What Is IRC 933? Bona Fide Residency and Excluded Income

Section 933 of the Internal Revenue Code lets a bona fide resident of Puerto Rico exclude income earned from sources within the territory from federal gross income, meaning zero federal income tax on that qualifying income.¹ The rule applies to both U.S. citizens and resident aliens. It also comes with strict qualification tests, a set of income categories that never qualify no matter how long you have lived on the island, and filing requirements that carry their own penalties.

Who Qualifies as a Bona Fide Resident

You have to be a bona fide resident of Puerto Rico for the entire tax year. That status turns on three separate tests in IRC Section 937(a) and Treasury Regulation 1.937-1, and all three must be met for the same year.² Miss any one and you lose the exclusion for the whole year.

Presence

You need to show enough physical presence in Puerto Rico. The regulations give you five alternatives, and you only have to satisfy one:³

At least 183 days in Puerto Rico during the tax year.
At least 549 days across the current and two prior tax years combined, with at least 60 days in each of the three years.
No more than 90 days in the United States during the tax year.
Minimal U.S.-source earned income (no more than the Section 861(a)(3)(B) amount) and more days in Puerto Rico than in the U.S.
No permanent U.S. home, no U.S. voter registration, and no minor child whose principal residence is in the U.S.

The 183-day rule is the cleanest to document. The 549-day option matters if you travel often, because it lets a single low-presence year still count as long as the three-year total holds and you hit 60 days each year.

Tax Home

Your tax home has to be in Puerto Rico for the entire tax year. Tax home generally means your main place of business or employment, not where you sleep.⁴ Without a regular workplace, it defaults to your regular place of abode. If the IRS concludes your principal place of business sat on the mainland for any part of the year, the whole exclusion fails.

Closer Connection

You must not have a closer connection to the United States or any foreign country than to Puerto Rico at any point in the year.⁴ The IRS weighs the whole picture: where your permanent home is, where your spouse and dependents live, where your car and belongings sit, where you hold a driver’s license and register to vote, where you bank, where you give to charity, and your social ties. No single factor decides it. A furnished mainland home, mainland voter registration, and a family staying behind will make it hard to argue your closer connection is to San Juan.

What Income the Exclusion Actually Covers

Only income sourced to Puerto Rico qualifies. Sourcing follows the same logic used to decide whether income is U.S.-source, adapted for the territory:²

Wages and salary are sourced where you physically perform the work. Work done on the mainland is U.S.-source even if your employer is in Puerto Rico.
Business income is sourced where the activity that generates it takes place.
Interest is sourced by the residence of the payer.
Dividends from a corporation organized in Puerto Rico are generally territory-source.
Rent and real property gain are sourced where the property is located.
Gain on personal property is generally sourced to the seller’s tax home when sold.

Puerto Rico-source income is fully exempt from federal gross income, not deferred and not credited.¹ The Commonwealth still taxes it under its own income tax code. The exclusion shifts the tax obligation; it does not erase it.

There is one hard override. Any income the normal rules classify as U.S.-source stays U.S.-source, no matter how long you have lived on the island.² Dividends from a Delaware corporation, interest from a mainland bank, and rent from a New York apartment all remain federally taxable.

Deductions and credits properly allocable to the excluded income are disallowed on the federal return, and mixed deductions have to be allocated between excluded and non-excluded income.¹

The 10-Year Lookback on Investments You Bring With You

This is the trap that catches people who relocate for tax reasons. If you owned marketable securities or certain other financial instruments before becoming a bona fide resident of Puerto Rico, gain from selling that property is not treated as Puerto Rico-source, even though the general rule sources personal property gains to the seller’s tax home.⁵ The override applies to anyone who was a U.S. citizen or resident (other than a Puerto Rico bona fide resident) during any of the 10 years before the sale year. That covers almost everyone moving from the mainland. The result: appreciation on the investment portfolio you brought with you remains federally taxable when you sell.

The regulations allow a partial fix through a bifurcation election. You split the gain into a pre-move piece and a post-move piece, and only the post-move piece is Puerto Rico-source.⁵ For marketable securities, the split uses fair market value on your first day of Puerto Rico residency. For other property, the split is by time: total gain multiplied by days held as a bona fide resident over the total holding period. You make the election by reporting the bifurcated gain on your return for the year of sale.

Investments you buy after becoming a bona fide resident are not caught by the lookback. Gain on those is Puerto Rico-source from the start, assuming your tax home is still on the island when you sell.

Income That Stays Federally Taxable Even for Qualifying Residents

Federal Employee Pay

Pay for services as an employee of the U.S. government or any federal agency is explicitly carved out of Section 933.¹ It stays federally taxable even if you perform every hour of the work in Puerto Rico and satisfy every residency test. Active-duty military pay for a service member who claims Puerto Rico as legal residence falls into this bucket.⁶ Employees of the Puerto Rico government are not treated as federal employees for this purpose, so their compensation can qualify under the ordinary sourcing rules.⁷

Self-Employment Tax

Section 933 only removes income from federal gross income for income tax purposes. It does nothing to self-employment tax, which funds Social Security and Medicare. Net self-employment earnings of $400 or more still trigger SE tax owed to the IRS, even if every dollar of that income is Puerto Rico-source and excluded from federal income tax.⁸ Bona fide residents who otherwise have no federal return to file report SE tax on Form 1040-SS with Schedule SE attached.⁹ The combined rate runs 15.3% on the first band of earnings, with a Medicare piece and Additional Medicare Tax layered on above statutory thresholds.¹⁰ People who relocate expecting near-zero federal tax on business income routinely miss this.

Non-Puerto Rico-Source Income

Mainland wages, dividends from U.S. corporations, interest from stateside banks, and rental income from mainland property remain fully subject to federal income tax. You report them on Form 1040 just as anyone living in the states would.⁶

The Year You Move In or Out

The full-year residency requirement is softened for the year you leave. If you were a bona fide resident for at least two continuous years before departure, you can still exclude Puerto Rico-source income attributable to the portion of the departure year before your residency ended.¹ Federal employee pay is still carved out, and allocable deductions and credits are still disallowed against the excluded portion. If you lived on the island for less than two years before leaving, this departure-year rule is unavailable, and because you were not a bona fide resident for the entire year, the ordinary paragraph (1) exclusion is unavailable too. All of that year’s income is federally taxable under normal rules.

Filing Requirements and the Form 8898 Penalty

You have to file a federal Form 1040 if your gross income subject to U.S. tax equals or exceeds the applicable filing threshold, which generally tracks the standard deduction for your filing status.¹⁰ For a married person filing a separate return, the threshold drops to just $5.⁶

Separately from the income tax return, if you become or stop being a bona fide resident of Puerto Rico during the tax year and your worldwide gross income for that year exceeds $75,000, you must file Form 8898 (Statement for Individuals Who Begin or End Bona Fide Residence in a U.S. Territory).¹¹ Form 8898 is filed on its own by the return’s due date including extensions. It is what notifies the IRS of the residency change.

Missing that form carries a flat $1,000 penalty per failure.¹² It applies whether or not you owe federal income tax. You can avoid it by showing reasonable cause in a written statement submitted under penalties of perjury, but the IRS does not waive the penalty casually. The larger risk of a weak filing record is that the IRS challenges your bona fide residency claim outright. If the Section 933 exclusion is disallowed on income you thought qualified, the deficiency comes with accuracy-related penalties and interest running from the original due date.

1
Office of the Law Revision Counsel. 26 U.S. Code 933 – Income from Sources Within Puerto Rico
2
Office of the Law Revision Counsel. 26 USC 937 – Residence and Source Rules Involving Possessions
3
eCFR. 26 CFR 1.937-1 – Bona Fide Residency in a Possession
4
eCFR. 26 CFR 1.937-1 – Bona Fide Residency in a Possession
5
eCFR. 26 CFR 1.937-2 – Income from Sources Within a Possession
6
Internal Revenue Service. Publication 1321 – Special Instructions for Bona Fide Residents of Puerto Rico Who Must File a U.S. Individual Income Tax Return
7
eCFR. 26 CFR 1.933-1 – Exclusion of Certain Income from Sources Within Puerto Rico
8
Internal Revenue Service. Instructions for Schedule SE (Form 1040) (2025)
9
Internal Revenue Service. About Form 1040-SS, U.S. Self-Employment Tax Return
10
Internal Revenue Service. Publication 570, Tax Guide for Individuals With Income from U.S. Territories
11
Internal Revenue Service. Instructions for Form 8898
12
eCFR. 26 CFR 301.6688-1 – Assessable Penalties with Respect to Information Required to Be Furnished with Respect to Possessions