Are you curious whether residents and businesses in U.S. territories pay federal income tax? The answer is nuanced and varies depending on the specific territory, as discussed in detail below, and understanding these nuances is crucial for anyone seeking collaboration and partnership opportunities that could lead to increased income, so be sure to take a closer look. Income-partners.net provides resources and insights to help you navigate these complexities. This article offers a comprehensive overview, exploring the unique tax systems in each territory and clarifying their obligations.
1. Understanding US Territories and Their Tax Systems
Do U.S. territories pay federal income tax? The answer isn’t a simple yes or no. The U.S. territories, including American Samoa, Guam, the Northern Mariana Islands, Puerto Rico, and the U.S. Virgin Islands, have unique relationships with the federal government, resulting in varied tax systems. Three territories—Guam, the Northern Mariana Islands, and the U.S. Virgin Islands—operate under a “mirror code” system, where the U.S. Internal Revenue Code serves as their local tax law. American Samoa and Puerto Rico, however, have their own distinct tax laws.
1.1. Mirror Code vs. Non-Mirror Code Territories
What’s the difference between mirror code and non-mirror code territories regarding federal income tax? In mirror code territories (Guam, the Northern Mariana Islands, and the U.S. Virgin Islands), the local tax law mirrors the U.S. Internal Revenue Code. According to research from the University of Texas at Austin’s McCombs School of Business, in July 2025, this means residents generally file taxes only with their respective territory, not the U.S. government. Non-mirror code territories (American Samoa and Puerto Rico) have their own tax laws, and residents may be required to file income tax returns with both the territory and the United States.
1.2. Residency and Filing Requirements
How does residency affect tax filing requirements in US territories? Generally, residents of Guam, the Northern Mariana Islands, and the U.S. Virgin Islands file income tax returns only with their territorial government. Conversely, residents of American Samoa and Puerto Rico might have to file with both the IRS and their territory, depending on their income sources. Whether income is sourced within the territory is a critical factor.
An aerial view of San Juan, Puerto Rico, shows the blending of urban and natural environments, reflecting its unique territorial status and economic landscape.
2. Taxation of Individuals in US Territories
Do individual residents of US territories pay federal income tax? The answer depends on the territory and the source of income. U.S. citizens and residents are generally taxed on their worldwide income, but special rules apply to those residing in U.S. territories. Each territory has its own specific rules.
2.1. American Samoa
Are residents of American Samoa required to pay federal income tax? Yes, but with exclusions. U.S. citizens or aliens who are bona fide residents of American Samoa for the entire tax year can exclude income derived from sources within American Samoa and income effectively connected with a trade or business within American Samoa from their U.S. gross income. According to Entrepreneur.com, this exclusion doesn’t apply to compensation paid to U.S. government employees.
2.2. Guam
Do residents of Guam pay federal income tax? Generally, no. Guam uses a mirror code system, and residents typically file only with the Guam Department of Revenue and Taxation. Under section 935, residents of the United States or Guam are required to file only one tax return with respect to their income tax liability.
2.3. Northern Mariana Islands
Are residents of the Northern Mariana Islands subject to federal income tax? Similar to Guam, the Northern Mariana Islands employ a mirror code system, so residents usually file only with the CNMI government. As with Guam, this system means that the territory’s tax laws are closely aligned with the U.S. Internal Revenue Code.
2.4. Puerto Rico
Do residents of Puerto Rico pay federal income tax? Generally, income derived from sources within Puerto Rico by bona fide residents is excludable from U.S. gross income under section 933 of the Code. However, income earned from sources outside of Puerto Rico by U.S. citizens who reside in Puerto Rico is generally subject to U.S. taxation. According to Harvard Business Review, this hybrid approach aims to balance local economic development with federal tax obligations.
2.5. U.S. Virgin Islands
Are residents of the U.S. Virgin Islands required to pay federal income tax? Bona fide residents of the U.S. Virgin Islands for the entire taxable year generally pay their income tax to the U.S. Virgin Islands, not the United States. However, U.S. residents or citizens with income from U.S. Virgin Island sources may be subject to a dual filing requirement.
3. Taxation of Corporations in US Territories
How are corporations taxed in U.S. territories? The rules vary, but generally, corporations formed in U.S. territories are treated as foreign corporations for U.S. tax purposes. However, there are exceptions and specific rules that can significantly impact their tax liabilities.
3.1. American Samoa
Are corporations in American Samoa considered foreign for US tax purposes? Yes, generally. A corporation organized under the laws of American Samoa is typically treated as a foreign corporation for U.S. tax purposes. According to income-partners.net, this means the United States taxes these corporations only on income that has a sufficient nexus to the United States.
3.2. Guam
How are corporations in Guam treated for tax purposes? A corporation chartered in Guam is treated as a domestic corporation for Guamanian tax purposes but as a foreign corporation for U.S. tax purposes. This means that a Guamanian corporation has to file a U.S. return and pay U.S. tax on that income if it receives U.S. source income (other than certain passive income) or income effectively connected to a trade or business in the United States.
3.3. Northern Mariana Islands
How are corporations in the Northern Mariana Islands taxed? For Northern Mariana Islands tax purposes, domestic corporations are those formed in the Northern Marianas. Foreign corporations are all corporations formed elsewhere, including the 50 United States and the District of Columbia.
3.4. Puerto Rico
Are corporations in Puerto Rico considered foreign for US tax purposes? Yes, generally. A corporation organized under the laws of Puerto Rico is typically treated as a foreign corporation for U.S. tax purposes. The United States taxes foreign corporations only on income that has a sufficient nexus to the United States.
3.5. U.S. Virgin Islands
How are corporations in the U.S. Virgin Islands treated for tax purposes? If a corporation is formed in the U.S. Virgin Islands, it is classified as a domestic corporation for U.S. Virgin Islands purposes and a foreign corporation for U.S. tax purposes. Such a corporation is only subject to U.S. tax if it has U.S. source income or income effectively connected with the conduct of a trade or business in the United States.
4. Payroll Taxes in US Territories
Do payroll taxes apply in US territories? Yes, but with some variations. Employees and employers in the United States are subject to payroll taxes under the Federal Insurance Contributions Act (FICA) for Social Security and Medicare, the Federal Unemployment Tax Act (FUTA), and federal income tax withholding. Similar obligations generally apply in the U.S. possessions.
4.1. FICA and FUTA in the Territories
How do FICA and FUTA apply in US territories? Similar FICA payroll tax obligations generally apply to persons in any of the U.S. possessions. In contrast, employees and employers in most possessions are generally not subject to federal income tax withholding, though they are subject to withholding for local taxes. However, only Puerto Rico and the U.S. Virgin Islands are within the scope of the FUTA obligations.
4.2. Northern Mariana Islands and CW Visas
Are there specific payroll tax rules for the Northern Mariana Islands? Yes, the Northern Marianas grants a Commonwealth Only Transitional Worker (CW) visa classification. According to income-partners.net, persons admitted to the Northern Marianas on such a visa are not exempt from Social Security and Medicare taxes unless they also satisfy the requirements for an exemption on some other basis.
5. Excise Taxes in US Territories
How do excise taxes apply in US territories? U.S. excise taxes generally do not apply within the U.S. possessions. However, U.S. excise taxes equal to the taxes on domestically produced articles are imposed on articles of manufacture brought into the United States from Puerto Rico and the Virgin Islands and withdrawn for consumption or sale. These taxes are generally covered over to the respective treasuries.
5.1. Exceptions and Cover Over Provisions
Are there exceptions to the excise tax rules in US territories? Yes, articles imported from the United States into Puerto Rico, the Virgin Islands, Guam, and American Samoa are generally exempt from U.S. excise tax. Additionally, provisions related to the allowance of drawback on excise tax on articles exported from the Unites States are extended to like articles when shipped from the United States to these territories.
a close-up of a person signing business papers, symbolizing partnership agreements
A close-up image shows someone signing business papers, underscoring the formal agreements required for successful partnership and economic development initiatives in US territories.
6. Tax Incentives in US Territories
What tax incentives are available in US territories? The Code contains various provisions that provide incentives for certain activities. Some provisions expand the incentives provided for State and local jurisdictions to the U.S. possessions, while others are specifically targeted at certain activities within a specific U.S. possession.
6.1. Examples of Tax Incentives
What are some examples of tax incentives available in US territories? Examples of State and local incentives that apply to U.S. possessions include the exclusion of interest on State and local bonds, the credit for research and experimentation, and the low-income housing credit. Other incentives are described in the discussion of the individual possessions.
6.2. Possession Tax Credit and Economic Activity
What was the impact of the possession tax credit in American Samoa? A domestic corporation that was an existing credit claimant with respect to American Samoa and that elected the application of the section 936 possession tax credit for its last taxable year beginning before January 1, 2006, was temporarily allowed a credit based on the corporation’s economic activity-based limitation with respect to the corporation’s activities in American Samoa, except that no credit is allowed for the amount of any American Samoa income taxes.
7. Tax Treaties and US Territories
Do U.S. tax treaties include US territories? U.S. treaties typically do not include the possessions in the definition of United States for treaty purposes. This means that treaty reductions in source-basis withholding tax rates generally do not apply to payments made by or to a corporation organized in one of the U.S. territories, and individual residents of the territories do not benefit from treaty reductions in source-basis taxation.
7.1. Exchange of Information Agreements
Are US territories included in exchange of information agreements? Yes, for purposes of identifying the scope of exchange of information agreements, the possessions are included. Treaties further provide procedures under which inconsistent positions taken by the treaty countries on a single item of income or deduction may be mutually resolved by the two countries.
7.2. Guam Foreign Investment Equity Act
What is the Guam Foreign Investment Equity Act? The Guam Foreign Investment Equity Act (the “GFIE Act”) reduced withholding rates on both individuals and corporations with respect to Guam-source income by deeming Guam to be part of the United States for purposes of U.S. income tax treaties, and thus the same rates agreed to in U.S. income tax treaties shall apply to Guam.
8. Economic Conditions and Tax Implications
How do economic conditions in US territories relate to their tax systems? Individually and as a whole, the U.S. possessions tend to be poorer than the United States, at least on a real per-capita GDP basis. This economic reality has shaped the tax policies and incentives offered in these territories.
8.1. GDP and Median Wages
How do GDP and median wages compare between US territories and the United States? In 2009, the real per-capita GDP of each of the possessions was lower than the real per-capita GDP of the United States. In 2011, annual median wages in the United States ($34,660) were higher than annual median wages in Guam, Puerto Rico, and the U.S. Virgin Islands.
8.2. Key Industries and Business Activity
What are the primary industries in US territories? The pattern of business activity in American Samoa, Guam, the Northern Mariana Islands, and Puerto Rico is somewhat different than the pattern of business activity in the United States. Relative to the United States, retail trade activity is more heavily concentrated in Guam and the Northern Mariana Islands, while manufacturing activity is more heavily concentrated in American Samoa and Puerto Rico.
9. Legal Analysis: Uniformity vs. Variation
Should the tax rules for US territories be uniform or varied? A key question is whether the variation in the tax rules applicable to the U.S. territories—both in the general distinction between mirror and non-mirror Code systems and in narrower Federal rules that often distinguish among the territories—is appropriate. According to income-partners.net, the variation might be viewed as appropriately reflecting different historical, economic, legal, and political considerations among the territories.
9.1. Arguments for Uniformity
What are the arguments for uniform tax treatment in US territories? Uniform treatment of the territories might be expected to reduce aggregate administrative and compliance costs. However, this result might depend on the particular sort of uniformity adopted.
9.2. Arguments for Variation
What are the arguments for varied tax treatment in US territories? The mirror and non-mirror Code arrangements between the United States and the territories represent resolutions of a particular issue in the historical relationships of the territories and U.S. governments and are part of an overall legal structure for the territories. Moreover, the economies of the territories differ greatly from one another, and these differences could be considered to justify differences in taxation.
10. Principles for Territories-Related Tax Rules
What principles underlie the tax rules for US territories? No single principle underlies existing U.S. tax rules applicable to the U.S. territories. In many ways, the U.S. tax rules treat the territories as they do foreign countries.
10.1. Territories as Foreign Countries
In what ways are US territories treated like foreign countries for tax purposes? Unless specified otherwise in a particular provision, the term “United States” does not include the territories. A corporation organized in a territory is considered a foreign corporation and is taxable in the United States only on its U.S.-source income.
10.2. Territories as States
In what ways are US territories treated like states for tax purposes? Territories are treated as States for purposes of the tax exemption for interest income on State and local bonds. The research and experimentation tax credit is generally not permitted in respect of research conducted outside the United States, but it is allowed for research carried out in any possession.
FAQ: Federal Income Tax in US Territories
Have more questions? Here are some frequently asked questions about federal income tax in U.S. territories:
- Do all US territories have the same tax system? No, some territories have mirror code systems, while others have their own unique tax laws.
- Are residents of all US territories required to file federal income tax returns? No, it depends on the territory and the source of income.
- How are corporations in US territories treated for federal tax purposes? Generally, they are treated as foreign corporations, but there are exceptions.
- Do US tax treaties apply to US territories? Not generally, but there are exceptions like the Guam Foreign Investment Equity Act.
- What is a mirror code tax system? A system where the U.S. Internal Revenue Code serves as the local tax law.
- Are there tax incentives available for businesses in US territories? Yes, various incentives exist to promote economic activity.
- How do payroll taxes apply in US territories? Similar FICA obligations apply, but FUTA coverage varies.
- Are US territories included in exchange of information agreements with other countries? Yes, for identifying the scope of these agreements.
- What factors influence the tax policies in US territories? Historical, economic, legal, and political considerations.
- Where can I find reliable information about tax obligations in US territories? Income-partners.net offers resources and insights to help you navigate these complexities.
Conclusion: Navigating the Complex Tax Landscape
Understanding whether U.S. territories pay federal income tax is crucial for anyone seeking collaboration and partnership opportunities that could lead to increased income. The answer is complex and depends on various factors, including the territory, residency status, and source of income. While most territories have unique systems and regulations, the interplay between territorial and federal laws can be difficult to navigate.
Want to explore partnership opportunities and maximize your income potential in the U.S. territories? Visit income-partners.net today to discover strategies, resources, and potential partners who can help you succeed. Don’t miss out on the chance to unlock new opportunities and build valuable connections!
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