BIR Ruling [DA-150-98]

April 20, 1998 BIR RULING [DA-150-98] Joaquin Cunanan & Co. 14th Floor, Multinational Bancorporation Center Ayala Avenue Makati City Attention: Ms . Mary Assumption S . Bautista Senior Manager Tax and Corporate Services Gentlemen : This refers to your letter dated December 5, 1997 requesting for opinion as to whether the royalty payments made by your client, Sony Music Entertainment Philippines, Inc. (Sony-RP), to Sony Music Entertainment (Japan), Inc. (Sony-Japan) are subject to the preferential tax rate of 15% pursuant to Article 12(2)(b) of the RP-Japan Tax Treaty; and that said payments are considered as deductible expenses under then Section 29(a)(1) of the Tax Code of 1977, as amended [now Section 34(A)(1)(a) of the Tax Code of 1997]. It is represented that Sony-RP is a domestic corporation duly organized and existing under the laws of the Philippines; that it is engaged, among others, 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; that on October 1, 1995, Sony-RP entered into a Royalty Matrix Agreement (Agreement) with Sony-Japan, a corporation organized and existing under the laws of Japan; that pursuant to the Agreement between the parties, Sony-Japan granted to Sony-RP the exclusive license under copyright laws to exploit the Master Recordings from the Sony-Japan Catalog during the term of the Agreement; that Sony-RP shall have the exclusive rights, through the Territory: (1) to manufacture records in any form and by any method now or hereafter known, derived from such Master Recordings; (2) to sell, transfer or otherwise deal in the same or to refrain from such manufacture, sale and dealing; and (3) to reproduce, adopt, and otherwise use those Master Recordings in any medium and in any manner, including but not limited to use in audio-visual works, without payment of any compensation to Sony-Japan or any artist except the royalties prescribed for the use concerned. LLpr In reply, please be informed that Article 12 of the RP-Japan Tax Treaty reads as follows: "(1) Royalties arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other Contracting State. "(2) However, such royalties may also be taxed in the Contracting State in which they arise, and according to the laws of that Contracting State, but if the recipient is the beneficial owner of the royalties the tax so charged shall not exceed: "(a) 15 per cent of the gross amount of the royalties if the royalties are paid in respect of the use of or the right to use cinematograph films and films or tapes for radio or television broadcasting; xxx xxx xxx" Accordingly, the remittance of royalties by Sony-RP to Sony-Japan shall be subject to the preferential tax rate of 15% Philippine income/withholding tax based on the gross amount of the royalties in accordance with the aforequoted Article 12(2)(a) of the RP-Japan Tax Treaty. However, the said royalty payments for the right to exploit the Master Recordings from the Sony-Japan Catalog shall be subject to the 10% value-added tax (VAT) pursuant to then Section 102(a)(1) of the Tax Code, as amended [now Section 108(A)(1) of the Tax Code of 1997]. Furthermore, the VAT on rental and/or royalties payable to non-resident foreign corporations or owners for the sale of services and use or lease of properties in the Philippines shall be based on the contract price agreed upon by the licensor and licensee. The licensee shall be responsible for the payment of VAT on such rentals and/or royalties in behalf of the non-resident foreign corporation or owner by filing a separate VAT declaration/return for this purpose. The duly validated VAT declaration/return is sufficient evidence in claiming input tax credit by the licensee. (Sec. 4.102-1(b) of Revenue Regulations No. 7-95) In view thereof, Sony-RP shall, before making payment of royalties to Sony-Japan, withhold and remit to this Bureau the 10% VAT due thereon, by filing a separate VAT return for and in behalf of Sony-Japan. (Sec. 4.110-3)(b) of Revenue Regulations No. 7-95) (BIR Ruling No. 049-96 dated April 11, 1996) Finally, ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business are deductible from gross income pursuant to then Section 29(a)(1) of the Tax Code, as amended [now Sec. 34(A)(1)(a) of the Tax Code of 1997]. Thus, the royalty payments made by Sony-RP to Sony-Japan pursuant to the aforementioned Agreement to exploit the Master Recordings from Sony Japan Catalog, specifically to manufacture records in any form and by any method derived from such Master Recordings, are considered business expenses deductible in computing the net income of Sony-RP subject to income tax. cdti 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.) SIXTO S. ESQUIVIAS IV Deputy Commissioner (Legal & Enforcement Group)