An increasing number of individuals, especially those with innovative business ideas, are finding in Puerto Rico a perfect environment for growth and sustainability of their startup companies.

Puerto Rico’s Act 20/22 tax incentives have been in effect since 2012. With the storm of events that Puerto Rico faced in 2017, these incentives acquired greater significance. In September, Hurricane María put all eyes on Puerto Rico. While thousands fled the Island looking for opportunities in the United States, others are realizing Puerto Rico’s potential and have already moved or are planning to relocate.

Some of the individuals moving to Puerto Rico include those negatively impacted by recent United States Tax Reform, especially those with ownership in controlled foreign corporations (commonly referred as “CFCs’”), who saw their effective tax rate increased unexpectedly. Others considering migrating to Puerto Rico, include those who learned about Act 20/22 tax incentives due to the increased press coverage that Puerto Rico gained with Hurricane María and from its efforts to obtain a fair tax treatment in the United States Tax Reform.

How do Act 20/22 tax incentives work?

 Individuals that are bona fide residents of Puerto Rico do not get taxed on their Puerto Rico source income according to United States laws and regulations;

• Puerto Rico corporations owned by Puerto Rico bona fide residents are not considered controlled foreign corporations for United States tax purposes;
• Puerto Rico source income generally includes income from services performed in Puerto Rico, interest from Puerto Rico obligations, dividends from Puerto Rico companies and capital gains realized on dispositions of personal property of bona fide Puerto Rico residents;
• Act 22-2012 grants eligible individuals that relocate to Puerto Rico full exemption from interest, dividend and capital gains on disposition of securities realized after their relocation to Puerto Rico (gains realized prior to relocation may also enjoy reduced rates of tax);
• Act 20-2012 grants eligible businesses a flat 4% rate of income tax, zero tax on distributions to owners and other municipal tax exemptions.

As a result with Act 20/22 tax incentives, individuals and their businesses may see their effective income tax rate reduced to as low as 4%, and may later sell an Act 20 business with no capital gains tax.

U.S. Tax Reform and Act 20/22 tax incentives

 The recent enactment of U.S. Tax Reform, brought about the imposition of two new taxes, among other measures designed to curtail foreign operations of U.S. owned businesses.

In general terms, the Global Intangible Low-Taxed Income, known as “GILTI”, creates a new category of income that, subject to very detailed calculations, taxes the income of United States owned foreign corporations.  Moreover, the Base Erosion and Anti-Abuse Tax, known as “BEAT” was enacted by imposing a separate tax to certain U.S. corporations making payments of deductible royalties, interest, or other fees to foreign related parties that result in a U.S. tax deduction.

For U.S. owned businesses and its owners, moving to Puerto Rico and establishing a Puerto Rico corporation, may provide a shield against the GILTI and the BEAT, while substantially lowering their effective tax rate.

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This publication is a summary of the recently enacted legislation or pronouncements referred to herein and is not intended to substitute legal advice.  We encourage you to contact us or your tax advisor if you have any questions or need assistance regarding any of the matters presented herein.  An attorney-client relationship with Pellot-González, P.S.C. cannot be formed by reading or responding to this memorandum.  Such a relationship may be formed only by express agreement with Pellot-González, P.S.C.

 On June 30, 2016, a Financial Oversight and Management Board has been assigned to Puerto Rico by the United States Federal Government with the enactment of Public Law 114-187 (“Puerto Rico Oversight, Management, and Economic Stability Act”).  This Oversight Board has ample powers over actions that may be taken by the Puerto Rico Government in pursuit of economic development, such as, new incentives laws or new tax decrees.