The Executive Remuneration Review: Puerto Rico


Executive remuneration in Puerto Rico is subject to both Puerto Rico and United States federal laws and regulations. Although executive compensation arrangements are usually contractually agreed to between the parties to them and, therefore, tend to be more diverse than standard employment agreements, there are particularities in our jurisdiction, especially in the areas of employment law and taxation, which must be taken into consideration.

Below we discuss some of the most important issues that impact the compensation structures of executives in Puerto Rico.


The tax rules for executive compensation require the interplay of Puerto Rico and US federal laws, such as the Puerto Rico Internal Revenue Code of 2011, as amended (PR Code), the US Internal Revenue Code of 1986, as amended (US Code) and the Employee Retirement Income Security Act of 1974, as amended (ERISA). Executive compensation provisions in the PR Code are comparable to those under the US Code, but they are not identical.

Under the PR Code, the tax provisions related to executive compensation are limited to a couple of sections that have not been significantly amended since their approval. Furthermore, only a few regulations have been issued by the Puerto Rico Treasury Department (PRTD) under these sections; thus, regulations issued under tax laws preceding the PR Code are still in effect as long as the provisions in the PR Code remain unchanged.

i Income tax for employees

Compensation for personal services rendered in Puerto Rico is gross income subject to Puerto Rico income tax.2 Such compensation is subject to income tax withholding at source based on the withholding tables published by the Secretary of the PRTD.3

Compensation will be subject to withholding even if paid by means other than cash, including stocks, property or bonds. The fair market value of property received as payment will be considered wages subject to withholding. In cases where services are paid for with corporate stock, the fair market value of the shares at the date of transfer will be considered compensation.

Pursuant to Section 1031.01(a)(1) of the PR Code, compensation for personal services is part of the taxpayer's gross income. As a general rule, compensation for work performed or personal services rendered in Puerto Rico constitutes income from sources within Puerto Rico. However, compensation for personal services in the case of a non-resident individual will not be considered Puerto Rico source income if certain circumstances are met. Compensation for work performed or personal services rendered outside of Puerto Rico is generally income from sources outside of Puerto Rico, subject to certain exceptions.

Individuals are subject to regular Puerto Rico income tax rates at graduated tax rates from 7 per cent up to a maximum of 33 per cent. Individuals are also subject to alternate basic tax pursuant to the following rates, which are effective for taxable years beginning on 31 December 2018:

Income subject to alternate basic taxRate (per cent)
In excess of US$25,000 but no more than US$50,0001
In excess of US$50,000 but no more than US$75,0003
In excess of US$75,000 but no more than US$150,0005
In excess of US$150,000 but no more than US$250,00010
More than US$250,00024

Severance payments

Pursuant to Section 1031.01(b)(15) of the PR Code, severance payments are excluded from the definition of gross income4 if received by the employee by reason of dismissal, without the need to determine just cause, up to the maximum amount equivalent to the indemnity that the employee could receive under Act No. 80 of 31 May 1976, as amended.5 These payments are not subject to Puerto Rico income tax withholding at source, as provided by Section 1062.01 of the PR Code, and are currently reported as exempt wages in the withholding statement in Form 499R-2W-2PR.

Note, however, that severance payments are subject to FICA tax (i.e., Social Security tax, Medicare tax and additional Medicare tax), as provided by US federal law.6

Employees' trusts

If certain requirements are met, trusts set up by employers that are part of a stock bonus, pension or profit-sharing plan are subject to a beneficial tax treatment. Plans that meet all requirements established in Section 1081.01 of the PR Code are deemed qualified, which has income tax benefits for both employers and employees.

To be qualified under the PR Code, certain tests must be met to guarantee adequate coverage to rank and file employees and to avoid discrimination in favour of highly compensated employees, as such term is defined in Section 1081.01(d)(3)(E)(iii) of the PR Code.

When a pension, stock bonus or profit-sharing plan is qualified under Section 1081.01 of the PR Code, the trust established to provide such benefits is exempt from Puerto Rico income tax. In addition, if the plan is qualified for Puerto Rico income tax purposes and all the participants in such plan are Puerto Rico residents, the trust is also treated as exempt under Section 501(a) of the US Code, as provided by Section 1022(i)(1) of ERISA. As a result, income earned by the trust in the United States is not subject to US taxation. A plan may exclude from coverage employees who are non-resident aliens and whose income is not deemed to be Puerto Rico source income and still benefit from the preferential Puerto Rico income tax treatment.

For Puerto Rico income tax purposes, employees are generally taxed in the year in which they receive a distribution from a trust. Under the PR Code, in the case of a plan with a cash or deferred arrangement feature (commonly referred to as a 401(k) plan), the employee's pre-tax contributions to such plans are excluded from their gross income in the taxable year in which the contributions are made, subject to the applicable limitations under the PR Code. Thus, the employee's pre-tax contributions are not subject to Puerto Rico income tax at such time. In addition, the plan may allow employee's voluntary contributions (i.e., after-tax contributions), subject to the limitations under the PR Code. Furthermore, the plan may provide for employer contributions such as profit-sharing or matching contributions.

Contributions made by an employer to a qualified plan may be deducted against business income on the Puerto Rico income tax return, subject to certain limits, which vary depending on whether the employer is making contributions to a pension plan, stock bonus or profit-sharing plan, as provided in Section 1033.09 of the PR Code. In the case of contributions to a qualified retirement plan in excess of the amount deductible, the employer is subject to a 10 per cent tax.7

As a general rule, the amount actually distributed or made available to any participant or beneficiary by the exempt trust according to Section 1081.01 of the PR Code shall be taxable for such participant or beneficiary in the year in which it is distributed or made available as if it were an annuity whose price or consideration is the amount of voluntary contributions made by the participant, excluding the investment gains attributable to the same, and those amounts over which the participant previously paid Puerto Rico income taxes. However, if the total benefit under the trust with respect to a participant is paid or made available to the participant or his or her beneficiary within a single taxable year of the latter, due to the participant's separation of service, for any reason, or plan termination, the amount of such distribution in excess of the amount contributed by the participant shall be generally taxed as ordinary income subject to the regular individual income tax rates.8 However, total distributions subject to Puerto Rico income tax withholding at source (and if the amount withheld is deposited with the PRTD) will be taxed at a 20 per cent tax rate (instead of the regular individual income tax rates). The 20 per cent tax rate could be reduced to 10 per cent in certain cases.9 If within 60 days upon receiving a total distribution from a qualified plan the employee elects to roll it over to another qualified retirement plan or individual retirement account in Puerto Rico, no tax consequences will be triggered for the employee at that time by reason of such distribution.

Employee stock options

Pursuant to Section 1040.08 of the PR Code, if certain conditions are met with respect to employee stock options:

  1. no income is recognised when an employee exercises the option, nor at the time the stock is transferred to the employee;
  2. no deduction may be claimed by the employer corporation (or its parent or subsidiary) as a business expense with respect to the transferred stock; and
  3. only the amount paid pursuant to the option is the amount received by the corporation for the transferred stock.

The rules listed above apply if, during the period commencing when the option is granted and ending three months before the date the option is exercised, the individual is an employee or director of the corporation granting the option (or the parent or subsidiary of the corporation).

ii Social taxes for employees

FICA taxes apply in Puerto Rico in the same manner as in the United States. Please note that wages are also subject to FUTA tax (i.e., unemployment) under US federal law, and Puerto Rico disability and unemployment taxes.

iii Tax deductibility for employers

Section 1033.01(a)(1) of the PR Code allows employers to claim a deduction on their Puerto Rico income tax return as an industry or business expense, a reasonable amount paid or incurred during the taxable year for wages, or compensation for personal services rendered. The Secretary of the PRTD is authorised to determine the reasonableness of the compensation and may disallow or limit the deduction if it is found unreasonable.

iv Other special rules

Premium payments made by an employer for group or collective life insurance policies covering the lives of its employees are exempt from Puerto Rico income taxes for an amount of up to US$50,000 in coverage.10 Premiums paid as part of a life insurance policy covering the life of an employee or officer, or any other person with financial interests in the taxpayer's business, cannot be deducted when the taxpayer is the beneficiary of the policy.

In addition, employer contributions to a health or accident plan for the benefit of its employees are tax-exempt for Puerto Rico income tax purposes.

Tax planning and other considerations

In 2012, the government approved two Acts as part of its efforts to attract foreign investors to Puerto Rico: Act No. 20 of 17 January 2012, as amended (Act 20) and Act 22 of 17 January 2012, as amended (Act 22). Many executives have shown interest in these Acts due to the attractive tax incentives package they offer. In summary, Act 22 grants a Puerto Rico income tax exemption on dividends and interest from all sources, and on capital gains derived from the appreciation of securities after commencement of Puerto Rico residency (certain requirements apply). Entities with Act 20 tax grants are subject to a fixed 4 per cent Puerto Rico income tax rate, a 100 per cent Puerto Rico income tax exemption on dividends, and a partial exemption on real and personal property tax and municipal gross receipts tax. As of 1 January 2020, no tax incentives applications are accepted under Act 20 or Act 22. But most of the tax incentives offered under those Acts continue to be available under Act No. 60 of 1 July 2019, as amended, known as the Puerto Rico Tax Incentives Code (PR TI Code).

Although Act 20 and Act 22 had no specific provisions related to executive compensation, on 15 October 2015 the PRTD issued Administrative Determination No. 15-22 regarding salary imputation rules to shareholders or partners who are also employees of an entity with an Act 20 tax grant (officer-owners).11 Pursuant to Section 1040.09 of the PR Code, the Secretary of the PRTD may impute compensation income to certain taxpayers when appropriate to prevent tax evasion or to clearly reflect the income of a business. In cases where the officer-owner has an annual salary that is less than US$350,000 for services rendered to an Act 20 entity in which the officer-owner has a proprietary interest at the end of the taxable year, the Secretary may assess the reasonableness of such salary and impute additional income up to US$350,000. Income imputation depends on the facts and circumstances in each case, and the Secretary of the PRTD may consider the economic status of the Act 20 entity, the officer-owner's job responsibilities and salaries earned by executives in similar positions.

Employment law

As Puerto Rico is subject to US federal law, to qualify as an executive, an employee must meet the requirements of the Fair Labour Standards Act: that is, the employee must earn a minimum salary of US$455 per week, or US$23,660 a year.12 The employee's compensation must not be subject to reduction because of variations on the quality or quantity of work performed. In addition, all of the following requirements must be met:

  1. the employee's primary duty must relate to managing the business or one of its recognised departments or subdivisions;
  2. the employee must customarily and regularly direct the work of at least two full-time employees (or their equivalent in part-time employees); and
  3. the employee must have the authority to hire or fire employees, or the employee's recommendations as to hiring, firing, promotion or demotion must carry particular weight.

If an employee qualifies as an executive, the terms and conditions of compensation are typically governed by contractual agreement between employer and employee, rather than being statutorily established, as in the case of rank and file employees. The Labor Transformation and Flexibility Act of 2017 (otherwise known as the Puerto Rico Labour Reform Act) provides that an employment contract is one in which a natural person (the 'employee') is retained to perform services of a voluntary nature for the benefit of the employer or a third party in exchange for compensation for the services rendered within the scope of the employer's operations and at the specific direction of the employer. Pursuant to the Labor Reform Act, such contracts may be verbal or in writing (although it is absolutely recommended that employment contracts at an executive level be in writing); may be drafted in any language that the employee understands; and may be executed with either a handwritten or digital signature. Parties may negotiate a broad variety of compensation and benefits such as, for example, stock options, incentive plans, tax equalisation, other deferred compensation (in compliance with applicable regulations) and bonuses. The employment contract shall have force of law between the parties.

Under Puerto Rico law, all employees, including executives, have an obligation to fulfil the responsibilities and obligations of their positions pursuant to their employer's rules and policies, with good faith and diligence.13 An employee's right to freely resign from any employment position is a right enshrined in the Constitution of the Commonwealth of Puerto Rico.14 However, contract provisions such as penalty clauses; as well as confidentiality, non-compete and non-solicitation agreements, which are intended to survive the employment relationship, are enforceable after an employee's resignation. Moreover, depending on the terms and conditions of the agreement, the employer may have valid claims for breach of contract against the employee.

i Non-competition and non-solicitation agreements

At an executive level, covenants not to compete are not unusual. They are enforceable in Puerto Rico, under general freedom of contract principles, as long as they comply with certain requirements. In fact, Section 2.15 of the Labour Reform Act sets forth a general obligation that all employees, including executives, must refrain from competing with the business activities of their employer during the course of their employment, even in the absence of a written non-competition agreement.15

Where a non-competition agreement is intended to last beyond the termination of employment, such agreements may not be against public policy. According to case law established by the Puerto Rico Supreme Court, for a covenant not to compete to be valid in this jurisdiction it must be made in writing, in exchange for adequate consideration, and must not impose an undue burden on an employee. Monetary damages are generally allowed.

The non-competition clause must be tailored to the employer's legitimate need to protect its business in terms of duration, geographical limitation and clients affected.16 The clause must be limited to the geographical area, clients and type of service strictly necessary to protect the employer's interests. In addition, a non-competition agreement must not exceed 12 months, although longer periods have been found valid for shareholders and consultants.17 The more parity that exists between the parties negotiating the agreement, the more likely it is that its terms will be upheld. As to the requirement that adequate consideration be provided, if a non-competition clause is part of the original employment agreement, no independent consideration is required. However, if the non-competition clause is required after an individual has become employed, independent consideration must be provided. What constitutes adequate consideration varies by industry and position, and by the employee's overall compensation package.

Provisions for non-solicitation of employees may also be enforceable. These provisions are generally included in non-competition agreements, separation agreements and settlement agreements. However, the Puerto Rico Constitution and case law of the Puerto Rico Supreme Court provide for the right of every employee to choose, and resign freely from, their employment. Thus, in the absence of a valid agreement to the contrary, or an employment contract for a fixed term, any employee is free to resign and work for any other employer, including a competitor.

Likewise, non-solicitation of customer provisions may be valid. These provisions are generally included in non-competition agreements, separation agreements and settlement agreements.

ii Termination of executive employees

Contractual agreements for executive employees typically include clauses that set forth the terms and conditions governing their separation from employment. Many agreements include a severance benefit based on an employee's total compensation.

It must be noted, however, that Puerto Rico is currently a for-cause jurisdiction, meaning that if a court concludes that an employee was terminated without just cause, they are entitled to statutory severance. Act No. 80, as amended, establishes a seniority-based formula to calculate statutory severance, which is currently capped at a maximum of nine months' salary for all employees hired after 26 January 2017.18 Employees hired before 26 January 2017 may use the prior, more favourable formula, which does not include a monetary cap.19 Although claims under Act No. 80 cannot be prospectively waived at the beginning of an employment relationship, they can be addressed and settled in the context of a termination agreement.

Just cause under Act No. 80 has been defined as:

  1. an employee engaging in a pattern of improper or disorderly conduct;
  2. an employee engaging in a pattern of deficient, inefficient, unsatisfactory, poor, tardy or negligent performance;
  3. repeated violation of the reasonable rules and policies established by an employer for the operation of the business, so long as those rules and policies have been provided to an employee in writing in a timely manner;
  4. the total, temporary or partial closing of an employer's operations;
  5. technological changes to the organisation, a reorganisation or a restructuring, as well as changes related to the style, design or nature of a product that is produced or handled by a business, or the services it renders to the public; and
  6. reductions in a workforce made necessary due to a decrease in volume of production, sales or earnings, whether anticipated or prevailing at the time of the termination, as well as those made with the purpose of increasing the competitiveness or productivity of a business.20

Of course, this definition of just cause is not intended to be taxative, and the Puerto Rico Supreme Court has clarified that the definition of just cause extends to any reason related to the good and normal operation of the business, and not to the whims of an employer. Furthermore, in the case of executive employees, terminations may also be for reasons agreed to in the employment contract, or by mutual agreement.

In the context of a transfer of a going concern, Act No. 80 establishes that if the buyer opts to continue using the services of the employees of the former owner, the new employer shall credit the entire period worked with the previous owner for seniority purposes. However, if the buyer opts not to retain some or all of the business' employees and consequently does not become their employer, the seller shall be liable for the statutory severance provided for under the Act and shall withhold the corresponding amount from the agreed-upon sale price.

Act No. 80 also contemplates constructive discharge. In this scenario, the burden is on the employee to establish that they had no other reasonable alternative but to resign from their position due to the arbitrary and capricious conduct of their employer. However, not every uncomfortable or disagreeable situation in the workplace will give rise to a constructive discharge- the employer's arbitrary, unreasonable, and unjustified actions must create a hostile work environment that renders it impossible for the employee to remain in the workplace. The employer's actions must arise from a motive other than the legitimate interest of safeguarding the normal and proper operation of the business. In cases of constructive discharge, in order to prove that the employee was terminated, it shall be insufficient for the employee to assert that they were forced to resign. The employee must establish concrete facts that demonstrate that the employer's capricious or arbitrary actions were designed to force their resignation.

iii Applicability of Puerto Rico employment laws to executive employees

In addition to being covered by Act No. 80, discussed above, executive employees in Puerto Rico receive a statutory Christmas bonus of a maximum of US$600.21 The employer is free to establish, through company policy or contractual agreement, bonuses over that amount. Any bonus paid by the employer will be credited towards the statutory amount required.

Executives in Puerto Rico are also entitled to maternity leave and legally established breaks for breastfeeding or the expressing of breast milk.22 Under Puerto Rico law, any woman who gives birth or adopts a child under the age of five is entitled to eight weeks of paid leave, with employment secured. Furthermore, breastfeeding mothers are entitled to two 30-minute breaks to breastfeed their child or express breast milk.

Likewise, executive employees are covered by Puerto Rico's Short-Term Non-Occupational Disability statute. This statute provides nominal monetary compensation of US$133 per week for non-occupational short-term disability for a period of 26 weeks, and employment reservation of one year.23 Executive employees are also entitled to Workers' Compensation for work-related accidents or conditions. Long-term disability benefits are only available under company policy or contractual agreement.

Unlike hourly employees, executive employees in Puerto Rico are not statutorily entitled to vacation and sick leave. Vacation and sick leave benefits for executives may be established by company policy, or in an employment agreement. Once these benefits have been recognised by an employer, however, they must be honoured.24 Further, executive employees are not covered by Puerto Rico Law No. 17 of 17 April, 1931, which governs the manner in which non-exempt employees must receive their salary and establishes restrictions on what payroll deductions the employer may make.25 In the case of executives, the employer and employee may reach such contractual agreements as they deem appropriate.

Under Puerto Rico law, executive employees are protected from discrimination and retaliation in the workplace in the same manner as non-exempt personnel. While federal employment discrimination statutes exclude the possibility of individual liability for supervisors for discriminatory actions or workplace harassment, under Puerto Rico law, direct action against supervisors is expressly permitted. Accordingly, in addition to being statutorily protected from such conduct, executive employees may be held personally liable for intentional discrimination, harassment or retaliation. Further, Puerto Rico lawspecifically prohibits employers from enquiring about an employment candidate's salary history, including salary, benefits, perquisites and any other form or remuneration, or combination thereof.26

In the event that an employee from another jurisdiction is assigned to work in Puerto Rico for the benefit of another employer for a period of less than three consecutive years, and maintains an employment relationship with their foreign employer, the Labour Reform Act states that the contractual and legal rights and obligations shall be interpreted pursuant to the terms of the employment contract, including choice of law. The employee will still be subject to Puerto Rico law for the purposes of income tax, discrimination in the workplace, and workplace accidents or injuries. If the parties fail to include a choice of law in an employment contract, the contract shall be interpreted in accordance with Puerto Rico law.

Securities law

Any aspects of executive remuneration in Puerto Rico pertaining to securities law are governed by US federal law. Therefore, the regulation of these matters is identical to that of the United States.


Disclosure of executive remuneration for Puerto Rico public companies is regulated by US federal law. As to privately held corporations, under Puerto Rico law, disclosure is limited to the filing of an annual report with the Puerto Rico Department of State, which must include a balance sheet. In the case of corporations with an annual business volume in excess of US$3 million, the annual report must include an audited balance sheet.27 Any disclosure to regulatory entities would be dependent on a particular corporation's operations and the laws and regulations that apply to the same. There is no obligation to disclose the remuneration of corporate directors or executives.

Corporate governance

As with matters pertaining to securities law or corporate disclosure, corporate governance of Puerto Rico public corporations is subject to US federal law. Puerto Rico has not adopted a corporate governance code applicable to privately held corporations. Accordingly, it is up to each company to establish such corporate governance codes or by-laws as it deems appropriate for its operation.

Specialised regulatory regimes

As in the United States, certain industries in Puerto Rico, such as the finance industry, are subject to special federal regulation in the area of executive remuneration. Compliance with regulatory entities would be dependent on a particular corporation's operations and the laws and regulations that apply to the same.

Developments and conclusions

Matters relating to executive remuneration in Puerto Rico are certain to evolve as the Fiscal Control Board continues to enact measures under PROMESA to reshape the financial and, by consequence, employment landscape of Puerto Rico. Broad changes are anticipated both to the local tax code and employment legislation. In the employment context, the tendency seems to be towards a general liberalisation of the employer–employee relationship, thereby allowing parties to contractually agree to such terms as they see fit. However, given the resistance of the government to enacting some of the proposed changes, the outcome remains to be seen.



1 Edwin J Seda-Fernández and Mariel Y Haack are shareholders of, and Mariangely González-Tobaja is an associate at, Adsuar Muñiz Goyco Seda & Pérez-Ochoa, PSC.

2 The discussion herein is based on remuneration for services rendered by individuals as employees. Other legal and tax rules may apply in different arrangements, such as independent contractors, partners, members, or shareholders.

3 The last withholding tables published by the PRTD are for wages paid after 31 December 2016, which are still in effect.

4 Please note that these amounts are tax exempt for Puerto Rico income tax purposes, including alternate basic tax.

5 29 Laws of Puerto Rico Annotated (LPRA) 185(a), et seq.

6 See, US v. Quality Stores, Inc, 134 S. Ct. 1395, 188 L. Ed. 2d 413 (25 March 2014).

7 But this contribution may be carried forward or deducted in future taxable years, subject to the applicable limits.

8 Total distributions from qualified plans made prior to 1 January 2018 were considered a long-term capital gain taxed at a 20 per cent rate.

9 The reduced 10 per cent tax rate applies if: (1) the trust is organised under the laws of Puerto Rico or has a Puerto Rico resident trustee and uses such trustee as the paying agent; and (2) at least 10 per cent of all trust assets attributable to the Puerto Rico resident participants, determined based on the average balance of the trust investments during the plan year during which the distribution is made and each of the two plan years preceding the date of the distribution, has been invested in certain 'property located in Puerto Rico'.

10 See Section 1031.02(a)(2) of the PR Code.

11 The PRTD has yet to issue similar guidance under the PR TI Code; therefore, the provisions in Administrative Determination No. 15-22 remain in effect until further guidance is published. However, any reference to Act 20 must be understood as referring to the PR TI Code.

12 Puerto Rico is currently exempt from the change in the FLSA's salary basis test that came into effect on 1 January 2020, which increases the minimum exempt salary from US$455 per week to US$684 per week.

13 29 LPRA 122 et seq.

14 Article II, Section 16 of the Constitution of the Commonwealth of Puerto Rico of 1952.

15 29 LPRA 122n.

16 See Arthur Young & Co v. Vega III, 136 D.P.R. (1994).

17 See Reyes-Ramis v. Serra-Torres, 195 D.P.R. 828 (2016).

18 29 LPRA 185a, et seq.

19 29 LPRA 185a, as amended.

20 29 LPRA 185b, as amended.

21 Act No. 148 of 30 June 1969, 29 LPRA 501et seq.

22 Act No. 3 of 13 May 1947, 29 LPRA 467 et seq., and Act No. 427 of 16 December 2000, 29 LPRA 478 et seq.

23 Act No. 139 of 26 June 1968, 11 LPRA 201 et seq.

24 See Beauchamp v. Holsum Bakers of PR, 116 D.P.R. 522 (1985).

25 29 LPRA 171 et seq.

26 Act No. 16 of 8 March 2017, 29 LPRA 251, et seq.

27 Puerto Rico General Corporations Act of 2009.

Get unlimited access to all The Law Reviews content