Who in Puerto Rico should file a U.S. tax return?

Editor’s Note: This article was originally published on January 26, 2015.

Do Puerto Ricans pay U.S. taxes? In some cases, yes. H&R Block provides tax services to a wide variety of clients, including residents of Puerto Rico. We even have office locations on the island. These folks have a few complexities though – starting with whether or not they are even required to file.

We know that every American citizen is subject to paying taxes to the government of the United States on their income anywhere in the world. One would also think the same thing would happen with all citizens living in Puerto Rico. Well, here is where you must pay close attention.

U.S. citizens who have lived all year on the island are exempt from filing taxes to the federal government of the United States as long as all of your income was from Puerto Rican sources only. However, if you receive income from anywhere else in the world, including the United States and/or if you are an employee of any agency of the United States in Puerto Rico, you must submit a form to the federal government.

So you shouldn’t file a tax return for the U.S. if you meet either of the following requirements:

1. You’re a bona fide resident of Puerto Rico during the entire tax year, and
2. Your only income is from sources within Puerto Rico.

Caution: The rules are different for U.S. government employees, including members of the U.S. armed forces. Please see the section below for more information.

However, if you also have income from sources outside of Puerto Rico, including from U.S. sources, you’re required to file a U.S. federal income tax return if such amount is above the U.S. filing threshold for your filing status.

If you’re a U.S. citizen who changes residence from Puerto Rico to the United States, and who was a bona fide resident of Puerto Rico for a period of at least two years before changing residency, you can exclude any Puerto Rican source income from your U.S. income tax return attributable to the time you were still residing in Puerto Rico for part of the year.

If you are a bona fide resident of Puerto Rico and are eligible to exclude income from Puerto Rico on your U.S. tax return, you must determine the required threshold for filing indicated in the instructions for the U.S. tax return. IRS Publication 1321 will help you to determine the amount of income that would require you to file a U.S. return.

Also, you can find out what it means to be a bona fide resident of a U.S. possession or territory in IRS Publication 570. Bona fide residents of American Samoa, Guam, the Northern Mariana Islands (CNMI), Puerto Rico and the Virgin Islands may qualify for certain tax benefits.

Even though bona fide residents of Puerto Rico do not have to pay federal income taxes on income sourced from Puerto Rico, the situation is different if you are self-employed. In that case, even though you won’t have a U.S. filing requirement, because you will have income effectively connected with a trade or business in Puerto Rico, you should use Form 1040-SS or Form 1040-PR.

U.S. Citizens in military service

If you are a U.S. citizen who is also a bona fide resident of Puerto Rico during the fiscal year but receive income as a U.S. government employee in Puerto Rico, you must file a federal tax return.

However, if you are a bona fide resident of Puerto Rico and a member of the U.S. armed forces, your military service pay will be sourced to Puerto Rico even if you work for the military in the U.S. or another U.S. possession. As a member of the U.S. armed forces, you will determine your residency by looking at your home of record. If that home of record is in Puerto Rico, then you are still a bona fide resident of Puerto Rico, even if you are stationed in the U.S. In such a case, you will file a Puerto Rico return to report your worldwide income and a U.S. return to report your wages from the U.S. armed forces. A foreign tax credit is available on the U.S. tax return for taxes paid to Puerto Rico.

If your home of record is one of the fifty states, then even if you are stationed in Puerto Rico, the income is sourced to Puerto Rico. You must file a Puerto Rico tax return reporting income from Puerto Rico sources, and a U.S. tax return reporting income from worldwide sources. A foreign tax credit is available for taxes paid to Puerto Rico on income that is not exempt on the U.S. tax return.

There are some rules that apply for spouses of active duty members of the military under the Military Spouse Residency Relief Act (MSRRA). Civilian spouses may be eligible to choose the same domicile (tax residence) as the active duty military spouse.

• If the civilian spouse continues to be a bona fide resident of Puerto Rico under the MSRRA while in any of the 50 U.S. states or the District of Columbia, any wages, salaries, tips, or self-employment income earned by the civilian spouse is considered Puerto Rico source income. The civilian spouse reports and files taxes using the rules for bona fide residents listed above.
• If the civilian spouse continues to be a resident of any of the 50 U.S. states or the District of Columbia, and the civilian spouse’s only income is from wages, salaries, tips, or self-employment, the civilian spouse will be taxed on worldwide income and file only a U.S. tax return and a state tax return. If the civilian spouse has other types of income sources to Puerto Rico, the income may need to be reported to Puerto Rico.

These tax benefits for military spouses under the MSRRA can mean saving hundreds of dollars in taxes and simplifying the tax return filing process.

It is important for residents or U.S. citizens to pay federal taxes for their work on the Island of Enchantment, so make sure to talk to a tax professional about your specific situation to get the help you need.