WASHINGTON -- Bondholders of Puerto Rico’s debt can anticipate the territory’s economy will absorb another adverse blow under the tax reform legislation Congress is expected to send to President Trump this week.
That’s because there are no provisions to soften the impact of the new modified territorial tax system that will treat Puerto Rico as a foreign country.
U.S. Rep. Jose Serrano, D-N.Y., predicted in a statement Monday the tax bill will be “a devastating blow to Puerto Rico’s economic recovery.”
“Thousands more businesses will have to leave the island, forcing thousands Puerto Ricans to lose their jobs and leave the island,” Serrano said.
Puerto Rico Gov. Ricardo Rossello and Resident Commissioner Jenniffer Gonzalez, the territory’s nonvoting member of the U.S. House of Representatives, made similar predictions Friday.
Gonzalez unsuccessfully lobbied congressional Republicans to give the territory a reduction in the new territorial tax on foreign imports to the mainland.
She did, however, persuade them to make Puerto Rico eligible for designation as a new “opportunity zone” that would receive favorable tax treatment.
House Ways and Means Committee Chairman Kevin Brady, R-Texas, told reporters Monday that “opportunity zones” were in the final bill, though a provision allowing Puerto Rico to qualify was stripped out because it would have violated the U.S. Senate’s Byrd Rule. That parliamentary rule prevents non-germane provisions from qualifying for passage by a simple majority vote instead of a 60-vote super-majority. Keeping Puerto Rico would have required 60 votes for passage of the entire bill.
Instead, the best hope for the territory’s resurgence through tax measures will be the proposed inclusion of the language allowing Puerto Rico to qualify for participation in the Investing in Opportunity Act (S. 293) in an emergency spending bill Congress may consider in January.
The latest installment of emergency funding for recovery from hurricanes that struck the U.S. Caribbean, Florida and Texas had been expected this month, but has been pushed to January because Congress is focused on tax reform and finalizing a deal to fund the government for the 2018 fiscal year.
The Opportunity Zone proposal was included in the Senate version of tax reform. It's based on a bipartisan bill authored by Sens. Tim Scott, R-S.C. and Cory Booker, D-N.J., that would defer federal capital gains taxes on investments in qualifying low-income communities. The House version of the bill is led by Reps. Pat Tiberi, R-Ohio, and Ron Kind, D-Wis.
The entire island could theoretically qualify as one of a limited number of areas getting the designation throughout the United States. To qualify, the area must have “mutually reinforcing state, local, or private economic development initiatives to attract investment and foster startup activity.”
The areas also must “have demonstrated success in geographically targeted development programs such as promise zones, the new markets tax credit, empowerment zones, and renewal communities; and have recently experienced significant layoffs due to business closures or relocations.”
Tracy Gordon, a senior fellow at the nonpartisan Tax Policy Center, said part of the motivation for the opportunity zone designation is to stem the migration of residents which has accelerated since Hurricane Maria.
But she couldn’t predict the negative impact of tax reform.
“There’s a concern you are basically taking away an incentive to be in Puerto Rico which is this foreign corporation status,” Gordon said. “I don’t have a back of the envelope estimate in terms of revenue or economic effect.”
The final tax bill ignores the recommendation last year by the bipartisan Congressional Task Force on Economic Growth in Puerto Rico to “make Puerto Rico integral to any future deliberations over tax reform.”
Specifically, the task force recommended a permanent extension of a rum cover-over payment to Puerto Rico and the U.S. Virgin Islands that is used by the territories to pay for local government operations.
Most of that payment -- $10.50 per proof gallon – already is permanent, but the remaining $3.75 per proof gallon payment to the territories expired at the end of 2016. The revenue is derived from an excise tax on rum imported into the United States.
The House version of the tax bill contained a five-year extension of the rum cover-over, but the final bill removed that provision. The rum cover-over could be revived early next year if Congress takes up legislation to revive expired tax provisions.
“Failure to extend the provision will cause harm to Puerto Rico’s (and the U.S. Virgin Islands’) fiscal condition at a time when it is already in peril,’’ the congressional task force said in its December 2016 report.
The tax bill also takes no action on the task force’s recommendation that the federal child tax credit include the first and second children of families living in Puerto Rico, not just the third as specified under current law.
The task force was divided whether to fully expand the eligibility of Puerto Rican families for the Earned Income Tax Credit.
Howard Cure, director of municipal bond credit research for Evercore Wealth Management, said he’s not optimistic Puerto Rico will get special federal help.
“Forget about trying to grow the economy, just trying to stop the bleeding,” said Cure. “You have this pretty good exodus of people who can afford to leave the island. Having some sort of disadvantageous tax stipulation put in is not helping. There are just so many different problems.”
Cure said that Puerto Rico is at a real disadvantage without a voting representative in Congress when it’s competing with Florida and Texas for federal aid to rebuild from hurricane damage.