BIR Ruling [DA-016-02]

February 7, 2002 BIR RULING [DA-016-02] Laya Mananghaya & Co . 22/F Philamlife Tower 8767 Paseo de Roxas Makati City Attention: Attys . Remegio A. Noval Partner, Tax & Corporate Services and Moises R. Villanueva Senior Manager, Tax & Corporate Services Gentlemen : This refers to your letter dated August 7, 2001 stating that W. Brown and Company Inc. (W. Brown) is a corporation organized and existing under the laws of the Republic of the Philippines; that it is duly registered with the Securities and Exchange Commission (SEC) with an authorized capital stock of Five Hundred Million Pesos (P500,000,000.00); that the said authorized capital stock is divided into Five Hundred Million (500,000,000) shares, with a par value of One Peso per share (P1.00); that on the other hand, Brown Direct Sales Corporation (BDSC) is a corporation organized and existing under the laws of the Philippines; that it is duly registered with the SEC with an authorized capital stock of Two Hundred Fifty Million Pesos (P250,000,000.00); that the said authorized capital stock is divided into Two Hundred Thousand (250,000,000) shares, with a par value of One Peso per share (P1.00); that W. Brown was incorporated for the primary purpose of engaging in the business of manufacturing, importing, exporting, buying, selling or otherwise dealing in at wholesale only such goods as but not limited, to toiletries, tissue paper and napkins and related paper products, toothbrushes, cotton products such as cotton balls, cotton swabs, etc., and other health care products or goods of like nature, and any and all equipment, materials, supplies used or employed in or related to the manufacture of such finished products; that BDSC was incorporated for the primary purpose of engaging in buying, selling, distributing, marketing at wholesale and retail insofar as may be permitted by law, all kinds of goods, commodities, wares and merchandise of every kind and description; to enter into all kinds of contracts for the export, import, purchase, acquisition, sale at wholesale or retail and other disposition for its own account as principal or in a representative capacity as manufacturer's representative, merchandise broker, indentor, commission merchant, factors or agents, upon consignment of all kinds of goods, wares merchandise or products whether natural or artificial; that BDSC is a wholly-owned subsidiary of W. BROWN (except for directors' qualifying shares which are beneficially owned by W. BROWN); that plan of merger, W. BROWN as the surviving corporation, shall acquire all the respective rights, businesses, assets and other properties, and shall assume the respective liabilities of BDSC, the absorbed corporation; that the deficit of BDSC will be transferred to W. BROWN as a deduction in the investment account in BDSC; that all the outstanding shares of BDSC as of the effective date of the merger (which means the subscribed capital stock including the unpaid subscription) shall be deemed cancelled by reason of the merger; that W. BROWN, being the 100% owner of all the outstanding shares of BDSC (subscribed capital including unpaid subscription), shall no longer issue new shares corresponding to the net value of the assets transferred in order not to create treasury shares; that after the effective date of merger, BDSC will cease to exist as a corporation by operation of law; that on the other hand, W. BROWN's corporate existence shall continue and its Articles of Incorporation shall be the same as its present Articles of Incorporation and By-laws; that W. BROWN, as the surviving corporation, will, upon the effective date of merger, acquire and assume all the assets, franchise, licenses, powers, rights, interests, title, equities, privileges, immunities and liabilities of BDSC; that considering the complementary business of W. BROWN and BDSC, the merger becomes necessary and advantageous for the following reasons: 1. The integration of the administrative facilities of the parties to the merger to streamline and simplify operations will result in economies of scale and efficiency of operations. 2. The consolidation of the assets of the parties to the merger will allow the procurement of financing and credit facilities under more favorable terms. 3. The merger will make possible the more productive use of the properties and facilities of the constituent corporations. Based on the foregoing representations, you now request confirmation of your opinion that 1. No gain or loss shall be recognized by BDSC, the absorbed corporation, on the transfer of its assets and liabilities to W. BROWN, surviving corporation, although no new shares were issued by the latter pursuant to a statutory merger; 2. The basis of the assets and liabilities of BDSC in the hands of W. BROWN shall be the same as it would be in the hands of BDSC; 3. The transfer of BDSC's properties to W. BROWN will not be considered as transfer of property for an insufficient consideration subject to gift tax, since there is no donative intent on the part of BDSC and the transaction is for a purely business purpose; 4. The transfer of BDSC's properties to W. BROWN pursuant to the plan of merger will not be subject to any output VAT, and any unused input VAT of BDSC as of the effective date of merger, will be transferred to and absorbed by W. BROWN, pursuant to Section 4.100-5 of Revenue Regulations No. 7-95, implementing Section 106 (C) of the Tax Code of 1997; and 5. In the event that there should be any excess minimum corporate income tax (MCIT), such MCIT of BDSC will be transferred to W. BROWN and carried forward and credited against the normal income tax due of W. BROWN for the three (3) immediately succeeding taxable years. In reply thereto, please be informed that your opinion is hereby confirmed as follows: 1. The above reorganization is a merger within the contemplation of Section 40(C)(2) and (6)(b) of the Tax Code of 1997, because W. Brown will acquire/assume all assets and liabilities of BDSC solely in exchange for the shares of stock of BDSC, the proposed transaction to be undertaken being for a bona fide business purpose and not for the purpose of escaping the burden of taxation. 2. The basis of the assets and liabilities to be received by W. Brown shall be as it would be in the hands of BDSC. The basis of W. Brown stocks to be received by the stockholders of BDSC shall be the same as the basis of the BDSC stocks surrendered in exchange therefore. However, it is understood, that upon subsequent sale or exchange of the assets or shares of stock acquired by the parties (which in our case is the surviving corporation) the gains derived from such sale or exchange shall be subject to income tax. 3. The transfer of BDSC's properties to W. Brown pursuant to the plan of merger will not be considered as transfer of property for insufficient consideration subject to gift tax, since there is no intention to donate on the part of the parties and the transaction is effected purely for business reasons. However, the transfer by BDSC to W. Brown of all its real properties shall be subject to the documentary stamp tax imposed under Section 196 of the Tax Code of 1997, while the transfer of shares of stock and certificate of obligations by the same transferor shall be subject to the documentary stamp tax imposed under Section 176. On the other hand, the original issuance of the shares of stock to the stockholders of BDSC shall be subject to documentary stamp tax imposed under Section 175 both of the Tax Code of 1997. 4. The transfer of BDSC's properties to W. Brown pursuant to the plan of merger will not be subject to value-added tax (VAT) and any unused input tax of BDSC as of the effective date of the merger, will be absorbed by W. Brown as the surviving corporation, pursuant to Section 4.100-5(b)(3) of Revenue Regulations No. 7-95, as amended. 5. Finally, in BIR Ruling No. 137-99 dated August 31, 1999, the BIR held that the excess minimum corporate income tax (MCIT) of an absorbed corporation shall be carried forward and credited against the normal income tax due of the surviving corporation, for the three immediately succeeding taxable years pursuant to Section 27(E)(3) of the Tax Code of 1997. Thus, since the excess MCIT of the absorbed corporation are among the rights, privileges, property and/or interest of the absorbed corporation, the excess MCIT of BDSC shall be transferred to and vested in W. Brown, as the surviving corporation on effective date of the merger. Accordingly, the excess MCIT of BDSC shall be carried forward and credited against the normal income tax due of W. Brown, as the surviving corporation, for the three (3) immediately succeeding taxable years pursuant to said Section 27(E)of the said Code. Likewise, in the same ruling, this Office had ruled that the aggregate Net Operating Loss Carry Over (NOLCO) balances of the absorbed corporations and the surviving corporation may be claimed by the latter as a deduction from gross income under Section 34(D)(3) of the Tax Code of 1997 subject to the three (3) years period limitation. This is so because since NOLCO balance is among the rights, privileges property and/or interest of the absorbed corporations and considering further that the merger will be undertaken for a bona fide business purpose and not for the purpose of escaping the burden of taxation and there is no effective change of ownership, the surviving corporation can claim as NOLCO deduction the NOLCO balance of the absorbed corporation, which shall be transferred and vested in the surviving corporation, W. Brown, by operation of law. However, in order that the above-described reorganization can be considered as merger under Section 40(C)(2) and (6)(b) of the Tax Code of 1997, the parties to the merger should comply with the following requirements: A. The plan of reorganization should be adopted by each corporation, parties thereto, the adoption being shown by the acts of its duly constituted responsible officers and appearing upon the official records of the corporation. Each corporation, which is a party to the reorganization, shall file, as part of its return for the taxable year within which the reorganization occurred a complete statement of all facts pertinent to the non-recognition of gain or loss in connection with the reorganization, including: 1. A copy of the plan of reorganization, together with a statement executed under the penalties of perjury, showing in full the purposes thereof and in detail all transactions incident to, or pursuant to the plan; 2. A complete statement of all cost or other basis of all property, including all stocks or securities, transferred incident to the plan; 3. A statement of the amount of stock or securities and money received from the exchange, including a statement of all distribution of other disposition made thereof. The amount of each kind of stock or securities and other property received shall be stated on the basis of the fair market value thereof at the date of the exchange. 4. A statement of the amount and nature of any liabilities assumed upon the exchange, and the amount and nature of any liabilities to which any of the property acquired in the exchange is subject. B. Every taxpayer, other than a corporation, party to the reorganization, who received stock or securities and other property or money upon a tax-free exchange in connection with a corporate reorganization shall incorporate in his income tax return for the taxable year in which the exchange takes place a complete statement of all facts pertinent to the non-recognition of gain or loss upon such exchange, including: 1. A statement of the cost or other basis of the stock or securities transferred in the exchange; and 2. A statement in full of the amount of stock or securities and other property or money received from the exchange, including any liabilities assumed upon the exchange, and any liabilities to which property received is subject. The amount of each kind of stock or securities and other property (other liabilities assumed upon the exchange) received shall be set forth upon the basis of the fair market value thereof at the date of the exchange. C. Records in substantial form shall be kept by every taxpayer who participates in a tax-free exchange in connection with a corporate reorganization showing the cost or other basis of the transferred property or money received (including any liabilities assumed on the exchange, or any liabilities to which any properties received were subject), in order to facilitate the determination of gain or loss from subsequent disposition of such stock or securities and other property received from the exchange. (par. 9803-8, F-H 963, ed., p. 9611) In addition to the foregoing requirements, records in substantial form must be kept by the corporation participating in the merger showing the information listed above in order to facilitate the determination of gain or loss from a subsequent disposition of the stock received as a consequence of the merger. ( BIR Ruling No . 472-93 dated December 3, 1993 ) This ruling is being issued on the basis of the foregoing facts as represented. However, if upon investigation, it will be disclosed that the facts are different, then this ruling shall be considered null and void. Very truly yours, (SGD.) MILAGROS V. REGALADO Acting Assistant Commissioner Legal Service