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Partisan Dispute in Congress Delays Hundreds of Millions of Dollars in Benefits for Puerto Rico

A bill that would mean hundreds of millions of dollars for Puerto Rico’s severely stressed government budget and private sector economy stalled in the U.S. Senate yesterday due to unrelated disputes between Republicans and Democrats.

The bill is still expected to pass the Senate but maybe not until after the November elections in which Republicans could take the majority in the Senate. House of Representatives approval of a similar bill before the elections has already been considered unlikely.

The bill would revive more than four-dozen temporary provisions of the Federal Internal Revenue Code that expired with the end of 2013.

One provision concerning Puerto Rico would grant an additional $2.75 per proof gallon of the tax on rum produced in the territory, the neighboring U.S. Virgin Islands, and foreign countries this calendar year and next to Puerto Rico and the Virgin Islands. The staff of the Congress’s Joint Committee on Taxation yesterday estimated that it would provide $336 million to the two territories, $142 million between now and September 30th, $168 million between October 1st and September 30th 2015 – Federal Fiscal Year 2015, and $76 million in Fiscal Year 2016.

About three-fifths of these amounts are expected to go to Puerto Rico based on the amount of rum it produces versus the amount that is distilled in the U.S. Virgin Islands.

Four-fifths has gone to Puerto Rico in the past but the U.S. Virgin Islands changed the relative share of rum production of the two territories by agreeing to give the world’s largest liquor producer, Britain’s Diageo, up to 47.5% of the grants based on its production if it would move its distilling of rum from Puerto Rico to the Virgin Islands.

The subsidy resulted in the Virgin Islands also giving its existing rum producer, U.S. liquor giant Beam, up to 46% of Federal rum tax grants based on its rum, and the Government of Puerto Rico reluctantly agreeing to give its remaining rum distillers similar subsidies.

Previously, the Government of Puerto Rico had spent six percent of the grants on its rum industry.  The U.S. Virgin Islands, which had once spent seven percent, had earlier agreed to subsidize Beam’s Cruzan rum with 30% of the grants it received.

Ongoing law grants $10.50 of the $13.50 per proof gallon tax to the two territories. The Clinton Administration initiated the higher amount — $13.25 — on a temporary basis to help the islands recover from a devastating hurricane. Temporary increases extended the grants until the end of 2013. Presidents George W. Bush and Obama have proposed the extensions but Obama has since dropped the request from his budgets.

The other provision regarding Puerto Rico would make income from manufacturing and other production activities in the territory earned by companies in the States eligible for the Domestic Production Tax Deduction during calendar years 2014 and 2015. The deduction enables companies in the States that manufacture directly in the territory — versus through ‘controlled foreign corporations,’ as most do — to exclude nine percent of the profits from their taxable income. The exclusion effectively lowers the Federal corporate tax rate on the income from 35% to about 32%.

The staff of the Congress’ Joint Committee on Taxation has estimated that extending the deduction would save companies based in the States manufacturing in Puerto Rico $222 million in income taxes, with $85.2 million of the savings realized by September 30th, $100.8 million in Federal Fiscal Year 2015, and $15.6 million in Fiscal Year 2016.

The tax savings represent about $7.4 billion in manufacturing and other production in Puerto Rico.

The Domestic Production Deduction is ongoing law for income from the States but has been temporary law for income from Puerto Rico because of the opposition of a “Commonwealth” party representative of the territory.  When the Senate Finance Committee originated the deduction and applied it to income from Puerto Rico in 2003, Resident Commissioner Anibal Acevedo Vila said that he did not want it to be applied. Income from Puerto Rico was excluded in the final legislation that became law.

Acevedo supported the effort of Governor Sila Calderon to instead have all income from the territory exempted from Federal taxation. The Senate Finance Committee, the chairman of the House Ways and Means Committee, the Treasury Department, and the White House rejected their exemption from Federal income tax proposal.

Acevedo’s successor, Luis Fortuno of the statehood party, succeeded in getting income from Puerto Rico qualified for the deduction but only on a temporary basis. The then chairman of the Ways and Means Committee wanted to reform the Federal tax system and did not want to create new permanent provisions of tax law before a reform.

Overall, the Senate bill would add about $85 billion to the Federal budget deficit.

The vote in favor of the bill was 53 to 40 but the measure needed 60 votes to pass because of Republican objections.

Republicans, who generally support the bill’s extensions of tax code provisions, had insisted on amendments. One would repeal a tax on medical devices instituted to help pay for the Federal government’s 2010 healthcare system reform known as ‘Obamacare.’

There is also substantial interest in that tax in Puerto Rico since many medical devices are made in the territory.

Other amendments would have made permanent some of the expired temporary provisions of tax law.

Senate Majority Leader Harry Reid (D-Nevada) refused to allow votes on the amendments.

House Ways and Means Committee Chairman Dave Camp (R-Michigan has said that he wants to determine which expired temporary provisions of tax law should be made permanent and which should not be revived as a first step in a broad reform of the Federal tax system.

His initial list for extension does not include the Puerto Rico-related provisions.

Camp has also proposed a tax law reform that would eliminate the Domestic Production Deduction. But his reform would also lower the corporate income tax rate to 25%, about seven percent below the current rate with the deduction.

Senate Finance Committee Chairman Ron Wyden (D-Oregon) has said that this should be the final time that the expired temporary provisions are extended.  He, too, wants to reform the Federal tax code.

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