To understand what federal taxes does Puerto Rico pay, your business first needs to recognize that the answer isn’t a simple yes or no. The island’s unique fiscal relationship with the United States is a landscape of opportunity and complexity. For any company operating in or considering a move to Puerto Rico, mastering this system is not just important, it’s critical for success.
This confusion stems from Puerto Rico’s status as a U.S. territory. Its residents are U.S. citizens, and the dollar is its currency. However, its tax treatment differs significantly from the 50 states. This does not mean a total exemption from federal obligations. In fact, the reality is far more nuanced, with critical details that can either accelerate your growth or create significant liabilities if overlooked.
At ASGC, we have spent over 20 years guiding businesses like yours through this fiscal maze. Therefore, we’ve developed this definitive guide to clarify exactly what you need to know.
So, what federal taxes must businesses and residents in Puerto Rico pay?
To answer that directly, businesses and residents on the island are responsible for several key federal taxes, despite the well-known income tax exemption. The most substantial contributions come from payroll taxes, which are essential for funding national programs. As a business owner, these will be a familiar and critical part of your operations.
These mandatory federal taxes include:
- Social Security and Medicare (FICA): Just like in the mainland U.S., if you employ staff or are self-employed in Puerto Rico, these contributions are deducted from payroll. This is a direct and unavoidable federal tax.
- Customs Duties: Any goods your business imports into the island are subject to federal tariffs.
- Federal Commodity Taxes: Specific products also carry federal-level excise taxes.
In 2024 alone, residents and businesses on the island contributed over $5 billion to the U.S. Treasury. However, the most compelling part of the story for most businesses revolves around federal income tax.
And what about the federal income tax?
Here lies the primary distinction and the greatest opportunity. Under federal law, bona fide residents of Puerto Rico are exempt from U.S. federal income tax on income sourced within the island. In short, if your business operations and revenue streams are generated in Puerto Rico, that income is not subject to federal income tax.
However, crucial exceptions apply. Your business or its principals will be required to pay federal income tax if you:
- Work for the U.S. federal government.
- Are an active member of the U.S. military.
- Generate income from sources outside Puerto Rico. For instance, if your company has investments or clients in a state like Florida, that income is federally taxable.
- Intend to transfer funds from your Puerto Rico-based corporation to the U.S.
Properly understanding income sourcing is fundamental. A mistake in classification can lead to unexpected and costly tax liabilities, erasing any potential benefits.
Is this tax exemption always an advantage?
On the surface, avoiding federal income tax seems like a clear win. However, the full context is vital for strategic business planning. The discussion around what federal taxes does Puerto Rico pay has direct consequences on the island’s infrastructure and economic environment.
This unequal tax contribution is often used to justify disparate treatment in federal programs. Puerto Rico receives less funding for critical infrastructure and programs like Medicaid and Medicare. While this may not directly impact your P&L, it shapes the business environment you operate in.
Furthermore, residents are excluded from federal benefits like the Earned Income Tax Credit (EITC). This reveals a complex fiscal structure where apparent advantages come with underlying structural inequalities. For a business, understanding this complete picture is key to long-term strategic success on the island.
How Your Business Can Leverage Puerto Rico’s Tax Incentives
Despite the complexities, Puerto Rico’s tax system offers unparalleled opportunities for businesses, particularly through Act 60 (formerly Acts 20 and 22). This legislation is designed specifically to attract investment and businesses like yours.
By establishing your operations in Puerto Rico and qualifying as an export service (meaning your clients are outside the island), your business can secure:
- A flat 4% corporate income tax rate, one of the lowest available to U.S. citizens.
- 100% tax exemption on dividends distributed to resident owners.
- 100% tax exemption on capital gains accrued after you become a resident.
To access these benefits, your business and its principals must meet the bona fide residency tests. This typically involves a physical presence test (at least 183 days on the island per year) and other criteria. The framework of what federal taxes does Puerto Rico pay is completely transformed when strategically planned under Act 60.
Navigating the System Requires an Expert Partner
As you can see, the answer to “what federal taxes does Puerto Rico pay” is multifaceted. It depends entirely on your business structure, income sources, and strategic goals. The incentives under Act 60 are powerful, but navigating the rules of residency, compliance, and corporate structuring requires specialized expertise.
A misstep in planning can nullify the benefits and create legal and financial headaches. Don’t leave your company’s financial future to chance. At ASGC, we provide more than accounting services; we deliver a comprehensive financial strategy designed to maximize tax efficiency, ensure full compliance, and fuel your business growth.
Ready to position your business for maximum growth in Puerto Rico? Contact us today for a strategic consultation.
Yes, businesses in Puerto Rico pay federal taxes. These primarily include payroll taxes like Social Security and Medicare (FICA) for their employees, as well as any applicable federal customs duties and excise taxes on goods.
No, business income sourced within Puerto Rico is generally not subject to U.S. federal income tax for bona fide resident companies. This exemption is a key component of the island’s unique tax structure and incentives.
Act 60 is a tax incentive code in Puerto Rico that offers significant benefits. For qualifying export service businesses, it provides a flat 4% corporate tax rate and a 100% exemption on dividends for resident owners.
A business can qualify for Act 60 by providing services for export to clients outside of Puerto Rico. Additionally, its owners or key executives must become bona fide residents of the island, meeting specific presence and connection tests.
Expert accounting advice is crucial because Puerto Rico’s tax laws, including Act 60, are complex. Proper guidance ensures full compliance, correct income sourcing, and strategic structuring to legally maximize the powerful tax incentives available for your business.