On April 16, 2020, the Governor of Puerto Rico, Hon. Wanda Vazquez Garced, signed into law Act No. 40-2020, which amends several important provisions of the Puerto Rico Internal Revenue Code of 2011 (the “PR Code”), among other special laws, as part of the measures taken to provide relief during the ongoing Covid-19 pandemic .

The following summarizes the most relevant provisions Act No. 40-2020 (previously House Bill 2419).

Note – The discussion below does not contemplate extensions for filing and payment requirements that have been provided by Administrative Determinations of the Secretary of the Treasury in connection with COVID-19. See https://www.oneillborges.com/client-alerts/ for our Newsletters and Client Alerts regarding such extensions.  In addition, the discussion below does not contemplate certain changes made by Act 40-2020 that will be covered in subsequent Clients Alerts.

 

Income Tax Changes Relevant to Entity Taxpayers

• Alternative Minimum Tax for Corporate Taxpayers- For taxable years commencing after December 31, 2018:
  • The filing of an informative return reporting water and electricity payments will not be required to deduct such payments in the determination of AMT income.
  • The requirement to include audited financial statements with the PR Income Tax Return as a condition to deduct ordinary and necessary business expenses in the computation of AMT income applies regardless of the volume of business of the corporation.
• Optional Tax for Service Corporate Taxpayers-
  • Now only 80% or more (instead of 100%) of gross income must be derived from the rendering of services in order to qualify for the optional tax.
  • For the taxable year commencing after December 31, 2018 and ending before January 1, 2020 a taxpayer will be permitted to select the optional tax for service corporations even if the taxpayer owes a balance of income tax , provided such balance is paid no later than the due date to file the income tax return, without considering any extension.
• Disallowance of Expenses paid to Related Parties-
  • Waivers from the 51% deduction disallowance applicable to partnerships, special partnerships, corporations of individuals or corporations, with respect to payments to home office or related parties will not be considered or granted for taxable years commencing after December 31, 2018.
  • The 51% disallowance will not apply if the taxpayer submits a transfer pricing study in accordance with the requirements under Section 482 of the US Internal Revenue Code. The requirement that the transfer pricing study be approved by the IRS was eliminated. The possibility of submitting a transfer pricing study in accordance with the requirements of the Organization for Economic Co-operation and Development (OEDC) when none of the members of the group of entities do business in the United States was eliminated.
  • A previously approved waiver from the 51% disallowance that is effective for taxable years after December 31, 2018 will be accepted in substitution of the transfer pricing study.
• Conduit Entities and Limited Liability Companies-
  • The provisions of non-taxable corporate reorganizations will apply to certain transfers of property and/or membership interests between a partnership and a special partnership or a partnership and a corporation of individuals as if such entities were corporations.
  • The liquidation of a special partnership or a corporation of individuals and the subsequent contribution of all its assets and liabilities to a new or existing partnership will be treated as tax-free exchange.
  • A conversion of a corporation to a limited liability company and election to be treated as a partnership will be effective from the first day of the tax year when the conversion was effective. The conversion will not be treated as reorganization under the provisions of Section 1034.04(g) of the PR Code.
• Exempt Organizations–
  • Secondary Entities that form an integral part of the operations of other exempt non-for-profit entities may now qualify for exempt organization status. The term “Secondary Entities” means entities that are subsidiaries of, related persons to, or that are under the control and supervision of one or more Primary Entities, and that provide services that form an integral part of such Primary Entities, such as management and administrative services, fund investment management, among others. The term “Primary Entities” means entities which are classified as religious entities or organizations that render services to the community (i.e. charitable, scientific, literary, educational services etc.).
  • The Secretary of Treasury is authorized to approve and grant an exemption to entities that have been recognized as non-profit entities under Section 501(c)(3) of the US Internal Revenue Code even if such entities do not form part of the list of non-for-profit exempt entities in Puerto Rico.

 

Income Tax Changes Relevant to Individual Taxpayers

• Separate filing– An “individual taxpayer” now includes a married individual that executed a separate property agreement, either before or after the marriage, providing for the complete separation of assets. Taxpayers with separate property agreements executed after the celebration of their marriage will be treated as if their marriage ended as of the effective date of such separate property agreements.
• Regular Tax- For taxable years commencing after December 31, 2019, and for those individuals with a gross income that does not exceeds $100,000, the tax liability will be 92% of the otherwise applicable tax.
• Alternative Basic Tax- For taxable years commencing after December 31, 2018 the following changes to the alternative basis tax (“ABT”) were made:
  • The list of exemptions and deductions that may be considered to determine the net income subject to ABT includes the first $40,000 of salaries and compensation for services rendered, or self-employment work derived by young workers (those between the ages of 16 to 26 years), as well as the personal exemptions and dependent deductions.
  • An informative return is no longer required to deduct water and electricity payments when said payments are ordinary and necessary business expenses.
  • The ABT provisions will not apply to individuals whose only source of income is from exempt pensions.
  • For taxable years commencing after December 31, 2019, an individual whose volume of business is less than $1,000,000 will be permitted to deduct ordinary and necessary business expenses to determine the net income subject to ABT if the individual submits a due diligence checklist provided by the Puerto Rico Treasury Department, sworn by an Accredited Tax Specialist Agent (as defined below) that complies with the requirements established under the PR Code, in substitution of the Agreed Upon Procedures or Compliance Attestation prepared by a CPA.
• Optional Tax for Self-Employed Individuals-
  • Now only 80% of gross income must be derived from services for this election to be available.
  • For the taxable year commencing after December 31, 2018 and ending before January 1, 2020 a taxpayer will be permitted to select the optional tax for self-employed individuals even if the taxpayer owes a balance of income tax to the extent such balance is paid no later than the due date to file the income tax return, without considering any extension.
  • For taxable years commenced after December 31, 2018, each spouse may claim this optional tax.
• Credits-
  • The Earned Income Credit is now available to individuals of 65 years of age or more.
  • The Secretary of Treasury will have 30 days, from the date the taxpayer claims the tax credit applicable to low income persons of 65 years of age or more, to issue the payment related to such credit.
• Deductions-
  • The distributive share of the income of a partnership or corporation of individuals, that is subject to the optional tax for services will not be considered as adjusted gross income for purposes of calculating the limitation in the deduction for interest paid or accumulated on residential property.
  • For taxable years commencing after December 31, 2018, the capital losses that can be carryover to subsequent taxable years is increased from 80% to 90% of the net capital gains generated in the taxable year to which such losses are being carried over.

 

Tax Returns and Payments

Due dates and extension periods for certain returns have been changed, as follows:

• Estimated Payment for individuals and corporations- For taxable year 2020, the due date for the payment of the first installment of estimated payment applicable to individuals and corporate taxpayers changed to May 15, 2020.
• Estimated tax payment by Conduit Entities:
  • The Secretary may extend the time for partnerships, special partnerships and corporations of individuals to make their estimated payment due with the filing of the informative returns for a term not to exceed 6 months from the due date of the filing of the informative return (e.g. March 15^th).
  • For taxable years commencing after December 31, 2018 and ending before January 1, 2020, partnerships, special partnerships and corporations of individuals that request an extension of time for the payment of their estimated tax will be granted an automatic extension until May 15, 2020.
• Insurance Companies-
  • For taxable years commencing after December 31, 2018, the due date for filing the income tax returns of these taxpayers and the payment of the tax liability was changed to the 15^th day of the 6^th month following the close of the business year.
  • In the case of insurance companies and for taxable years commencing after December 31, 2016, the automatic extension of time to file the return is 6 months from the due date for filing the return.
• Exempt Entities-
  • For taxable years commencing after December 31, 2018, the due date for filing the income tax returns of these taxpayers and the payment of the tax liability was changed to the 15^th day of the 6^th month following the close of the business year.
• Trust and Estates-
  • For taxable years commencing after December 31, 2016, the automatic extension to file the income tax returns is 6 months from the due date for filing this return (e.g. 15^th day of the 4^th month following the close of the taxable year).
  • Grantor trust reports will be also extended if the automatic extension to file the annual report was requested.
• Tax Exempt Entities under Act 60-2019 and previous incentives laws-
  • For taxable years commencing after December 31, 2018, the due date for filing income tax returns and paying the income tax liability of tax exempt corporations operating under the provisions of Act 60-2019 and previous incentives laws is June 15 (in the case of a calendar year taxpayer) and the 15^th day of the 6 month following the close of the tax year (in the case of fiscal year taxpayer).
  • This new due date will not apply to individuals and conduit entities.
• Payment Extension–
  • Certain calendar year taxpayers (individuals corporations and estates) that request to the Secretary of Treasury an extension of time to file their 2019 PR income tax return will be granted a 30-day automatic extension to pay the corresponding income tax liability.
  • For taxable years commenced after December 31, 2018, exempt organizations, insurance companies and entities operating under a grant of tax exemption pursuant to Act 60-2019 or previous incentives laws may pay their income taxes on or before the new due dates for the filing of their income tax returns.

 

Audited Financial Statements and Supplementary Reports

For taxable years commencing after December 31, 2019:

• The requirement to include audited financial statements with the income tax returns will apply to entities with a volume of business of $10 million or more. Businesses with volume equal or more than $3 million but lower than $10 million will have the option to submit, instead of audited financial statements, an Agreed Upon Procedures or Compliance Attestation prepared by a PR license CPA. The limitations to the deductions for ABT and AMT purposes will not apply if such reports are filed.
• All entities that generated a volume of business equal or more than $1 million and that form part of a group of related entities with an aggregate volume of business of $10 million are required to file combined or individual financial statements audited by a PR licensed CPA.
• A business whose volume of business is more than $1 million but not more than $10 million will have the option to submit the supplementary information included in Section 1061.15 of the PR Code. If the business makes such election it will have the right to request and obtain a total waiver from the 10% income tax withholding at source applicable for services rendered.
• Regulations regarding the audited financial statement, the Agreed Upon Procedures and Compliance Attestation will have to be issued by the Secretary of Treasury, with the advice of the CPA Association, on or before September 30, 2020.
• The reconciliation between payments subject to informative return requirement and the corresponding expenses for a payer under the accrual method is no longer required if such payer submits audited financial statements and required supplemental information with the PR income tax return. This applies with respect to payments for services subject to withholding, payments to nonresidents or foreign corporations, and other payments subject to informative requirements.
• The Municipal Property Tax Act has been amended to correlate the audited financial statement requirement for the personal property tax return with the requirements established under the PR Code.

 

Informative Returns

• Reports for Payments in Excess of $500- For taxable year 2019, the due date for filing the informative return in connection with payments made in excess of $500 (or less than $500 for purposes of calculating the alternative minimum tax and the alternative basic tax) is March 31, 2020.
• Advertisement, Insurance Premiums, Telecommunication Services, Internet and Television Access-
  • The responsibility to file an annual informative return for payments related to advertisement, insurance premiums, telecommunication services, internet and television access is applicable to payments made after December 31, 2019.
  • The person responsible for the filing of the informative return is the service provider.
  • The responsibility of filing the informative return is only applicable with respect to commercial clients.
  • In the case of any taxpayer that used a residential account to access the services described herein for a business activity must request to the service provider the annual informative return in order to be eligible to deduct such expenses in his/her alternative basic tax calculation.
  • The Secretary of Treasury has the discretion to waive any taxpayer from the requirement of filing the annual informative return if such taxpayer does not customarily receive the information required to complete such annual informative return (i.e. commercial client’s address, EIN etc.).
• Penalties– The penalties for failure to file informative returns will not apply to informative returns required by Section 1063.01 whose amount informed is less than $500 or in respect to any expenses for which the PR Code does not require the filing of an informative return but the taxpayer voluntarily submits an informative return to claim a deduction for purposes of the ABT or AMT without the requirement an Agreed Upon Procedures or Compliance Attestation prepared a CPA with license to practice in Puerto Rico (i.e. services rendered outside of PR, utilities, professional education, maintenance fees, etc.).

 

Income Tax Withholding Obligations

• Salaries-
  • Compensation payments made after December 31, 2018 in connection with agricultural work services, housekeeping services, minister services and compensation for dismissal from employment will be considered as salaries not subject to withholding at source but must be informed in the W-2.
  • Taxpayers that only have the responsibility of informing salaries not subject to withholding for agricultural work services, housekeeping services, minister services and compensation for dismissal from employment will not have the obligation of filing quarterly payroll returns.
• Indemnification Payments-
  • Indemnification payments made to an individual nonresident of Puerto Rico that is a citizen of the United States will be subject to 20% income tax withholding at source (29% withholding in the case the individual is not a citizen of the United States).
  • Indemnification payments made to foreign corporations not engaged in trade or business in Puerto Rico will be subject to a 29% income tax withholding at source.
  • A waiver from the withholding obligation may be granted with respect to indemnification payments.
• Services- Continuing education services are excluded from the application of this withholding.
• Nonresidents Individual Income- A discretionary waiver from the income tax withholding applicable payments made nonresident individuals in connection with the sale of its membership interests in a partnership.

 

Sales and Use Tax (SUT)

Effective July 1, 2020

• Designated professional services and services rendered to other merchants (“Business-to-Business Services”) rendered by a person whose volume of business does not exceed $300,000 will not be subject to the 4% Special SUT.
• Merchants dedicated to commercial, industrial, and residential construction projects will be permitted to use the cash basis accounting method for SUT reporting purposes.

 

Effective April 16, 2020

• The requirement that at least 85% of the units of a resident association, homeowners association or cooperative be used for residential purposes, in order for services to such associations to be exempt from the sales tax on Business-to-Business Services and Designated Professional Services, has been eliminated.
• Medicinal cannabis products are expressly excluded from definitions of exempt food, prescription drugs or medical equipment.
• The SUT collected by seller (including a non-withholding agent that entered into an agreement with Treasury to voluntary collect and remit the SUT) may be deducted in the Declaration of Importation of the buyer.
• Health service facilities exempt from income taxes under the provisions of Section 1101.01(a)(2) of the Code are exempt from the SUT on the rental of machinery, medical-surgical materials, supplies, articles, equipment, and technology exclusively used to provide health services.

 

Marketing facilitator/marketing seller

• “Marketing facilitator” or “marketing seller”, as defined in the new provisions of the PR Code, are considered “merchants”. Sales after December 31, 2019 by marketing facilitators who carry out one of the activities listed in the new provisions of the PR Code will be subject to the obligation to collect and remit sales taxes.
• A marketing facilitator or a market seller is a person that sells and delivers or causes the delivery of tangible personal property from any state or foreign country to any person in Puerto Rico through an internet link, for use, consumption or distribution in Puerto Rico or for storage to be used or consumed in Puerto Rico.

 

Other Provisions

• Tax credits–
  • The maximum amount of tax credits that may be granted for fiscal years 2019-2020 and thereafter, under the Puerto Rico Conservation Easement Act, decreased from $10,000,000 to $3,000,000 with respect to requests for an administrative determination filed on or after July 1, 2019.
  • Tax credits under the Act for Revitalization of Urban Centers (Act 212) limited to requests submitted by December 31, 2019 and such statute is revoked.
• Definition of engaged in trade or business– The term “trade or business” in Puerto Rico will not include the trading in commodities, including hedging transactions, by a foreign person through an independent resident agent (e.g. broker or resident agent) or for its own benefit, except in the case of dealers.
• Accredited Tax Specialist Agent- A new Accredited Tax Specialist Agent Register is created. The PR Treasury Department will start to receive applications to be an Accredited Tax Specialist Agent starting August 1, 2020.
• Professional Service Contracts-For any professional service contract with the Government of Puerto Rico in place as of April 1, 2020 and thereafter, the 1.5% special tax will not apply if the aggregate total amount of such contract does not exceed $300,000 (previously $50,000).

 

Amendments to Tax Incentives Code (Act 60-2029)

• Resident Investor Individuals-
  • Amends the definition of “Resident Investor Individual” to provide that such definition does not include an individual that was a resident of Puerto Rico for the period of January 17, 2006 to January 17, 2012.
  • The Exempt Annual Report of a Resident Investor Individual must be accompanied with evidence of having made a minimum annual contribution of $10,000 destined to non-for-profit entities operating in Puerto Rico. The first $5,000 must be destined to non-for-profit entities that render services to eliminate child poverty which are listed in a publication issued by a special commission of legislative funds for community impact on or before December 31 of every year.
  • Filing fees for the Exempt Annual Reports filed by Individual Resident Investor have been increased from $300 to $5,000.
• Alternate Energy- included in eligible activities and benefits.
• Tax Credits-
  • Tax exempt businesses which possess a transferable tax credit, granted under Act 60-2019 or any previous tax incentive act, will have the option to elect to assign such tax credit to the Government of Puerto Rico in exchange for a refund of:
    • 90% of the face value of the tax credit (after June 30, 2021)
    • 85% of the face value of the tax credit (on or before June 30, 2021)
  • The maximum amount of refunds for each fiscal year of the Government of Puerto Rico is $40,000,000.
• New due date for Exempt Annual Reports-The new due date for filing the Exempt Annual Report will be on or before November 15 following the close of the natural year (in the case of Exempt Businesses with a natural year) or on or before the 15^th day of the eleventh month following the close of the taxable year (in the case of Exempt Businesses with a fiscal year).

 

Note that as part of the amendments to the PR Code, the exemptions from gross income relating to compensation to eligible researchers or scientists working for the University of Puerto Rico and for operations in the Science and Technology district, as well as rents from the lease of existing buildings in the Historic Zone of San Juan were limited to taxable years prior to 2020. However, these exemptions are now contemplated as part of the Incentives Code.

Corporate Annual Reports with Department of State

• For corporate annual reports corresponding to the year 2019 and thereafter, the PR Department of State may:
  • Grant an automatic extension of time for its filing of two (2) months from April 15 or any subsequent date determined by the Secretary of State, if corporation requests the extension and pays the corresponding fees before the due date for the filing of such corporate annual report; and
  • Grant an extension of two (2) additional months, if requested by the corporation before the expiration of the first extension of time and the corporation pays the corresponding fees.

For any questions or inquiries regarding this topic do not hesitate to contact us at info@oneillborges.com or your prime contact attorney at O’Neill & Borges.