Fiscal board insists proposed tax repeals must be revenue neutral
By The Star Staff
The Financial Oversight and Management Board supports the repeal of the inventory tax and of personal property taxes, which is the tax generally imposed on certain assets that can be touched and moved, such as cars, livestock, or equipment, as long as alternatives to eliminate them are revenue neutral.
The oversight made its remarks in a letter to Speaker of the House of Representatives Rafael Hernández Montañez concerning House Bill (HB) 1692, which proposes a new methodology to calculate the inventory tax, and HB 1798, which also proposes changes to the inventory and personal property taxes. The oversight board said Puerto Rico’s relatively heavy reliance on inventory and personal property tax is an outlier compared to the approach of U.S. states.
“The Oversight Board considers the repeal of the inventory [tax] to be a significant step toward improving the business climate of Puerto Rico, as it could allow businesses to build up inventory without a tax penalty,” the board said.
The tax has been eliminated in 36 states, while 14 states have inventory taxes lower than Puerto Rico.
“That said, any effort by the Government to eliminate the inventory tax in Puerto Rico must be budget-neutral for both the Commonwealth and the municipalities,” the oversight board said in a letter dated Sept. 29. “The inventory tax accounts for $237 million of the total $447 million of personal property tax collections and constitutes a significant source of revenue for municipalities.”
Repealing or reforming inventory taxes would have a disproportionate effect on certain municipalities -- particularly on the 13 municipalities where more than 10% of their general fund budget comprises such revenues.
After reviewing the bills and having analyzed the tax system and ways it can be improved, the oversight board made a number of recommendations regarding the process contemplated by the bills. The board supported having a commission or group assess potential options for reform and propose reforms for the Legislature to consider and adopt. As part of that approach, the oversight board believes a temporary freeze of the inventory tax is advisable to allow a commission or group time to identify a sound approach that eliminates the inventory tax and maintains municipal revenues.
It also suggested a number of factors that should be carefully considered before implementing a temporary freeze. First, the central government should establish a base period to determine the tax liability during the freeze. Second, the freeze period should be long enough to allow time for the commission or group to thoroughly develop long-term permanent options and provide recommendations. Third, the commission or group should be provided with very clear steps to guide it and take into account the uneven impacts that the freeze will have on certain municipalities. Finally, the government should clearly specify consequences if inventory tax replacement or other structural reform recommendations are not enacted to avoid the circumstance where taxpayers that have built up inventories during the freeze period face significant tax liabilities when the inventory tax is reinstated.
With those considerations in mind, the oversight board said HB 1798 is closer than HB 1692 to meeting the criteria because it includes a base period, a five-year freeze period, different calculations for existing and new firms, and a seven-member board with a timeline to provide a recommendation for a permanent reform.
“However, we recommend that HB 1798 be amended either to encourage the permanency of the reform or to reduce the impact on taxpayers and CRIM [the Spanish acronym for Municipal Revenue Collections Center] without significantly reducing revenues,” the board said.
One option for amending HB 1798 would be to include a “hold harmless” provision for those municipalities that are heavily dependent on inventory tax for revenues,” the board said.
An option for reform is Puerto Rico’s real property tax system given that the tax is currently constrained due to exemptions and exonerations, the oversight board said. Further reform of the real property tax system may provide the revenue needed to make up for and thus eliminate personal property taxes.