I'm Moving to Paradise on Jan 1 and Will Legally Pay No Tax on Cryptocurrency Gains! True Story!

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(Although I am an attorney and CPA, this is not intended as legal or accounting advice and may not be used by any person as such.  Check with your own tax advisor before acting upon the information herein)

Nouveau riche crypto-anarchists and libertarians (including especially wealthy steem witnesses), listen up:  I'm moving to Puerto Rico on January 1, and you should too!  

Not only is Puerto Rico a paradise (well, at least if your definition of paradise includes, as mine does, a healthy dose of grit), its also one of the very few places in the world where US citizens can legally avoid taxation under the Internal Revenue Code.  

Under US tax law, Americans must generally pay US income taxes on their worldwide income even if living overseas at the time its earned. However, as a consequence of its unique commonwealth status, the US has for decades allowed Puerto Rico to operate it's own parallel tax system.  Under that system, Puerto Rican residents pay NO federal income taxes on any income that is sourced to Puerto Rico (see the section about the sourcing rules below).  Instead, they pay tax on that income only to Puerto Rico and at rates required only by Puerto Rico. While income sourced to Puerto Rico is taxed only by Puerto Rico,  any income sourced to the US mainland under the relevant rules (again, see the discussion of the sourcing rules below) is still subject to federal income taxes.  

Puerto Rico's Depression and Tax Incentives

For the last decade, Puerto Rico's economy has been in a depression resulting from a combination of factors.  This depression has led to a mass exodus of capital and talent from the island (sometimes called the "Puerto Rican Diaspora").  To help stimulate economic growth and turn the tide on this talent drain, Puerto Rico passed in 2012 a series of laws including Act 20 and Act 22.  These acts grant extremely favorable tax benefits to qualifying persons and businesses who make the move to Puerto Rico.  

Act 20

Act 20 provides that any qualifying person moving to Puerto Rico and operating therefrom an "export service business"--that is, a business that provides services from Puerto Rico to persons located outside of Puerto Rico--will pay Puerto Rican taxes of only 4% on that income.  Qualifying businesses receive a "decree" from Puerto Rico (that's considered under law to be an enforceable contract between the taxpayer and Puerto Rico) guaranteeing the favorable tax treatment for 20 years. The decree can be potentially renewed for up to an additional 10 years!  To receive the favorable tax treatment, interested persons must formally apply for and receive the relevant decree from the commonwealth.  

The decree only dictates the tax treatment of the income under Puerto Rican law, not under the Internal Revenue Code.  However, importantly, the Internal Revenue Code's sourcing rules dictate that service income must be sourced to the jurisdiction where the services are provided and not to where the recipient of that service resides.  So, under the Internal Revenue Code, the income of a lawyer residing in Puerto Rico and  providing legal services to people outside of Puerto Rico is sourced to Puerto Rico and taxed at Puerto Rican rates (i.e., only 4% for those with a decree under Act 20).  Further, the Internal Revenue Code provides that such income is NOT included in the taxpayer's gross income for US federal income tax purposes.   

The same favorable tax treatment would be available to a CPA, investment advisor, consultant, engineer, coder, author, blogger, DPOS witness or most any other service provider who provides services from Puerto Rico to persons outside of Puerto Rico and who has a decree.  

Act 22

While Act 20 is amazing, Act 22 may be of even greater interest to the cryptocurrency nouveau riche.  Act 22 provides that any qualifying person moving to Puerto Rico is subject to ZERO tax on interest, dividends and capital gains sourced to Puerto Rico.  Importantly, the Internal Revenue Code provides that capital gains on intangible assets (like stocks and cryptocurrencies) are sourced to where the taxpayer legally resides! 

The Sourcing Rules and Steem

We already learned above that the Internal Revenue Code's sourcing rules require that service income be sourced to where the service was provided and not to where the recipient of that service resides.   Consider how this relates to Steem then:  Steem posting and curation and witness awards are paid to posters and curators and witnesses in exchange for the services of posting and curation and witnessing and as such should constitute service income.   A Steemian who is a bona fide Puerto Rican resident and who blogs and curates reviews witnesses from Puerto Rico should therefore pay taxes on this income only in Puerto Rico and only at rates required by Puerto Rico (which could be as low as 4% in the case of an appropriate decree holder).  Under these circumstances, the blogging and curation and witness awards would be completely excluded from gross income for federal income tax purposes. 

However, potentially more important to the cryptocurrency nouveau riche is the fact that the sourcing rules of the Internal Revenue Code require that capital gains on intangible property be sourced to where taxpayer legally resides.   Therefore taxpayers who are bona fide residents of Puerto Rico and who have received an appropriately detailed Act 22 decree from Puerto Rico may be able to legally pay ZERO capital gains tax on any cryptocurrency capital gains accruing after they become Puerto Rico resident!  Like...for real!  (Note:  There is some question about how to calculate the post-move gains in the case of cryptocurrencies, but that is beyond the scope of this article and the benefits are compelling regardless).  

It can't be overemphasized enough that the favorable tax treatment described above is available only to taxpayers who:  (1) obtain a decree from Puerto Rico, and (2) who are bona fide residents of Puerto Rico.  

Bona Fide Residency

The IRS is wise to the games that taxpayers might play in an attempt to avoid taxation under the Internal Revenue Code.  Therefore, nobody should expect to successfully game the system.  To be deemed a bona fide resident of Puerto Rico, one must pass the Presence Test, the Tax Home Test and the No Closer Connections Test.   

These tests are a little detailed, but in general they require that the taxpayer intend to PERMANENTLY move to Puerto Rico and that he/she objectively demonstrate that intention by severing most ties to mainland.   To satisfy the Presence Test, the taxpayer must generally spend at least 183 days per year on the island (there are other ways to satisfy this test prescribed by regulation, but they are beyond the scope of this article).   To satisfy the Tax Home Test, the taxpayer's "regular or principal place of business" or employment must be on the island.   And finally, to satisfy the No Closer Connections Test, the taxpayer must have no closer connection to a US state or foreign country than he/she does to Puerto Rico.  

To prove no closer connection, the taxpayer  generally must have his/her automobiles registered in Puerto Rico, register to vote in Puerto Rico, obtain a Puerto Rico driver's license, move his/her immediate family to Puerto Rico (exceptions apply for students), keep all or most personal property in Puerto Rico, designate Puerto Rico as the taxpayer's home country on governmental forms and papers, bank in Puerto Rico, etc.  Consult a tax advisor for additional details.

In short, the taxpayer must be a bona fide resident of Puerto Rico and not a pretextual one.  Nonetheless, becoming bona fide is easy for people like me who love the island so deeply.  

What Could Go Wrong?

Provided that the taxpayer observes both the substance and spirit of the relevant rules, there's not much that can go wrong.  The law is clear.  The favorable tax treatment is guaranteed for 20 years.  The decree granting the favorable treatment is an enforceable contract between the taxpayer and the commonwealth.   

However, that's not to say that absolutely nothing could go wrong.  Though not likely, Congress could force all Puerto Ricans in the commonwealth to be taxed under the Internal Revenue Code just like other Americans, or Congress could change the sourcing rules to capture the income that's currently sourced exclusively to Puerto Rico.  Even less likely, Congress could make Puerto Rico the 51st state.   But taking any such steps would undoubtedly have many unintended and adverse consequences.   Regardless, it would likely take many years for Congress to pass such laws, and even a few more for those laws to become fully implemented.  During this transition period, which might last up to a decade, bona fide residents of Puerto Rico with decrees under Act 20 or Act 22 would continue to enjoy the favorable tax treatment.    

Conclusion

Anyone capable of earning an excellent living while providing services remotely to taxpayers in other jurisdictions (including some Steem bloggers, curators, and witnesses) should strongly consider applying for a decree and becoming a bona resident of Puerto Rico.   Likewise, anyone who expects to earn large capital gains from future cryptocurrency appreciation, and those who make large amounts of money trading in crypto, should strongly consider doing the same.  By doing so they would pay only 4% tax on their earned service income and no tax on any capital gains that accrue after they move.