Basing the future of Puerto Rico’s economy on an uncontrollable factor, such as an amendment of the U.S. tax code, is not the safest route to take to achieve growth and is not the “silver bullet” the island needs to secure long-term stability, Sergio Marxuach, public policy director of the Center for the New Economy, said Thursday.
His comments referred to the amendment that a coalition of government and private sector representatives are pursuing for Section 933 of the U.S. Internal Revenue Service tax code to add a new subsection “A” that would allow companies incorporated in Puerto Rico deriving at least 50 percent of their gross income from island sources to operate as domestic U.S. companies.
As such, companies would be able to repatriate earnings to their U.S. parent as dividends on which the stateside parent could claim a deduction and receive a special tax rate consideration. At present, many companies do business on the island as controlled foreign corporations (CFCs), which have little or no incentive to repatriate their earnings back to their U.S. parents, as the money is subject to full taxation.
Those defending the proposal have said its approval could shore up some of the $2.5 billion in earnings of U.S. companies abroad back to the mainland, which in turn could be motivated to make new investments and create jobs in Puerto Rico.
Still, Marxuach sees the proposal as a “strategic mistake.”
“As it is designed now, its impact could be positive but not significant. It may help, but it will not pull Puerto Rico out of its economic quagmire. This amendment cannot be seen as the ‘silver bullet’ that will solve the island’s problems,” said the think-tank executive during a roundtable discussion with members of the media.
“Basing the economy on aspects that we cannot control, like we did when we were a sugar-based economy or relied on Section 936 benefits is not advisable,” he said. “Besides, none of the tax code clauses are permanent either, so who’s to say that changes won’t be made down the road?”
Two weeks ago, Resident Commissioner Pedro Pierluisi introduced the so-called “Puerto Rico Investment Promotion Act,” seeking the approval of Section 933A. The initiative has received bipartisan and private sector support on the island.
Upon close analysis, Marxuach said the proposed amendment falls short on a couple of fronts, namely its failure to make a distinction between gross income and real or “active conduct of business” activity in Puerto Rico and the income the company may generate from passive investments. Furthermore, he said the proposal — now known as Bill HR 3020 in Congress — does not require new investment or job creation, and is not limited to manufacturing; any legal economic activity qualifies.
“I know the private sector has said it, but the reality is that there hasn’t been a study released to show the real benefits that Puerto Rico and the U.S. will gain from the amendment,” he said. “On the other hand, President Obama’s plan is to make more companies pay more taxes, and Puerto Rico will have to convince Washington about why they should make an exception.”
Pierluisi knocks on doors
As Marxuach made his remarks, Pierluisi was submitting a letter Thursday to the Joint Select Committee on Deficit Reduction in Congress, outlining the benefits of HR 3020.
“A CFC’s earnings are not subject to any federal taxation until they are received as a dividend by the CFC’s U.S. parent. Firms with CFCs in Puerto Rico — like those with CFCs in other jurisdictions — have little incentive to repatriate CFC earnings because those earnings are subject to full federal taxation once received,” he told the committee lawmakers who are in charge of proposing legislation to reduce the U.S. fiscal deficit by at least $1.2 trillion from Fiscal ’12 to Fiscal ’21.
Amending the tax code could signify that “profits that were previously kept outside of the United States are now more likely to be brought back into the country, where they may be subject to a reduced but still meaningful level of federal taxation,” Pierluisi said in his letter.
The island’s representative in Congress also asked the committee to prepare an official revenue estimate on H.R. 3020, which could shed light on Marxuach’s concern of the measure’s true potential impact.
“If the Committee intends to propose a broad set of measures to promote job creation or reform the tax system, I ask that it consider including HR 3020 as part of any package it puts forward,” Pierluisi noted.