Yesterday, there was concern among economic and industrial sectors on the island over the uncertainty regarding the date the U.S. government will choose to stop granting multinational companies operating in Puerto Rico federal tax credits for what they pay here through Law 154-2010.
"If it is eliminated tomorrow (in the short term), it complicates things. If it can be planned and there is a phase-out period, some years, the impact can be reduced," said Kenneth Rivera, vice president for the Manufacturers Association and former president of the Chamber of Commerce.
Law 154 imposes a 4 percent tax on foreign corporations on the island. The tax brings about $1.8 billion for the Treasury annually, which represents about 20 percent of the central government's budget.
The creation of this tax in 2010 had no economic effect on most foreign companies in Puerto Rico because they could deduct the money they paid from their federal income taxes. In other words, what they paid in taxes in Puerto Rico was deducted in the U.S. That is the discount they want to eliminate.
Economic and tax experts consulted agreed that the issue has the potential to cause some of the factories on the island to start generating losses or less competitive profits than other jurisdictions with similar manufacturing activity.
"If companies cannot take this deduction, there may be a decrease in local production for export, reduce direct foreign investment and limit any other expansion plans of the companies," said economist Antonio Fernos Sagebién.
A drop in production, in most of these cases, implies closing production lines and loss of jobs. And, in this case, they are the highest-paying jobs on the island.
Factories that produce pharmaceutical products, medical devices, biotechnology, and electronics represent the leading foreign manufacturing activity in Puerto Rico, said economist Gustavo Vélez.
"The impact may be different. If the parent company is, let´s say, from Germany (not the U.S.) then the change may have no effect, but, in other cases, it can have a significant economic effect," said Rivera, who is a certified public accountant. Another factor to consider, said the accountant, is the profit margin of the factory and its ability to face the tax change while maintaining its competitiveness in international manufacturing.
The U.S. government's decision to eliminate this federal tax credit or discount was announced Tuesday by the U.S. Treasury Department during a meeting with Governor Wanda Vázquez Garced. The Puerto Rican government should develop a plan for the progressive elimination of the credit. The date to submit the document or when the elimination of the credit will be effective was not revealed.
The U.S. Treasury Department's decision was on the horizon ever since the credit was implemented in 2010 since the initiative was seen as a temporary measure - for about six years - to stabilize the Puerto Rican government's revenues. The island has been going through an economic depression that began in 2006, partly as a result of the elimination of tax incentives in Section 936 of the federal Internal Revenue Code, that was repealed in the mid-1990s (effective in 2006).
In fact, the original Law 154 reduced the tax rate each year until the tax was eliminated. This, however, was amended in 2013 by former Governor Alejandro García Padilla to extend the tax. Now former Governor Ricardo Rosselló Nevares did the same when he arrived at La Fortaleza in 2017.
Rivera explained that the initial expectation was that the tax would evolve into a tax on corporation's revenues and not on the sales they generate, as it is today. Under the current U.S. tax system, a tax on profits could be deducted by up to 80 percent in federal taxes.
The problem, Rivera said, is that it is not clear how much this tax would represent for the Puerto Rican government or how it would impact foreign corporations operating on the island under the Controlled Foreign Corporations (CFCs) tax regime.
"If they haven't made the change, I guess it's because they raise more money with the tax," Rivera said.
Sources said the government even prepared a plan, which had federal approval, that included amendments to the tax decrees negotiated with these companies; increases in the tax rate on income and the elimination of Law 154. "Revenues did not change," the source said.
The plan, however, was never executed and already would have to be adjusted to the provisions of the 2017 federal tax reform.
That reform, in fact, already represented a threat to foreign manufacturers affected by the U.S. tax reform that imposes a tax on the profits produced by intangible goods. This threat is included in the current fiscal plan, which highlights Treasury projections that anticipate an accumulated drop by 42 percent in revenues through Law 154 by 2023.
The problem partly arises because most of that tax is paid by a handful of factories. "They are few and they pay a lot of taxes, and if half of them leave it will mean a big impact on the government and the economy," Rivera said. The accountant said federal tax changes could lead the government of Puerto Rico to stop receiving hundreds of millions of dollars in revenues.
In the past, such imbalances have resulted in tax increases, like the 11.5 percent increase in the Sales and Use Tax (SUT), and cuts in expenses, resulting in massive school closures in 2017 and 2018.