Paulson’s Puerto Rico Paradise Lures Hedge Funds Fleeing Taxes
2014-06-26 04:00:01.6 GMT
By Katherine Burton
June 26 (Bloomberg) -- It’s 2 a.m. at La Factoria in Puerto
Rico’s Old San Juan, a hipster joint with a sagging couch, tile
floors and Christmas lights that wouldn’t be out of place in
Brooklyn’s Williamsburg. While “Get Lucky” plays, tipsy
couples slink out the doors onto the colonial city’s cobblestone
streets into this warm April night.
At the bar, a 28-year-old hedge fund trader -- the type of
person who posts his SAT results on his LinkedIn page -- is
ranting about the tax code. He’s obsessed with it, complaining
that the U.S. is the only major country taxing citizens on their
worldwide income, no matter where they reside. That’s why he
moved here.
Struggling to emerge from an almost decade-long economic
slump, the Puerto Rican government signed a law 18 months ago
that creates a tax haven for U.S. citizens. If they live on the
island for at least 183 days a year, they pay minimal or no
taxes, and unlike Singapore or Bermuda, Americans don’t have to
turn in their passports. About 200 traders, private-equity
moguls and entrepreneurs have already moved or committed to
moving, according to Puerto Rico’s Department of Economic
Development and Commerce, and billionaire John Paulson is
spearheading a drive to entice others to join them.
Puerto Rico’s low-tax welcome mat comes as some of the
wealthiest Americans grow more anxious about tax increases and
rhetoric directed at the rich. Tax bills have risen after a 10-
year break under President George W. Bush that
disproportionately favored the rich. The 2008 global financial
crisis and the recession that followed also unleashed movements
such as Occupy Wall Street that focused attention on growing
inequality and the responsibility of large financial
institutions in helping to create the mess.
Protesters Marching
In October 2011, protesters marched by the homes of
Manhattan’s billionaires, including Paulson’s. A little more
than a year later, President Barack Obama beat Mitt Romney in an
election that highlighted the latter’s wealth and private-equity
background.
“I’m worried about the shifting mentality among the
electorate, people blaming problems on the rich, on business and
on capitalism,” says Peter Schiff, a onetime candidate for the
U.S. Senate from Connecticut and a former economic adviser to
libertarian presidential hopeful Ron Paul. “I’m afraid that the
tax rates that are already high will get higher in the years
ahead,” maybe up to 60 percent or 70 percent, he adds.
Schiff, who runs Westport, Connecticut-based brokerage Euro
Pacific Capital Inc., relocated his $900 million asset
management arm from Newport Beach, California, to San Juan in
2013. He plans to move to the island within the next several
years. For now, a son from a first marriage is keeping him in
Connecticut.
New Rules
Under Puerto Rico’s new rules, an individual who moves to
the island pays no local or federal capital-gains tax -- capital
gains are charged based on your tax home rather than where you
earn them -- and no local taxes on dividend or interest income
for 20 years. Even someone working for a mainland company who is
a resident of the island would be exempt from paying U.S.
federal taxes on his salary.
Moving to the island won’t kill all taxes: U.S. citizens
still have to pay federal taxes on dividend or interest income
from stateside companies. But the savings can be extraordinary,
especially given the effects of compounding, says Alex Daley,
chief technology investment strategist at Casey Research, a firm
that publishes reports for investors. Late last year, Daley
moved from Stowe, Vermont, to Palmas del Mar, about 45 minutes
from San Juan.
Tax Savings
Say you put $100,000 in a 5 percent certificate of deposit
that compounds annually and reinvest the proceeds every year. If
you lived in Puerto Rico, you’d earn $165,000 in interest over
two decades, Daley calculates. If you lived in California, your
state and federal taxes could reduce that to as little as
$64,000.
Paulson, who made $15 billion for himself and his investors
betting against U.S. mortgages during the financial crisis,
helped start the wave of transplants last year, when he
considered moving to the island. Paulson, 58, cited excessive
media attention as his reason for staying put in the States. The
press reports had an unintended consequence, though: Word
quickly spread to other wealthy individuals that Puerto Rico
wanted them.
Like the tax refugee at La Factoria, who asked that I not
divulge his identity because his boss wouldn’t want to see his
name in print, almost all say the incentive to move to a cash-
strapped Caribbean island plagued by violent crime is simple:
Pay Uncle Sam less.
Educating Expats
Robb Rill, 43, managing director of private-equity firm
Strategic Group PR, relocated with his wife to Puerto Rico from
Florida in February 2013. He started the 20/22 Act Society,
named for the tax laws designed to encourage people and
businesses to set up shop here, to help educate fellow
expatriates and serve as a networking group.
“I’m talking to people every day who are moving here, and
their No. 1 motivation is taxes,” he says.
Margaret Peña Juvelier, who grew up in New York City, the
daughter of Puerto Rican immigrants, moved to San Juan in 2012
to open a Sotheby’s real estate office. Driving around, she
shows me a few of San Juan’s top apartments. We cross a small
bridge to a six-block area surrounded by water.
“This is Waco,” Juvelier says, pointing out the window.
“Sorry?” I ask, thinking of the Branch Davidians.
“WeCo -- West Condado,” Juvelier says, pointing out the
window and explaining that she and her daughter, also a
Sotheby’s broker, have decided to give some of the neighborhoods
catchy names, such as New York’s SoHo and Tribeca.
Relatively Cheap
By New York standards, prices are cheap: A 3,800-square-
foot penthouse with water views from every room is listed for
$1.99 million; and a four-bedroom duplex with two terraces in
the city’s financial district is on sale for $900,000. Yet the
housing isn’t enough to lure potential converts.
The real challenge, she says, is convincing people they can
replicate their life. Will they have well-traveled, well-
educated friends? Are there decent schools for their kids? Are
there charities that wives can join? Is crime an issue? She
takes her clients to dinner at outdoor cafes to show them it’s
safe at night, and she organizes luncheons to introduce
newcomers to native Puerto Ricans.
In late April, Puerto Rican officials helped set up a
conference in San Juan to educate potential residents about the
new laws and tell the world that Puerto Rico is a fine place to
live -- at least if you’ve got dough.
Beaches, Restaurants
The conference was the brainchild of Alberto Bacó Bagué,
secretary of economic development and commerce, and Paulson, who
the territory’s government says plans to invest about $1 billion
in real estate this year and next. Two hundred people showed up
for panels, tours and information sessions with private schools,
real estate brokers and a tax expert.
The message from every speaker was the same: Puerto Rico
isn’t just about low taxes. It has white-sand beaches and
temperatures in the 80s year-round. There’s an art museum with a
world-renowned pre-Raphaelite collection. It has luxury
apartment buildings, over-the-top resorts such as Dorado Beach,
and a handful of private international schools that send their
graduates to Ivy League colleges. It has restaurants with award-
winning chefs. It’s a four-hour flight to New York. And the
island operates under U.S. law.
Paulson Plan
Paulson is betting that millionaires will come in droves.
In his presentation, in which he forecast that Puerto Rico would
become “the Singapore of the Caribbean,” he said he plans to
develop residential and office properties to go beyond the
current high-end offerings.
The government gives a tax break for businesses that move
to Puerto Rico and provide services outside the country, perfect
for a hedge fund with clients in New York and London. These
firms pay only a 4 percent corporate tax, compared with 35
percent on the mainland. About 270 companies have applied for
this incentive, according to officials.
Governor Alejandro García Padilla, elected in November 2012
by a margin of 11,000 votes -- he likes to joke that he should
have asked for a recount -- is promoting the laws in the hope
they will help spur an economy that’s barely seen any growth
since 2007. The statistics are grim. The territory of 3.7
million people has $73 billion of debt and a median income of
$19,429, about half that of Mississippi, the poorest state in
the union. Unemployment is 13.8 percent, compared with 6.3
percent stateside; and income inequality, as measured by the
Gini index, is higher than in any of the 50 states.
Island Exodus
Puerto Ricans were given U.S. citizenship in 1917, meaning
they can easily leave the island for better jobs stateside. And
they have. A net 280,000 engineers, doctors and other citizens
emigrated from 2005 to 2012, according to the Puerto Rico
Institute of Statistics. The government is hoping the campaign
to lure the rich from the mainland will bring more jobs to the
island and raise GDP.
“Our plan is not just about keeping government spending in
line, but it is about generating wealth in Puerto Rico -- jobs,
investment and trade,” García Padilla said at the April
conference. The government estimates that the two tax laws could
create 90,000 jobs and add $7 billion to the economy by 2016.
One hedge-fund manager, who requested I not use his name,
gave a less-than-rosy view as he drove around the narrow streets
of Santurce in San Juan. He’d moved from New York a few months
ago, and although he likes living in San Juan, he calls it a
bombed-out version of Miami.
Worst Aspects
In many respects, he says, Puerto Rico is the worst of the
mainland and the Caribbean. There are more Walmarts and
Walgreens per square mile than in any other place in the U.S.,
according to the Puerto Rico Center for Investigative
Journalism, and it has the inefficiencies of most Caribbean
islands, including power outages and quirky laws. Married
couples must buy property together unless they have a prenuptial
agreement. He complains that it takes 20 minutes to get a
Quiznos sandwich. Service is often on “island time.”
The hedge fund manager brings me to Santaella restaurant,
where we join a table of 10 or so newcomers eating the island’s
comida criolla and drinking cocktails and beer. No one wants to
speak on the record. They aren’t much different from any group
of young traders -- cracking jokes and checking out women at the
bar -- except for their obsession for minimizing taxes.
Downplaying Problems
One considered giving up his citizenship to move to
Singapore, where the government has also lured hedge funds with
low taxes. Another trader, who hasn’t been in town long enough
to acquire a decent tan, says that from a tax perspective he was
embarrassed to have lived in New York City, where the marginal
rate for affluent New Yorkers can exceed 50 percent on ordinary
income.
Most of the new arrivals downplay Puerto Rico’s fiscal
problems, which include runaway pension obligations and an
underground economy that leads to low tax collection rates.
They’re also convinced their 20-year contracts with the
government guaranteeing the tax benefits are sacrosanct. They
will survive the inevitable Internal Revenue Service audits,
they say, as long as they follow the residency rules.
But there may also be financial drawbacks to moving to the
island. Brad Alford, who runs Atlanta-based Alpha Capital
Management LLC, which farms out more than $200 million to
alternative mutual funds, was all set to invest $10 million with
portfolio manager Randy Swan until he learned that Swan was
moving to Puerto Rico to cut his tax bill.
‘Deal Killer’
“I told Swan’s sales guy that was a deal killer,” Alford
says. “It’s morally wrong and un-American not to pay your fair
share of taxes.”
Swan says taxes were only one of the reasons he moved and
that he’s received no complaints from any current or potential
clients.
Not every émigré from the states is motivated solely by tax
savings. One of the wealthiest recent arrivals is Toby
Neugebauer, co-founder of Quantum Energy Partners, a Houston
private-equity firm that oversees more than $7 billion. He’s
opening a family office and recently bought a house at Dorado
Beach, where he lives with his wife and two teenage sons. The
Ritz-Carlton resort there boasts rooms that start at $800 a
night and a plantation house where Amelia Earhart stayed that
goes for $30,000 a day.
Neugebauer, who arrived in March, cited the chance for his
sons to learn Spanish and attend a top school, along with
better-priced investment opportunities than in Texas as his main
incentives.
“I wouldn’t have moved for the taxes, but it is an
interesting proposition,” he says.
Cool Adventure
John Helmers, a hedge-fund manager who spent time at
Citadel LLC and Tudor Investment Corp., says he would never have
moved from Greenville, South Carolina to San Juan with his wife,
Glenn, and three of his five children, if they hadn’t all been
on board.
“When my wife said this could be a cool adventure for the
family, that was the go switch,” he says. Helmers is setting up
Long Focus Capital Partners LLC, a macro fund that also trades
individual stocks. “Before I spent 30 percent of my time
thinking about taxes, and now I don’t have to do that.”
Yet Helmers, a fit 49-year-old with close-cropped hair and
a slight Southern drawl, is now spending time thinking about
Puerto Rico’s poor. He’s interested in following the lead of his
former boss, Paul Tudor Jones, who created the Robin Hood
Foundation to fight poverty in New York City. Helmers’s wife is
involved with the Foundation for Puerto Rico, an organization
focused on economic development.
Real Difference
“You don’t have the same support network here as you have
in the greater New York area,” Helmers says. “There’s an
opportunity to make a real difference.” Yet not all the new
residents have the same reflex to give back, he says. “It’s our
job to get the opportunists over to our side.”
The biggest question is whether Puerto Rico’s plan will
improve its economy.
“This place is in dire straits,” says Rill of Strategic
Group PR. He calls the tax laws a glimmer of hope for the
island. “We’re buying cars and getting office space and
contributing to the economy.”
He spent about $1 million, on top of his house purchase to
relocate, he says.
“It’s a slightly disturbing way to pursue economic
development,” says Kim Reuben, a senior fellow at the Urban
Institute in Washington, who has spent 10 years studying policy
and spending by state and local governments. “There can be a
multiplier effect, but you are dealing with one of the lowest-
income populations in the U.S. on a per-capita basis. How much
does it really help to import billionaires?”
No-Brainer
Denver Dale, who runs private-equity firm On-Point Capital
in Monterey, California, ponders the same question in April as
he sips a drink at a preconference cocktail party held at the
Condado Vanderbilt Hotel, one of Paulson’s recent acquisitions.
Dale, a Goldman Sachs Group Inc. alum, says he and his
wife, a gynecologist, are seriously considering relocating,
calling it a no-brainer as long as he could ensure that his
business would be eligible for the island’s tax breaks. He
wasn’t so sure whether it was a no-brainer for Puerto Ricans:
“We’ll know in five years if you end up with a couple of areas
of haves amid a whole bunch of have-nots.”
For Related News and Information:
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John Paulson Says Puerto Rico Will Be Singapore of Caribbean NSN
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Paulson Said to Explore Puerto Rico as Home With Lower Taxes
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--With assistance from Michelle Kaske in New York.
To contact the reporter on this story:
Katherine Burton in New York at +1-212-617-2335 or
kburton@bloomberg.net
To contact the editors responsible for this story:
Christian Baumgaertel at +1-617-210-4624 or
cbaumgaertel@bloomberg.net;
Robert Friedman at +1-212-617-1479 or
rfriedman5@bloomberg.net
Pierre Paulden, Emily Biuso