Why Puerto Rico Might Be a Great Place to Relocate

 In Tax Planning

If you have ever thought about leaving the U.S., this article is for you! Perhaps you are like me and do not particularly enjoy cold weather. When you glance out the window and see a mound of snow or ice, you may think to yourself, “I wish I was lying on a beach in Puerto Rico right now!” Well besides a change in climate, great food, and rich culture, there may be another great reason to relocate to Puerto Rico—for the tax benefits.

What Tax Benefits are Available to Taxpayers Who Relocate to Puerto Rico?

In 2012, the government of Puerto Rico enacted the Export Services Act and the Individual Investors Act, to provide incentives for U.S.-based corporations and wealthy investors to relocate to its country. At the time these incentives were enacted, the government of Puerto Rico was addressing a need for tax revenue, job creation for its people, and improvements to its infrastructure.

Generally, a U.S. person, (individual or business) is required to pay U.S. taxes on its worldwide income; but under this agreement between the U.S. and Puerto Rico, a U.S. taxpayer who qualifies under the program can potentially pay taxes only to Puerto Rico, and at a substantially lower rate than that individual or business would pay to the U.S. For example, under current U.S. tax law, a C Corporation pays a flat tax of 21% on its income. However, under Puerto Rico’s Export Services Act, a qualifying C Corporation could be eligible to pay a tax of only 4% on its income.

Lower Tax Rates Under Act 60 (Formerly Act 20/Act 22)

Most people who are aware of Puerto Rico’s tax incentives know of the former names of the program (Act 20 & Act 22). However, in 2020, the Puerto Rican government consolidated the programs into Act 60, so that is how I will refer to the tax incentives in this article. Under Act 60, an eligible corporation that relocates to Puerto Rico and exports services outside of the country (i.e. the business’s clients remain U.S. clients serviced by this Puerto Rico-based corporation), the corporation may qualify for a 4% tax rate. Additionally, dividends paid to the owners of this company who are residents of Puerto Rico may be subject to a 0% tax rate. Furthermore, high-net-worth investors that relocate to Puerto Rico and are accepted into the program may qualify for a 0% tax rate on interest, dividends, and capital gains while a bona fide resident of Puerto Rico. This is significantly better than the tax treatment that a high-net-worth investor would receive in the U.S., where the investor would not only pay Federal Income tax (up to a marginal rate of 37%) and potentially state income tax (up to 12.3% in CA) on this investment income, but also a 3.8% federal net investment tax on top of that.

Property Tax Incentives

In addition to the lower income tax rates that U.S. taxpayers may be eligible for under Puerto Rico’s Act 60, for the first five years of business operations, taxpayers who relocate to Puerto Rico may qualify for a full exemption from real and property taxes, and for the subsequent five years may qualify for a 75% exemption. For U.S.-based taxpayers that live in states with high real property taxes, this benefit can provide substantial savings—especially since under the Tax Cuts and Jobs Act the state and local tax (SALT) deduction has been capped at $10,000 for taxpayers who itemize deductions. The current $10,000 cap on the SALT deduction has rendered tens of thousands of dollars in deductions for some of my clients in New York and California completely moot.

Other Considerations

Because Puerto Rico is a U.S. territory, U.S. citizens that relocate there can freely travel back and forth to the mainland without the need for a passport. Also given the connection with the U.S., Puerto Rico receives U.S. resources (though the adequacy of which can be argued) when natural disasters (such as hurricanes) strike the island.

So, What’s the Catch?

After reading some of the tax benefits above, you may wonder, “Why hasn’t everyone packed their bags and relocated to Puerto Rico, given the tax advantages?” Here are some of the “catches” or caveats, and by no means is this an all-inclusive list:

Must Be a Bona Fide Resident of Puerto Rico

Act 60 is not for the faint of heart. If you do not truly intend to become a bona fide resident of Puerto Rico, the program will not result in the tax savings that you are looking for. You essentially must want to live and run your business from Puerto Rico, hire Puerto Rican employees to assist you, actually export services from Puerto Rico to other countries (selling local Puerto Rican real estate for example would not qualify) and purchase a property in Puerto Rico to be used as your principal residence. You must be bringing revenue into the country and benefiting the Puerto Rican economy, which is the purpose of the program. Additionally, if you are planning on starting a Puerto Rican corporation, but still spending the majority of your time in the U.S., you will remain subject to the aforementioned U.S. tax on your worldwide income.

You Will Be Audited Regularly to Ensure Compliance

The Puerto Rican government will conduct an audit every two years to ensure that you and/or your business are in compliance with the terms of Act 60.  Act 60 is essentially a contract between you and the Puerto Rican government, and you must meet its terms to retain the tax benefits inherent in the program.

You Will Still Pay Tax on Your Services

If you are a business owner performing services for your new Puerto Rican corporation, you must pay yourself a reasonable salary, and this salary will be subject to income taxes at similar rates to those that apply in the U.S. Thus, it is estimated that most individuals will not fully escape taxation by relocating to Puerto Rico, rather the tax savings typically will amount to up to 90% of the individual taxpayer’s U.S. tax liability. But that is still quite a substantial amount of tax savings!

Puerto Rico May Become a State

There is a possibility (especially with the change in U.S.-elected officials that recently occurred) that Puerto Rico may become a U.S. state. If that happens, the tax incentives under Act 60 may no longer be available, as U.S. states are subject to U.S. tax laws.

Mandatory Annual Charitable Contribution

Each year that a taxpayer participates in Act 60, the taxpayer will be required to give $10,000 as a charitable donation to a charity(ies) approved by the government of Puerto Rico. Is that similar to paying a tax? Maybe, but generally, if you are looking at making a move like this, the savings would result in significantly more than $10,000 in tax.

If after reading this article, you would like to learn more about Act 60 (or pursuing tax savings while maintaining your tax home in the U.S.), I would be happy to discuss this with you! Please fill out the form below to request a consultation.

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