BIR Ruling [DA-098-04]

March 1, 2004 BIR RULING [DA-098-04] 27 (D) (5); 73; 50; 196 #039-2002; DA-009-2003 Ocampo & Ocampo 11th Floor, Equitable Bank Tower, 8751 Paseo de Roxas 1226 Makati City Gentlemen : This refers to your letter dated November 5, 2002 stating that your client, Sol Real, Inc. ("SRI"), is a corporation duly organized and existing under and by virtue of the laws of the Republic of the Philippines; that it was incorporated on October 6, 1987 for the purpose of engaging in the real estate business; that in 1987, SRI acquired one (1) parcel of land with a residential house (the "Property") located in Mangyan Street, Barangay Pansol, Diliman, Quezon City containing an area of One Thousand Seven Hundred Four and Three Tenths (1,704.30) square meters; that it was the only property acquired by SRI during all its corporate life; that under the tax declarations, the land and the residential house are classified as residential; that for all intents and purposes, the Property was the only substantial asset of SRI; that the Property was leased out intermittently to lessors over the course of SRI's business undertakings; that beginning 1998 the Property was no longer leased out and neither was it generating income for SRI; that on January 15, 1998, the stockholders and members of the Board of Directors of SRI unanimously resolved that SRI had outlived its principal purpose and that it would discontinue its business operations and shorten its corporate life to end on May 30, 1998; that SRI eventually filed an application nor the shortening of its corporate existence with the Securities and Exchange Commission ("SEC") on May 5, 1998; that on January 4, 1999, the SEC approved the amendment to Article VII of SRI's Articles of Incorporation and SRI's corporate existence was shortened to May 30, 1998; that SRI's Application for Cancellation of Registration was approved by the Bureau of Internal Revenue on October 15, 1998; that since then, SRI has not entered into any business transactions for profit as its existence continued for the sole purpose of winding up its businesses ( i.e. , prosecuting and defending suits by or against its settlement and closing of its affairs, disposal and conveyance of its properties); that pending distribution of SRI's remaining asset to its stockholders, the Property was not leased out to any party; that the Property has in fact been idle since SRI ceased business operations; that nevertheless, SRI continued to pay the real estate taxes on the Property without deriving any benefit from the said Property; that as part of SRI's winding up process and for purposes of convenience in liquidating its assets among the stockholders of SRI, the Receiver or Trustee in Dissolution is contemplating on either selling the Property pursuant to its plan to liquidate and then to distribute proceeds of the sale or to distribute the assets of SRI directly to the stockholders; and that in support of your request, you submitted the following: (1) Certificate of Registration with SEC; (2) Articles of Incorporation of SRI; (3) Transfer Certificate of Title to the land and its corresponding Tax Declaration; (4) Tax Declaration to the residential house; (5) Certificate of Filing of Amended Articles of Incorporation dated January 4, 1999 issued by the SEC; (7) Amended Articles of Incorporation; and (8) Application for Cancellation of Registration with the BIR. Based on the foregoing, you now request for a confirmation of your opinion that: 1. In case SRI will sell the Property for purposes of liquidating its assets among its stockholders, the sale will be subject to the capital gains tax pursuant to Section 27(D)(5) of the Tax Code of 1997. 2. In case the Receiver or Trustee in Dissolution of SRI will assign the Property and other assets to the existing stockholders directly in the form of liquidating dividends, the assignment of the Property and other assets is not subject to any income tax and is therefore not subject to the payment of creditable withholding tax on sales, exchanges or transfers of real property. 3. The liquidating gains or losses sustained by the stockholders upon the surrender of their corresponding shareholdings in exchange for the transfer of the Property are taxable income or deductible loss as the case may be pursuant to Section 73 of the Tax Code, as amended. The net liquidating gain on income will be subjected to income tax at the rates prescribed under Section 24(A) of the Tax Code, as amended. Moreover, pursuant to Section 39(B) of the Tax Code, as amended, only 50% of the net liquidating gain is reportable for income tax purposes if the shares were held by the individual stockholders for more than twelve months and 100% of the capital gains if the shares were held for less than twelve months. 4. The conveyance and assignment of the Property to the stockholders in liquidation of the assets of SRI is without valuable consideration and, therefore, is not subject to the documentary stamp tax imposed under Section 196 of the Tax Code, as amended. In reply, please be informed as follows: 1. Section 3(a)(1) and (3) of Revenue Regulations No. 7-2003 provides that all real properties acquired by a real estate dealer shall be considered as ordinary assets, as well as, all real properties of the real estate lessor, whether land and/or improvements, which are for lease/rent or being offered for lease/rent, or otherwise for use or being used in the trade or business shall likewise be considered as ordinary assets. Accordingly, since the primary purpose of Sol Real, Inc., as stated in its Articles of Incorporation, is to engage in all aspects of the real estate business or otherwise deal in or acquire by purchase, lease or otherwise, it is indubitable that it is engaged in the real estate business. The parcel of land covered by Transfer Certificate of Title No. 373778 including the residential house built thereon acquired .by Sol Real, Inc. and was intermittently leased out to lessors shall be considered as ordinary asset. AIHDcC Hence, the sale of the parcel of land and the residential house thereon shall be subject to the ordinary income tax imposed under Section 27(A) of the Tax Code of 1997 and not to the capital gains tax imposed under Section 27(D)(5) of the same Code. 2. The conveyance of the Property and other assets of Sol Real., Inc. or its Receiver or Trustee in the form of liquidating dividends is not subject to income tax, on the part of Sol Real, Inc., either on its receipt of the surrendered shares, or its transfer of the aforesaid Property to its stockholders. In BIR Ruling No. 171-92 dated May 28, 1992, this Office ruled that the transfer by the liquidating corporation of its remaining assets to its stockholders is not considered a sale of these assets. Thus, a liquidating corporation does not realize gain or loss in partial or complete liquidation. ( W.P. Fox & Sons, Inc., Petitioner, v. Commissioner of Internal Revenue, Respondent , 15 BTA 115; Jordan Petroleum Company, 13 AFTR 2d 1692; 227 F. Supp. 174; J.T.S. Brown & Son Company v. Commissioner of Internal Revenue , 10 TC 840, cited in BIR Ruling No. 196-010-90-059-90 dated April 17, 1990). Conversely, neither is a liquidating corporation subject to tax on its receipt of the shares surrendered by its stockholders pursuant to a complete or partial liquidation (BIR Ruling No. 171-92, supra ). Accordingly, Sol Real, Inc. is not liable for income tax on either the transfer of its assets to its stockholders, or on its receipt of the shares surrendered by its shareholders. 3. The shareholders of Sol Real, Inc. shall realize capital gain or loss, as the case may be, when Sol Real, Inc. distributes its remaining asset (land with improvement) as liquidating dividends. Specifically, Section 73 of the Tax Code of 1997 provides as follows: "Section 73. Distribution of Dividends or Assets by Corporation . (A) Definition of Dividends. The term 'dividends' when used in this Title means any distribution made by a corporation to its shareholders of its earnings or profits and payable to its shareholders, whether in money or in other property. Where a corporation distributes all, of its assets in complete liquidation or dissolution, the gain realized or loss sustained by the stockholder, whether individual or corporate, is a taxable income or a deductible loss , as the case may be." [Emphasis ours] Liquidating gain or loss is in the nature of capital gain or loss, as the case may be, and therefore treated in the manner stated in Section 39 of the Tax Code of 1997. The gain, if any, derived by the individual stockholders consisting of the difference between the fair market value of the liquidating dividends and the adjusted cost to the stockholders of their respective shareholdings in the corporation (Section 66 (a); Sec. 256 of Revenue Regulations No. 2, otherwise known as the Income Tax Regulations) shall be subject to the ordinary income tax rates provided under Section 24(A)(1)(c) of the Tax Code of 1997. ( BIR Ruling No. 039-2002 dated November 11, 2002 ) 4. The assignment and conveyance of the parcel of land and improvement thereon in the form of liquidating dividends is not subject to the documentary stamp tax (DST) on sale or transfer of real property imposed under Section 196 of the Tax Code of 1997. Section 189 of Revenue Regulations No. 26, otherwise known as the "Documentary Stamp Tax Regulations" provides, viz : "Section 189. Conveyances by Corporation to Owner of All the Capital. A conveyance of real estate by a corporation without valuable consideration to an owner of all its capital stock in consequence of its dissolution is not subject to tax ." (Emphasis and italics supplied) Under the above-quoted provision, a distribution in liquidation, without consideration, of the assets of a corporation consisting of real estate is not subject to DST imposed under Section 196 of the Tax Code of 1997. Accordingly, the distribution of the remaining asset of Sol Real, Inc. to its stockholders without monetary consideration, is not subject to DST as prescribed under Section 196 of the Tax Code of 1997. ( BIR Ruling No. 214-96 dated June 26, 1996 and BIR Ruling No. 092-99 dated July 8, 1999 citing BIR Ruling No. 059-90 ) In addition, Section 196 of the Tax Code of 1997 speaks of "all conveyances, deeds, instruments, or writings, . . . , whereby any land, tenement or other realty sold shall be granted, assigned, transferred, or otherwise conveyed to the purchaser, or purchasers, or to any other person designated by such purchaser or purchasers, . . .". Since it has been held that a corporation that distributes its assets to its stockholders as liquidating dividends is not deemed to be selling such assets to the latter, then Section 196 of the Tax Code of 1997 shall not apply. However, the notarial certification on this deed of assignment is subject to the DST of P15.00, pursuant to Section 188 of the Tax Code of 1997. ( BIR Ruling No. 039-2002 dated November 11, 2002 ) 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.) JOSE MARIO C. BUAG Deputy Commissioner Legal & Inspection Group