BIR Ruling [DA-338-98]

July 22, 1998 BIR RULING [DA-338-98] Sycip Gorres Velayo & Co. 6760 Ayala Avenue, Makati City Attention: Atty . C . P . Noel Gentlemen : This refers to your letter dated June 30, 1997 stating that your client, Bank of America NT & SA ("BA NT & SA"), is restructuring its merchant card business; that the corporate restructuring also involves Bank America International Financial Corporation ("BIFC"), a subsidiary of BA NT & SA, and BA Card which is, on the other hand, a wholly-owned subsidiary of BIFC; and that the corporate restructuring of the merchant card business entails the following: a) BA Card shall transfer all its fixed assets to BIFC by way of property dividends; b) BIFC shall then convey its newly acquired fixed assets of BA Card to BA NT & SA, also, by way of property dividends; and LLjur c) BA NT & SA shall in turn transfer the same fixed assets to BA Merchant Services, Inc., ("BAMSI"), a US corporation, in exchange for the latter's shares of stock, without cash payments for the same. BAMSI will book the said fixed assets in its Manila Branch. Based on the foregoing representation and documents submitted, you are now requesting for a ruling confirming your opinion that: 1. The transfer of BA Card of its fixed assets to BIFC by way of property dividends is subject only to fifteen percent (15%) final withholding tax and is exempt from the 10% value-added tax (VAT); 2. The property dividend declaration of BIFC to BA NT & SA consisting of fixed assets of BA Card is not Philippine source income subject to tax; 3. The subsequent contribution by BA NT & SA of the same fixed assets to its subsidiary, BAMSI, in exchange for stocks of the latter, qualifies as a tax-free transfer for Philippine income tax purposes, under the last paragraph of Section 34(c)(2) of the NIRC; In reply, please be informed as follows: 1. Your opinion that the transfer of BA Card of its fixed assets to BIFC by way of property dividends, if allowed, is subject only to fifteen percent (15%) final withholding tax is hereby confirmed. Section 25 (b)(5)(B) of the National Internal Revenue Code (NIRC) provides, thus: "(5) Tax on certain incomes received by non-resident foreign corporations. A . . . . (B) On dividends received from a domestic corporation liable to tax under this Chapter, the tax shall be 15% of the dividends received , which shall be collected and paid as provided in Section 50(A) of the National Internal Revenue Code, as amended, subject to the condition that the country in which the non-resident foreign corporation is domiciled shall allow a credit against the tax due from the non-resident foreign corporation, taxes deemed to have been paid in the Philippines equivalent to 20% which represents the difference between the regular tax (35%) on corporations and the tax (15%) on dividends as provided in this subparagraph;" (Emphasis ours) In interpreting the above-quoted provision of the Tax Code, the Supreme Court had ruled in the case of Commissioner of Internal Revenue vs . Procter & Gamble Philippines Manufacturing Corporation (G.R. No. 66838, December 2, 1991) that the dividends payable to a U.S. corporate stockholder are subject to the preferential rate of 15% by reason of the tax credit provisions of the U.S. Tax Code. This is to say that a U.S. corporate stockholder is entitled to a tax credit for the amount of dividend tax actually paid (i.e., withheld) on the proportionate part of the corporate income tax actually paid to the Philippines by the Philippine declaring company. The only requirement under the U.S. tax credit provision is that the U.S. corporate stockholder must own at least ten percent (10%) of the voting stock of the Philippine declaring corporation. The Supreme Court in the above-mentioned case further held that the Tax Code does not require the deemed paid tax credit shall have actually been granted before the applicable tax rate goes down from thirty five percent (35%) to fifteen percent (15%). Following the said case, this Office has ruled in BIR Ruling No. 105-92, dated March 30, 1992, that dividends payable by a Philippine company to its U.S. parent company is subject to a 15% withholding tax. In the said ruling, this Office recognizes that U.S. tax laws allow a credit against the tax due from the U.S. taxes deemed to have been paid in the Philippines equivalent to at least twenty percent (20%). Furthermore, Revenue Regulations 7-95, which is the Consolidated Value-added Tax Regulations, states that the following transactions are considered as "transactions deemed sale": "SEC. 4.100-4. ' Transactions Deemed Sale ' (a) The following transactions shall be 'deemed sale' pursuant to Section 100 (b) of the Code: xxx xxx xxx (b) Distribution or transfer to: (1) Shareholders or investors as share in the profits of the VAT-registered person; Property dividends which constitute stocks in trade or properties primarily held for sale or lease declared out of retained earnings on or after January 1, 1996 and distributed by the company to its shareholders shall be subject to VAT based on the zonal value or fair market value at the time of distribution, whichever is applicable." Considering that the fixed assets to be divided out by BA Card to BIFC are not stocks in trade or properties held for sale or lease, your opinion that the said dividends are not subject to VAT is also confirmed. 2. Then Section 36(a)(2)(A) of the Tax Code, as amended (now Sec. 42(A)(2) of the Tax Code of 1997) provides: "SEC. 36. Income from sources within the Philippines . (a) Gross income from sources within the Philippines . The following items of gross income shall be treated as gross income from sources within the Philippines: xxx xxx xxx (2) Dividends . The amount received as dividends: xxx xxx xxx (A) From a foreign corporation unless less than fifty per centum of the gross income of such foreign corporation for the three-year period ending within the close of its taxable year preceding the declaration of such dividends (or for such part of such period as the corporation had been in existence) was derived from sources within the Philippines as determined under the provisions of this Section; But only in an amount which bears the same ratio to such dividends as the gross income of the corporation for such period derived from sources within the Philippines bears to its gross income from all sources." (Emphasis ours) xxx xxx xxx Documents submitted (attached certification of US auditors, Ernst & Young) show that BIFC meets the 50% threshold test, as during the three-year period, from 1994 to 1996, preceding the dividend declaration, not more than 50% of its gross income was derived from sources within the Philippines. Hence, your opinion that the said dividends are not considered as income from sources within the Philippines, and therefore not subject to Philippine income tax is likewise confirmed. 3. Since the transfer of the fixed assets by BA NT & SA to BAMSI in exchange for the stocks of the latter will result in gaining of further control of BAMSI by BA NT & SA, your opinion that the same qualifies as a tax-free exchange for Philippine income tax purposes under the last paragraph of then Section 34(c)(2) of the Tax Code, as amended (now Sec. 40(C)(2) of the Tax Code of 1997) is hereby confirmed. The above-mentioned provision provides: "SEC. 34. Determination of amount of and recognition of gain or loss . xxx xxx xxx (c) Exchange of property. xxx xxx xxx (2) Exception . xxx xxx xxx No gain or loss shall also be recognized if property is transferred to a corporation by a person in exchange for stock in such a corporation of which as a result of such exchange said person, alone or together with others, not exceeding four persons, gains control of said corporation ; provided , that stocks issued for services shall not be considered as issued in return of property." (Emphasis supplied) LLcd This Office has issued rulings affirming the same, stating that where a parent company transfers assets to its wholly-owned subsidiary solely for shares of stock of the latter and as a result of which the parent corporation gains further control of the subsidiary, then the same qualifies as a tax-free exchange. (BIR Ruling No. S-34-175-97 dated June 17, 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. Very truly yours, (SGD.) SIXTO S. ESQUIVIAS IV Deputy Commissioner (Legal and Enforcement Group)