IMPLEMENTATION LEVEL

National

AFFECTED FLOW

Inflow

ANNOUNCED AS TEMPORARY

No

NON-TRADE-RELATED RATIONALE

No

ELIGIBLE FIRMS

all

JUMBO

No

TARIFF PEAK

No
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Inception date: No inception date

Production subsidy

The government of the U.S. Virgin Islands has lured a rum producer from Puerto Rico by granting it a multi-billion dollar subsidy. The funding for that subsidy ultimately comes from the Federal government of the United States, however, and legislation pending in the U.S. Congress could prohibit the Virgin Islands from providing all of the support that the territorial government promised to the distiller.
 
Captain Morgan rum had been produced in Puerto Rico, which (like the Virgin Islands) is a U.S. territory, but was enticed to move by this subsidy. A similar deal supports Cruzan rum, which has always been based in the Virgin Islands. The government will provide this subsidy through the revenue it receives under a program whereby the Federal government of the United States transfers to both the Virgin Islands and Puerto Rico most of the revenue raised from a U.S. tax on all rum. This means that rum consumed in the United States from all sources, whether it is produced on the mainland, in the territories, or imported from abroad, would continue to be taxed in the United States, and that most of the proceeds from these taxes would still be diverted to these two islands, but the share captured by the Virgin Islands is now rising as a result of the transferred production and most of the new money is being passed along to subsidize one established and one newly relocated distiller. Captain Morgan is owned by Diageo, the London-based spirits conglomerate.
 
The funds at issue here come from a provision in U.S. tax provision that is known as 'cover-over.' The practice dates back to 1917 for Puerto Rico, and to 1954 for the Virgin Islands. Under the law, most of the excise tax collected on rum imported into the United States (i.e., $13.25 of the tax set at $13.50 per proof gallon) is transferred to or 'covered-over' to the treasuries of Puerto Rico and the Virgin Islands. In 2008, Puerto Rico received over $371 million in revenue and the Virgin Islands received almost $100 million. The law does not restrict how the territories may use the transferred revenues, but in Puerto Rico it has been the practice to use no more than 10% of these funds to promote the rum industry. The controversy arose when the Virgin Islands decided to dedicate a far higher share for this purpose and to 'poach' a distiller from Puerto Rico.'1'
 
According to an investigation by ProPublica, the Virgin Islands lured Captain Morgan from Puerto Rico when it 'offered to give Diageo half of the Virgin Islands' rum-tax money if Diageo would move its rum production - 9 million proof gallons a year - to the Virgin Islands and stay there for 30 years. That's 10 times what Puerto Rico now gives Diageo.' The report said that the islands 'also will give Diageo a 90 percent income-tax break, a complete exemption from property taxes and a state-of-the-art $165 million rum distillery.'
 
The main opposition to the deal comes from the government of Puerto Rico, which has suffered a loss of both tax revenue and jobs. The dispute has also led to a battle between the two territories' respective supporters in the U.S. Congress. The Congressional Black Caucus sides with the Virgin Islands, where the majority of the population is African-American, but the Congressional Hispanic Caucus supports Puerto Rico.'2'
 
Senator Robert Menendez (Democrat of New Jersey) is the lead sponsor of a bill pending in the Senate that would prevent the rum deal from being implemented. Introduced on April 15, 2010, the 'Reinvesting in U.S. Territories, Not Corporations Act' (S.3208) would place a cap of 10 percent on the amount of money the territories could use to subsidize private liquor producers. In other words, it would hold the Virgin Islands to the same limit that Puerto Rico has imposed on itself. No action has been taken yet on the bill.
 
The bill is supported by Bacardi, a firm that produces rum in Puerto Rico. It has spent about $1 million on lobbying against the Diageo deal.
 
Donna M. Christensen (Democrat) is the Virgin Islands' non-voting member of Congress and a member of the Congressional Black Caucus. She spoke out against the Menendez bill upon its introduction, stating that, 'As Diageo is not going to return to Puerto Rico, this bill can only be seen as a way to punish the company and to create an unfair advantage for others in the industry.'
 
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'1' For more details on the cover-over practice, see Steven Maguire and Jennifer Teefy, The Rum Excise Tax Cover-Over: Legislative History and Current Issues Congressional Research Service (January 20, 2010).

'2' For further details on this aspect of the dispute see Dan Eggen, 'Puerto Rico, Virgin Islands Go Head to Head on Rum, Fueling Tensions in Congress,' Washington Post (June 22, 2010), page A11.

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