Puerto Rico Act 60 and the three residence tests

Act 60 of 2019, the Puerto Rico Incentives Code, is the only arrangement that lets a US citizen reduce federal income tax substantially without renouncing citizenship. It works because Puerto Rico is a possession of the United States rather than a foreign country. Section 933 of the Internal Revenue Code lifts Puerto Rico-source income out of the federal tax base altogether — for one class of person, and one only: the bona fide resident of Puerto Rico.

Everything turns on that phrase. The decree from the Puerto Rico government is the part people negotiate. Bona fide residence is the part the IRS examines, and it is settled under federal law, year by year, on evidence rather than on intention.

What the decree gives, and what it does not

Act 60 consolidated the incentives previously granted under Act 20 and Act 22 of 2012. Two chapters matter to individuals.

Chapter 2, the resident individual investor, exempts Puerto Rico-source interest, dividends and capital gains that accrue after you become a resident from Puerto Rico income tax. Chapter 3, export services, applies a low fixed rate to income from services performed in Puerto Rico for customers outside it, with distributions to a bona fide resident owner exempt.

Neither chapter touches federal law. The federal relief comes from §933, which is available only to a bona fide resident and only for income sourced to Puerto Rico. That second limb is quietly the more dangerous one: services performed on the mainland are US-source wherever the invoice is raised, and §937(d) reaches back to tax much of the built-in gain on assets you already owned when you arrived if you sell them within ten years.

Note also what Act 60 is not. Puerto Rico is not a foreign country federally, so the foreign earned income exclusion is unavailable and the bona fide residence test under §911 is a different test with a different statute behind it. The vocabulary overlaps; the law does not.

The three tests

Under IRC §937 and Treas. Reg. §1.937-1 you are a bona fide resident of Puerto Rico for a tax year only if you satisfy all three of the following in that year:

1. the presence test;
2. the tax home test; and
3. the closer connection test.

They are conjunctive. Passing two comfortably and the third by argument is failing.

The presence test

This is the only one of the three that is arithmetic, and it is unusually forgiving because it offers alternatives. You need to satisfy any one of them.

• You were present in Puerto Rico for at least 183 days during the tax year.
• You were present in Puerto Rico for at least 549 days during the three-year period made up of the tax year and the two immediately preceding years, and for at least 60 days in Puerto Rico in each of those three years.
• You were present in the United States for no more than 90 days during the tax year.
• You had United States earned income of no more than $3,000 and were present in Puerto Rico for more days than in the United States during the tax year.
• You had no significant connection to the United States during the tax year.

A day of presence in Puerto Rico is any day on which you were physically there at any time — the part-day convention, not the midnight-to-midnight one the foreign earned income exclusion uses. Time spent in the United States for fewer than 24 hours in transit between two points outside it is not United States presence, and narrow reliefs cover qualifying medical treatment and days you were kept away by a declared disaster.

The three-year alternative is what makes Act 60 a day-counting problem rather than a day-counting formality. It runs on a rolling window with a floor in every constituent year, so a single thin year two years back can disqualify a year in which you did nothing wrong. It cannot be evaluated from this year’s calendar alone.

The tax home test

Your tax home must not have been outside Puerto Rico during any part of the tax year. Tax home means your regular or principal place of business — or, if you have none, your regular place of abode. It is a work concept, not a housing one.

The words any part are the sharp edge. Unlike the presence test, this one admits no arithmetic and no partial credit: an assignment that relocates your principal place of business to the mainland for a quarter defeats the year, however many days you slept in San Juan.

The closer connection test

You must not have had a closer connection to the United States, or to any foreign country, than to Puerto Rico. The factors come from the same list that governs the closer connection exception for aliens: your permanent home, your family, your possessions, the jurisdiction that issued your driving licence, where you vote, where your accounts are held, the organisations you belong to, and the address you use on official forms.

None is decisive alone; together they describe a life, and the test asks where that life is centred. It is the test most often lost on paper by people who won it in fact — a mainland licence renewed by habit, a voter registration never surrendered, a mailing address kept for convenience.

What disqualifies you

The failures cluster in a few predictable places. Keeping a permanent home available on the mainland closes off the no-significant-connection route and weighs against closer connection. Leaving a spouse or minor children resident stateside does the same, more heavily. Continuing to perform the substance of your work on the mainland defeats the tax home test regardless of where you sleep. And treating Puerto Rico-source income as a label rather than a sourcing conclusion invites the examination that finds all of the rest.

A narrow year-of-move rule in the regulation allows part-year bona fide residence in the year you arrive or leave, subject to conditions about the years either side of it. It is useful, and it depends on a record of those surrounding years rather than of the move itself.

Increased IRS scrutiny

This should be said plainly. In January 2021 the IRS opened a Large Business and International compliance campaign directed at the Act 22 individual investor population, and it has since pursued individual examinations alongside investigations of the promoters who marketed the arrangement. The two lines of enquiry are the ones the statute invites: whether the person was genuinely a bona fide resident, and whether the income was genuinely Puerto Rico-source.

Neither question is answered by a decree. Both are answered by records, and the records that persuade are the ones made at the time.

What Residay tracks for this

The presence test is the part of Act 60 that a day ledger can actually decide, and it is the part most often reconstructed from memory years after the fact.

Residay assigns each day to Puerto Rico, the United States mainland, or elsewhere as three distinct places rather than two, because the presence test compares them against each other. It evaluates every alternative in the test in parallel, including the rolling three-year route with its per-year floor, so a year that fails on one basis and passes on another is reported as passing. It applies the part-day convention this test uses without contaminating the midnight-to-midnight count that a §911 claim would need. And it holds the record on your device, with an export a preparer or an examiner can read.

Planning notes

• Treat the three-year alternative as a live constraint from the year you arrive. It is the route most Act 60 residents end up relying on, and it cannot be repaired retrospectively.
• Surrender the mainland artefacts deliberately and date the surrender: the voter registration, the driving licence, the lease. The closer connection test is decided on exactly these.
• Get the sourcing advice before the residence advice. Bona fide residence with mainland-source income is a smaller benefit than most people expect, and it is where examinations start.
• Keep evidence for the tax home test as well. Days prove where you were; engagement letters and client locations prove where the work was done.