WOULD LIMIT “COMMONWEALTH” ARGUMENT AGAINST STATEHOOD Manufacturers based in the States would no longer be able to avoid Federal taxation of income through U.S. territories and foreign countries under a major proposal in President Obama’s budget for the Federal government for the fiscal year beginning October 1st.
Currently, companies can avoid the taxation by establishing separate company subsidiaries in territories and other nations. The 35% corporate income tax is not due unless the parent company receives the earnings from the subsidiary.
The tax avoidance strategy is used by most of the companies based in the States that have manufacturing operations in Puerto Rico.
Their use of it is also the main argument of the “commonwealth” party against statehood for the territory.
Obama proposed taxing the income at a 19% rate. He also proposed a one-time rate of 14% for earnings that have been kept out of the United States for past years through the first year of the new taxation.
The President, additionally, also proposed lowering the rate on corporate income from the States to 28%.
The 19% rate would be reduced for taxes paid locally and investments in operations such as manufacturing facilities.
Puerto Rico could theoretically be the beneficiary of most of the 19% rate under the Obama proposal but the Commonwealth government has entered into contracts with manufacturing operations that lower its taxation of their income to a few percent at most.
Because the contracts prevent the Commonwealth from increasing the tax, it has also imposed a four percent excise tax on parent company purchases of the products of their subsidiaries. The combined taxation, however, is still far short of the 19%.
Dozens of multi-billion dollar a year manufacturing companies are avoiding billions of dollars a year through ‘foreign’ subsidiaries in Puerto Rico, many actually headquartered in foreign tax havens so they can avoid Commonwealth as well as Federal taxes.
Many increase the much more significant Federal tax avoidance by transferring the patents and brandnames developed in the States that account for much of a product’s value to their subsidiary operating in Puerto Rico to take advantage of the very low tax rates levied by the Commonwealth government on manufacturers from outside the territory.
A U.S. Senate subcommittee found that Microsoft avoided approximately $1.5 billion a year in Federal taxes in this way in each of the years 2009 through 2011. The software giant channeled nearly half of its North American sales through its Puerto Rico subsidiary, which had only a couple of hundred employees in the territory among its tens of thousands in the hemisphere.
The separate Microsoft company in Puerto Rico paid just over one percent of its income in Commonwealth taxes each year. Puerto Rico enacted its four percent tax on parent company purchases of products of insular subsidiaries in 2011, but the minuscule amount of Microsoft’s tax payments to the Commonwealth government and relatively tiny workforce in the territory demonstrate the falsity of the “commonwealth” party claim that the current tax avoidance opportunity for companies is essential to Puerto Rico’s economy.
Microsoft uses Ireland and Singapore for similar tax avoidance. Its effective tax rate in both countries was much higher than in Puerto Rico in 2009 through 2011.
The narrowing of the gap between the current lack of Federal taxation of the income and the current rate of 35% if the income is paid to a parent company to the 19% and 28% Obama-proposed rates would largely eliminate the main “commonwealth” party argument against statehood (equality for Puerto Rico and Puerto Ricans under all Federal laws).
Although the Republican majority Congress will not approve key parts of Democrat Obama’s budget and many of his tax proposals, the proposal to tax corporate income from outside the States is similar to Republican as well as Democratic tax reform plans.
Other Budget Provisions
The tax proposal was the only real news for Puerto Rico in the Obama budget.
An annual list of State, territory, and freely associated state shares of selected programs estimated that Puerto Rico would receive $4.02 billion in Federal Fiscal Year 2016 vs. $3.93 billion this fiscal year.
The increase is smaller than the increase for all jurisdictions but in line with the Commonwealth government’s usual share. That share for Federal Fiscal Year 2016 is .71% of the programs
The share is small compared with what it would be if Puerto Rico were a State and treated equally with the other States in all programs. The territory about 1.1% of the nation’s population.
It also has some 3.4% of the nation’s population under the poverty line. Many programs provide more assistance for low-income communities than for more wealthy ones.
Among the more significant amounts in the budget are the following: The Federal contribution to Commonwealth government Medicaid payments for health care for low-income individuals is estimated to decrease from $1,455,663,000 to $1,378,486,000. As a State, Puerto Rico could expect to receive between 50% and 150% more than the Fiscal Year 2016 amount. The Nutrition Assistance Program for Puerto Rico, which pays for food for low-income individuals through the Commonwealth government, is budgeted at $1.971 billion compared with $1.951 billion this fiscal year. A State of Puerto Rico would be entitled to about $700 million more. Highway construction funding for the Government of Puerto Rico would increase from $131,599,000 to $142,650,000. Equal treatment as a State would provide about a quarter of a billion dollars a year. Funding for the territorial government under the largest program for elementary and secondary schools would go up from $418,560,919 to $432,577,177 but still be short of the assistance that Puerto Rico would receive as a State. Pell Grants to students for post-secondary education would rise from $863,000,000 to $881,500,000 and loans for post-secondary education students would go up from $589,264,768 to $617,694,869 — but there would be more of this assistance for Puerto Ricans if Puerto Rico were a State instead of a territory.