Subsidies on trial in Caribbean rum rumble

If you drink Captain Morgan rum, you probably don't care where it came from. But to the governments of Puerto Rico and the Virgin Islands — and to the top-shelf K Street lobbyists they have hired in recent months — where to distill Captain Morgan is a billion-dollar question.

Diageo is a multinational liquor giant that hires a Puerto Rican distillery to make Captain Morgan rum. Puerto Rico's next-door neighbor, the U.S. Virgin Islands, however, is trying to lure the Captain away with a raft of subsidies. The special arrangement these two territories have with the U.S. government ropes Washington into their cutthroat competition for more booze business — which means more K Street lobbyists.

This column obtained a copy of a June 2008 agreement between Diageo and the government of the Virgin Islands. In the contract, the Virgin Islands promises Diageo a handful of generous tax credits and direct subsidy payments if the company builds a new Captain Morgan distillery in St. Croix, the main island, thus cutting ties with the Puerto Rican distillery. The agreement specifically states, “Absent such financing, tax, production and marketing incentives, Diageo would not locate the Project in the Virgin Islands.”

Even if you don't like rum, reading through the “incentives” in the contract is enough to make your mouth water. They start with special help in clearing bureaucratic hurdles: “The Government shall do all things and take such actions reasonably necessary, to the fullest extent permitted by law, to assist Diageo” in obtaining all necessary permits.

Then come the tax credits. The Virgin Islands offered Diageo a 90 percent tax credit on all its income derived from the Captain Morgan project. Also, “Diageo shall be completely exempted” from property taxes, gross receipts taxes or excise taxes on raw materials imported, and the customs fees would also be lowered. Lower taxes and less red tape are great, but no smaller competitor could ever get permission to pay only a dime on every dollar in taxes it owes.

The agreement grants other special tax cuts just for Diageo, including breaks on interest payments and estimated tax payments. When the tax breaks are targeted at one company, they function more as corporate welfare than as limited government.

The direct subsidy payments are much more blatant. First, Diageo would pocket “Marketing Support Payments” for the public service of marketing Captain Morgan to U.S. drinkers. Then come the “Molasses Subsidy Payments,” in which taxpayers would guarantee that Diageo never pays more than 16 cents per gallon of molasses. The Virgin Islands also would give Diageo a “Production Incentive Payment.” So the Captain would get subsidized materials, subsidies for production and then subsidies to sell the rum.

All this subsidy money will come from the Virgin Islands' “cover-over,” an annual payment the U.S. government makes to the Virgin Islands and Puerto Rico out of federal excise taxes. In short, when a Virgin Islands-made bottle of rum is sold in the U.S., the federal excise tax on that bottle is sent back to the Virgin Islands' government. The same is true for Puerto Rico.

The Virgin Islands courtship of Captain Morgan has angered Puerto Rican officials, who have started to push back. The territory's congressional representative, Pedro Pierluisi, introduced a bill in April prohibiting territories from using more than 10 percent of their cover-over for subsidies (a consultant for Puerto Rico tells me it turns about 6 percent of the cover-over into liquor subsidies).

On Nov. 1, the Senate of Puerto Rico hired Quinn Gillespie and longtime Republican aide David Hoppe to lobby on the issue. The Conservation Trust of Puerto Rico has hired Democratic activist and former Clinton White House aide Joe Velasquez for the fight.

The Virgin Islands government has hired the firm Winston and Strawn, including partner James F. Miller, whose online biography paints a portrait of a corporate-welfare specialist. Miller takes credit for creating “tax incentives for coal,” and boasts of working with “the Export Import Bank, the Overseas Private Investment Corporation [and] the Inter-American Development Bank,” which are leading subsidy agencies.

Puerto Rico's play here is something like bilateral disarmament: We won't bribe companies with hyper-subsidies if the Virgin Islands doesn't. But the predicament points out a hole in a standard free-market argument. It turns out that municipalities competing for business aren't in a race to roll back regulations and lower taxes, but in a race to provide more taxpayer subsidies.

Timothy P. Carney, The Examiner's lobbying editor, can be reached at tcarney@washingtonexaminer.com. He writes an op-ed column that appears Friday.

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