Two governments, two questions

A decree answers a Puerto Rico question: what rate Puerto Rico charges you on qualifying investment income. The U.S. question is separate. Under federal law, a bona fide Puerto Rico resident generally excludes Puerto Rico–source income from U.S. federal income tax. Whether you are one is decided by the IRS, under its own rules, and DDEC's approval doesn't settle it.

So a working plan needs both: a decree from Puerto Rico, and residency that holds up under IRS rules. Which of your income counts as Puerto Rico–source is a separate question, and Post 6 covers it.

Test 1: Presence

You meet the presence test for a tax year if any one of these is true:

• You were in Puerto Rico at least 183 days during the year.
• You were in Puerto Rico at least 549 days over the current year and the two before it, with at least 60 days in each of those three years.
• You were in the United States no more than 90 days during the year.
• You had no more than $3,000 of U.S.-source earned income and spent more days in Puerto Rico than in the United States.
• You had no significant connection to the United States during the year.

One point catches people: 183 days is not a safe harbor. When the Treasury wrote the regulations, commentators asked for exactly that, and the Treasury declined. It concluded that presence should be applied together with the other two tests. Days get you through the first gate, not the whole way.

Test 2: Tax home

You must not have a tax home outside Puerto Rico at any point during the year. Your tax home is generally your regular or principal place of business. If you don't have one, it's your regular place of abode.

For investors who still run a business or keep an office on the mainland, this test deserves a hard look with counsel. Where the work actually happens matters more than where the company is registered.

Test 3: Closer connection

You must not have a closer connection to the United States or a foreign country than to Puerto Rico, at any point during the year. The comparison is Puerto Rico against everywhere else combined.

The regulations and IRS Form 8898 point to the kinds of ties that count:

• where your permanent home is, and whether you have other homes available to you
• where your immediate family lives
• where your personal belongings are
• where your driver's license was issued and where you're registered to vote
• where you bank and conduct business
• your social, civic and community ties
• the address you use on official forms

No single factor decides it. Taken together, they answer a plain question: where is your life actually centered?

How the IRS enforces it

Since January 2021, the IRS's Large Business and International division has run a compliance campaign aimed at Puerto Rico incentive holders. Law firms defending these audits report that the IRS's information requests ask about family, home ownership and leases, homestead exemptions, property tax bills, voter registration, driver's licenses, calendars and travel records, phone records, and bank and credit card use.

The cases are real. In April 2026, a taxpayer petitioned the U.S. Tax Court after the IRS concluded he was not a bona fide Puerto Rico resident for 2021. The IRS said his tax home and closer connection were on the mainland, questioned his physical presence, and asserted fraud.

In a dispute, it's the taxpayer who has to prove all three tests were met. Generally, you also file IRS Form 8898 for the year you become, or stop being, a bona fide resident.

What this means in practice

These follow from how the tests work and from what audit-defense firms advise. They are not a substitute for advice on your facts.

• Keep records as you go. A travel log, calendar and receipts kept during the year are worth far more than a reconstruction during an audit.
• Move the life, not just the address. Driver's license, voter registration, banking, doctors, memberships: the closer connection test looks at all of it.
• Decide what happens to the mainland home on purpose. Whether you keep it, rent it or sell it is a question for your tax counsel, because Form 8898 asks about every permanent home available to you.

Where I fit: the home is the anchor of the closer connection test

The first factor on that list is where your permanent home is. That makes the Puerto Rico residence more than a purchase. It's part of the evidence of where you live.

That's why the right home is one you will actually live in day to day: one that works for the family, near the schools, doctors and routines they'll really use. A beautiful house used as an occasional retreat helps no one's residency. I'm not the person who decides whether you qualify. That belongs to your tax counsel. My job is making sure the home supports the life your residency has to reflect.

Next in the series

Post 5, Tuesday, October 20: who qualifies now, from prior-residency rules and background checks to the obligations that come with a decree every year.