BIR Ruling [DA-256-03]

August 7, 2003 BIR RULING [DA-256-03] S. 43; 035-98/4-13-98 Jacob & Associates 2nd Floor, Union-Ajinomoto Building 331 Gil J. Puyat Ave., Makati City Attention: Atty. Nestor P. Ricolcol Gentlemen : This refers to your letter dated July 23, 2003 requesting on behalf of your client, Behavior Modification Inc., (Slimmer's World) for an opinion on the treatment of refundable, guarantee deposits and unearned collections from its weight loss and lifetime programs. The facts, as represented, are as follows: Slimmer's World is a domestic corporation duly organized and existing under and by virtue of the laws of the Philippines with principal address at SWI Bldg., Arnaiz Ave., Makati City. It is engaged in the operation of physical fitness centers in the country and renders fitness/health services to local and foreign customers. It offers MONEY-BACK-GUARANTEED-WEIGHT LOSS PROGRAMS. The customer pays the program fees upon admission. A written agreement is made between Slimmer's World and the customer that a specific weight loss in pounds and girth loss in inches will be achieved at the end of the program and when not achieved by the customer, it will refund without question in full amount of the program fees paid upon admission. It also offers LIFETIME MEMBERSHIP PROGRAMS to all its prospective and existing customers. Under this program, the customer pays only a one-time fee upon admission. There are no annual fees or monthly dues. The customer will enjoy its facilities free aerobics, cardiovascular workout, strength training, showers, lockers and all other amenities during his/her lifetime. The member retains the right to terminate his/her membership in which case it is obliged to refund the unused portion of the one-time fee. The amounts treated under the programs are presently treated as guaranty deposits or liabilities because of their refundable feature and services are rendered for a long period of time. As a matter of company policy, money-back weight loss program ceases to be a liability upon full delivery of the service and upon customer's release of money-back guarantee. The lifetime membership fees, however, is being amortized over a period of twenty five (25) years. In reply, please be informed that in BIR Ruling No. 035-98 dated April 13, 1998, the BIR ruled that: "In reply, please be informed that Section 43 of the Tax Code of 1997 provides that the taxable income shall be computed upon the basis of the taxpayer's annual accounting period (fiscal year or calendar year, as the case may be) in accordance with the method of accounting regularly employed in keeping with the books of such taxpayer. An accrual basis taxpayer is required to accrue income in a taxable year when all events have occurred which fix the right to receive such income and the amount thereof can be determined with reasonable certainty. If the advance payments made pursuant to a Maintenance Service Agreement are security deposits in the nature of a trust, for the faithful performance of certain future services on the part of FANUC pursuant to its Warranty Agreements with its Philippine buyers, FPC, being FANUC's service agent to provide said services in the Philippines, realizes no taxable income in the year the advance payment is received. However, if the conditions which make the advance payment or deposit the earned income of FPC, then FPC realizes a taxable income to the extent of the advance payment or deposit already earned. CAHaST In view thereof, this Office is of the opinion, as it hereby holds, that the aforesaid advance payments, being in the nature of security deposits for future maintenance services, are not subject to income tax in the year of receipt, but should be considered earned income subject to income tax upon the performance or rendition of said service." Applying the foregoing precept, this Office opines and hereby rules that the advance payments in cash by your customers in both programs are considered guaranty deposits, which are considered security deposits for the faithful compliance of the conditions set forth in the contract, and therefore, not subject to income tax in the year of receipt. However, if the said conditions which make the advance payment or deposit the earned income of Slimmer's World, then it realizes a taxable income to the extent of the advance payment or deposit already earned. This ruling is being issued on the basis of the foregoing facts as represented. However, if upon investigation, it will be ascertained that the facts are different, then this ruling shall be considered void. Very truly yours, Commissioner of Internal Revenue By: (SGD.) JOSE MARIO C. BUAG Deputy Commissioner Legal & Inspection Group