Foreign Subsidiary

Under this alternative, the parent company will not be engaged in trade  or business in Puerto Rico and the Puerto Rico business will be conducted through a wholly owned foreign subsidiary.

In determining taxable income, the foreign subsidiary will take into consideration items of income  effectively connected with the conduct of a trade or business in Puerto Rico.  The foreign subsidiary will be allowed to deduct the expenses directly allocable to the Puerto Rico business.  In addition, a reasonable  apportionment of expenses not directly related to any item of income shall be allowed as a deduction.  Thus, the foreign subsidiary would be entitled to deduct in the Puerto Rico income tax return a reasonable allocation of  overhead expenses incurred by the Parent Company or any Affiliate in a foreign country or the United States to the extent they are related to the Puerto Rico operations.  Dividends will be subject to a 10% Puerto Rico  withholding tax when distributed to the foreign Parent Company.  The withholding tax and the regular tax would represent a maximum effective tax burden of 45.10%.

Tax Advise

In our view, the P.R. Corporation offers a better option from an effective tax rate position when  compared with the Foreign Branch or Foreign subsidiary options.  In the P.R. Corporation scenario the dividend tax of 5.85% substitutes the 10% branch profit tax or the 10% withholding on foreign sub dividends.

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