Governor signs bills to allow private equity funds, cut auto excise taxes
By CB Online Staff
Gov. Alejandro García Padilla signed legislation Tuesday enabling the local launch of private-equity funds, a move proponents say could raise $1 billion a year in fresh capital to help drive economic development.
The governor also signed a law that cuts the excise tax on automobiles by 15 percent in a bid to jump-start auto sales that remain in a deep and prolonged skid amid the island’s ongoing economic downturn.
Authored by Senate Finance Committee Chairman José R. Nadal Power, the Private Equity Funds Act (Senate Bill 862) was approved by the House in October following Senate approval June 2 in a 25 to 1 vote.
The law aims to provide a financing alternative for Puerto Rican start-ups or existing companies that are privately held to find capital for expansion.
Nadal Power has said the banking system here isn’t filling the whole need and not all companies can go public.
By creating a new investment vehicle, the proposed law is also expected to spur employment in Puerto Rico’s financial services industry.
Regulations will have to be enacted and the first private-equity funds in Puerto Rico will make their appearance in early 2015, according to Nadal Power.
Private-equity funds have played a key role in the U.S. economic recovery by providing capital to companies that don’t have access to public-equity markets such as the New York Stock Exchange, Nasdaq (National Association of Securities Dealers Automated Quotation System) and other financial markets. In 2009, for example, these funds raised $90 billion worldwide with 36% of this capital invested in the U.S.
Yet, Puerto Rico has stood alone among capitalist jurisdictions in not allowing for the creation of private-equity funds, said financial industry veteran Miguel Ferrer, who has been pushing for their development for the past two decades.
“We have the talent, we have the capital, but we haven’t had the vehicle in which to invest,” Ferrer told CARIBBEAN BUSINESS, estimating it will attract $1 billion annually in new capital to Puerto Rico. “There are many potential investments in Puerto Rico that can help businesses and turn them into exporters. We have a lot of good brands that don’t export enough. But first we have to bring capital here.”
The legislation touts private-equity funds as a “proven investment alternative” that has financed expansions of businesses, restructured businesses at risk of failure and promoted pioneering industries in the initial stages of development.
At the same time, by attracting outside capital to Puerto Rico, the new funds will create jobs in the island’s important financial services industry.
Private-equity funds are for wealthy sophisticated investors because they make high-risk investments with the potential for big returns and big losses. Individuals must have a net worth of at least $1 million, and the funds themselves must have at least $10 million.
The law provides special preferential tax treatment for these investments and clarifies that investors in these funds can benefit from current rules regarding investing through partnerships or limited liability companies, which protect them from the high risk of the investment.
Ferrer said the investment vehicle itself, in which the fund manager actually makes the investment decisions, is another important benefit because it has been very hard to arrange private-equity deals in Puerto Rico due to the difficulty in reaching consensus among investors on backing specific projects.
The law limits the amount of money that can be invested in any single investment to 20% of the fund’s total. Investors will be taxed at a fixed rate of 10% on income derived from interest and dividends, and capital gains will be completely exempt from income tax. Investors who sell their interest in the fund will be subject to a 5% tax on these earnings unless the investor reinvests these earnings in another private-equity fund, in which case there will be no capital-gains tax due.
There are two options for private-equity funds regarding the amount of investment that must take place in Puerto Rico. Under one option, 60% of the fund must be invested in local investments, with 20% invested in start-ups anywhere and 20% invested in other securities. Another option would only require 20% of the fund to be invested in Puerto Rico sources, but the tax deductions available are much less for investors, Nadal Power said.
The senator explained that the legislation is a great complement to Acts 20 and 22 and that many Act 20 beneficiaries are interested in launching private-equity funds in Puerto Rico, which will create jobs and bring fresh capital here.
Act 22 is primarily designed to attract high-net-worth individuals to Puerto Rico by eliminating all taxes on passive income that accrue after they relocate to the island. While dividends and interest income earned by Puerto Rico residents on U.S. securities are generally taxed by the federal government, capital-gains taxes on their sales are based on residence.
Act 20, meanwhile, establishes a fl at 4% tax on earnings from companies that export professional services to markets abroad. The companion law is meant to lure Act 22 beneficiaries to bring at least a portion of their eligible businesses to Puerto Rico with them.
Nadal Power said many Act 22 beneficiaries are from the financial industry, and launching private-equity funds is a way for them to benefit from Act 20 while contributing to Puerto Rico’s economic development.
The Private Equity Funds Act is one of several administration initiatives aimed at sparking an economic recovery in Puerto Rico by attracting offshore capital and fomenting the growth of local capital, he added.
Nadal Power has authored legislation to improve both incentive laws and expects his initiatives to be approved this term. One proposed change would significantly expand the universe of potential investors under Act 22 by shortening an eligibility requirement that potential beneficiaries couldn’t have lived in Puerto Rico for the past 15 years to only six years. The change is aimed at luring back home some of the talented Puerto Ricans who have left the island during the years-long economic downturn that began in 2006. Another proposal would exempt investors benefiting under Act 22 from Puerto Rico’s “forced inheritance rules,” which leave very little discretion on how to distribute accumulated wealth after his or her death. This also impedes the effective utilization of tax strategies aimed at minimizing federal inheritance taxes, which still apply to investors who move here, and could invalidate many of the trusts these individuals established outside the island. The changes would recognize trusts and wills established outside of Puerto Rico. Another proposal would widen the number of professional services that could qualify for Act 20 incentives.
“These three bills are interrelated and aimed at fomenting the ecosystem to attract capital and create jobs in Puerto Rico,” Nadal Power said.
Law enacted to cut excise taxes on motor vehicles
García Padilla had sent legislation to the Capitol just last week that will cut excise taxes on automobiles by 15 percent.
The measure comes amid a long and deep skid in auto sales in Puerto Rico that has hit the local industry and pulled down tax revenues.
“This measure is a clear example how my administration attends to the government’s fiscal situation while also offering relief to the pockets of Puerto Rico residents,” the governor said in a statement.
“The sale of new vehicles benefits the island economy and promotes savings for consumers who acquire more efficient vehicles at better prices,” he added.
The excise tax on motorcycles will be lowered from 10 percent to 8 percent.
The measure will cover automobiles delivered after October 31, 2014 and new and used vehicles in inventory that have not yet paid the levy. Importers and dealers can seek tax credits on vehicles that have paid the current excise tax after October 31.
La Fortaleza said the legislation aims to jump-start auto sales to shore up revenues and represents an inroad on the first phase of a sprawling tax reform that is in the works.