AMENDMENTS TO PUERTO RICO INTERNAL REVENUE CODE OF 2011 BY VIRTUE OF ACT

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1 [Translation] TREASURY DEPARTMENT COMMONWEALTH OF PUERTO RICO [Logo] Juan C. Zaragoza Gómez, CPA Secretary TAX POLICY INFORMATIVE BULLETIN NO ATTENTION: MATTER: TAXPAYERS AND MERCHANTS AMENDMENTS TO PUERTO RICO INTERNAL REVENUE CODE OF 2011 BY VIRTUE OF ACT Act No of May 29, 2015 ( Act ) amended several sections of the Puerto Rico Internal Revenue Code of 2011, as amended (the Code ), and added Subtitle DD, entitled Value Added Tax. The purpose of this Bulletin is to inform taxpayers and merchants about the effect that the changes introduced by Act will have on consumption and income taxes, as well as the effective dates of said changes, among other pertinent details. I. CONSUMPTION TAXES A. Sales and Use Tax Changes to the sales and use tax ( SUT ), effective on July 1, 2015, are the following: 1. The state portion of applicable SUT is increased from six (6) percent to ten point five (10.5) percent. The municipal portion of said tax remains at one (1) percent, thus the total applicable tax rate of the sales and use tax on taxable items is eleven point five (11.5) percent, as of July 1, The credit limit for taxes paid on resale goods is increased, in order to allow up to one hundred (100) percent credit of the tax liability shown on the monthly tax return KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ("KPMG International"), a Swiss entity. All rights reserved.

2 Page 2 Commencing on October 1, 2015, services between merchants and designated professional services, in general, will be subject to an introductory intermediate sales and use tax rate of four (4) percent. The Department will soon issue an official communication explaining the criteria for the application of this tax. Pre-existing contracts as of July 1, 2015 will be exempt from the SUT increase for a term of twelve (12) months. In addition, acquisition of goods and services for construction projects beginning prior to May 30, 2015 will also be exempted from said tax increment. The Department will soon issue an official communication establishing the procedure to be followed in order to obtain the exemption granted to preexisting contracts and construction projects. It should be pointed out that Act did not change the taxation system for purposes of SUT on food. Thus, the food and food ingredients exemption of ten point [five] (10.5) percent will remain the same under the new tax rate. B. Value Added Tax Act added Subtitle DD to the Code, entitled Value Added Tax ( VAT ), which provisions will become effective on April 1, The Department will conveniently publish administrative guidelines establishing the VAT parameters for its different applications. C. Excise Taxes The Code expressly provides that those entities with exemption decrees under Act No , known as the Economic Incentives Act for the Development of Puerto Rico, will be exempted from paying excise taxes, in the manner provided by said Act. Excise taxes on SUV type vehicles, commonly known as 4-track, are increased from seven (7) percent to eleven point five (11.5) percent, effective on July 1, II. INCOME TAX All income tax changes, for individuals as well as businesses (corporations or partnerships), are in effect for tax years beginning after December 31, A. Individuals

3 Page 3 Tax rates in effect as of December 31, 2014 continue to be in effect in the case of individuals income tax; that is, the same table applied for the 2014 income tax return should be used when preparing the 2015 income tax return. In addition, the gradual adjustment for individuals whose net income subject to contribution is in excess of five hundred thousand (500,000) dollars remains the same. Nevertheless, the special tax on self-employed individuals engaged in trade or industry is eliminated. The amount to be carried forward in the case of self-employed taxpayers reporting net operating losses in their industry or trade for three (3) consecutive years, is limited to fifty (50) percent of the loss attributed to the third year and thereafter. On the other hand, the limitation for losses resulting from the sale or exchange of capital gains is also reduced from ninety (90) percent to eighty (80) percent. In regards to charity contributions, it is established that in order to claim the deduction for contributions or donations to non-profit organizations, the entity receiving the donation must be duly certified by the Treasury Department as an exempt organization. B. Corporations and Flow-through Entities Act empowers the Secretary of Treasury to determine the way, method and place (including electronic filing) in which those taxpayers qualifying as large taxpayers should file their income tax returns and other tax returns established by the Code. Large taxpayers are considered to be commercial and private banking institutions, trust companies, brokerage or securities firms, insurance companies, entities engaging in the telecommunications business, or an entity reporting a business volume of fifty million (50,000,000) or more during the prior tax year. The Department will soon issue an additional communication to that effect. The deduction limit for losses carried forward when determining the net income of corporations subject to regular tax, is reduced from ninety (90) percent to eighty (80) percent. In regards to the alternative minimum tax, Act introduces the following changes: 1. The Secretary will only have authority, upon request, to exclude sixty (60) percent of the expenses or costs paid to a related person or home office subject to the twenty (20) percent tax rate;

4 Page 4 2. The general percentage applicable to purchases of property by a related person or home office located outside Puerto Rico is increased, depending on the amount of gross revenue derived from the exploitation of industries or trades in Puerto Rico. 3. The percentage applicable to purchases of motor vehicles by a related person or home office located outside Puerto Rico, is decreased from 1.5% to 0.5%; 4. As of the approval date of Act , the Secretary will not be able to issue administrative determinations or final agreements to grant tax waivers in connection with purchases of personal property by a related person or home office located outside Puerto Rico, except for those waivers already granted; and 5. The net operating loss deduction limit to determine the alternative tax is decreased from eighty (80) percent of the alternative minimum net income to seventy (70) percent of said income. In regards to flow-through entities (partnerships, special partnerships and corporations of individuals), the use of losses generated by flow-through entities is limited to eighty (80) percent of the revenue of other flow-through entities. Likewise, the net operating loss deduction limit for purposes of regular tax of corporations is decreased from ninety (90) percent of the taxable net income to eighty (80) percent of said income. In addition, the amount of net operating losses to be carried forward should be adjusted by the deductible share of the expenses incurred by a taxpayer, and paid or to be paid to a related person or home office located outside Puerto Rico. Limitation for losses resulting from the sale or exchange of capital gains is also reduced from ninety (90) percent to eighty (80) percent of the revenues of those sales. As with the application of the alternative minimum tax component of twenty (20) percent on payments made to related entities or home offices located outside Puerto Rico, the Secretary will only have authority, upon request, to exclude sixty (60) percent of said expenses in order to apply the fifty one (51) percent limit described in Section (a)(16) and (17) of the Code. Deductions for expenses incurred or paid for services rendered by a non-resident, or for the cost or depreciation of taxable items or goods, will not be allowed, if the taxpayer has not paid the SUT established in Subtitle D of this Code and the value added tax on said services established in Subtitle DD of the Code, as applicable.

5 Page 5 It is established that, in order to grant a charitable entity exemption to a non-profit organization under Section of the Code, the entity must provide evidence that it engages in activities in Puerto Rico. III. MORATORIUM ON CREDITS Act extends the moratorium on use and issuance of certain tax credits until January 1, The provisions of this Informative Bulletin are effective immediately. For more information about the provisions of this Informative Bulletin, please call (787) , option 8. Cordially, [Signed] Juan C. Zaragoza Gómez