BIR Ruling [DA-662-06]

November 7, 2006 BIR RULING [DA-662-06] BIR Ruling No. 136-97; DA-503-2004 Atty. Leonides Balmeo Balmeo & Go Law Offices Suite 309 Margarita Bldg., JP Rizal cor. Cardona Sts., Makati City S i r : This refers to your letter filed on April 15, 2005 requesting confirmation of your opinion that your client Aboitiz Construction Group Inc. (ACGI), a public works contractor involved in OECF, JBIC/JEXIM and IBRD funded projects of the DPWH is not covered by the provisions of Section 111(B)(2) of the Tax Code on presumptive input VAT and has the option to claim in full the input value added tax on its purchases of goods and services attributable to said projects. BACKGROUND ACGI entered into separate contracts with the Department of Public Works and Highways: (1) the Construction/improvement of Arterial Road and Causeway (Metro Cebu) which commenced on January 27, 1995 and funded by the OECF; (2) the Construction/Restoration of Cebu Transcentral Road, an International Bank for Rural Development (IBRD)-assisted Highway Management Project Loan that started in Oct. 2, 1996 and was completed in May 25, 2000; and (3) Bohol Circumferential Road Improvement Project which was under contract with the PJHL-PMO/DPWH and partly financed out of the proceeds of the Loan Agreement with the Overseas Economic Cooperation Funds (OECF) and commenced January 23, 1997. LEGAL BASES OF THE REQUEST The request for confirmation that the projects undertaken by ACGI with the DPWH are excluded from the provisions of Section 111(B)(2) of the Tax Code providing the withholding of the 8.5% (now 5% final VAT withholding) 1 creditable VAT and entitling the former to a presumptive input VAT of 1.5% (now adjusted to 7%) 2 is based on the opinion of your office that since these projects are covered by the exchange of notes between the Philippines and the JBIC, OECF and IBRD requiring non-tax utilization of the fund Section 111(B)(2) of the Tax Code does not operate. Note: Republic Act No. 9337 increased the rate of VAT starting February 1, 2006 from 10% to 12%. Under Sec. 4.114-2 of Revenue Regulations No. 16-2005, implementing RA No. 9337, the final withholding VAT on government money payments is 5%, hence, with the adjustment of the VAT to 12%, the adjusted difference is deemed imputed to the input VAT since the 5% final withholding rate is a statutory rate which cannot be modified by the BIR. LLpr A. RMC No. 42-99 Under Revenue Memorandum Circular (RMC) No. 42-99 dated June 2, 1999, OVERSEAS ECONOMIC COOPERATION FUND or OECF (now JAPAN BANK FOR INTERNATIONAL COOPERATION or JBIC) Funded Projects are covered by the standard clauses of the Exchange of Notes between the Japanese Government and the Republic of the Philippines which read as follows: "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 ." Consequently and pursuant to the aforecited provision, the ruling of the BIR in DA-202-03 respecting the 10% input VAT of government contractors funded by the JBIC is as follows: "Revenue Memorandum Circular(RMC)No.42-99 provides that under the Exchange of Notes between the Japanese Government and the Republic of the Philippines on OECF Funded Projects undertaken in the Philippines Japanese contractors or nationals engaged in OECF-Funded projects shall not be required to shoulder all fiscal levies or taxes associated with the Project but instead the taxes shall be shouldered and borne by the executing government agencies. . . . HAISEa "With the merger of the Overseas Economic Cooperation Fund (OECF) and the Export-Import Bank of Japan (JEXIM) into a new institution, the Japan Bank for International Cooperation (JBIC) effective October 1, 1999, this Office in BIR VATRulingNo.091-2002 dated December 19, 2002, has extended the same privilege of the non-imposition of the 8.5% creditable VAT to non-Japanese contractors or nationals engaged in JBIC-funded project ; this is so because the prohibition against utilization of the fund for payment of taxes is not dependent on the nationality of the project contractor. Thus, it was ruled that no withholding of the 8.5% VAT will be imposed on JBIC-funded projects, irrespective of the nationality of the contractor . "It is clear from the foregoing that Hanjin may claim the input taxes generated from the 8.5% creditable withholding VAT as well as those generated from VAT-registered from VAT-registered suppliers and subcontractors attributable to its JBIC-funded projects in computing its output tax liabilities. On the other hand, if Hanjin, the contractor, does not avail of the 1.5% presumptive input tax on the particular public works contract, it can credit the actual input taxes directly attributable to the particular government public works contract, passed on by sellers of taxable goods, properties and services . It should be noted that once Hanjin has availed of the 1.5% presumptive input tax on the public works contract, the same shall be irrevocable and shall disqualify it from crediting the actual input taxes on purchases of goods, properties and services directly attributable to the particular public works contract. In other words, the public works contractor has the option to avail of the 1.5% presumptive input tax or the actual input taxes for purposes of computing its output tax liabilities." B. Loan Agreement between the Philippines and IBRD or World Bank The loan agreement between the Republic of the Philippines and the International Bank for Reconstruction and Development (IBRD or World Bank) provides that no proceeds of the Loan shall be withdrawn on account of payments for any taxes levied by, or in the territory of, the Borrower or the Guarantor on goods or services, or on the importation, manufacture, procurement or supply thereof. Section 5.08 of the Loan contract provides: "Section 5.08. Treatment of Taxes. It is the policy of the Bank that no proceeds of the Loan shall be withdrawn on account of payments for any taxes levied by, or in the territory of, the Borrower of the Guarantor on goods or services, or on the importation, manufacture, procurement or supply thereof. To that end, if the amount of any taxes levied on or in respect of any item to be financed out of the proceeds of the Loan decreases or increases, the Bank may, by notice to the Borrower, increase or decrease the percentage for withdrawal set forth or referred to in respect of such item in the Loan agreement as required to be consistent with such policy of the Bank. The International Bank for Reconstruction and Development (IBRD/World Bank) is an international financial institution established by foreign governments whose income is immune from worldwide taxation (BIR Ruling No. 088-92). The Philippines is a signatory to the Instrument and Articles of Agreement (VAT Ruling No. 088-02) which provides that: "Section 9. Immunities from Taxation "(a) The Bank, its assets, property, income and its operations and transactions authorized by this Agreement, shall be immune from taxation and from all customs duties. The Bank shall also be immune from liability for the collection of any tax or duty." Considering that the IBRD or World Banks is an international organization, its funds are similar to those of an OECF Fund which under the Exchange of Notes shall not be used to pay for the tax. Inasmuch as OECF or JBIC funded projects are exempt from taxes pursuant to the non-tax utilization aspect of the loan under the Exchange of Notes, and the funds of IBRD or World Bank are treated similarly to those funds under the Exchange of Notes, which principle is applicable regardless of the nationality of the contractor performing the said projects. DHIETc BIR REPLY The projects undertaken by ACGI with the DPWH and funded by the OECF and the IBRD as certified by said agencies were entered into by the Government of the Republic of the Philippines pursuant to the power of the president under RA No. 4860 which provides, to wit: "SEC. 1. The President of the Philippines is hereby authorized in behalf of the Republic of the Philippines to contract such loans, credits and indebtedness with foreign governments, agencies or instrumentalities of such foreign governments, foreign financial institutions, or other international organizations, with whom, or belonging to countries with which, the Philippines has diplomatic relations, as may be necessary and upon such terms and conditions as may be agreed upon, to enable the Government of the Republic of the Philippines to finance, either directly or through any government office, agency or instrumentality or any government-owned or controlled corporation, industrial, agricultural or other economic development purposes or projects authorized by law: . . ." This Office is cognizant of the fact that most foreign government funded projects and Grant Aid agreements entered into by the Government of the Philippines (GOP), carry a provision on the "non-utilization of the proceeds of the loan" in payment of Philippine taxes 3 . The standard clause on "non-utilization of the proceeds of the loan for payment of taxes" is inferred in Section 4-A of R.A. 4860, as amended by PD No. 150. In essence, R.A. 4860 ensures the availability of fund needed to sustain and complete the project. Section 4-A, provides as follows: "Sec. 4-A. Upon the recommendation of the Secretary of Finance, in consultation with the National Economic and Development Authority and approval of the President of the Philippines, loan agreements, as well as contracts involving the availment of or utilization of the proceeds of loans, credits or indebtedness obtained under the provisions of this Act, may provide for the exemption from taxes, charges, or other levies." Other than government funded projects as a source of foreign borrowing for infrastructure and related projects covered by exchange of notes, the loan contracted by the GOP with the IBRD is treated similarly as the OECF funded projects and ADB projects. PD 1939 amending RA 4860 specifically identifies IBRD as an international institution from which the president is authorized to incur loans, credits and indebtedness. 4 Therefor the IBRD loan, should be seen in the same light as the Exchange of Notes in the case of OECF-funded and Grant Aid projects. Considering that both the exchange of notes between the Philippines in OECF funded projects and the loan agreement with the IBRD provide for the non-tax utilization aspect of the loan it is in effect a proscription on the advance 8.5% VAT (now 5%) 5 withholding provided under Section 111(B)(2) of the Tax Code. However, such proscription from advance withholding of the VAT does not exempt the contractor, in this case ACGI, from the 10% (now 12%) VAT liability. 6 The VAT liability of the contractor in this case no longer falls under the same category as locally funded government projects treated under Section 111(B)(2) of the Tax Code. It is in this context that this Office, in various BIR rulings, 7 has ruled insofar as RMC No. 42-99, to wit: "RMC42-99 established that under the first clause, it is the intention of the two governments not to use the proceeds of the loan in the payment of all fiscal levies or taxes imposed by the Philippines. In view thereof, this Office held that the executing government agencies should not impose the 8.5% creditable VAT withholding prescribed under Section 114(C) of the National Internal Revenue Code of 1997 for government public works contractors undertaking the OECF-funded projects. Otherwise, the covenant not to subject the funded amount to taxes, which is the clear intent of both the Philippine and Japanese Governments under the Exchange of Notes might be violated. . . ." It is only the advance 8.5% VAT (now 5%) 8 withholding that is connected with the non-tax utilization aspect of the loan. The withholding tax, income tax or the regular 10% (now 12%) input VAT are the objects of the tax assumption scheme which operates only in favor of the contractor/nationals of the grantor-creditor. 9 The basis for the presumptive input VAT of 1.5% (now 5%) 10 provided under the Section 111(B)(2) no longer finds application in the case of foreign funded government projects. Consequently, since DPWH will no longer withhold the 8.5% advance VAT on ACGI on the above referred projects the latter has the option to apply in full or utilize the 10% (now 12%) 11 input VAT from its purchases of goods and services for purposes of computing its output tax liability. In consideration of the foregoing reason it will be seen that in long list of foreign funded projects, the Philippine government appropriates a counterpart fund equivalent to the amount of taxes that are due to be paid in connection with the project. Since the 8.5% VAT (now 5%) 12 withholding provided under Section 111(B)(2) finds no application with respect to the JBIC and IBRD funded projects the 1.5% (now 7%) 13 presumptive input VAT provided under the same section will not operate and the contractor/nationals have the option to credit in full the 10% (now 12%) VAT on its purchase of goods and services attributable to said projects. 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.) JAMES H. ROLDAN Assistant Commissioner Legal Service Footnotes 1. Sec. 4.114-2 of RR 16-2005 2. Republic Act No. 9337 adjusting the VAT to 12% 3. BIR Ruling [DA-503-04] dated Sept. 24, 2004 4. Section 2 Presidential Decree No. 1939 5. Sec. 4.114-2 of RR 16-2005 6. VAT Ruling No. 063-91 dated June 27, 1991; BIR RULING [DA-065-96] dated Feb. 7, 1996 7. Ruling Nos. DA-086-2004 dated 03-01-2004; DA-122-2004 dated 03-19-2004; DA-123-2004 dated 3-19-2004; DA-144-2004 dated 2-29-2004; DA-145-2004 dated 3-29-2004; VAT Ruling No. 24-2000 8. pursuant to Sec. 4.114-2 of RR 16-2005 9. BIR RULING [DA-503-04] dated Sept. 24, 2004 10. pursuant to Sec. 4.114-2 of RR 16-2005 11. Republic Act No. 9337 12. Ibid . 13. Sec. 4.114-2 of RR 16-2005