Puerto Rico Planning New Corporate Tax to Replace Excise Levy

  • Officials seeking to create new federally-creditable tax
  • New levy would tax manufacturers based outside of Puerto Rico

Puerto Rico officials are looking to replace an expiring tax with a new levy to draw much-needed revenue from the world’s best-selling medications while seeking to avoid driving U.S. manufacturers from the commonwealth.

The Caribbean island is in discussions with its U.S.-based and multinational manufacturers to replace the excise levy that those businesses pay with a permanent corporate tax that would be a credit against the companies’ federal taxes, according to Antonio Medina, executive director of Puerto Rico’s Industrial Development Co., known as Pridco, a government agency established in 1942 that seeks to expand manufacturing on the island.

“Our plan is to develop legislation to transition companies out of the excise tax into other tax regimes that are creditable by nature,” Medina said in an interview at his office in San Juan. “We have to do it in a way that is accepted by the companies rather than forced.”

The five biggest payers of the excise tax with factories on the island are Amgen Inc., Lilly del Caribe, part of Eli Lilly & Co.,  Pfizer Inc., Microsoft Corp. and AbbVie Inc., according to Victor Suarez, chief of staff for Governor Alejandro Garcia Padilla. The 4 percent tax on sales is set to expire in December 2017. The revenue accounts for 20 percent of the island’s budget.

Levy Extension

Officials are seeking to extend the excise levy for five years while they work with manufactures to create a permanent corporate tax that could be credited against federal taxes, Medina said.

“It’s very important that whatever ends up being the new tax here remains creditable so it doesn’t become a net additional cost to the operations of the manufacturers,” Carlos E. Serrano, a tax attorney who advises pharmaceutical companies at Reichard & Escalera law firm in San Juan said in an interview.

The planned tax change comes as Puerto Rico and its agencies seek to restructure $73 billion of debt after the governor in June said the commonwealth was unable to repay all of its obligations. The administration wants to delay debt-service payments and reduce the debt load to help revive an economy that’s failed to grow since 2006.

The commonwealth needs to replace the excise levy because while the Internal Revenue Service currently allows it to be credited against federal taxes, that may change if Puerto Rico were to make it a permanent fee. Income and royalty withholding taxes fit into the IRS’ criteria of creditable taxes, Medina said. As long as the manufacturers can apply commonwealth fees against federal taxes, the companies are willing to continue operating on the island, Medina said.

General Fund

Puerto Rico relies on the levy. It accounted for $1.9 billion of the $9.4 billion of general-fund revenue in the budget year that ended June 30, according to commonwealth Treasury data. The revenue is highly concentrated, with 10 companies paying 90 percent of that $1.9 billion, Medina said.

“We need to make sure that our critical revenue base is amicable to the changes that we implement,” Medina said.

The governor is up for re-election in November 2016. Having a new U.S. corporate tax in the time period would be ideal, Medina said.

To give the commonwealth sufficient time to craft a new levy, officials are looking to extend the 4 percent excise tax for five years to 2022. The IRS has told the Garcia Padilla administration that it would continue to allow a federal credit during the additional five years, Medina said.

IRS Review

“What they told us is that they’re willing to accept that extension while we find an alternate way to tax companies,” Medina said.

The IRS is continuing to review Puerto Rico’s excise tax, according to a Treasury spokesman.

After federal tax incentives for non-Puerto Rico manufacturers ended in 2006, the commonwealth implemented local laws to encourage biotechnology, pharmaceutical and aerospace companies to expand or open facilities on the island. That has resulted in companies pledging from January 2013 through August 2015 to create 23,542 jobs, including 8,358 new hires during that period, according to Pridco.

Seven of the world’s 10 top-selling drugs are made in Puerto Rico, according to Pridco. Those include Humira, which treats arthritis, and Crestor, a medication that lowers cholesterol. Twelve of the top 20 biotechnology and pharmaceutical companies have a presence on the island.

While the number of manufacturing jobs on the island dropped to 74,400 in August from 113,400 10 years earlier, the pace of the decline has slowed since mid-2013, according to Bureau of Labor Statistics data.

Puerto Rico’s economy has contracted since 2006, the end of a 10-year phase out of federal incentives that allowed manufacturers outside of Puerto Rico tax-free U.S. income for operations on the island. That created a loss of about 270,000 jobs between 1996 through 2014, Melba Acosta, president of the commonwealth’s Government Development Bank, which oversees the island’s debt sales, told a Senate Finance Committee on Tuesday.

“You need to make sure that the current manufacturing base remains on the island and continues to be competitive,” Serrano said.

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