BIR Ruling [DA-149-98]

April 20, 1998 BIR RULING [DA-149-98] Joaquin Cunanan & Co. 14F Multinational Bancorporation Centre 6805 Ayala Avenue, Makati City Attention: Atty . George J . Lavadia Principal Gentlemen : This refers to your letter dated August 20, 1997 requesting for confirmation of your opinion that the payments by your client, Sony Music Entertainment Philippines, Inc. (SONY RP) to Sony Music Entertainment, Inc. (SONY US), a non-resident foreign corporation, in consideration for services rendered by the latter outside the Philippines, are not subject to Philippine income or withholding tax, pursuant to Articles 5(1), 5(2) and 8(1) of the RP-US Tax Treaty and that said payments are considered deductible business expense under the then Section 29(a)(1) of the National Internal Revenue Code, as amended. LibLex It is represented that SONY RP is a domestic corporation duly organized and existing under the laws of the Philippines; that it is engaged in the business of development, production, origination, licensing, importation, marketing, rental, and sale (on wholesale basis only) of records, cassette tapes, compact discs, laser discs, computer software, and other audio and audio-visual carriers for entertainment and education, musical copyrights and music publishing in any media, among others; that on April 1, 1995, SONY RP entered into a Service Agreement with SONY US, a non-resident foreign corporation organized and existing under the laws of the State of New York, USA, effective for a period of ten (10) years; that pursuant to the Agreement between the parties, SONY US would provide services and assistance to SONY RP which basically consist of the latter's implementation and interpretation of international artist contracts, recording promotion and distribution contracts, international marketing campaigns, creation of merchandising and publicity materials, control of manufacturing, quality control and operation of international warehouse operations, executive recruitment, and other allied services; that all these services are to be performed by SONY US in New York except for occasional visits or consultations with SONY RP of short duration which in no case shall exceed 180 days in the aggregate for any calendar year; that in consideration for these services, SONY US will be paid a service fee equivalent to the actual cost for the services actually rendered without any mark-up; that SONY US has no branch office or otherwise has no permanent establishment in the Philippines. In reply, please be informed that the said payments for services rendered as set forth in the Service Agreement between SONY RP and SONY US are not subject to Philippine income/withholding tax considering that the said services are rendered by SONY US outside the Philippines. Under Article 8 of the RP-US Tax Treaty, the taxability of business profits earned by a U.S. resident shall depend on the existence of a permanent establishment (PE) in the Philippines. A PE, as defined under Article 5 of the same Tax Treaty includes, among others, "the rendering of technical services in the Philippines for a period of more than 183 days." This means that, if the technical or consultancy services are rendered outside the Philippines, or even if these are rendered within the Philippines, but the rendition of which is less than 183 days during a given taxable year, the same shall not constitute a PE. As such, the income derived from said services shall be considered income from sources outside the Philippines and therefore exempt from income/withholding tax. Moreover, the aforementioned fee is not within the contemplation of "Rentals and Royalties" as enunciated under the then Section 36(a)(4) of the Tax Code, as amended [now Section 42(A)(4) of the Tax Code of 1997], since there is no transfer into this country of technology, equipment or other property, where the payee has proprietary interest. Specifically, there must be transfer of scientific, technical, industrial or commercial knowledge or information. In the instant case, there is no such transfer of technology as the service fees to be paid by SONY RP to SONY US constitute payment for the aforementioned technical support services performed in New York. Thus, the fees paid to SONY US shall not be considered as royalties but shall constitute compensation for labor or personal service performed outside the Philippines. The fee is considered income from sources without the Philippines pursuant to the then Sec. 36(c)(3) of the Tax Code, as amended [now Section 42(c)(3) of the Tax Code of 1997]. cdtech In view thereof, this Office is of the opinion, and so holds, that since the services covered by the subject Service Agreement are rendered by SONY US outside the Philippines, and considering further that SONY US has no PE in the Philippines, the payments made by SONY RP for said services shall not be subject to Philippine income tax and consequently to the withholding tax under the then Section 25(b)(1), in relation to then Section 50(a), both of the Tax Code, as amended [now Section 28(B)(1), in relation to Section 57(A), both of the Tax Code of 1997]. Moreover, said payments are also exempt from Philippine income tax since they are mere reimbursements for actual cost incurred without any mark-up or profit element. Furthermore, the said fees paid by SONY RP to SONY US, being an expense considered appropriate and helpful in the development of the taxpayer's business and likewise a payment which is normal in relation to the business of SONY RP, can be deducted as ordinary and necessary business expense when paid or incurred during the taxable year, hence, deductible from SONY RP's gross income pursuant to the then Section 29(a)(1) of the Tax Code, as amended [now Section 34(A)(1) of the Tax Code of 1997] (BIR Ruling No. 001-90 dated January 4, 1990; 036-90 dated March 27, 1990; BIR Ruling No. DA-145-97 dated April 7, 1997). 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. cdta Very truly yours, (SGD.) SIXTO S. ESQUIVIAS IV Deputy Commissioner (Legal and Enforcement Group)