MEMORANDUM TO CLIENTS AND FRIENDS
Tax 2006-08
July 14, 2006
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Municipal Sales Tax

Following the footsteps of the Municipality of Caguas, a number of municipalities in Puerto Rico have adopted ordinances to impose sales taxes in anticipation of the imposition of an Island-wide sales tax in November, 2006, pursuant to recently enacted legislation. This memorandum discusses such municipal sales taxes, which the various ordinances declare a "Citizen Contribution on Retail Sales," by summarizing the highlights of the ordinances approved by the municipalities.

Tax Rates and Effective Dates

The municipal sales tax is imposed on the retail sales made within the different municipalities. Some ordinances, like Manatí and Mayaguez, ¹ provide rules for the determination of the place of the sale, according to the place in which the sale was executed or where the goods were transferred to the consumer.

The tax rates applicable under each ordinance vary from 1% to 1.5% and are applied to the total retail sales price. The total retail sales price generally is the amount for which a good is sold and does not include cash discounts, amounts charged for personal property returned if the amount is returned in cash or credit, nor installation, delivery and reparation charges, among others. ² Such items must be identified separately in the invoice, receipt, contract or sales document.

In addition, the effective date of the municipal sales tax for each municipality varies from September 1, 2005 to August 1, 2006. The following table summarizes the tax rates and effective dates for each municipality: ³

Some municipalities allow the merchant to retain a percentage of the municipal sales tax (generally, 4 cents for every dollar collected) to compensate for the implementation and operating costs of the municipal sales tax.

Retailer's Registry Requirement

The ordinances provide for the creation of a separate retailer's registry in each municipality. A new business must register not later than 30 days after the commencement of the business activity in each municipality. For businesses already operating in the municipality, the registration due date varies depending on the effective date of the ordinance. Failure to register with the municipality in the manner prescribed by the ordinances, unless due to reasonable cause, can result in penalties that range from $500.00 to $1,000.00. The following table summarizes the registration deadlines for businesses already in operation within a municipality:

Filing Requirements

The retailer, and in some cases the consumer, must file with the Finance Director of the municipality a monthly declaration under oath using the declaration form established by the municipality. In general, the declarations include information as to the gross sales, returned goods and exclusions, the adjustment to reimburse the merchant for the implementation and operation of the sales tax (where applicable), the total amount of the sales tax withheld, the credit for taxes paid on bad debts written off and goods returned, and the amount of the sales tax to be remitted to the municipality, as well as any other information that the Finance Director considers necessary. The due date for filing of the declaration and remitting the sales tax varies among the municipalities, as follows:

Exclusions and Exemptions

The municipal sales tax is imposed on any retail sales made within the municipality, except for those goods and transactions which are expressly excluded or exempted by the ordinance. The exclusions and exemptions vary from municipality to municipality. Nevertheless, some exclusions and exemptions are common to all the municipalities, as follows:

1. Medicines prescribed by doctors;

2. Jewelry subject to the tax imposed by Section 2050 of the Puerto Rico Internal Revenue Code of 1994, as amended (the "Code");

3. Medical artifacts used by hearing impaired, blind, handicap, mutilated, mute, cardiac, and disabled persons, among others, to make up for physical or physiological deficiencies;

4. Orthopedic equipment;

5. The land, subsoil and buildings;

6. Sales and purchases made by any federal agency, subdivision or instrumentality;

7. Sales and purchases madebyanydepartment, agency, administration, bureau, board, commission, office, public corporation, public instrumentality and municipalities of the Commonwealth of Puerto Rico, including the Legislative and Judicial branch;

8. Admission rights to public shows subject to the tax imposed by Section 2052 of the Code;

9. Total purchases for less than $1.00 (except Carolina);

10. Gains realized as the result of transactions exempt from income tax under Section 1112 of the Code;

11. Sales of goods through vending machines;

12. Raw materials, machinery and equipment used directly in the manufacturing process;

13. Materials, equipment and machinery used by bona fide farmers directly in agricultural activities;

14. Food for human consumption acquired by nonprofit organizations described in Section 1101(4) of the Code, if such food is acquired to be distributed to the beneficiaries of the programs offered; and

15. Organizations exempted from municipal taxes under any tax incentive or industrial law of Puerto Rico in the ratio established by such laws or decrees.

Notwithstanding the above, some goods are excluded or exempted by some municipalities and not by others. Cigarettes, for example, are exempt from sales tax in San Juan and Mayagüez and alcoholic beverages are not subject to sales tax in Caguas, San Juan, Carolina and Mayagüez, among others. Motor vehicles are exempt in Caguas, San Juan, Ponce and Carolina, among others, but are not expressly excluded by Santa Isabel. Gasoline, aviation fuel, gas oil, and the occupancy of rooms in hotels, guesthouses and motels are excluded from taxation in Caguas, Mayagüez and Carolina, among others; but gasoline, aviation fuel and gas oil are not expressly excluded from sales tax in San Juan.

The taxation of services varies from municipality to municipality and the definition of what is considered a service varies as well. For example, in San Juan and Carolina, the services that are subject to tax are telecommunication and cable or satellite services. In Mayaguez, all services are subject to municipal sales tax. In Ponce, services offered by business and persons that reported less than $1,000,000 of volume of business for municipal license tax purposes the previous year, and financial and bank services, educational and telecommunication services, are excluded from the municipal sales tax.

Deficiencies

The ordinances provide procedures for reimbursement of taxes paid in excess and for the imposition and notification of deficiencies by the Finance Director, as well as for the imposition of penalties, surcharges and interest where applicable. Statute of limitations periods are established for the notification and assessment of the deficiency and its collection.

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Note that the information discussed is subject to change upon approval of regulations by the municipalities or through administrative interpretation. At writing, the municipalities of Ponce, Guaynabo and Caguas had approved regulations under the municipal sales tax. 250

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If you have any questions or comments, or wish additional information, please contact any of the attorneys listed below, members of our Tax Department:

The content of this memorandum has been prepared by us for information purposes only. It is not intended as, and does not constitute, either legal advice or solicitation of any prospective client. An attorney-client relationship with McConnell Valdés cannot be formed by reading or responding to this memorandum. Such a relationship may be formed only by express agreement with McConnell Valdés.

¹ The ordinance for the Municipality of Mayagüez specifically provides that retail sales made through the Internet or catalogues are not considered sales made within the municipality.

² The Municipality of Carolina includes as part of sales price installation and delivery charges.

³ According to news reports, Juana Díaz may have increased the tax rate to 1.5% in anticipation of the imposition of the Island wide sales tax. However, the ordinance increasing the rate was not available at the time of writing.

⁴ Although the municipal ordinance established a July 1, 2006 effective date, the Municipality has announced a moratorium until August 1, 2006.