BIR Ruling [DA-174-03]

June 3, 2003 BIR RULING [DA-174-03] Liquidating Dividends 039-02 Ms. Ruby Bairan 1001 Floor, Rufino Building Ayala Avenue, Corner Herrera Street Makati City M a d a m : This refers to your letter dated April 29, 2003 requesting on behalf of the heirs of the late Pablo Bairan, Jr., namely, Paul Vincent, Pablo III, Barnett, Anneline, all surnamed Bairan and yourself, for an opinion on the tax consequences of the conveyance made by Balintawak Construction Supply Corporation (BCSC, for brevity) in favor of the above-named heirs, of two (2) parcels of land situated at Paso de Blas, Valenzuela City and San Pedro, Laguna, described and embraced by Transfer Certificates of Title Nos. (T-26245) 14757 and T-508457, respectively, as a consequence of the partial liquidation of the assets of BCSC. The pertinent facts as represented are as follows: The above-named heirs are stockholders of the Balintawak Construction Supply Corporation, a domestic corporation engaged in the manufacture and sale of goods, with an authorized capital stock of 100,000 shares and an outstanding capital stock of 56,000 shares at P100 par value out of which, the Bairan heirs collectively own 13,650 shares. On July 24, 1997, the parties entered into a Compromise Agreement, the execution of which became a subject of an Order dated August 6, 1997 by Hearing Officer Rosita Guerrero of the Securities and Exchange Commission (SEC) which states in part: "COMPROMISE AGREEMENT" On this day the parties have agreed as follows: "1. Any withdrawing stockholder shall be paid his/her proportionate share off the net assets of the corporation; xxx xxx xxx "5. If the corporation is unable to pay the withdrawing stockholders in cash, they shall be paid in corporate properties using the current value as above-stated and if there should be any fraction unpaid, the same shall be paid in cash, provided, that the corporate properties being occupied by the remaining stockholders shall not be used either to pay the value of the shares of the withdrawing stockholders or any balance that may be due; xxx xxx xxx Pursuant to the Compromise Agreement, the parties agreed that the shares of stocks of the withdrawing stockholders will be paid with the real properties previously agreed upon. The plan envisions a partial liquidation of corporate assets. By way of a partial implementation of the agreement, BCSC executed in favor of the heirs of Pablo Bairan, Jr., two (2) Deeds of Conveyances. Under the first deed, BCSC conveys and transfers unto the said heirs the property situated at Paso de Blas, Valenzuela City, covered by TCT No. (T-26245) 14757 issued by the Registry of Deeds of Valenzuela City in full redemption and payment of 1,206 shares covered by Stock Certificate No. 116 in the name of Paul Vincent Bairan, one of the heirs of Pablo Bairan, Jr. On the other hand, BCSC, through the second Deed of Conveyance transfers and conveys unto the aforesaid heirs of Pablo Bairan, Jr. another parcel of land situated in San Pedro, Laguna, described and embraced by TCT No. T-508457 issued by the Registry of Deeds of Laguna in full payment and redemption of 1,206 shares in the name of Anneline Bairan, another heir of Pablo Bairan, Jr., covered by Stock Certificate No. 115. Both deeds impose as a condition, among others, the payment by the Bairan heirs of all taxes and expenses incidental to their withdrawal and the consequent transfer to them of the aforesaid properties. From the foregoing, you are requesting a ruling on the following points: 1) Whether or not BCSC shall be liable for income tax either on its receipts of the surrendered 2,412 shares from the heirs of Pablo Bairan, Jr. or its conveyance to the latter of real properties in redemption of the shares; 2) Whether or not documentary stamp tax is due on the surrender and cancellation of the said 2,412 shares; 3) Whether or not the transfer by BCSC of the two (2) real properties to the Bairan heirs is subject to the documentary stamp tax under Section 196 of the Tax Code; 4) Treatment of the presumptive gains or losses to be realized or incurred by the Bairan heirs by virtue of the conveyance in their favor of the two (2) real properties in consideration of their surrender to BCSC of 2,412 shares covered by Stock Certificate Nos. 115 and 116; and 5) Whether or not such gains or losses will only be reported for taxation purposes by the heirs when they file their respective income tax returns for taxable year 2003. In reply, please be informed as follows: 1. BCSC shall not be liable for income tax either on its receipt of the surrendered shares, or on its transfer of the real properties to the Bairans as liquidating dividends . In BIR Ruling No. 039-2002 dated November 11, 2002, this Office ruled that the transfer by the liquidating corporation of its 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 shareholders pursuant to a complete or partial liquidation ( BIR Ruling No. 171-92, supra ) Accordingly, BCSC is not liable for income tax on either the transfer of its assets to its stockholders, nor on its receipt of the shares surrendered by the shareholders, the heirs of Pablo Bairan, Jr. 2. No documentary stamp tax ("DST") is due on the surrender and cancellation of the BCSC shares . The Tax Code imposes a DST on the sale, assignment or transfer of shares of stock under Section 176 thereof, which in part reads: DCIAST "SEC. 176. Stamp tax on sales, agreements to sell, memoranda of sales, deliveries or transfer of due-bills, certificates of obligations or shares or certificates of stock . On all sales, or agreements to sell, or memoranda of sales, or deliveries, or transfer of due-bills, certificates of obligations, or shares or certificates of stock in any association, company or corporation, or transfer of such securities by assignment in blank, or by delivery, or by any paper or agreement, or memorandum or other evidences of transfer or sale whether entitling the holder in any manner to the benefit of such due-bills, certificates of obligation or stock, or to secure the future payment of money, or for the future transfer of any due-bill, certificate of obligation or stock, there shall be collected a documentary stamp tax of One peso and fifty centavos (P1.50) on each Two hundred pesos (P200.00), or fractional part thereof, of the par value of such due-bill, certificate of obligation or stock . . ." (emphasis supplied) Under the above quoted provision, no DST shall be due on the surrender by the Bairans of their shares of stock to BCSC. The surrender of the shares does not constitute a sale, assignment or transfer because BCSC is not taking title to the surrendered shares, and the shares are retired and not retained as treasury shares. In effect, BCSC does not realize any benefit, as owner or otherwise, from its receipt of the shares. 3. The transfer by BCSC of the two (2) real properties to the Bairan Heirs is subject to documentary stamp tax under Section 196 of the Tax Code . The transfer by BCSC of the two (2) real properties to the Bairan Heirs is subject to documentary stamp tax under Section 196 of the Tax Code of 1997 based on the value of the shares surrendered, which is considered as the consideration, or the current fair market value of the real properties conveyed, whichever is higher, in accordance with Section 6(E) of the same Code. 4. The Bairan Heirs shall realize capital gain or loss when BCSC transfers its real properties as liquidating dividends . Liquidating gain or loss is in the nature of capital gain or loss, as the case may be, and is therefore treated in the manner stated in Section 39 of the Tax Code of 1997, pursuant to Section 256 of Revenue Regulations No. 2 which states as follows: "SEC. 256. Distribution in liquidation . In all cases where a corporation (as defined in section 84) distributes all of its property or assets in complete liquidation or dissolution, the gain realized from the transaction by the stockholder, whether individual or corporate, is taxable to the extent recognized in section 43(b) of the Code. For this purpose, the term "complete liquidation" includes any one of a series of distributions made by a corporation in complete cancellation or redemption of all its stock in accordance with a bona fide plan of liquidation under which the transfer of all the assets under liquidation is to be complete within a reasonable time from the date of the first distribution, usually not to exceed one year from the time of such first distribution. If the amount received by the stockholder in liquidation is less than the cost or other basis of the stock, the loss in the transaction is deductible to the extent allowed in section 34(c) of the Code." Liquidating gain, while characterized as gain from the sale or exchange of shares, is subject to the ordinary income tax rates provided under Sections 24(A)(1)(c), 25(A)(1), 27(A) and (E), 28(A)(1) and (2) and (B)(1) of the Tax Code of 1997, depending on the status of the shareholder, and not to the 5%/10% final tax on capital gains. The amount of gain or loss is computed based on the difference between the fair market value of the assets distributed and the acquisition or adjusted cost of the shares surrendered. In the case of individuals, the amount of gain or loss to be recognized shall depend on the holding period, pursuant to Section 39(B) of the Tax Code of 1997. Thus, if the capital asset has been held for not more than twelve (12) months, 100% of the gain or loss shall be recognized; while if the capital asset has been held for more than twelve (12) months, only 50% of the gain or loss shall be recognized. ( BIR Ruling No. 039-02 dated November 11, 2002 ) 5. The gains or losses realized or incurred by the Bairans, as the case may be, shall be reported by them, for taxation purposes, when they file their respective income tax returns for the taxable year 2003 . The Certificate Authorizing Registration or CAR shall be issued immediately after payment of the documentary stamp tax prescribed under Section 196 of the Tax Code of 1997. However, the Bairan siblings should submit to the Law Division their respective individual income tax returns for the taxable year 2003 reflecting the income or liquidating gain they realized from the distribution of the assets of BCSC as a consequence of the partial liquidation of the corporation. 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, or any of the requirements herein set forth are not complied with, 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 and Inspection Group