A 3-Minute Guide to Puerto Rico’s Act 20 and Act 22
- Posted: February 18, 2019
- Posted by: Sheila Olson
- Last Reviewed: July 15, 2019
Editor’s note 7/15/19: There are major changes coming to Act 20/22 for applications submitted after 12/31/19; you can read about those changes here.
You’ve probably heard about Puerto Rico’s status as a top tax haven, but what you don’t know is exactly how Act 20 and Act 22 can help you keep more of your money. Fortunately, these two Acts are fairly straightforward; this guide lays out the basics.
Act 20 for businesses
Business owners who move a service-based business to Puerto Rico get significant tax advantages when income generated is from customers outside of Puerto Rico. Specifically:
- Flat 4% corporate income tax rate
- Tax-free distributions from dividends and profits
- 60% municipal tax exemption
One rule to keep in mind: Your business can’t be a pass-through entity; owners must draw a reasonable salary subject to Puerto Rico’s normal income tax. The top income tax bracket is 33%.
Most business types qualify for Act 20 incentives (you can find a complete list here).
How to qualify for Act 20 tax incentives
You have two ways to meet the requirements for Act 20 business tax incentives:
- Move 100% of your business operations to Puerto Rico, including your key employees, and cease operating the business in the United States, or
- Set up a Puerto Rico subsidiary of your existing U.S. business and complete an analysis to determine the percentage of business income and expenses that are attributable to the Puerto Rico entity so they can be appropriately taxed.
There’s a $750 application fee. Each year, you’re required to submit an annual compliance filing along with a $150 fee.
If you’d like all the details, you can read Act 20 here.
Act 22 for individuals
Puerto Rico’s generous tax advantages for individuals in Act 22 can be summed up by the number zero:
- 0% income tax on all dividend income
- 0% income tax on all interest income
- 0% income tax on all capital gains, including both short- and long-term
There are few things to keep in mind to qualify for these incentives. Specifically, you must become a bona fide resident of Puerto Rico and make the commonwealth your tax home. This satisfies the IRS source-of-income requirement to avoid paying income taxes in the U.S. The IRS considers the source of investment income for capital gains to be wherever the taxpayer resides.
Satisfying the residency tests
To qualify as a bona fide resident of Puerto Rico, individuals must satisfy the following three tests:
- Be present in Puerto Rico for at least 183 days of the tax year
- Maintain your tax home in Puerto Rico and not in the U.S.
- Have a “closer connection” to Puerto Rico than to the U.S.
Treatment of capital gains prior to your move
Gains accrued before your move date to Puerto Rico have different tax treatment depending on when they are recognized:
- Within 10 years of relocating, recognized gains are taxed at the U.S. tax rate
- After 10 years of moving to Puerto Rico, recognized gains are taxed at Puerto Rico’s preferential 5% flat tax rate; there are no U.S. taxes due
Getting your Act 22 tax decree
Submit your application to the Office of Industrial Tax Exemption with your $750 application fee. If you are approved, there is a one-time $5,000 acceptance fee. To maintain your tax status, you need to submit annual compliance filings, along with $150, and make a $5,000 donation each year to a 501(c)3 Puerto Rico non-profit.
If you’d like to know more about relocating to Puerto Rico, contact us for more information.