BIR Ruling

August 25, 1976 Messrs. Siguion Reyna, Montecillo & Ongsiako A. Soriano Building Ayala Avenue, Makati, Rizal Attention: Atty . M . G . Montecillo Gentlemen : This refers to your letter dated July 24, 1976 requesting information on the tax consequence of a transaction described as follows: acd "1. Our clients, Mrs. Carmen Vda. de Ongsiako and her six children are the co-owners of several parcels of land together with their corresponding improvements thereon located mostly in the Metropolitan Manila Area. Most of these properties were acquired by our clients by way of inheritance and in the case of Mrs. Carmen Vda. de Ongsiako, a portion of her interests in these properties represents her paraphernal share out of the conjugal partnership. "2. These properties are titled in the names of Mrs. Carmen Vda. de Ongsiako and the 6 children where in almost all of said properties they hold an undivided interest in the proportion of in favor of the mother, Mrs. Carmen Vda. de Ongsiako, and 1/12 each for the 6 children. Most of these properties are income producing properties deriving rental income. "3. Mrs. Carmen Vda. de Ongsiako and the 6 children now desire to incorporate these properties into 3 corporations. For this purpose, they will cause the incorporation under Philippine laws of 3 corporations and then transfer all their rights and interests in the aforementioned properties held by them in co-ownership in exchange solely for the shares of the three corporations. Certain properties will be transferred to one corporation, the other properties to the other corporation, and the others to the third corporation. "4. The transfer of the properties will be made at the value appearing in the corresponding tax declarations of the properties. In other words, the transferors will receive shares of stocks of the transferee corporations with an aggregate par value equivalent to the value of the properties transferred as appearing in the corresponding tax declarations of the properties for real estate tax purposes." In this connection, it is represented that "Although there are more than 5 persons who will make the transfer, after this transfer is made, not more than 5 persons would gain control (51% of the total voting power of all classes of stocks entitled to vote) of each of the 3 corporations. In fact only 2 of the transferors could gain control because Mrs. Carmen Vda. de Ongsiako already holds of said properties to her name. Consequently, upon her transfer of said interest, in exchange for shares of the corporations, she would be receiving interest in each of the three corporations. The participation of just one heir with Mrs. Ongsiako would be sufficient to gain control of the corporations." 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. The term "control" shall mean ownership of stocks in a corporation possessing at least Fifty-one (51%) per cent of the total voting power of all classes of stocks entitled to vote. Accordingly, no gain or loss shall be recognized both to your clients, Mrs. Carmen Vda. de Ongsiako and her six children and the transferee corporations, on the transfer by your clients of several parcels of land together with their corresponding improvements thereon in exchange for the shares of stock of the three (3) corporations to be organized for the purpose, among others, of receiving such properties, considering that as a result of the said exchange, not more than five (5) of the transferors will gain control of each of the transferee corporations. And since the properties are exchanged for stocks of equal value, neither of the parties are subject to donor's gift tax. Nor are the transferee corporations 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 stocks 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) 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)(2)(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 complied with, otherwise, the exchange shall not be considered an exempt transaction within the purview of Section 35(c) of the Tax Code. Very truly yours, EFREN I. PLANA Acting Commissioner of Internal Revenue TAN-1456-040-3 "TAXPAYERS SHOULD INDICATE THEIR TAN IN ALL COMMUNICATIONS TO THE BIR."