Tax Alert: Act 52-2022 – Technical Amendments – 2011 Puerto Rico Internal Revenue Code
February 7, 2023
Act 52: AMENDMENTS TO THE 2011 PUERTO RICO INTERNAL REVENUE CODE
On June 30, 2022, the Governor of Puerto Rico signed Act No. 52-2022 (Act 52) to introduce various technical amendments to certain provisions of the 2011 Puerto Rico Internal Revenue Code, as amended (PR Code).
Following is a summary of the technical amendments:
ENGAGED IN TRADE OR BUSINESS (Remote Worker Provisions)
For taxable years beginning after December 31, 2021, the term “engaged in trade or business in Puerto Rico” excludes activities performed by a remote worker, as long as the employer:
1) at no time during the taxable year had an office or other fixed place of business in Puerto Rico;
2) at no time had an economic nexus with Puerto Rico;
3) is not registered as a merchant for sales and use tax purposes;
4) the remote worker is not an officer, director or majority shareholder of the taxpayer;
5) the services rendered are for the benefit of clients or businesses of the taxpayer that do not have a connection with Puerto Rico; and
6) wages paid to the remote worker are reported on a Federal Form W-2 or on a Form 499R-2/W-2PR.
Remote worker is an individual who performs services as an employee for the benefit of a non-resident person that complies with the above requisites. For these purposes, the term non-resident person includes: 1) an individual who is not a resident of Puerto Rico; 2) a trust whose beneficiary(ies), settlor(s) and trustee(s) are not residents of Puerto Rico; 3) an estate who’s deceased, heir(s), legatee(s) or executor(s) are not or have been residents of Puerto Rico; or 4) a foreign entity.
Wages paid to a remote worker are not subject to income tax withholding at source, nevertheless, the remote worker is required to pay estimated taxes.
SUBSTITUTE TO THE 4% EXCISE TAX ON FOREIGN AFFILIATED ENTITIES
Act 52 extends indefinitely the validity of the 4% Excise Tax imposed by Act 154 of 2010. However, incentive laws covering manufacturing activities (such as Act 135 of 1997, Act 73 of 2008, and Act 60 of 2019) were amended to introduce a new optional fixed tax rate in substitution of the Excise Tax and the special sourcing rules that apply to members of a controlled group that requires, in some instances, filing an income tax return.
To this end, exempt manufacturing entities may choose to pay taxes over the sale of the manufactured products to foreign affiliates at an “alternate tax rate” of 10.5%, instead of the current income tax rate set forth in their tax exemption decrees. As of the effective date determined for the election, no member of a controlled group of the exempt business, who has chosen to pay taxes at the optional 10.5%, will be subject to the Excise Tax and the requirement of filing an income tax return.
COMPLIANCE CERTIFICATES – ACT 60-2019
Act 52 expands and clarifies the existing compliance rules under Act 60-2019. The Department of Economic Development and Commerce (DDEC), as part of the monitoring of whether tax incentive grantees comply with the terms of the grant, will issue a Compliance Certificate. The certificate will be valid for two years and will be the only legal document that will validate that the taxpayer has complied. If the taxpayer does not have a valid Compliance Certificate, the taxpayer’s tax grant will be suspended until the taxpayer can satisfy the requirements highlighted by the DDEC.
This provision establishes the concept of the “Compliance Professional” who will be the person responsible for issuing the Compliance Certificate following the guidelines/requirements imposed under regulations issued by the DDEC. Section 6011.04, of the Act 60, indicates that the Compliance Professional will be a CPA or Licensed Attorney authorized to perform its professional activities in Puerto Rico.
ADDITIONAL CHANGES TO PUERTO RICO INCENTIVES CODE
New Credits System: Act 52 authorizes the Secretary of the PR Treasury to create a tax credit management system (Tax Credit manager or TCM) as part of the PRTD’s electronic platform. There will be interagency coordination to register the tax credits in the TCM system. Under the new provisions, any unused tax credits granted before the TCM implementation date will be limited to a three-year use period after the TCM implementation date (unless the credits expire before that date). Tax Credits granted after the TCM implementation date must be registered in the TCM for taxpayers to claim the credits. The system will be implemented at a future date as determined by the Secretary.
AUDITED FINANCIAL STATEMENTS
For taxable years beginning after December 31, 2019, a member of a group of related entities with a volume of business of three million ($3,000,000) dollars or more must submit audited financial statements (“AFS”) when the combined volume of business of the group is equal to or greater than ten million ($10,000,000) dollars.
Disregarded entities will not be required to file AFS for income tax purposes. The volume of business of a disregarded entity, however, should be attributed to its owner.
Act 52 establishes a sunset to the requirement to file the supplemental schedules for most type of entities. For tax years commencing before January 1, 2023, taxpayers that must file AFS or that elect to file AFS must continue submitting the supplemental schedules. Effective for years commenced after January 1, 2023, and thereafter, the requirement to file supplemental schedules is limited to only three circumstances: certain construction businesses, hospital units operating under Act 168-1968, and certain financial institutions.
Estimated Tax Payments: Corporate taxpayers with an income tax liability, including AMT, greater than one thousand ($1,000) dollars will be subject to estimated tax payments.
For taxable years beginning after December 31, 2022, Corporations with Grant of Tax Exemption pursuant to Act 60-2019, or any other previous law of similar nature, may elect to pay the first income tax estimated installment with the second installment on or before the fifteenth (15th) day of the sixth (6th) month of the taxable year.
Alternative Minimum Tax: The Puerto Rico Treasury Department (PRTD) clarified that for taxable years beginning after December 31, 2018, the alternative minimum tax rate of twenty-three (23%) percent applies solely to corporate taxpayers with a volume of business equal to or greater than ten million ($10,000,000).
Optional Tax for Partnerships Rendering Services: For taxable years beginning after January 1, 2023, taxpayers (partners) may elect the optional tax even if there is a balance due with the partnership income tax return (withholding is due on the distributable share of income).
Conversion to Corporations: A pass-through entity that chooses to revert its election and wishes to be taxed as a corporation will be treated as if it contributed all the assets and liabilities to a new corporation on the last day of the taxable year treated as a pass-through entity. Immediately thereafter, the pass-through entity is liquidated by distributing the shares to the new corporate partners. The tax consequences of this election are governed by Section 1034.04(b)(5) and 1073.01 of the PR Code.
Sale of Partnership Interest: For taxable years beginning after June 30, 2022, any gain derived by a foreign corporation or non-resident alien individual from the sale, direct or indirect, of an interest in a partnership which is engaged in a trade or business in Puerto Rico, will constitute income effectively connected with a trade or business in Puerto Rico in an amount equal to the distributable share of the foreign corporation or non-resident alien on the gain the partnership would have generated had it sold all of its assets at market value. The gain will be subject to the 15% withholding tax at source to be effectuated by the purchaser.
DISREGARDED ENTITIES (DRE)
Act 52 introduces the disregarded entity concept (DRE) for income tax purposes. Under this provision, an entity treated as DRE is not required to file a separate income tax return from its single member. Instead, the member must include the DRE’s income and expenses in its own tax return using the same tax year and accounting methods as the DRE. In this instance, the owner must comply with the audited financial statements requirements imposed by the PR Code. Under the general definition of limited liability companies (LLCs), the legislation states that DRE treatment is available to LLCs owned by a Puerto Rico resident individuals for tax years beginning after December 31, 2021.
For tax years beginning after December 31, 2022, LLCs with one sole member that taxes as DREs in the United States or their place of organization outside of Puerto Rico will be disregarded in Puerto Rico and will not be eligible to be taxed as corporations.
DREs must comply with other filings such as Property Tax and the Volume of Business Declaration.
Foreign Financial Account Reporting Requirements: Puerto Rico resident individuals must file, together with their individual income tax return, a declaration detailing financial accounts maintained outside of Puerto Rico or the United States with a value that exceeds ten thousand ($10,000) dollars during the tax year. Financial accounts include bank accounts, crypto assets accounts, certain insurance policies or investment accounts. Taxpayers with a financial interest in foreign financial accounts must report the name of the institution, maximum value of the account during the tax year and the account number. The Secretary of the PR Treasury may request additional information through regulations. Taxpayers should file the form with their income tax returns. Failure to report a foreign financial account may result in a $10,000 penalty and a misdemeanor.
Optional Tax for Self-Employed Individuals: The optional tax on services may now be paid on the filing date of the income tax return, without extensions. This change is effective for the taxable year 2022 in case of individuals.
SALES AND USE TAX
Act 52 amends various sections of the PR Code to incorporate the term digital products as a taxable item, and to establish the sourcing rules for the sale of digital products.
Digital Products: Includes items that can be acquired through streaming, either by purchase or subscription; video, pictures, electronic equipment applications, games, music, computer programs or any other item of a similar nature that is delivered to the buyer electronically or digitally; Specific Digital Products and Other Digital Products. “Specific Digital Products” includes: any transferred digital audiovisual work, digital audio works, or other digital products, to the extent a digital code is provided to the purchaser with the right to obtain the product, including non-fungible tokens (“NFT”). “Other Digital Products” include greeting cards, images, video or electronic games, memberships in electronic groups to obtain exclusive electronic or audiovisual data, including, but not limited to theatrical products, musical products, including concerts or videos, audiovisual material with adult content, news or information products, digital storage products, computer software applications and any other product that could be considered a digital product, whether electronic or digitally delivered, transmitted or accessed.
Sales and Use Tax Sourcing Rules: For the sale of digital products, the source of income will be the buyer’s physical address. If the buyer’s physical address is not available, the source of income will be the postal address. If physical or postal addresses are not available, the bank account or credit card of the buyer or of the financial institution branch where the bank account is registered should be used. If the bank account cannot be attributed to a specific branch or location, the source of the charges will be the headquarters of the financial institution.
This Act was effective immediately after the Governor’s signature, except when specifically provided otherwise, as mentioned above. Note that some of the provisions have retroactive effect, therefore, taxpayers must evaluate the need to amend any tax return or form.
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