Among the many tax havens in the world, Puerto Rico stands out as an enticing option for United States citizens. Since the island has a commonwealth status and enjoys some measure of self-rule as an unincorporated U.S. territory, it can create special tax incentives.
These incentives are a direct effort to improve the economic condition of the island and attract U.S. high-income individuals as new residents. After the coronavirus pandemic, the shift towards remote work has made the tax incentives an even stronger attraction.
However, does this Caribbean paradise reduce the tax burdens of U.S. citizens in reality? While the general answer is yes, finding whether you can make effective use of these incentives requires an understanding of the nuances of the Puerto Rican tax laws.
Breaking Down Taxes in Puerto Rico
For bona fide residents of Puerto Rico who generate income from sources within the island, filing a U.S. federal income tax return is not necessary.
In case the income is generated from sources outside Puerto Rico and above the U.S. filing threshold, filing a tax return becomes necessary. For anyone moving to the island, the transition is easier as the Puerto Rico tax code mirrors the U.S. Internal Revenue Code.
Even though this may sound alluring, it does not make Puerto Rico a tax-free jurisdiction. Only income sourced from within Puerto Rico is eligible for exemption and tax is applicable on any income sourced beyond Puerto Rican borders.
Besides, residents of the island need to pay local income taxes, as well as property and municipal taxes. The sales tax on the island is also one of the highest in the U.S. In some cases, residents may need to file with the Puerto Rico Department of Finance as well as the IRS.
Puerto Rico Tax Incentives
In 2012, the Puerto Rico government introduced tax incentives in the form of Acts 20 and 22. The goal was to boost the economy by generating revenue as well as more jobs by attracting investors from outside.
In 2019, these two acts were consolidated under the broader law, Act 60. This aims to develop Puerto Rico as an international export service and commerce center. These tax laws helped to infuse the economy with around $210 million between 2015 and 2019. Plus, they generated around 33,000 new jobs.
To start enjoying these benefits, you need to become a “bona fide resident of Puerto Rico,” and make it your permanent home. Simply owning a property on the island is not enough. For businesses, the entire operation should shift to Puerto Rico, and there should be no on-ground workers in the mainland U.S.
Puerto Rico Act 60: Export Services Act
The Act 60-2019, also called the Incentive Code, provides the legal and administrative framework for individuals and businesses interested in taking advantage of the tax incentives. Here are some of the benefits offered to eligible businesses:
- A fixed income tax rate of 4% on eligible income
- An exemption of 50% on municipal taxes
- A 75% exemption from state property taxes
- Up to 50% tax credit on Research & Development (R&D) activities
- The exporters of goods and services can enjoy a 100% exemption on profits and dividends distributed.
- Small and medium-sized businesses with a volume of less than $3 million can enjoy a 100% exemption on property taxes. Beyond that time period, they are eligible for a 75% exemption.
- Manufacturing businesses are eligible for a 100% exemption on excise and sales taxes on specific raw materials, machinery, and equipment.
The “eligible service” categories for tax incentives have been listed in the Act and the exact incentive rules vary depending on the business type. If what you do is beyond these categories, incentives are not applicable. For businesses, the tax exemption period is limited to 15 years. However, a further extension of 15 years is possible.
A business with a projected volume of more than three million should have at least one full-time employee. Likewise, businesses with a decree for manufacturing should have at least three full-time employees.
The Act categorizes businesses with an income of $3,000,000 or less during the previous three years as small and medium businesses or PYMES. Such businesses have to pay a 2% income tax rate during the first five years of operation. They get 100% exemption on property and municipal taxes as well.
Puerto Rico Act 60: Individual Investors Act
The act also mentions tax exemptions for non-residents relocating to Puerto Rico for certain passive income. However, the individual should become a bona fide resident of Puerto Rico on or before the taxable year ending on December 31, 2035. Also, individuals who were bona fide residents between January 17, 2006, and January 17, 2012 are not eligible. Here are some incentives that individuals can enjoy:
- 100% tax exemptions on some passive incomes like interests and dividends
- 100% exemption from federal taxes on income from Puerto Rico sources in accordance with Section 933 of the U.S Tax Code
- 100% exemption from tax on the value appreciation of securities or other assets
- Capital gains from securities or other assets like cryptocurrency are subjected to a 5% income tax rate
Individual residents between 16 and 35 years of age are also eligible for incentives for entrepreneurship. Entrepreneurs interested in establishing a long-term new business in Puerto Rico can enjoy 100% exemption from tax on the first $500,000 of the net income and also on property taxes.
To benefit from the tax incentives, buying residential property in Puerto Rico is not enough for an individual. One needs to make an annual donation of $10,000 to a non-profit organization authorized by the Puerto Rico Treasury.
There are a few caveats that you need to keep in mind. In case you have appreciated assets and securities, including stocks and bitcoin, the pre-move appreciation is U.S. source income and subject to tax.
If you sell real estate in the U.S. before heading to Puerto Rico, that will be fully taxed in the U.S. as well.
Considering a Move to Puerto Rico?
As long as you are ready to retire in Puerto Rico or shift permanently to the island, you can take advantage of the low tax rates. However, you need to check if the incentives are a right fit for your lifestyle and business plans. For some business types, the incentives provided in Act 60 may not be substantial enough.
The benefits of moving your life to Puerto Rico are not limited to tax incentives. You have the advantage of living in a tropical climate while enjoying the scenic beaches and lush landscapes. The island has a rich culture and there are adequate health and educational facilities as well.
If you want a property that offers the best combination of the blue ocean and amenities, The Colectivo Group can help you navigate the purchase process. Our in-depth knowledge of the island allows us to offer an array of real estate options that best suit your unique taste and lifestyle.
Is Puerto Rico a Tax Haven?
Like many other things in life, the right answer is, “It depends.” Technically, Puerto Rico is best classified as a low-tax jurisdiction rather than a tax haven. If you move to Puerto Rico, you are still in the U.S., and there is no expatriation fee. But, thanks to the incentives, you may not need to pay U.S. taxes. From that aspect, it can be considered a tax haven.
If you love to travel to tropical locations and are ready to settle overseas with your family, Puerto Rico is a great option. Make sure that the lifestyle adjustments that you may need to make are worth the tax savings.
The rise in the number of ex-mainlanders in Puerto Rico points out the fact that the island is a popular destination for those who prefer a beach lifestyle.
Does Puerto Rico Have Income Tax?
Puerto Rico does have an income tax for its residents. The Puerto Rican tax system specifies different income tax rates based on an individual’s net taxable income.
Net taxable incomes of below $9,000 are not taxed and the highest tax rate is 33%. Like the rest of the U.S., it follows the worldwide income tax system. This means the residents are taxed no matter where their income is sourced.
What is Sales Tax in Puerto Rico?
A sales and use tax (SUT) is applied to all transactions of taxable items in Puerto Rico. At the state level, the SUT rate is 10.5%. On top of that, a 1% additional tax is imposed at the municipal level. So, the total sales tax amounts to 11.5%.
This sales tax rate is higher than any other state in the U.S. mainland. It is best to check Puerto Rico’s Department of Revenue website to find the list of taxable products.
Final Thoughts
Overall, the tax incentives provided by the Puerto Rican government are powerful motivators for individuals to move to the island. Once you have embraced the technical aspects of the tax incentives in Puerto Rico, be ready for an unparalleled lifestyle in a tropical paradise.
To find the best luxury homes for sale in Puerto Rico and for a streamlined home-buying process, The Colectivo Group can be your top choice. Combining premium service with data-driven knowledge, we are ready to guide you through the process of finding your dream home in Puerto Rico.