BIR Ruling [DA-244-06]

April 12, 2006 BIR RULING [DA-244-06] 22 (B); DA 240-05 SGV & Co. 6760 Ayala Avenue Makati City Attention: W.U. Villanueva Principal Gentlemen : This refers to your letter dated February 8, 2006 stating that a loan facility in Japanese Yen up to the amount of JPY39,457,000,000 has been extended to the Government of the Republic of the Philippines by the Japan Bank for International Cooperation (JBIC) to facilitate the implementation of certain infrastructures or development projects, including the LRT Line 1 Capacity Expansion Project Phase II (Project); that in this connection, the Philippine Government and the JBIC entered into a loan agreement on April 27, 2000, in pursuit of which, a public bidding duly approved by the Light Rail Transit Authority (LRTA) was conducted for the project; that on December 14, 2004, the LRTA Board of Directors, with the concurrence of the JBIC, approved and confirmed the award to the unregistered joint venture undertaken by Sumitomo Corporation Japan (Sumitomo) and Itochu Corporation Japan (Itochu), both foreign corporations registered and existing under the laws of Japan, known as SIJV; that on December 29, 2004, the LRTA, as employer, and SIJV, as contractor, entered into a contract for the project for a contract price of JPY17,051,554,179, consisting of: .JPY15,531,016,266 (Japanese Yen) - JBIC Fund; and .PhP662,788,215 (Philippine Peso) - LRTA Fund, that SIJV was hired to design, execute, and complete the works which would entail the following: a. Upgrade of the existing Light Rail Transit Line 1 spanning Rizal Avenue from Caloocan City to Taft Avenue in Paraaque City; and b. Supply of 48 Light Rail Vehicles. that to help fulfill its obligations under the contract, SIJV subcontracted specific segments of the project, as follows: 1. The offshore portion, consisting of the supply of imported materials and equipment was subcontracted to Sumitomo and Itochu, as shown below: Supply for the System Upgrading Work Sumitomo Supply of Rail Vehicles Itochu 2. The onshore portion, consisting of the installation and construction for system upgrading work, was subcontracted to Sumitomo. that for the supply of rail vehicles, Itochu will export them to the Philippines with LRTA as the importer of record; that for the onshore works performed under the contract, SIJV, through Sumitomo Corporation Manila Branch (SC-Manila), will bill the LRTA and receive payments thereon using the SC-Manila's Official Invoices and Receipts bearing its Tax Identification Number in accordance with the Memorandum to Joint Venture Agreement dated December 27, 2005 between Sumitomo and Itochu; and that finally, under Section 14.2 of the General Conditions of Contract, the LRTA is obliged to make an advance payment to the SIJV for the costs of mobilization and other initial expenses to be incurred in the project. Based on the foregoing representations, you now request confirmation of your opinion that "1. The SIJV, having been formed solely for the purposes of undertaking the construction of LRT Line 1 Capacity Expansion Project Phase II of the LRTA, is not subject to the corporate income tax imposed on resident foreign corporations under Section 28(A) of the Tax Code of 1997 since it does not fall within the definition of a taxable corporation under Section 22(B) of the same Code; 2. Since the SIJV is not subject to the corporate income tax, the gross payments made by the LRTA to the SIJV are not subject to the 2% creditable withholding tax (CWT) under Section 57(B) of the Tax Code of 1997, as implemented by Revenue Regulations N o. 2-98 and amended by Revenue Regulatio ns N o. 6-2001; 3. Being exempt from the corporate income tax, the SIJV is not required to file quarterly and final adjustment income tax returns with the Bureau of Internal Revenue (BIR), but it shall only file the annual information return, in lieu thereof; 4. With respect to the offshore portion of the JBIC-funded project, which consists of supply of imported materials and equipment, the LRTA payments thereon shall not be subject to income tax, CWT and Value-Added Tax (VAT) pursuant to the holding in Commissioner of Internal Revenue v. Ma ruben i Corporation (G.R. No. 137377 dated December 18, 2001); 5. With respect to the onshore portion of the JBIC-funded project and pursuant to Revenue Memorandum Circ ular N o. 42-99 as reiterated in Revenue Memorandum Or der N o. 24-2005: a. The LRTA shall assume the payment of the corporate income tax and the 2% CWT on payments made to the SIJV through the onshore contractor, Sumitomo. b. The LRTA shall not withhold the 8.5% creditable withholding VAT [which is now the 5% final withholding VAT under Section 12 of Republic A ct N o. 9337, amending Section 114(C) of the Tax Code of 1997] from Sumitomo's invoice billing to the LRTA since said billings are exempt from the 8.5% creditable withholding VAT [now 5% final withholding VAT]; The input VAT credits derived from the Project shall not be subject to the 70% cap provided under Section 4.110-7 of Revenue Regulat ions N o. 16-2005 and clarified further by Revenue Memorandum Circu lar N o. 6-2006; c. The local suppliers and subcontractors of the project shall bill and pass on the 10% VAT (now 12% VAT) to the SIJV through the onshore contractor, Sumitomo. In turn, the 10% VAT (now 12% VAT) shall be billed and passed on by Sumitomo to the LRTA as output VAT. Thus, billings to the LRTA shall be deemed inclusive of the output VAT and the VAT component of said billings shall be paid by the LRTA out of the Philippine counterpart fund. Moreover, the LRTA will not be the party to remit said output VAT to the BIR; d. In case the LRTA will not be able to pay immediately the VAT component of Sumitomo's billings, any such delay in the payment thereof by the LRTA shall not subject Sumitomo to penalty for late payment. In case of late remittance by the LRTA, actual payment of the VAT by the SIJV through the onshore contractor, Sumitomo, shall be made within ten (10) days after actual receipt from the LRTA, without any penalty. However, the SIJV through the onshore contractor, Sumitomo, shall file the VAT returns on the due dates prescribed by law. cIECaS 6. As the importer of record, the LRTA shall be liable for the 10% VAT (now 12% VAT) on the importation of materials and equipment under Section 107(A) of the Tax Code of 1997. The SIJV's VAT taxable gross receipts shall not include the payments for the imported components; 7. The advance payment provided for under Section 14.2 of the General Conditions of Contract constitutes taxable receipts subject to 10% VAT (now 12% VAT) and that said output VAT shall be billed to and assumed by the LRTA pursuant to RM C N o. 42-99 as reiterated in R M O 24-2005; 8. Finally, the Japanese personnel employed by the SIJV as consultants in the project are required to file income tax returns but the LRTA shall assume payment of the taxes due thereunder. Accordingly, the Japanese personnel employed by the SIJV are not subject to withholding tax on compensation under Section 57 of the Tax Code of 1997, as implemented by Revenue Regula tions N o. 2-98, pursuant to the tax assumption provisions of R MC N o. 42-99." In reply thereto, please be informed that your opinion is hereby confirmed as follows 1, 2 & 3. Section 22(B) of the Tax Code of 1997 defines the term "corporation" which include partnership, no matter how created or organized, joint-stock companies, joint accounts ( cuentas en participacion ), associations, or insurance companies, but does not include general professional partnerships and a joint venture or consortium formed for the purpose of undertaking construction projects or engaging in petroleum, coal, geothermal and other energy operations pursuant to an operating or consortium agreement under a service contract with the Government. . . . . From the foregoing definition, there is no dispute that the SIJV formed for the sole purpose of undertaking construction project, like the LRTA Project Phase II, falls within the contemplation of the said provision and consequently it is not considered a taxable entity. Similarly situated is BIR Ruling No. DA240-05 dated June 1, 2005 , where this Office ruled that ". . . Considering that the joint venture or consortium formed by and between F.F. Cruz & Co., Inc. and Japan Radio Co., Ltd. For the purpose of undertaking the Project is excluded from the afore-quoted definition of taxable corporation, this Office is of the opinion as it hereby holds that the joint venture is not subject to the regular corporate income tax under Section 27(A) of the Tax Code of 1997. . . . . "Since the joint venture is exempt from corporate income tax, the gross payments to said joint venture shall not be subject to the 2% creditable withholding tax under Section 2.57.2(E) of Revenue Regula tions N o. 2-98, as amended by Revenue Regulatio ns N o. 6-2001, as amended." Accordingly, since the SIJV is formed solely for the purpose of undertaking the construction of the LRTA Project, it is not subject to the corporate income tax imposed on resident foreign corporations under Section 28(A) of the Tax Code of 1997 since it does not fall within the definition of a taxable corporation under Section 22(B), supra . Moreover, gross payments made by the LRTA to the SIJV are not subject to the 2% creditable withholding tax prescribed under Section 57(B) of the Tax Code of 1997, as implemented by Revenue Regulations No. 2-98, as amended by Revenue Regulations No. 6-2001. In the same vein, since the SIJV is exempt from the corporate income tax, it is not required to file quarterly and final adjustment income tax returns but only the annual information return. (BIR Ruling No. DA240-05 dated June 1, 2005 citing BIR Ruling Nos. DA021-01 dated February 16, 2001; BIR Ruling No. DA293-03 dated September 3, 2003) 4. The offshore portion of the JBIC-funded project, involving the supply of equipment and related design, engineering and other services rendered outside the Philippines, is not subject to income tax and consequently to the 2% creditable withholding tax and to VAT. This is fortified/in the case of Commissioner of Internal Revenue vs. Marubeni Corporation, 372 SCRA 76, G.R. No. 137377, December 18, 2001 , where it was held that "Clearly, the service of 'design and engineering, supply and delivery, construction, erection and installation, supervision, direction and control of testing and commissioning, coordination. . . .' Of the two projects involved two taxing jurisdictions. These acts occurred in two countries Japan and the Philippines. While the construction and installation work were completed within the Philippines, the evidence is clear that some pieces of equipment and supplies were completely designed and engineered in Japan. The two sets of ship unloader and loader, the boats and mobile equipment of the NDC project and ammonia storage tanks and refrigeration units were made and completed in Japan. They were already finished products when shipped to the Philippines. The other construction supplies listed under the Offshore portion such as the steel sheets, pipes and structures, electrical and instrumental apparatus, these were not finished products when shipped to the Philippines. They, however, were likewise fabricated and manufactured by the sub-contractors in Japan. All services for the design, fabrication, engineering and manufacture of the materials and equipment under Japanese Yen Portion I were made and completed in Japan. These services were rendered outside the taxing jurisdiction of the Philippines and are therefore not subject to contractor's tax." As can be seen, only payments connected with or arising from the onshore portion are subject to Philippine income tax, creditable withholding tax and VAT. Conversely, the offshore portion of the project, which consists of supply of imported materials and equipment, the LRTA payments thereon shall not be subject to income tax, creditable withholding tax and VAT. 5. Revenue Memorandum Circular No. 42-99 provides that "Under the Exchange of Notes between the Japanese Government and the Republic of the Philippines for JBIC-Funded Projects undertaken in the Philippines, the following are the standard clauses pertaining to the tax treatment of participating Japanese contractors and nationals: 'The Government of the Republic of the Philippines will exempt the Fund from all fiscal levies or taxes imposed in the Republic of the Philippines on and/or in connection with the Project Loan, the Engineering Service Package Loan and the Commodity Loan as well as interest accruing therefrom. The Government of the Republic of the Philippines will, itself or through its executing agencies or instrumentalities, assume all fiscal levies or taxes imposed in the Republic of the Philippines on Japanese firms and: nationals operating as suppliers, contractors or consultants on and/or in connection with any income that may accrue from the supply of products and/or services to be provided under the Project Loan."' Corollarily, in BIR VAT Ruling No. 080-01 dated November 20, 2001 , as a concession for this and other previous agreements, the Philippine government agreed to allow Japanese contractors or nationals to participate in the execution of the approved projects under certain tax privileges, following two underlying principles governing JBIC-funded projects, namely: "1. Utilization of the Loan for Local Taxes . Disbursements under the loan shall be exclusively used for the approved projects and shall not be used for, nor diminished by, taxes, duties and other fiscal charges. This is the principle applicable to Filipino contractors/non-Japanese contractors as discussed below. 2. Tax Assumption Scheme . All direct taxes otherwise due from Japanese contractors and nationals shall be assumed by the executing government agency and/or project beneficiary. This is the provision applicable only to Japanese contractors as further explained below." It is decisively clear that the Exchange of Notes mean that the Japanese contractors or nationals engaged in JBIC-funded projects in the Philippines shall not be required to shoulder all fiscal levies or taxes associated with the project. Instead, the taxes shall be shouldered and borne by the executing government agencies. Accordingly, pursuant to Sections B(1) and C(1) of Revenue Memorandum Circular No. 42-99, Sumitomo, as a Japanese contractor, shall not be liable to pay the regular corporate income tax and shall not bear the 2% creditable withholding tax otherwise arising from its undertaking of the joint venture project. It is the LRTA, as the government executing agency that shall assume the payment thereof. Thus, (a) The LRTA shall assume the payment of the corporate income tax and the 2% CWT on payments made to the SIJV through the onshore contractor, Sumitomo. (b) The LRTA shall not withhold the 8.5% creditable withholding VAT (now 5% final withholding VAT) from Sumitomo's invoice billing to the LRTA since said billings are exempt from the 8.5% creditable withholding VAT (now 5% final withholding VAT). (c) However, Section 4.110-7(B) of Revenue Regulations No. 16-2005 as clarified further by RMC No. 6-2006 provides that if the input tax exceeds the output tax, the excess shall be carried over to the succeeding quarter or quarters: Provided, That the input tax inclusive of input VAT carried over from the previous quarter that may be credited in every quarter shall not exceed seventy percent (70%) of the output VAT: Provided, however, That any input tax attributable to zero-rated sales by a VAT-registered person may at his option be refunded or credited against other internal revenue taxes, subject to the provisions of Section 112. (d) The local suppliers and subcontractors of the project shall bill and pass on the 10% VAT (now 12% VAT) to the SIJV through the onshore contractor, Sumitomo. In turn, the 10% VAT (now 12%) shall be billed and passed on by Sumitomo to the LRTA as output VAT. Thus, billings to the LRTA shall be deemed inclusive of the output VAT and the VAT component of said billings shall be paid by the LRTA out of the Philippine counterpart fund. Moreover, the LRTA will be the party to remit said output VAT to the BIR. (e) In case the LRTA will not be able to pay immediately the VAT component of Sumitomo's billings, any such delay in the payment thereof by the LRTA shall not subject Sumitomo to penalty for late payment. In case of late remittance by the LRTA, actual payment of the VAT by the SIJV through the onshore contractor, Sumitomo, shall be made within ten (10) days after actual receipt from the LRTA, without any penalty. However, the SIJV through the onshore contractor, Sumitomo, shall file the VAT returns on the due dates prescribed by law. 6. Section 107 of the Tax Code of 1997, as amended by R.A. No. 9337, provides that there shall be levied, assessed and collected on every importation of goods, a value-added tax equivalent to ten percent (10%) (now 12%) based on the total value used by the Bureau of Customs in determining tariff and customs duties, plus customs duties, excise taxes, if any, and other charges, such tax to be paid by the importer prior to the release of such goods from customs custody. . . . Thus, in BIR VAT Ruling No. 008-03 dated January 10, 2003 , this Office ruled that "xxx xxx xxx "The facts obtaining in this case are also synonymous to the case of COMMISSIONER OF INTERNAL REVENUE VS. MA RUB ENI CORPORATION (G.R. No. 137377, December 18, 2001). In this case, the construction project undertaken by MARUBENI was classified into OFFSHORE and ONSHORE portions. The Offshore portion consisted of materials and services undertaken in Japan and shipped to the Philippines, while the Onshore portion consisted of materials procured from and services undertaken by MARUBENI within the Philippines. The Supreme Court ruled that the said Offshore portion, having been undertaken outside the jurisdiction of the Philippines, is outside its taxing jurisdiction, hence, exempt from the old contractor's tax, as follows: "Clearly, the service of design and engineering, supply and delivery, construction, erection and installation, supervision, direction and control of testing and commissioning, coordination. . . . "of the two projects involved two taxing jurisdictions. These acts occurred in two countries Japan and the Philippines. While the construction and installation work were completed within the Philippines, the evidence is clear that some pieces of equipment and supplies were completely designed and engineered in Japan. The two sets of ship unloader and loader, the boats and mobile equipment for the NDC project and the ammonia storage tanks and refrigeration units were made and completed in Japan. They were already finished products when shipped to the Philippines. The other construction supplies listed under the Offshore portion such as the steel sheets, pipes and structures, electrical and instrumental apparatus, these were not finished products when shipped to the Philippines. They, however, were likewise fabricated and manufactured by the sub-contractors in Japan. All services for the design, fabrication, engineering and manufacture of the materials and equipment under Japanese Yen Portion I were made and completed in Japan. These services were rendered outside the taxing jurisdiction of the Philippines and are therefore not subject to contractor's tax." "The person liable for the aforementioned "Imported Component" is the PIA, in its capacity as the Executing Agency of the Republic of the Philippines, pursuant to the provisions of the aforesaid GOJ-RP Exchange of Notes. Moreover, it is represented that the PIA will pay the import taxes thereon through fiscal subsidy, apparently referring to the Certificate of Entitlement to Subsidy issued by the Fiscal Incentive Review Board (FIRB) to qualified Government entities, pursuant to Section 13 of the General Appropriation Act. "Accordingly, your opinion that your taxable gross receipts shall not include the "Imported Component" is hereby confirmed. It is understood, therefore, that you shall not be entitled to input tax credit vis--vis the VAT on the said importation paid by the PIA through fiscal subsidy." There is no dispute, that LRTA, as the importer of record, shall be liable for the VAT on the importation of rail vehicles. Moreover, the SIJV's taxable gross receipts shall not include the payments for the imported components. ( BIR Ruling No. DA010-05 dated January 17, 2005 ) 7. Anent the issue of advance payment provided under Section 14.2 of the General Conditions of Contract, this Office had already ruled on the occasion when it said in BIR VAT Ruling No. 181-92 dated June 1, 1992 , that ". . . advance payments and deposits for work not yet accomplished are already included in the contractor's gross receipt subject to VAT in that the receipt thereof are generally acknowledged with VAT-registered receipts which generate input tax-credit in the hands of the holder. It is our opinion that such advances or deposits for work not yet started or accomplished are includible as part of the gross receipts subject to 10% VAT, without waiting for liquidation through actual accomplishments." Later, in BIR VAT Ruling No. 046-00 dated October 26, 2000 , the same Office ruled that ". . . money paid out of the mobilization fund and forming part of the gross receipts during the period it is reported is part of the taxable gross receipts, the said money being part of the contract price." Thus, advance payment stipulated in Section 14.2 of the General Conditions of Contract should form part of gross receipts subject to 10% VAT (now 12%), which may be passed on to and assumed by the LRTA. However, since the project will be funded by the JBIC, the advance payment is not subject to 8.5% creditable withholding VAT (now 5% final withholding VAT) under RMC No. 42-99. Should the LRTA fail to remit timely the VAT on SIJV's billing for the said advance payment, then the VAT may be remitted to the BIR by the SIJV through the onshore contractor, Sumitomo, within ten (10) days from actual receipt thereof from the LRTA. 8. Finally, because of the tax assumption clause in the Exchange of Notes, the Japanese nationals who are working in the project as consultants are required to file income tax returns but the LRTA shall assume the payment of the aforesaid taxes. In other words, the Japanese consultants shall not be subject to the withholding tax on compensation as prescribed in Section 57 of the Tax Code of 1997, as implemented by Revenue Regulations No. 2-98, as amended. However, the concerned Revenue District Officer shall, in turn, collect the said income taxes from the concerned executing government agencies. 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. ICacDE Very truly yours, (SGD.) PABLO M. BASTES, JR. OIC-Head Revenue Executive Assistant Legal Service