Section 936 and how it messed up Puerto Rico
Now more than ever, voices of the media are hotly contesting American dependence on imports from foreign countries. This is not a new revelation. However, this phenomenon is not simply due to lower labor costs and higher efficiency. Some of this dependence is correlated with the Clinton administration’s slow repeal of Section 936, an Internal Revenue Service tax code which provided heavy tax breaks to corporations who established businesses in Puerto Rico. Simply put, parent companies were able to either partially or completely avoid paying federal income taxes for their subsidiaries, as long as they sent out their earnings as dividends.
Section 936 is a complicated point of discussion. At face value, this bill could have been motivated by a desire to increase the domestic economy of Puerto Rico. However, that wouldn’t historically align with American interests. American forces sought to obtain imperial control over Puerto Rico because of its geological advantages in regards to military operations, as well as the possible industries that could be of use to the US economy. If we were really concerned with the liberation of Puerto Rico from Spanish rule, why did we not simply step away and allow them to live on as a sovereign nation?
I believe that Section 936 was originally created to encourage the profitability of Puerto Rico as an asset of the United States– not to bring prosperity to the Puerto Rican people themselves. However, it did nonetheless. While corporations benefited vastly more than the local residents, this influx of industry into Puerto Rico drove their economy into a steady upward climb. It would be unethical of me to leave out some important notes: the Puerto Rican unemployment rate remained significantly higher than that on the mainland, while the average income was much lower. Furthermore, many saw this as yet another barrier to statehood, which would provide far better resources and protections for Puerto Rican residents. The difference is, a tax credit was initially seen as making Puerto Rico more profitable for mainland industries, while providing them with statehood was not. Was Section 936 the perfect solution for Puerto Rico’s economic instability? No. Unfortunately, if change happens in America, the best way to fast track it is by backing it with monetary value. It is undeniable that Section 936 set the stage for Puerto Rico’s place in hosting multiple large industries, especially those related to pharmaceuticals. Section 936 was a blessing, but mostly a curse. It encouraged a somewhat better economy for Puerto Rico, but if that tax code were to ever expire, the consequences would have been catastrophic.
And that they were. In 1996, The Clinton administration quietly slipped the expiration of Section 936 into a bill that raised the minimum wage for millions of Americans. This transition was set to happen over the course of ten years. In that time, Puerto Rico lost close to 40% of their manufacturing related positions. The loss of Section 936 was the beginning of a downward spiral for Puerto Rico. Lacking tax incentives, many corporations flocked to China in an effort to replace their lost advantages. Although there were other factors, this led to Puerto Rico’s notorious debt mountain, as they were forced to borrow funds, filling the gaping hole that manufacturing left in its wake. This particular tax credit backed a significant part of their job market. There was nothing else to fall back on after it was gone. Puerto Rico was left with a crumbling economy, a fleeing job force, and held little place in the minds of politicians. While reestablishing 936 is certainly not the answer, the American government should recognize it’s hand in setting them up for substantial gains– and massive failure.
The article has a lot right but, as someone who worked in the White House & Congress and who dealt with the issue from 1979 or ’80 through 2001 and has since, a few points in the order that they appear: Pres. Clinton cut the 936 tax credit from equal to all tax due to 40% of that and proposed a tax credit based on wages & investments in Puerto Rico. The Republican Congress later insisted on a full phase-out and added it to a minimum wage increase bill the President wanted. 936 was originally enacted “to encourage job-creating investments in Puerto Rico” as well as to reform a tax exemption under Sec. 931. But companies abused 936 by shifting income really earned in the States, where it would be taxed, to the territory and moving production from the States to the islands, where it would be exempt from tax. The end of 936 didn’t cause Puerto Rico’s manufacturing job losses to foreign locations. International free trade agreements, wage increases, and environmental laws did in the case of low profit-margin industries that required a lot of workers. The type of company that abused 936 stayed in Puerto Rico and avoided taxes by establishing foreign company subsidiaries to take over their plants since the U.S. didn’t tax foreign companies. The 2017 Tax Reform began to tax income shifted from the States to foreign subsidiaries but only at half the tax the income would be taxed at if taxed where it was really earned: the States. Shifted income is $35 B a year of $43 B a year in income claimed in Puerto Rico. The territory taxes the production at one of the lowest rates in the world. Now, companies & status quo politicians are trying to effectively timely recreate 936 by exempting income attributed to the territory but really earned in the States from the new 10.5% Federal tax. The status quo politicians are doing this because such an exemption is only possible as long as Puerto Rico remains an “unincorporated territory” (i.e., possession) of the U.S. Again, however, the article got the most important essence essence right. I look forward to the future work of this budding journalist.
Jeffery,
I truly appreciate your input. I can see that I made some mistakes in describing the Clinton administrations involvement in phasing out 936. I can also see that my understanding of how the loss of 936 altered the presence of manufacturing companies in Puerto Rico. It seems I should have sought you out as a source before publishing this article.
Thanks again.
Thanx for calling out these problems. People in the island forget.
Please keep doind the work you do
Jeffery,
I truly appreciate your input. I can see that I made some mistakes in describing the Clinton administrations involvement in phasing out 936. I can also see that my understanding of how the loss of 936 altered the presence of manufacturing companies in Puerto Rico. It seems I should have sought you out as a source before publishing this article.
Thanks again.
Jose–
Sorry. The other reply was meant for another comment. Thank you for your kind words!