Puerto Rico Lures Wealthy Americans In Hopes To Help Debt Crisis
While Puerto Rico has not traditionally been a popular tax haven for wealthy Americans, recent legislation has a growing number of wealthy Americans interested in moving to the island to avoid the high income taxes associated with the states.
Thanks to a bleak economic situation in Puerto Rico, the U.S. Federal Government and the Puerto Rican government have struck up a deal to lure wealthy Americans to the island of Puerto Rico to hopefully revive the economy.
Technically, there are two different deals added into one. They are known as Act 20 and Act 22. However, both Acts provide wealthy individuals or businesses large tax incentives to move to the island bringing jobs and a large amount of investment into the Puerto Rican economy.
Although the deal has been around for three years, only a few hundred people taken advantage of the deal. According to the Puerto Rican Department of Economic Development and Commerce, around 250 “high net worth individuals” took advantage of Act 22 in 2014, which is significantly more than the 151 that received the same tax-exempt status in 2013.
What is Act 20/Act 22?
Although Act 20 and Act 22 both offer similar tax benefits, they offer benefits to different people. Business owners may be able to take advantage of both Acts, depending on their business structure. Here are the basics of both Act 20 and Act 22:
Act 20, known as the “Export Services Act” provides tax credits to businesses that sell goods and services to markets outside of Puerto Rico. It does not however provide tax benefits if a business has a Nexus with Puerto Rico.
Under Act 20, businesses services are considered to have a Nexus with Puerto Rico if:
- A business sells property for the use, consumption, or disposition in Puerto Rico
- Business or income producing activities have been performed in Puerto Rico
- A business provides consultation services to the Puerto Rican Government
The Department of Economic Development and Commerce of Puerto Rico also claims the right to add any business activity to this list if it so chooses. If a business is granted tax exemptions in Puerto Rico, then tax rates are as follows:
- 4% fixed income tax rate
- 3% fixed income tax rate (in the case of services considered strategic)
- 100% tax emption from distributions from earnings and profits
- 100% exemption from personal property taxes (during the first five years)
- 60% tax municipal tax exemption (90% in certain areas)
The only tax rates that do not change under this act are both income taxes as well as taxes on distributions. Businesses generally receive a greater tax break during the first five years while in Puerto Rico while receiving a smaller tax break after those first five years. However, the tax breaks under Act 20 still provide a tax situation that is still advantageous compared to what a business would expect to pay in the United States.
While Act 20 provides tax benefits to businesses, Act 22, also known as the Individual Investors Act, provides tax exemptions to individuals residing in Puerto Rico. To be eligible, individuals must become a “bona-fide” resident of Puerto Rico.
Generally a bona-fide resident of Puerto Rico is considered to be someone who:
- Is present in Puerto Rico for at least 183 days during the taxable year
- Does not have a tax home outside of Puerto Rico
- Does not have a closer connection to the U.S. or to another foreign country
Under Section 933 of the U.S. IRS Code of 1986, bona-fide residents of Puerto Rico are not subject to U.S. federal income taxes on income from within Puerto Rico. Therefore, U.S. citizens that are bona-fide residents of Puerto Rico who benefit from the act will only be subject to pay U.S. taxes on sources from outside Puerto Rico.
Individuals who benefit from Act 22 are able to enjoy significantly lower tax rates in Puerto Rico. These are the current tax rates for income earned for individuals under Act 22:
- 0% on interest and dividends
- 0% on long-term gains for new residents
- 10% on gains prior to residency, realized within 10 years
- 5% on long-term gains, realized after 10 years
Applying for Act 20/Act 22 Exemptions
There is a somewhat lengthy process in order to apply for tax exemptions under Act 20 and Act 22. You’ll be required to pay an application fee, undergo a thorough application process, and have to apply for Puerto Rican residency if you plan on applying for tax exemptions under Act 22.
If you apply for Act 20 or 22, then here is the process:
- Download and compete the Application for Act 20/Act 22 Incentives
- Notarize the application and show supporting evidence for the authority of the notary if outside Puerto Rico
- Submit relevant filing fees (If necessary)
- Submit application and wait for the review process
- Receive and accept your Tax Exemption Decree and pay filing fees
As stated before, if you apply for Act 22 exemption status then you must already be a Puerto Rican citizen or intend on becoming a resident of Puerto Rico within one year.
While there are some strict requirements and stipulations you must follow in order to receive tax benefits from Puerto Rico, almost every wealthy individual who has used Act 22 to their advantage would say it is well worth it.
Wealthy Americans living off passive income or investment income would be wise to consider moving to Puerto Rico under Act 22 to save potentially tens of thousands of dollars. This loophole has been around for three years and is there is no sign that the United States government has any intention on closing it so is at least something the wealthy should consider and use to their advantage.