Taxes and Puerto Rico – A Complex Mix

Puerto Rico has a complex tax situation. Here are some examples of the tax quandary that is Puerto Rico:

  • People who live in Puerto Rico for at least six months and a day do not pay income taxes on income earned in Puerto Rico. However, they do pay income tax on wages earned on the mainland. So, for example, a student who studies at a college in Virginia and comes home to Puerto Rico for holidays would be responsible for income taxes on the money she earns at her after-school job. An actor who spends 27 weeks making and promoting a movie in Puerto Rico and is paid by a production company there will not pay Federal income taxes on those earnings even though he spent the rest of the year in his luxury penthouse in New York. Both pay social security taxes.
  • A Federal judge in Puerto Rico has to pay Federal taxes on his or her income, but a local judge for the Puerto Rican commonwealth does not.
  • Very wealthy individuals can avoid paying capital gains taxes on stocks and bonds after establishing residence in Puerto Rico.
  • U.S. companies keep a whopping 60% of their income, some $1.7 trillion, overseas to avoid taxes, according to a 2012 Senate subcommittee report. Puerto Rico is a U.S. territory, but for the purposes of this tax dodge, the island counts as “overseas.” So, for example, Microsoft Operations Puerto Rico (MOPR) is the company in charge of all retail operations in North America. MOPR belongs to a Bermuda-based company which belongs to a company with operations in Ireland which in turn belongs to Microsoft. 47% of the income from MOPR’s sales in the U.S. go to Puerto Rico, where it is taxed at just over 1% rather than the 35% Microsoft would pay if they sold software directly from their U.S. corporation. Read more about this convoluted situation.
  • While corporate taxation is tiny in Puerto Rico (because the local government exempts State-based companies investing in the territory from most of the official tax), sales taxes are robust and increasing for items sold within Puerto Rico. Earlier this year, Puerto Rico sold $333 in short-term debt backed by sales tax revenues, so there is certainly motivation for Puerto Rico (like many states) to increase these revenues. The current sales tax rate is 7%. Five U.S. states have 7% tax rates and California has a 7.5% state sales tax; five states have no sales tax, and other rates range from 2.9 % to the aforementioned 7.5%. In other words, Puerto Rico, which has a much lower per capita income than any state in the Union, has one of the highest sales tax rates. Governor Garcia Padilla wants to lower the rate to 6.5% — but remove exemptions and extend the taxes to services, so that some Puerto Rico purchases will be taxed repeatedly on the way from raw materials to end consumer.

The U.S. tax system is unwieldy and many of the states have their own little quirks, but it would be hard to find a stranger collection of tax laws.

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