The case concerned a section of the US island territory’s alternative minimum tax (AMT) computation which affects international entities with inter-company transactions between Puerto Rican and non-Puerto Rican entities.
Instead of the verdict covering just the areas of law contested by Walmart, federal judge Jose Antonio Fuste gave a broader decision.
“The verdict regarding the unconstitutionality of those provisions of the Puerto Rico Internal Revenue Code was not a surprise,” said Felipe Mariani Franco, partner at Zaragoza & Alvarado, Taxand Puerto Rico.
“However, we expected the judge to limit its verdict to those areas of the law which were contested by Walmart. The judge’s verdict was broader, and declared invalid other areas of the Puerto Rico Internal Revenue Code. This broad of a decision was certainly not expected.”
The broadness of the Federal Court decision means that other companies will be able to claim refunds or credits for payments of the modified tangible-property tax, part of the AMT, not just Walmart.
“This tax mostly applies to taxpayers in industries with low profit margins like retailers (for example, Walmart) and certain distribution companies,” said Mariani Franco. “Lately, this tax has been very common to this type of taxpayer.”
Taxpayers with higher profit margins generally do not pay the tax, as the regular income tax they pay is usually higher than the AMT. Taxpayers with exemptions for manufacturing and some types of tourism are excluded from the tax.
The process of refunds for companies which do pay the tax is unlikely to start soon, however, as the Puerto Rico Treasury Department has already signalled publicly that it will appeal the case.
“The judge just took away $100 million [the amount the tax generates each year] from the people of Puerto Rico and gave it to Walmart,” said Governor Alejandro Garcia Padilla, who is also an attorney. “Now I have to look for that money somewhere else. Of course I’m going to appeal the decision, and immediately.”
Taxpayers should not expect to be able to claim refunds in the near future, as the case could yet go through the Appellate Court and even the Supreme Court.
“I assume that they will not start a refund process until the decision is confirmed by the last appellate court that sees the case,” said Mariani Franco. “If the higher court revokes the federal case regarding the jurisdiction issue and rules that it has to be seen by the Puerto Rico courts through the usual procedure, the case may take years before obtaining a decision.”
Jurisdiction issue
The case hinged on two key controversies: the validity of the tax and whether or not the Federal Court had jurisdiction to be able to oversee the case.
“In our opinion, the first controversy was the harder one for the judge to overcome,” said Mariani Franco. “Although not necessarily surprised that the judge estimated that he had jurisdiction, it certainly is the area which we believe will create the biggest controversy and where we expect the appeal from Treasury will focus.”
Puerto Rico has been an associated ‘free state’, or commonwealth member, of the US since 1952, before which it was a colony. It is represented in the US House of Representatives by the Resident Commissioner of Puerto Rico, who can speak but not vote.
The island’s sovereignty is a thorny issue, with four referendums on its status held since 1967. In the first three, Puerto Ricans voted to continue as a commonwealth state. However the 2012 referendum saw 54% of voters vote against continuing in this way, with a majority of these voters wanting to become a US state.
The Walmart case is likely to be politicised, not least because Garcia Padilla is a staunch advocate of maintaining Puerto Rico’s political status as it is.
He said on Monday, March 28 that he wants to amend legislation before US Congress which proposes creating a federal ‘fiscal oversight board’ for Puerto Rico, claiming that it would not be accountable to voters during elections.
“That board would be a substitute for an elected government,” said Garcia. “That is unacceptable.”
Alternative minimum tax
Aside from the jurisdiction issue, the case was fought on the legality of the AMT. The AMT is an alternative calculation of the regular property tax which is paid on the difference between the ‘tentative minimum tax’ (TMT) and the regular tax, if the TMT is higher. The AMT provides two calculations for the TMT, the highest of which is then used for the year.
The modified tangible-property tax is one part of the second TMT calculation, which is made using the modified tangible-property tax plus 20% of related parties’ expenses paid to or accrued from related entities or home offices not engaged in trade or business within Puerto Rico.
“We expected that the Puerto Rico Treasury Department would have problems sustaining this particular tax due to its nature and how it provided a different treatment to transactions with related persons which were not engaged in trade or business within Puerto Rico as opposed to transactions with entities engaged in trade or business in Puerto Rico,” said Mariani Franco.
“Although Walmart’s issue was only with the modified tangible-property tax, the totality of the second [TMT] computation was declared invalid.”
The modified tangible-property tax rate is progressive, and depends on taxpayers’ gross sales. Walmart is the only company which pays the top rate.
| If the purchaser of personal property’s gross income from the conduct of a trade or business is in Puerto Rico |
The percentage should be: |
$10 million or more but not more than $500 million |
2.5% |
$500 million or more but not more than $1,500 million |
3% |
$1,500 million or more but not more than $2,000 million |
3.5% |
$2,000 million or more but not more than $2,750 million |
6.5% |
Table provided by Felipe Mariani Franco.
