doing quite well, primarily because of gaming, 
but in some cases other factors. Is there any consideration of 
distinguishing in that regard, or would it make sense to even 
think about that?
    Ms. Ingram. Senator, we are not going along those lines at 
all. That is not a criterion that we have ever used with State 
and local government programs, and we have not to date, and do 
not have any plans to take it into account in the Indian tribal 
community.
    Senator Bingaman. All right.
    Let me perhaps ask Dr. Maguire about his testimony. He 
talks about one option if we go ahead here with major tax 
reform. He says one option would be for these territories to 
decouple from the mirror system that has been in place. That 
would seem to me to be a bad idea. I mean, it would seem to me 
that, to the extent you decouple, you add great complexity to 
the issue.
    You have each of the territories essentially developing its 
own tax provisions, which of course would then require not only 
that you hire a raft of lawyers and accountants, as you have to 
today, but you would have to hire a very specific group of 
lawyers and accountants who would presumably have the expertise 
to tell you what the tax system was in each of these 
territories. What is your thinking on this?
    Dr. Maguire. I tend to agree with you that, from an 
administrative simplicity and compliance cost, that would be a 
move in the wrong direction. That said, within the territories, 
overlaying the U.S. tax code onto the territories also overlays 
the policy decisions of the U.S. Congress on the territories. 
So, the actions that Congress takes will have a direct impact 
on the territories. So again, there is that rub between 
administrative simplicity and complexity and what you do to 
promote the economic efficiency within the island or within the 
territory, if that makes sense.
    Senator Bingaman. I think Senator Hatch was getting at this 
in some of his questions. But I guess one obvious sort of 
threshold issue is, should we have a guiding principle with 
regard to these territories, which essentially determines that 
they be treated as States, except where we decide that there is 
an exception to that? Is that kind of a guiding principle in 
place today? Would it make sense for us to consider that and 
have that as a guiding principle, in your view?
    Dr. Maguire. I think that is one of the options that was 
explored by the Joint Committee on Taxation in their pamphlet, 
that they prepared for the hearing today.* In that pamphlet, 
they recognized the difficulty in treating them as States 
because they are very different than the States, economically 
and demographically. So from that perspective, I do not think 
it would be a good default position.
---------------------------------------------------------------------------
    * For more information, see also, ``Overview of Federal Tax 
Provisions and Analysis of Selected Issues Relating to Native American 
Tribes and Their Members,'' Joint Committee on Taxation staff report, 
May 14, 2012 (JCX-40-12), https://www.jct.gov/publications.html?func= 
startdown&id=4426, and ``Federal Tax Law and Issues Related to the 
United States Territories,'' Joint Committee on Taxation staff report, 
May 14, 2012 (JCX-41-12), https://www.jct.gov/
publications.html?func=startdown&id=4427.
---------------------------------------------------------------------------
    A good default position may be that they all use the mirror 
system, they all use the Federal tax code, and then as Congress 
sees fit--makes adjustments for territories as needed rather 
than having a mix of dual-filing entities versus single-filing 
entities within the territories--using a consistent treatment 
to begin with and then making modifications.
    Senator Bingaman. My time is up, Mr. Chairman.
    The Chairman. Thank you, Senator.
    Senator Cantwell? Oh. I will go to Senator Menendez.
    Senator Menendez. Thank you, Mr. Chairman.
    Dr. Maguire, thank you for your testimony. Above all, I 
appreciate your expertise on so many issues: AMT, bond 
financing, the rum cover-over program. It has been incredibly 
beneficial to have your expertise. That is really where I want 
to focus my questioning, is on the rum cover-over program.
    I find it ironic that Diageo's rum brand is named after a 
pirate, because they set a precedent of pillaging a program 
that is meant to provide budgetary support to the territories. 
In my view, the deal Diageo struck with the U.S. Virgin Islands 
devastates the effectiveness of the cover-over program for the 
people of the territories by gutting the revenue that is 
supposed to go to vital public services and sets a precedent 
that is pretty terrible, and a race--I think a death spiral--to 
the bottom.
    So this is a real concern to me, and I would like to have 
you help us shed some light on some of these points. What is 
the total value of subsidies provided to Diageo by the U.S. 
Virgin Islands, which include, as I understand it, paying for a 
new distillery then giving the ownership of the distillery to 
the company, paying for much of the cost of the main 
ingredient, molasses, and paying for a substantial portion of 
marketing costs?
    Dr. Maguire. In 2009, I went through and calculated it on 
my own instead of relying on outside reports of what the 
subsidy was, and I arrived at 18.5 percent. Of course, since 
the Diageo plant was constructed and the agreement implemented, 
that subsidy has increased significantly. I have seen internal 
documents between the government of the Virgin Islands and 
Diageo that the subsidy is closer to 46 percent today.
    Senator Menendez. So it is 46 percent of cover-over 
revenues just to one company.
    How many people are employed by the distillery that 
produces Captain Morgan's r um?
    Dr. Maguire. In the agreement, Diageo indicated they would 
hire anywhere from 40 to 70 people in the facility itself, but 
that does not take into account any ancillary jobs that would 
be created from the activity at the plant.
    Senator Menendez. And of these jobs, how many would you say 
were a net increase in the territories versus simply a transfer 
of jobs between two territories?
    Dr. Maguire. That is a good question. To the extent that 
there is mobility between Puerto Rico and the U.S. Virgin 
Islands, I am not certain of that. There is probably a mix of 
replacing and new employment, but on net it is probably a 
relatively small percentage of those new jobs.
    Senator Menendez. Well, we believe that we are close to 
zero, since the loss of production in Puerto Rico led to a 
commensurate loss of jobs there.
    So, looking at how these numbers intersect, how much would 
you estimate is going to Diageo per job transferred from Puerto 
Rico to the U.S. Virgin Islands?
    Dr. Maguire. Well, in fiscal year 2011, the U.S. Virgin 
Islands received $155 million in covered-over revenues, so half 
that, or 46 percent, would probably be $70 million or so in 
fiscal year 2011. But, as production ramps up moving forward, 
the cover-over value would increase, production will increase, 
and the subsidies will also increase, so that number will get 
larger.
    Senator Menendez. So I look at those numbers, and I look at 
the number of jobs, the 40 to 70 direct jobs, and maybe an 
indirect employment of approximately 230 jobs. Basically, the 
U.S. Virgin Islands will pay Diageo between $1.2 and $2.2 
million per direct job per year created, and approximately 
$391,000 when indirect jobs are estimated. So that is pretty 
outrageous. That is pretty outrageous, and it is unsustainable.
    Can you briefly talk about what has happened to the 
subsidies for the other producers in Puerto Rico and the U.S. 
Virgin Islands since the Diageo contract became public?
    Dr. Maguire. I have seen news reports that indicate the 
government of Puerto Rico has loosened their self-imposed 
restriction on the subsidies that they can provide to rum 
producers in their territory. It seems that other rum producers 
not named Diageo have also requested additional subsidies in 
light of the Diageo agreement, and those are news reports that 
I have not verified myself, but they seem reasonable.
    Senator Menendez. Well, I can tell you that the government 
of Puerto Rico, based upon what happened with the Virgin 
Islands, then increased its assistance to rum producers from 6 
to 10, and now 25 percent, so much so that CARICOM, the 
Caribbean nations, have told the executive branch that the 
subsidies are unfair trade practices and violate international 
trade rules.
    Let me close by saying, is it fair to say that, based upon 
all this information, that money is flowing to profits, not 
jobs, here at the end of the day?
    Dr. Maguire. To the extent that we understand how the 
subsidy is used by Diageo, it does appear as though it does not 
go to the workers at the plants, and it does not go to lower 
rum prices, necessarily. Most of it would go towards the 
investors in the rum companies.
    Senator Menendez. Mr. Chairman, so this is the challenge we 
have if we allow this to continue to happen. Instead of 
supporting--which was the intention of the rum carry-over 
provision--the people of the territories to help improve the 
standard and quality of their lives, what we are doing is 
having millions of dollars go for profits for companies that 
are not really producing the benefit for these territories.
    So I hope we can work with the chairman and the committee 
to try to find the right balance here so that, at the end of 
the day, we can pursue the original intention. Because 
otherwise I could see very easily that there will be a tax on 
this program, to the extent that they will seek to take it 
away, and it will be far worse for the territories at the end 
of the day.
    The Chairman. Thank you, Senator.
    Senator Cantwell?
    Senator Cantwell. Thank you, Mr. Chairman. Thank you for 
holding this hearing.
    One of the issues--we have many tribes in the Northwest, 
and my colleague from New Mexico asked about--well, many of my 
colleagues asked about the general welfare doctrine. But I am 
particularly interested in the area of education, because 
Native Americans have a lower high school graduation rate. In 
fact, I think it is something like 23.5 percent who do not 
complete high school or the equivalency of high school. So 
juxtapose that to, say, 4.7 percent of whites, or 14 percent of 
Asians, and a whole host of other segmentations.
    So, when it comes to this issue of taxation and what is a 
general welfare or social benefit program, you can have 
something like tuition--and I certainly applaud Native American 
tribes across America for supporting continued education for 
their members. I think this is a very, very positive sign. But 
my understanding is, we have a lot of mixed signals here, so 
that you can have tuition that is covered under this social 
benefit or general welfare idea, but then books or room and 
board are not. So, why is there a difference, and what do you 
think we need to do to clarify this? So, either Professor 
Robertson or President Porter.
    President Porter. Senator, I think that you have hit the 
nail on the head when it comes to the challenge of 
administering in this area. That is why I do not think there 
should ever be a tax question when it comes to providing 
backpacks or pencils to children in our nation, or any Indian 
nation in the United States. We are, in many cases, not 
continuing education, we are starting it.
    In our case, our language is almost gone, and we are trying 
to re-install a language immersion school. We are trying to 
raise our children in a way of life that Americans take for 
granted. But it is the universal solution to our problems when 
we can provide a strong education, and we have a multitude of 
issues with the potential tax threat.
    Even on the financing side, building schools, finding ways 
in which we can provide for that, we need to make sure that 
those opportunities are protected so that we can move forward 
with our investments.
    Senator Cantwell. Doctor?
    Dr. Robertson. I agree with President Porter. I would just 
sort of amplify that I think the benefit of the exclusion 
applies to a multitude of levels of education. It is not simply 
elementary education or secondary, but a lot of tribes are 
providing monies to send their members away to study medicine, 
to study law, to study business, to study engineering, so that 
they can come back and help rebuild the tribe's health base, 
infrastructure, political institutions, that sort of thing. All 
of this is seen as being for the good of the community within 
those communities more than for the good of the individual, who 
then otherwise would be taxed on the receipt of a benefit.
    Senator Cantwell. And so I would just assume that, aside 
just from compliance, that the complexity of knowing what is 
and what is not excluded is pretty hard to figure out. Is that 
correct?
    Dr. Robertson. Yes it is, under the status quo. And I do 
not think the Service disagrees with that, as I understand from 
Commissioner Ingram's testimony, which is why they are working 
with tribes--and I think this is creditable--to try to figure 
out a way to simplify these rules, if not eliminate them, which 
is President Porter's suggestion, which would simplify things.
    Senator Cantwell. Ms. Ingram, is there a simplification on 
this?
    Ms. Ingram. Well, as I mentioned before with Chairman 
Baucus, we are very cognizant of this issue, which is why we 
have reached out for input, and one of the categories we have 
asked specifically for input on is in the area of education, as 
well as the area of cultural practices, events, and issues. We 
have tried over the years to figure out how to take the 
principles that were largely crafted in the State and local 
government environment and translate those to the more complex 
situation involving the Indian tribal community.
    We have asked for, and continue to receive, a rich amount 
of input about what kinds of activities people are doing and 
want to do, and how these are either the same as what we 
currently allow for States--and we need to be consistent with 
that--or to what extent it needs to be different. We are trying 
to listen to that input to figure out what to do next.
    Senator Cantwell. Do you think there is a difference 
between tuition and room and board?
    Ms. Ingram. I think there is both some information and 
misinformation about where we are in agreement or disagreement. 
One of the things we are doing, in addition to the consultation 
sessions, is tightening some of our coordination within our own 
organization to see if we cannot eliminate some of the fact 
patterns where we know already, without further discussion, 
that we should not be questioning. I think this discussion will 
create areas--we hope--where we can provide some broader, 
simpler ways for both of us to address this and all the other 
issues that are being raised.
    Senator Cantwell. Thank you.
    Thank you, Mr. Chairman.
    The Chairman. Thank you.
    Thank you all very much. This has been a very helpful 
hearing, with very good points to very difficult questions. My 
thought is just to move towards simplicity, and clearly 
repealing the essential government function provision will help 
make things a little more simple.
    But I also urge you to give us your ideas. I mentioned the 
welfare provision. I did not get a chance to ask you, President 
Porter, I know some of the tribes do very well with gaming. 
Your economic opportunity zone looks very interesting, but I 
presume that would not apply to gaming reservations. I say that 
in part because we in Montana do not have the people for 
gaming.
    President Porter. Right.
    The Chairman. It just does not work. Different tribes are 
different in different parts of the country. Just idle 
comments, unless you have something to say.
    Thank you all very, very much. I appreciate it.
    The hearing is adjourned.
    [Whereupon, at 11:08 a.m., the hearing was concluded.]


                            A P P E N D I X

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