BIR Ruling [DA-052-02]

March 25, 2002 BIR RULING [DA-052-02] BIR Ruling 030-2000 Hydro Electric Development Corporation 214 Ambuklao Road, Obulan Beckel La Trinidad, Benguet Attention: Mr. Jose Venancio P. Batiquin Gentlemen : This refers to your letter dated December 11, 2000 stating that Hydro Electric Development Corporation (HEDCOR) is a domestic corporation duly organized and existing under the laws of the Philippines and is a registered Mini-Hydroelectric Power Developer; that HEDCOR owns and operates mini-hydro power plants which are all registered with the Department of Energy; that by virtue of said registration, the operations of the mini-hydro power plants enjoy income tax incentives which expired on January 25, 2000; that consequently, the income from the mini-hydro plant shall be taxable beginning January 26, 2000; that HEDCOR is likewise engaged in contracting services; that this line of business does not enjoy income tax incentive; that said line of business incurred a net operating loss in the taxable years 1998 and 1999; that HEDCOR intends to deduct the aforementioned amount as net operating loss carry over from its taxable income starting February 2000; that as regards ownership in 1998 and 1999, 96.0% of the voting stocks of HEDCOR was owned by Aboitiz Power Corporation (APC), a corporation likewise organized and existing under the laws of the Republic of the Philippines; that in the year 2000, APC sold this entire holdings to Philippine Hydropower Corporation (PHC), a corporation wholly owned by APC in both years 1998, 1999 and 2000; that in effect, the 96.0% of the voting stock of HEDCOR is owned by APC directly in 1998 and 1999, and indirectly in year 2000 thru its ownership of 100% of the stocks of PHC, thus, there has been no substantial change in the ownership of the company; and that in support of your request, you submitted to this Office the following documents: 1. List of Stockholders of HEDCOR as of December 31, 1998, 1999 and 2000; and 2. List of Stockholders of PHC as of December 31, 1999 and 2000. Based on the foregoing, you now request for a confirmation of your opinion that the net operating loss incurred by the Contracting Services Division of HEDCOR in 1998 and 1999 are deductible as net operating loss carry-over against its taxable income derived from contracting services only beginning February, 2000. In reply, please be informed that Section 34(D)(3) of the Tax Code of 1997 states as follows: "(3) Net Operating Loss Carry-over. The net operating loss of the business or enterprise for any taxable year immediately preceding the current taxable year, which had not been previously offset as deduction from gross income shall be carried over as a deduction from gross income for the next three (3) consecutive taxable years immediately following the year of such loss: Provided, however, That any net loss incurred in a taxable year during which the taxpayer was exempt from income tax shall not be allowed as a deduction under this Subsection: Provided, further , That a net operating loss carry-over shall be allowed only if there has been no substantial change in the ownership of the business or enterprise in that "(i) Not less than seventy-five percent (75%) in nominal value of outstanding issued shares, if the business is in the name of a corporation, is held by or on behalf of the same persons; or xxx xxx xxx "For purposes of this Subsection, the term ' net operating loss' shall mean the excess of allowable deduction over gross income of the business in a taxable year: xxx xxx xxx" Furthermore, Section 3.12 of Revenue Regulations No. 14-2001 provides, viz : "3.12 By or on Behalf of the Same Persons The term "By or on Behalf of the Same Persons" shall refer to the maintenance of ownership despite change as when: 1. No actual change in ownership is involved in case the transfer involves change from direct ownership to indirect ownership, or vice versa. xxx xxx xxx 2. No actual change in ownership is involved as in the case of merger of the subsidiary into the parent company. xxx xxx xxx Any reference in these Regulations to the "75% equity, ownership, or interest rule", "75% or more in nominal value", "75% or more interest", and other similar terms shall be construed within the context of this definition. Notwithstanding the above, in determining whether there is actual change in ownership in the above-mentioned and similar cases, each and every step of the transaction shall be considered and the whole transaction or series of transactions shall be treated as a single unit." Pursuant to the above, and considering that there is no substantial change in the ownership of HEDCOR, in that 96% in nominal value of its outstanding issued shares is held by or on behalf of the same persons, the net operating loss carry-over of HEDCOR is preserved and may be carried over and claimed as a deduction from its gross income for purposes of computing the income tax using the normal income tax rate and without prejudice to the applicability of the rule on the Minimum Corporate Income Tax (MCIT) but only for the next 3 consecutive taxable years immediately following the year of such loss but excluding the net loss incurred in the taxable year during which HEDCOR was enjoying income tax holiday from its income from its mini-hydro plant. (BIR Ruling No. 030-2000 dated August 10, 2000) Likewise, we confirm your opinion that there is no substantial change in the ownership of the corporation since 96.0% of the voting stock of HEDCOR is owned by APC directly in 1998 and 1999, and the same number of shares continued to be held by the PHC on behalf of the transferor APC because the former is owned 100% by the latter. (Section 3.12, Revenue Regulation No. 14-2001) On the basis of the foregoing therefore, since there is no substantial change in ownership of HEDCOR in the year 2000, this Office rules as follows: 1) Loss incurred in 1998 and 1999 related to the business of contracting services is still deductible in taxable year 2000 because there is no substantial change in ownership in 2000. 2) The loss related to the contracting services should be segregated, identified, and not mixed with loss, if any, from the tax-exempt activities derived from the operations of mini-hydro power plants that were previously enjoying income tax holiday. 3) The loss related to the contracting services is available as NOLCO, even if HEDCOR was enjoying tax incentive in 1998 and 1999 because the loss was not incurred in an activity that was enjoying tax exemption. 4) The above-mentioned NOLCO may be deducted against a) Gross Income from contracting services beginning January 1, 2000; and b) Gross Income from the operations of mini-hydro power plant (that is, the previously registered activity) earned beginning January 26, 2000. 5) Pursuant to Section 6.3 of Revenue Regulations No. 14-2001, in case a person is engaged in both registered and unregistered business activities under any of the aforesaid laws (e.g., a corporation with a BOI-registered activity enjoying income tax holiday and other unregistered business activities not enjoying any BOI incentive) the net operating loss or losses sustained or incurred by the said BOI-enterprise from its registered activities shall not be allowed as NOLCO deduction from its gross income derived from the unregistered business activities. Revenue Regulations No. 2, otherwise known as the "Income Tax Regulations, provides that: "SEC. 61. Exclusions from gross income. The term "gross income" as used in the Act does not include those items of income exempted by statute or by fundamental law. Such tax-free income should not be included in the income tax return unless information regarding it is specifically called for. The exclusion of such income should not be confused with the reduction of gross income by the application of deductions." (Emphasis ours) An income tax holiday is but another term for income tax exemption, hence, all receipts accruing or covered therefrom should not be mixed or included in the computation of the taxable income. (General Milling Corporation vs. Commissioner of Internal Revenue, CTA Case No. 5496 July 8, 1999) In the computation of the income tax return for year 2000, HEDCOR's gross sales/revenues for the period of January 1-25, 2000 should be excluded as they fall within the period of exemption granted by the Omnibus Investment Code. On the presumption that HEDCOR reports its income and deductions on a calendar year basis, then HEDCOR's taxable income for calendar year 2000 shall be computed as follows: Gross Sales/Revenues from operations of mini-hydro power plants (with income tax incentives) exempt (January 1-25, 2000) Gross Sales/Revenues from operations of mini-hydro plants (without income tax incentives) . . . (January 26-December 31, 2000) Gross Sales/Revenues from contracting services . . . (January 1-December 31, 2000) Less: Allowable Deductions from operations of mini-hydro plants (without income tax incentives) (January 26-December 31, 2000) (. . . ) Allowable Deductions from other contracting services (January 1-December 31, 2000) (. . . ) Taxable Income . . . This ruling is being issued solely for the purpose of confirming the application of the above principles as provided in Revenue Regulations No. 14-2001 to the facts as represented. It is, however, not a ruling on the amount of loss properly allocable to either activity, as this is a question of fact and not of law. Furthermore, 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, Commissioner of Internal Revenue By: (SGD.) EDMUNDO P. GUEVARA Deputy Commissioner Legal and Inspection Group