Act 22 beneficiaries sue Puerto Rico government
Allege new fee constitutes breach of tax decree contracts
SAN JUAN – The 20/22 Act Society, composed of beneficiaries of tax incentive acts 20 and 22 of 2012, announced Friday that it had filed a lawsuit in San Juan Superior Court against the government of Puerto Rico for alleged non-compliance of the agreements and contracts established by the decrees involving an extra annual fee levied on beneficiaries that was enacted this year.
“After various conversations to address these issues and try to resolve them, we have no option than proceed with a legal action to deal with the non-compliance of the agreements and contracts established when we signed the Act 22 and Act 60 decrees,” Robb Rill, The Act 20/22 Society founder, said in a press release announcing the lawsuit.
Rill, who says he was among the first investors to relocate to the island to benefit from the tax incentives, contended that “there have been constant changes to the decrees, disrupting the rules which we investors initially agreed to when we made the investments in Puerto Rico.”
Act 20, or the Export Services Act, provides tax incentives to businesses that establish operations on the island related to export of services to nonresident individuals and/or foreign entities. Act 22, or the Individual Investors Act, provides tax incentives to high net-worth individuals to relocate on the island, on the assumption they will make local investments.
The two laws were incorporated into and amended by the Puerto Rico Incentives Code (Act 60 of 2019), which standardizes and codifies the various local incentives laws with the goal of streamlining the granting of decrees to targeted foreign investors as well as to local entrepreneurs.
The lawsuit specifically challenges part of a law that was enacted this year – Section 89 of Act 40 of April 16, 2020 – which imposes on Act 22 beneficiaries an additional charge of $4,700 to be paid along with the required submission of the annual report to the Puerto Rico Economic Development & Commerce (DDEC by its Spanish acronym), which manages and issues the decrees. The law states that proceeds from the new annual fee are to be deposited into the commonwealth general fund.
The plaintiffs in the lawsuit are William Smith, a resident of Carolina; Lewis Hutchins, a resident of Humacao; Arthur Petrie, a resident of Dorado; Robert Diamond, a resident of San Juan; and William Branum, a resident of Rincón. They all possess Act 22 tax decrees that were issued in 2012, 2017, 2019 and this year.
They allege that the fee is “unconstitutional” because it constitutes an imposition of a tax, which the lawsuit says is a breach of tax decree contracts under acts 22 and 60, which grant total exemption from income taxes on capital gains derived from sources in Puerto Rico, as well as a total exoneration of income tax on interest and dividends generated by beneficiaries.
They contend that before the enacted $4,700 fee they had not been charged for the “mere possession” of the decrees, according to the lawsuit, which states that the fee is 15 times greater than the administrative $300 fee they normally pay DDEC with each annual report submission. The $300 fee goes into a special agency fund to cover the costs of managing these reports, required since 2015, the lawsuit states.
The lawsuit alleges that the plaintiffs had relocated to Puerto Rico under the presumption that the decree contracts would be honored until they expired on Dec. 31, 2035, as long as they complied with requirements making them eligible for the decrees. The new fee “frustrated the expectations” the plaintiffs had when they decided to move to the island to benefit from Act 22, the lawsuit states.
The plaintiffs request a permanent injunction ordering DDEC Secretary Manuel Laboy, who is named as the sole defendant in the lawsuit, to halt collection of the new fee.
Laboy declined to comment on the lawsuit on Friday.
“This is a legal process that is under consideration of the court and no statements will be issued on the matter,” DDEC spokeswoman Maura Ríos said in a statement issued to Caribbean Business.
Attorney Pedro Ortiz Álvarez, who represents the plaintiffs, said that the lawsuit seeks to stop the retroactive implementation of charges and other changes affecting existing tax decrees and not prospective ones. He said that the new fee is just one of the many modifications made to acts 20 and 22, which he contended have been “almost totally changed.”
“This could result in a harmful precedent for investment on the Island”, Álvarez said in a statement. “It could also disrupt the investment climate in Puerto Rico when new entrepreneurs and investors perceive that doing business on the Island is not secure because of the constant changes to local government laws. This could provoke an investment retraction in Puerto Rico.”
The attorney said that under Act 60, existing beneficiaries of act 20 and 22 decrees fell under a grandfather clause excluding them from certain restrictions and effects of the new law, and were given until Dec. 31 to apply under the previous incentives laws.
Nevertheless, Section 89 of Act 40 is the “most categorical example” of the violation of existing tax decrees through retroactive changes, Álvarez said, noting that the measure increased what he said was the “administrative fee payable at the decree annual report submission” from $300 to $5,000.
“Its breakdown is a $300 administrative fee plus $4,700 to be designated to the Puerto Rican General Fund. This is clearly a new tax not considered before,” he said.
Álvarez stressed that “a decree is a contract and its impairment raises a serious constitutional question,” noting that approximately 2,600 decrees have been granted to investors under these tax incentives.
“The Society and its members have no problem with prospective changes to the law applied only to new applicants,” he said. “New investors will know beforehand the amount that they must pay. While such a massive increase may be poor policy, that is not what is being challenged in the lawsuit.”
A study prepared by San Juan-based consulting firm Estudios Técnicos and published by the Puerto Rico Economic Development & Commerce (DDEC by its Spanish acronym), indicates that between the years 2015 and 2019 the incentive programs under acts 20 and 22 resulted in important benefits for the Puerto Rican economy, the 20/22 Act Society press release said. The study said that the tax incentives had led to the creation of 36,200 direct, indirect or induced jobs.