U.S. Tax Reform Could Have Detrimental Effects on Puerto Rico

By: Giselle Carratala

On December 22, 2017, the U.S. tax reform bill known as the Tax Cuts & Jobs Act (“TCJA”) was signed into law. Introduced in the House less than two months earlier, most of the provisions of the TCJA went into effect on January 1, 2018. Generally, the TCJA will benefit U.S. companies with significant U.S. operations, which will profit from rate reductions and accelerated expensing, as well as U.S. multinationals. Such U.S. multinationals now will be allowed to repatriate hundreds of billions of dollars of earnings accumulated offshore at reduced tax rates of up to 15.5%. On the other hand, non-U.S. multinationals with material U.S. operations will encounter new rules that seek to curtail historically accepted means of repatriating profits from the United States without incurring significant U.S. tax costs.

Buried in the most significant tax reform package enacted since 1986 is a provision that could severely impact Puerto Rico, which is already suffering from crippling debt and losses of up to $72 billion from Hurricane Maria. The TCJA includes a new 12.5 percent tax on profits derived from intellectual property held by foreign companies. The provision is part of the TCJA’s overall goal of inciting companies to move back to the United States by making it more expensive to operate outside of the United States.

However, the provision could hurt Puerto Rico because the U.S. territory is not treated like a U.S. state under the federal tax code. Thus, while the provision aims to bring back jobs to the United States from foreign jurisdictions, it could also have the unintended effect that jobs held by Puerto Ricans (which are U.S. citizens), could be relocating elsewhere.

A massive relocation could be disastrous for the island, given that mainland companies make up about a third of Puerto Rico’s tax base, and employ about 250,000 Americans either directly or indirectly in the island. These companies include 12 of the top 20 medical device companies, and the same share of top biotech and pharmaceutical companies.

Puerto Rico’s fear that these companies might choose to relocate is reminiscent of the past. U.S. medical manufacturing companies first relocated to Puerto Rico in the 1970s, after a tax break was enacted to allow these companies to avoid corporate taxes on profits made in the U.S. territory. In the 1990s, the provision (Section 936) received strong opposition and was attacked as a form of corporate welfare. In 1996, President Bill Clinton signed the law to phase out the provision over 10 years. During the decade that the phase out took place, the island lost close to 40% of its manufacturing job base.

However, some affirm that the impact of the U.S. tax reform on Puerto Rico will be much less muted than what has been speculated. “We’ve not heard from a single company, and in fact, every one of these entities involved in Puerto Rico has told us they’re in favor of the tax bill. And a few have told us — especially on the pharmaceutical side — that their general sense of it is that moving would make no sense, because it’s not clear that there’s any other jurisdiction in the world that’s more advantageous logistically and from a tax perspective,” said Florida Senator Marco Rubio in an interview with reporters.

Though it is too early to determine what impact the U.S. tax reform will have on the island, one fact remains indisputably accepted—2017 was a disastrous year for the people of Puerto Rico.



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