“Of course, it must be too good to be true!” “My accountant said it is illegal and will increase my audit risk and I may go to jail!” “If it existed everyone would know about it!” I have heard every variation of reasons not to fully realize the benefits available in the Internal Revenue Code. However, my 37 years of taxation experience allows me to understand that no one, not myself, not your CPA, and not even your tax attorney knows everything.
If we accept this basic fact, then you are ready to learn about what you have probably dreamed of. In fact, I am going to tell you how to realize your dream. You can pay almost no tax, business or personal, while having no limitation upon the amount of income you or your business earns: LEGALLY. The Internal Revenue Code authorizes this strategic maneuver and you probably do not know about it. Let me discuss with you the “secret”.
First, let’s get the basic parameters of what I am discussing and I will subsequently provide the specific code sections and statutes. This is NOT a tax protestor scheme or a lunatic fringe strategy. It is a basic, but advanced, legitimate and legal income tax planning technique.
If you own your own business, or even if your company is publicly traded, you are aware that many companies outsource various aspects of their businesses. For example, have you ever called a company and talked to someone in a call center in another location, or even another country? For instance, India happens to be a location with many outsourced suppliers, including call centers, CPA’s, attorneys and numerous services.
Does your firm hire or could they engage independent contractors to do all or part of the business or specific tasks or functions? Unless you are a law firm or accounting firm, you may outsource all or part of your accounting and legal services. Payroll? Leased employees? Do you have a virtual assistant or use outsourced secretarial services, billing, logistics? Outsourcing is common and accepted in today’s business environment.
Another aspect of this income tax planning technique is the location of the company’s headquarters for income tax purposes. Some major U.S. corporations are headquartered overseas, even though very few people employed by the company live or work in the location of their tax headquarters. It is quite common for a company to attempt to shift income to lower tax states and many firms actually relocate their headquarters for state income tax purposes as well.
Again these types of changes are quite common.
The following is an example of a few major corporations that are not “U.S. companies” for income tax purposes.
This list is from HR world editors and is found at https://www.focus.com/fyi/10-big-businesses- that-have-moved-abroad/
- Halliburton: Houston, Texas based Halliburton, has a corporate headquarters in the United Arab
- Accenture: Consulting Company Accenture is the Bermuda-based arm of the former Big Five accounting firm Arthur Andersen LLP which was headquartered in Chicago,
- Foster Wheeler Is an engineering firm whose main offices are in New Jersey, but its corporate headquarters is in Bermuda.
- Noble Drilling Services , operates out of Sugar Land, Texas, but calls the Cayman Islands home
- Seagate Technology LLC is a California firm also run from the Cayman
“What about U.S. based tax havens?” Yes, U.S. based tax havens exist in some U.S. Possessions.
Of the Fortune 500, approximately one-third have operations in the Commonwealth of Puerto Rico, a U.S. Possession. Some 161 of the Fortune 500 companies have facilities in Puerto Rico as well as 321 pharmaceutical companies. See, Encyclopedia of the Nations, https://www.nationsencyclopedia.com/economies/Americas/Puerto-Rico.html. You do not have to be a Puerto Rican citizen or resident to own or operate a Puerto Rican company.
I concede the weather is nice, the infrastructure is excellent and the work force is well educated and bi-lingual, but let’s remain focused on the tax facts.
Under current law, the most recent tax incentive act, passed January 12, 2012 provides for a qualifying business to have a fixed rate of income taxation of 4%! This rate is effective for twenty years and is subject to renewals. (The first tax incentive act was passed in Puerto Rico in 1947) It also allows a corporation to retain an unlimited amount of funds, which under current law if distributed to a U.S. resident, such dividend is a qualified dividend taxed at a 15% maximum federal rate.
The Commonwealth of Puerto Rico is making it extremely attractive for people to become Puerto Rican residents. (Note: Puerto Rican residents are U.S. citizens) If one becomes a bona fide Puerto Rican resident prior to withdrawing funds from a Puerto Rican company there is no income tax on the receipt of dividends from a tax favored company! For new Puerto Rican residents there is also no income tax on interest, dividends and capital gains, plus no real estate tax!
In essence, one could accumulate funds they intend to use for retirement at this extremely low rate, then subsequently consider becoming a Puerto Rican resident and withdrawing the funds income tax free!
IRC § 933 provides that a full year resident of Puerto Rico does not include their income from Puerto Rican sources for U.S. income tax purposes.
Before you dismiss the fact that your business can do this, or think that your facility must be in a specific location, you are missing the point! Under the most recent statue, almost every type and kind of business, even small service companies, such as attorneys and accountants are allowed this exemption if they are providing services to U.S. based client’s.
Here are a few examples of a service business. Many service providers, particularly physicians outsource their billing and collections or could outsource their billing, collections or other non- medical services to a medical management company. If the physicians owned such a company and charged an arm’s length, fair market price, then all the profits from this aspect of the company could be retained and taxed at 4%.
A law firm could create a research and writing service company to perform in Puerto Rico all or a portion of their research and writing for their non Puerto Rican clients. This service business would charge fair market value for its services and again the profits earned in Puerto Rico by such businesses are taxed at 4% and are not taxable in the U.S.
Call centers, consultants, advertising, promotions, graphic artists, architectural firms, professional services, education and training services, investment banking, laboratories, shared service centers, almost every type and kind of business that provides services to entities located outside of Puerto Rico are potential candidates.
What about a manufacturer? A portion of the business, where decisions are made, contracts accepted, the finical aspects managed or run could be in their corporate headquarters in Puerto Rico. The products could be manufactured where they are currently, but with proper planning the income earned would not all be U.S. source income, but a large share if properly planned could be Puerto Rican income.
With proper planning and a team of qualified personnel to analyze the income tax aspects and the economic substance and business issues, almost any company can be restructured to utilize these very generous tax code provisions.
It is no longer only for the benefit of major multinational corporations to utilize proper and well reasoned tax planning. This new tax act allows almost any size business, no matter how large or how small to have the same opportunities available to properly plan their tax future. Situs selection or relocation is a major component and necessary consideration in developing an integrated tax plan.
By planning to legally and substantially reduce your incidents of taxation, your company is considering an essential aspect of wealth accumulation.
Let us assist you or your clients in an imperative planning area that mitigates the effects of income taxes that appear poised to increase in the absence of a properly planned business structure!
Richard M. Colombik, JD, CPA is a member of TLS Marketing and Management Services, LLC a Puerto Rican Limited Liability Company that provides consulting and tax planning services. Mr. Colombik has lectured extensively on income taxation and tax planning, as well as publishing articles on a national, local and regional basis. He has been an IRS Liaison for State and National Bar Associations and has chaired State and Local Bar Association’s Tax Committees. He is an Honors Graduate from the John Marshall Law School, where he currently serves as a director of the Alumni Board and has received a Distinguished Service Award for his work on behalf of his alma mater.
Richard M. Colombik, JD, CPA, is an award-winning attorney and CPA with a doctorate in jurisprudence with distinction and was formerly on the tax staff of one of the world’s wealthiest families.
Mr. Colombik has also been a tax manager at a Big Four accounting firm, the State Bar’s liaison to the Internal Revenue Service (IRS), vice president of the American Association of Attorney-CPAs, and vice chairman of the American Bar Association’s Tax Section of the General Practice Council, as well as the past chair of the Illinois State Bar Association’s Federal Tax Committee. Mr. Colombik has also served on the liaison committee to the Washington, DC, National Office of the IRS. Mr. Colombik is also a member of the Asset Protection Committee, American Bar Association, and a member of its captive insurance subcommittee.
Mr. Colombik has appeared on numerous television shows, hosted a weekly radio show on tax and business planning, and authored more than 100 articles on income taxation, asset protection planning, IRS defense, and estate planning. He has also instructed more than 100 seminars to professional groups, business groups, bar associations, CPA societies, and insurance groups. This is in addition to authoring a published work on business entity structures offered by the Illinois Institute of Continuing Legal Education, as well as writing a chapter for The Estate Planning Short Course and Asset Protection Planning.