BIR Ruling [DA-414-99]

July 19, 1999 BIR RULING [DA-414-99] Economic Development Foundation 12/F Cityland 10, Tower II H.V. dela Costa corner Valero Streets Salcedo Village Makati City Attention: Mr. Victor M. Taylor President Gentlemen : This refers to your letter dated March 29, 1999 stating the following: 1) The Economic Development Foundation (EDF) is a non-stock, non-profit Foundation duly registered with the Department of Science and Technology as a Science Foundation; 2) The EDF has a Retirement Gratuity Plan which has been approved and determined as a reasonable private benefit plan within the contemplation of R.A. No. 4917; 3) The said Plan provides for your staff with the necessary separation benefits mandated by law upon retirement or separation from employment; 4) Because of the economic difficulties for the past two years, the Foundation has been experiencing financial difficulties; 5) The regular monthly contributions of the Foundation as well as that of the staff in the Plan have become burdensome, and these contributions have often been delayed; IcHTCS 6) That EDF has explored various options to address this problem, and one option has been to liquidate the Plan and distribute the current assets to all the staff who are members of the Plan. In connection therewith, you now request for a ruling on the following: "1. The Retirement-Gratuity Plan states that if a staff member retires or resigns upon reaching the age of 50 years and has been with the Foundation for at least 15 years, the retirement benefits he or she shall receive from the Plan shall be considered to be tax-exempt. If you should now decide to liquidate the Retirement Gratuity Plan and distribute the proceeds thereof to the Foundation's staff, will this distribution likewise be considered to be tax-exempt at least for those staff members who have already met the age and service requirements defined under the Plan, even if they continue to work with the Foundation after this distribution is effected?; "2. If the Retirement-Gratuity Plan is liquidated and the proceeds are distributed to the Foundation's staff members, you would assume that these proceeds would be considered as being taxable if the staff members concerned have not yet reached the age and service requirements making them eligible of tax-exemption. However, if these staff members, after receiving their share of the proceeds of the Plan, continue to work for the Foundation until such time as they reach 50 years of age and have been employed with the Foundation for 15 years of service, they would have been eligible for tax-exempt treatment of their retirement benefits. Would it therefore be possible to postpone imposition of the tax on the proceeds of the early liquidation of the Retirement-Gratuity Plan until such time as the staff members concerned actually resign or retire from the Foundation, thus determine finally whether or not the total retirement benefits (including the Plan liquidation proceeds availed of earlier) are tax-exempt or not?" In reply, please be informed as follows: 1) Section 36 of the Income Tax Regulations provides that income in the broad sense, means all wealth which flows into the taxpayer other than a mere return of capital. Such being the case, any and all amounts which represent a return of the personal contributions of the employees to the Fund, who are still in the active service of EDF, shall not be subject to income tax, since the same are considered as mere return of capital. CITDES However, the income or earnings derived from the personal contributions by the employee-members' are subject to income tax since in a retirement plan under R.A. No. 4917 [now Section 32(B)(6)(a) of the Tax Code of 1997], the employer, or officials and employees or both, contribute to a trust fund for the purpose of distributing to such officials and employees or their beneficiaries, the corpus and income accumulated by the trust in accordance with the plan. Section 2(d) of Revenue Regulations No. 1-68, as amended, provides for exemption from income tax only the benefits received by officials or employees upon retirement, in accordance with the BIR-approved Retirement Plan rules or written program. In other words, in order to be exempt from the payment of income tax, the benefits must be paid or distributed to the officials or employees upon their retirement from the service and not while they are still in the employ of the company-employer. In the instant case, the earnings/income of the personal contributions of the employees constitute benefits (not retirement benefits envisaged by the trust fund trustee to the employee) not upon their retirement but while they are still in the service of EDF. Consequently, pursuant to Section 60(B) of the Tax Code of 1997, any and all amounts actually distributed to said member-employees over and above their personal contributions shall be taxable to them in the year in which so paid or distributed, considering that such distribution has been effected before their retirement from EDF. This means that, only upon retirement , the total benefits which the employees shall receive consisting of their personal contributions, counterpart contribution of the employer and the income of the Fund to which the employees are entitled and are distributed to them shall be exempt from income tax. 2) Taxes are the lifeblood of the nation. ( CIR vs. Pineda No. L-22734, Sept. 15, 1967, 21 SCRA 105) Their primary purpose is to generate funds for the State to finance the needs of the citizens and to advance the common weal. ( NPC vs. The Province of Albay, et al. , G.R. No. 87499, June 4, 1990) Moreover, tax exemption laws are strictly construed. One claiming the benefit thereof must bring himself substantially within the terms of the statute or justify his claim by the clearest grant of the organic or state law. ( House vs. Posadas , 53 Phil. 338; Asiatic Petroleum Co. vs. Llanes , 49 Phil. 466) Accordingly, your request to postpone the imposition of the tax on the proceeds of the early liquidation of the Retirement-Gratuity Plan for staff members whose rights has not as yet become vested cannot be granted for lack of legal basis. 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. EACTSH Very truly yours, Commissioner of Internal Revenue By: (SGD.) SIXTO S. ESQUIVIAS IV Deputy Commissioner (Legal & Enforcement Group)