BIR Ruling

May 18, 1977 Messrs. Dee, Sy, Pua & Co., CPA's Room 406 Federation Center Muelle de Binondo, Manila Attention: Ms . Marciana G . Pua Managing Partner Gentlemen : This refers to your letters dated January 7, 1977, March 2, 1977 and April 16, 1977 requesting a ruling as to the tax consequence of a transaction described as follows: It is represented that on January 10, 1953, Tang Chin Heng & Co., doing business under the name of Tang Kee Huat was organized as a partnership engaged in general merchandising business (import, wholesale and retail) by five (5) brothers, namely: Messrs. Tang Shing, Tang Chin Heng (Vivencio Tang, Feliciano Tang, Tang Kong Sia (William Tang) and Tang Kong Suy (Ricardo Alonzo) who were then resident Chinese citizens with the following shareholdings: cdt Tang Shing P50,000.00 Tang Kong Sia P50,000.00 Tang Kong Suy P50,000.00 Tang Feliciano P50,000.00 Tang Chin Heng P150,000.00 ___________ TOTAL P350,000.00 that in accordance with their Certificates of Naturalization, the partners Tag Shing, Tang Shin Heng (Vivencio Tang), Feliciano Tang, Tang Kong Sia (William Tang) and Tang Kong Suy (Ricardo Alonzo) became naturalized Filipino citizens on March 12, 1960, June 18, 1960, July 28, 1955, August 1, 1959 and December 19, 1959, respectively; that Mr. Feliciano Tang who was already a Filipino citizen on July 28, 1955 acquired a piece of land worth approximately P120,000.00 which was subsequently leased to the partnership for a monthly rental of P1,500.00 or P18,000.00 per annum; that on the said land, the partnership constructed a commercial building in 1960 whereby a part of the ground floor was utilized as offices of the partnership and the rest, as well as the second to fourth floor, were leased out to various tenants as apartment units and offices; that the cost of construction of the said building was approximately P598,000.00, its present book value is approximately P366,000.00 and the present contract of lease is for a period of 25 years renewable for another 25 years, but is silent as to the ownership of the building upon the termination of the contract of lease; that Mr. Feliciano Tang also acquired another piece of land in the suburbs at a cost of approximately P20,000.00 which was later leased to Mr. Tang Chin Heng (Vivencio Tang) for an annual rental of P300.00, upon which land the latter constructed a residential building worth about P115,000.00 in 1955 but with a current book value of approximately P67,000.00 and was used by the mother and the brother-partners as residential houses even up to the present; that on February 26, 1962, Mr. Feliciano Tang die intestate in the City of Manila, survived by his wife, Nieves Ke Tek and their 5 children and leaving real and personal properties; that after investigation of the tax liabilities of the estate of Feliciano Tang on November 26, 1962, the estate and heirs were assessed deficiency estate and inheritance taxes in the respective amounts of P776.13 and P978.04, which were paid under Official Receipt No. C0623384 dated November 27, 1962; that on August 22, 1962, the widow Nieves Ke Tek was appointed administratrix of the estate of the deceased Feliciano Tang; that pursuant to the Orders of the Court of First Instance of Manila, Sixth Judicial District, Branch IV in Special Proceedings No. 49956 dated February 26, 1964 and March 20, 1964, respectively, entitled "Intestate Estate of Feliciano Tang (Deceased) Nieves Ke Tek (Administratrix)", the widow Nieves Ke Tek as administratrix delivered to the heirs their respective hereditary share, after payment of the estate and inheritance taxes, in the respective amounts of P16,170.96 and P8,739.36, under Official Receipt No. 38214 dated September 15, 1962 and Official Receipt No. 38215 dated February 25, 1963; that Mr. Tang Shing died in 1967, survived by his wife, Go Siok Eng and their 5 children; that the estate and heirs of the deceased Tang Shing had been investigated for transfer tax purposes and the corresponding estate and inheritance tax assessments in the respective amounts of P1,513.90 and P749.28 were paid under Official Receipt No. 3245559 dated July 30, 1968 and Official Receipt No. 3466170 dated October 30, 1968; that another brother, Mr. Tang Kong Suy (Ricardo Alonzo) died in 1971 survived by his wife, Ong So Hua and 5 children; and that estate and inheritance taxes in the total amount of P859.77 was paid under CB O.R. No. 2508562 dated November 20, 1975. From documents submitted, which were verified from the originals thereof and records of this Office, it appears that Tang Chin Heng & Co. and Tang Chin Heng (Vivencio Tang) availed of the tax amnesty under Presidential Decree No. 23 as evidenced by the Certifications both dated July 16, 1973 by the Tax Amnesty Implementation Officer. Nieves Ke Tek, widow of Feliciano Tang availed of the tax amnesty prescribed by Presidential Decree No. 631 under File No. 1-07-02495-631 dated February 24, 1975 while Ong So Hua, widow of Tang Kong Suy (Ricardo Alonzo) availed of the tax amnesty prescribed by Presidential Decree No. 631 under File No. 1-07-02494-631 dated February 24, 1975. The two surviving brothers, Tang Chin Heng and Tang Kong Sia together with the widow and children of the deceased brothers Tang Shing, Feliciano Tang and Tang Kong Suy, all of whom are naturalized Filipino citizens now, desire to organize a corporation whereby all the assets and liabilities, rights and obligations of the partnership, which has not been dissolved notwithstanding the death of the aforenamed partners, shall be transferred in exchange solely for the shares of stock of said corporation. According to your letter of April 16, 1977, the transferors will receive in the aforesaid exchange, "a uniform 20% subscription each on the shares of the new corporation, with whatever outstanding shares they have in the partnership, and since the individual shareholding of each partner varies, each partner will make up its share either with new cash contribution or by exchanging properties (valued at acquisition cost) in subscribing for the new shares of the corporation ." In reply thereto, I have the honor to inform you that pursuant to Section 35 paragraph (c)(2)(c) of the; Tax Code as amended by Republic Act No. 4522, no gain or loss shall be recognized if a person exchanges his property for stock in a corporation of which as a result of such exchange said person alone or together with others, not exceeding four persons, gains control of said corporation. Any number of persons may exchange property for stock but there must be at least a combination of transferors, not exceeding five, who would as a result of the transaction control the corporation. The term "control" shall mean ownership of stocks in a corporation possessing at least fifty-one (51%) percent of the total voting power of all classes of stocks entitled to vote. In determining the 51% stock ownership, only those persons who transferred property for stock in the same transaction may be counted, up to a maximum of five. Accordingly, no gain or loss shall be recognized both to the transferors and the transferee corporation, on the transfer by the two surviving brothers and the widows and children of the deceased brothers of their assets, liabilities, rights and obligations in the partnership, Tang Chin Heng & Company, in exchange for the shares of stock of the aforementioned corporation, considering that as a result of the said exchange, not more than five of the transferors will gain control of the transferee corporation. No gift tax is payable under the abovementioned transaction, as the transferors will receive in exchange for the assets transferred by them shares of stock of equivalent value. Neither is the transferee corporation subject to the stock transaction tax imposed by Republic Act No. 6141, as amended, the stocks involved in the transaction being original issues. (See Sec. 4(1), R.A. No. 6141) It should be emphasized, however, that Section 35(c)(2)(c) of the Tax Code merely defers recognition of gain or loss from such transaction, for in determining the gain or loss from a subsequent transaction of the properties or of the stocks involved in the exchange, the original or historical cost of the properties or the stocks is considered. Thus, if your clients later sell or exchange the shares of stock acquired by them in the exchange, they shall be subject to income tax on the gains derived from such sale or exchange, and the cost basis of the said shares of stock shall be the same as the original acquisition cost or adjusted cost basis to your clients of the properties exchanged therefor; and the cost basis of the properties transferred in the hands of the transferee corporations shall be the same as it would be in the hands of the transferors. (See Sec. 35(c)(4), NIRC) If pursuant to the exchange transaction, and as part of the consideration, the transferee corporation assumes the liability of the transferors or acquires from the transferors property subject to a liability, such assumed liability or liabilities shall not be treated as money and/or other property, and shall not prevent the exchange from being tax-free. (See Sec. 35(C)(3)(c), N.I.R.C.) No gain or loss will be recognized on the obligation assumed by the transferee corporation. The cost basis or value of the stocks received by the transferor of property subject to a liability, where the liability transferred and assumed by transferee corporation does not exceed the transferor's basis or the original and/or acquisition cost of the property transferred, shall be the difference between the liability or liabilities assumed by the transferee corporation and the acquisition or original cost of the property transferred. On the other hand, where the total liabilities to be assumed by the transferee corporation exceed the original or acquisition cost of the property transferred, the excess shall be recognized as gain to the transferor and the value or cost basis of the stocks to the transferor shall be the difference between the original cost of the property transferred subject to a liability or liabilities assumed by the transferee corporation. (See Sec. 35(C)(4)(a) and (b), N.I.R.C.) You are further advised that in order that the parties to the exchange can avail of the non-recognition of gain provided for in Section 35(c)(c) of the Tax Code, as amended, they should comply with the requirements hereunder mentioned. (a) The transferors must file with their income tax returns for the taxable year in which the exchange was consummated a complete statement of all facts pertinent to the exchange, including: (1) A description of the property transferred, or of their respective interest in such property, together with a statement of the original acquisition cost or other basis thereof at the time of transfer; (2) The kind of stock received and preference if any; (3) The number of shares of each class received; (4) The fair market value per share of each class at the date of the exchange; On the other hand, the transferee corporation must file with its income tax return for the taxable year in which the exchange was consummated the following: (1) A complete description of all property received from the transferors; (2) A statement of the original acquisition cost or other basis thereof in the hands of the transferors and the adjusted cost basis at the time of transfer; (3) Information with respect to the capital stock of the corporation including: (a) The total issued and outstanding capital stock immediately prior to and immediately after the exchange, with complete description of each class of stock; (b) The classes of stock and number of shares issued to the transferors in the exchange; (c) The fair market value of the capital stock as of the date of exchange which was issued to the transferors; In addition to the foregoing requirements, permanent records in substantial form must be kept by the taxpayers participating in the exchange, showing the information listed above. All said requirements should be compiled with, otherwise, the exchange shall not be considered an exempt transaction within the purview of Section 35(c) of the Tax Code. The foregoing ruling is based on your representations, cited hereinabove, and may be revoked if, after investigations, it shall be ascertained that the facts are not as represented in your aforementioned letters. Very truly yours, EFREN I. PLANA Acting Commissioner of Internal Revenue TAN-P4519-F2828-A-8