BIR Ruling [DA-075-03]

March 11, 2003 BIR RULING [DA-075-03] 40 (C) (6) (b) Picazo Buyco Tan Fider and Santos Law Offices 18th, 19th and 17th Floors, Liberty Center 104 H.V. dela Costa St., Salcedo Village Makati City Attention: Attys. Gabriel A. Dee and Rosita N. Chaves Gentlemen : This refers to your letter dated January 9, 2003, requesting on behalf of your clients, Allied Telesis Philippines, Inc. (Allied Telesis) and Allied Telesyn Philippines, Inc. (Allied Telesyn) for a confirmation of your opinion that: (i) the merger of Allied Telesis and Allied Telesyn Philippines, the former being the surviving corporation and the latter as the absorbed corporation, whereby new Allied Telesis shares will be issued at the agreed exchange ratio or values to the stockholders of the absorbed corporation as a result of the merger, qualifies as a tax-free exchange of property where no gain or loss shall be recognized under Section 40(C)(2) in relation to Section 40(C)(b) of the Tax Code of 1997; (ii) the basis of the assets and liabilities of Allied Telesyn in the hands of Allied Telesis shall be the same as it would be in the hands of the absorbed corporations; (iii) the transfer of all property, real and personal, from Allied Telesyn to Allied Telesis, as a result of the Merger, is a tax-free transfer of property under Section 40(C)(2) in relation to Section 40(C)(6)(b) of the NIRC and likewise exempt from Value Added Tax; (iv) the transfer of any property pursuant to the Merger is not subject to donor's tax as there is no intention to donate on the part of any of the parties and the transaction is for a purely business purpose. It appears that Allied Telesis is a domestic corporation duly registered with the Securities and Exchange Commission (SEC) on July 19, 2002 under SEC Registration Certificate No. CS200251457. The authorized capital stock of Allied Telesis is Fifteen Million Pesos (P15,000,000.00), divided into One Hundred Fifty Thousand (150,000) common shares with a par value of One Hundred Pesos (P100.00) per share of which all of the 150,000 common shares are fully-subscribed, fully-paid and outstanding. Allied Telesyn, on the other hand, is a domestic corporation duly registered with SEC on March 29, 2001 under SEC Registration Cert. No. A200104455. The authorized capital stock of Allied Telesyn is Ten Million Pesos (P10,000,000.00) divided into Two Hundred Thousand (200,000) common shares with a par value of Fifty Pesos (P50.00) per share of which all of the Two Hundred Thousand (200,000) common shares are fully-subscribed, fully paid and outstanding. As of September 30, 2002, the date of its latest audited financial statements, Allied Telesyn has total assets of Fourteen Million Eight Hundred Fifty Four Thousand One Hundred Thirty Six Pesos and Eleven Centavos (P14,854,136.11), total liabilities of Three Million Three Hundred Thirteen Thousand Nine Hundred Forty Seven Pesos and Fifty One Centavos (P3,313,947.51), and stockholders' equity of Eleven Million Five Hundred Forty Thousand One Hundred Eighty Eight Pesos and Sixty Centavos (P11,540,188.60). The Board of Directors and stockholders of the two companies approved the merger, in accordance with the Corporation Code of the Philippines and the terms and conditions in the Plan of Merger by and between Allied Telesis and Allied Telesyn (the "Plan of Merger"). Under the Plan of Merger, Allied Telesis shall be the surviving corporation with the name Allied Telesis Philippines, Inc. and shall continue to possess all the rights, privileges, immunities and powers and shall be subject to all the duties and liabilities of a corporation organized under the Corporation Code. Upon the effectivity of the Merger, Allied Telesis shall possess all the rights, privileges and properties of Allied Telesyn, real and personal. All receivables due on whatever account, and all and every other interest of, or belonging to, or due to Allied Telesyn, shall be taken by and deemed transferred to and vested in Allied Telesis by operation of law. Allied Telesis shall also be responsible for the liabilities and obligations of allied Telesyn in the same manner as if Allied Telesis had itself incurred such liabilities or obligations, and any pending claim, action or proceeding brought by or against Allied Telesyn. As a result of the merger, stockholders of Allied Telesyn will exchange their 200,000 Allied Telesyn common shares to Allied Telesis in exchange for 115,400 unissued Allied Telesis common shares. In this regard. Allied Telesis and Allied Telesyn have filed an application for the approval of the Merger with the SEC on December 23, 2002. In reply thereto, please be informed as follows: 1. The above reorganization of Allied Telesis and Allied Telesyn, with the former as the surviving corporation, is a merger within the contemplation of Section 40(C)(6)(b) of the Tax Code of 1997, for the reason being that Allied Telesis will acquire/assume all the assets and liabilities of Allied Telesyn, solely in exchange for shares of stock of Allied Telesis, the transaction undertaken being for a bona fide business purpose, and not for the purpose of escaping the burden of taxation. The aforestated transfer by Allied Telesyn of all its assets and liabilities to Allied Telesis qualifies for non-recognition of gain or loss for income tax purposes in accordance with Section 40(C)(2) of the 1997 Tax Code. No gain or loss shall be recognized to Allied Telesyn upon the distribution of Allied Telesis shares to Allied Telesyn shareholders under Section 40(C)(2) of the same Tax Code. 2. The basis of the assets to be received by Allied Telesis shall be the same as it would be in the hands of Allied Telesyn. The basis of Allied Telesis stocks received by the stockholders of Allied Telesyn shall be the same as the basis of the Allied Telesyn stocks surrendered in exchange therefore. Thus, if the transferor later sells or exchanges the shares of stock it acquired in the exchange, it shall be subject to income tax on the gains it derived from such sale or exchange, taking into consideration that the cost basis of the shares shall be the same as the original acquisition cost or adjusted cost basis to the transferor of the shares of stocks exchanged therefore; and that the cost basis to the transferee of the properties exchanged for stocks shall be the same as it would be in the hands of the transferor. [ Sec. 40(C)(5)(a) and (b) of the Tax Code of 1997 ]. The substituted bases of the assets transferred by Allied Telesyn to Allied Telesis pursuant to the merger are the following: Nature Acquisition Cost Cash and Cash Equivalents P4,854,923.83 Accounts Receivable from ATKK 2,851,932.74 Advances to Officers and Affiliates 1,054,349.72 Prepayments 350,802.08 Property and Equipment net of 2,881,943.50 Accumulated 5,358,702.74 Depreciation Security Deposits to Rental and Subscriptions 383,425.00 Total P14,854,136.11 =========== On the other hand, pursuant to the Plan of Merger, Allied Telesis will assume the following liabilities of Allied Telesyn with their corresponding amounts, viz. : Acquisition Cost/ Nature Adjusted Basis Accounts Payable-Allied Telesyn Int'l P2,271,572.40 Other payables and accruals 918,495.44 Income tax payable 123,879.67 TOTAL P3,313,947.51 =========== 3. The transfer by Allied Telesyn of its certificates of stock and its real properties to Allied Telesis shall be subject to the documentary stamp tax imposed under Sections 176 and 196 respectively, both of the Tax Code of 1997. The original issuance of the Certificates of Stock of Allied Telesis to the stockholders of Allied Telesyn shall be subject to the documentary stamp tax imposed under Section 175 of the Tax Code of 1997. However, the above-mentioned transfer is not subject to VAT under Section 4.100-5(b)(1) of Revenue Regulations No. 7-95, otherwise known as the "Consolidated Value-Added Tax Regulations", as amended, the aforestated transfer being considered a transaction "not subject to output tax" under said Section. ( BIR Ruling No. 030-99 dated March 12, 1999 ) In a merger, the surviving corporation (Allied Telesis) succeeds to the rights and liabilities of the absorbed corporation (Allied Telesyn) and merely carries on the identity of the latter. Consequently, no gain was realized by the surviving corporation. ( BIR Ruling No. 112-96 dated October 25, 1996 ) 4. Well-settled in our jurisprudence is the fact that the essential elements of a valid donation are: (1) the reduction of the patrimony of the donor, (2) the increase in the patrimony of the donee; and (3) the intent to do an act of liberality ( animus donandi ). Clearly, there is no intention on the part of any of the parties to the merger-Allied Telesyn to donate to Allied Telesis its assets since the transaction is purely for legitimate business purpose. Thus, the aforesaid merger will not be subject to gift tax since there is no intention to donate, and the transaction is a bona fide merger effected solely for business reasons. However, in order that the above-described reorganization can be considered as merger under Section 40(C)(2) of the 1997 Tax Code, the parties to the merger should comply with the following requirements: A. The plan of reorganization should be adopted by each of the corporations, 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 the 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 other property or money received from the exchange, including a statement of all distribution or 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; and 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, a 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 stocks or securities and other property or money received from the exchange, including any liabilities assumed upon the exchange, and any liabilities to which the 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. Permanent 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 of the properties assumed on the exchange, or any liabilities to which any of the properties received were subject, in order to facilitate the determination of the gain or loss from a subsequent disposition of such stock or securities and other property received from the exchange ( par. 9803-8, P-H 1963 ed., p. 9611 ). In addition to the foregoing requirements, the parties shall enclose with their respective income tax returns for the taxable year in which the merger occurred a copy of the request for ruling filed with, and the corresponding ruling issued by, the Bureau of Internal Revenue. Such parties shall include as a note to their respective audited financial statements for the taxable year in which the merger occurred a statement to the effect that they hold such assets/shares acquired in a merger and the year in which such merger occurred, and in the taxable years until the subject properties are subsequently transferred to another transferee. The parties shall, pursuant to Section 58(E) of the 1997 Tax Code, also cause the Register of Deeds to annotate at the back of the Transfer Certificates of Title/Condominium Certificates of Title, and the issuing corporation at the back of the Certificates of Stock, the date the deed of transfer was executed, the original or historical cost of acquisition of the properties involved, and the fact that no gain or loss was recognized as a result of such exchange; provided, however, that any violation of this provision by the Register of Deeds shall be subject to the penalties under Section 269 of the same Code. It is further required that within ninety (90) days from receipt of this ruling, the parties to the transaction must submit to the Law Division, Bureau of Internal Revenue, a certified true copy issued by the Register of Deeds or Corporate Secretary, as the case may be, of duly annotated Transfer Certificates of Title/Condominium Certificates of Title, in respect of the transferred properties and shares of stock of transferee corporation. DTSIEc Finally, the surviving corporation shall cause the annotation at the back of the newly issued Certificates of Stock, the original or historical cost of acquisition of the cancelled shares of stock (Allied Telesyn), the date the transaction took place and the fact that no gain or loss was recognized as a result of the merger. 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, and/or any of the requirements imposed in this letter are not complied with, then this ruling shall be considered null and void. Very truly yours, Commissioner of Internal Revenue By: (SGD.) MILAGROS V. REGALADO Assistant Commissioner Legal Service