Aranas Consunji & Barleta Law Office

August 22, 2008 BIR RULING [DA-(C-045) 165-08] 27 (D) (2); 174; DA-141-99; DA-030-05; DA-406-03 Aranas Consunji & Barleta Law Office Unit 106 G/F Le Metropole Condominium Tordesillas Corner Dela Costa Streets, Salcedo Village, Makati City Attention: Atty. Casey M. Barleta Partner Gentlemen : This refers to your letter dated July 21, 2008 requesting on behalf of your client, Sumifru Singapore Pte. Ltd. ("SFS"), for confirmation of your opinion as follows: EHDCAI 1. The conversion of Upland Banana Corporation ("UBC") preferred shares to common shares is not subject to capital gains tax as the conversion is not tantamount to redemption from which capital gain or loss may be recognized; 2. SFS did not realize any income by the conversion of its UBC preferred shares to common shares because SFS merely changed the form of its shareholdings in UBC and there was no change in its proportionate interest in UBC; and 3. The conversion of preferred shares to common shares is not subject to documentary stamp tax (DST) as the issuance of new shares for converted shares is not an issuance of original shares under Section 174 of the Tax Code, as amended by R.A. No. 9243. IDaEHS It is represented that Upland Banana Corporation is a corporation duly existing under the laws of the Philippines with business address at AMS Building, F. Torres St., Davao City; that UBC is engaged in the business of production and exportation of Cavendish bananas; that the total authorized capital stock of UBC is 200,290,000 shares consisting of the following: Class/Series of Shares Number of Shares Par Value per Share Preferred 220,000,000 P10,000.00 Common 200,000 P1.00 It is further represented that SFS is a non-resident foreign corporation duly organized and existing under the laws of Singapore with office address at 3 Phillip Street #08-04 Commerce Point Singapore; that SFS currently holds 220,000 redeemable preferred shares of UBC; and that the foregoing 220,000 redeemable shares held by SFS will be converted into 2,200,000.00 common shares with a par value of P1.00. TDEASC In reply, please be informed as follows: 1. The conversion of UBC's preferred shares, held by SFS, to common shares is not subject to capital gains tax. This Office in BIR Ruling DA-141-99 dated March 9, 1999, had the occasion to rule as follows: "The conversion of the P/S for C/S, at par for par, in line with the conversion feature of the P/S, shall not be subject to capital gains tax since the holders thereof merely change the form of their shareholdings from preferred to common shares and they do not realize any gain or economic benefit therefrom. HESIcT Moreover, the exchange of P/S for C/S qualifies as a mere recapitalization and no gain or loss is recognized therefrom. Recapitalization has been defined as a "readjustment of existing interests in the rearrangement of the capital structure" of the company, which generally are non-taxable to both the holders and the issuing corporation. [Mertens, Law of Federal Income Taxation, Section 43.105, pp. 164-166]" Since SFS merely changed the form of its shareholdings in UBC through the conversion of its preferred shares to common shares, SFS did not realize any gain or economic benefit therefrom. Accordingly, the conversion of UBC preferred shares held by SFS to common shares is not be subject to capital gains tax imposed under Section 27 (D) (2) of the Tax Code, as amended. cADEHI 2. SFS will not be subject to any tax because it did not realize any income from the conversion of its preferred shares to common shares, considering that, there was no change in the proportionate interest of SFS after the conversion. The above view is analogous to that adopted by the Supreme Court in the case of Commissioner of Internal Revenue vs. Court of Appeals, Court of Tax Appeals and A. Soriano Corporation (G.R. No. 108576, January 20, 1999), concerning the conversion of common shares to preferred shares, to wit: ". . . where it was recognized that no income was realized by the stockholders upon the reclassification of common shares into preferred shares since there was no change in the proportionate interest of the stockholders after the reclassification. Both classes of stocks had the same par value. There was no cash flow and the reclassification was a mere corporate paper transaction. Any difference in the market value of the shares would be immaterial at the time of the reclassification because no income was realized. There was only a modification of the subscribers' rights and privileges and this was not a flow of wealth for tax purposes." ASETHC Hence, SFS did not realize any income by the conversion of its UBC preferred shares to common shares because SFS merely changed the form of its shareholdings in UBC and there was no change in its proportionate interest in UBC. 3. Lastly, the conversion of the preferred shares to common shares shall not be subject to DST imposed under Section 174 of the Tax Code of 1997, as amended. In a prior BIR ruling, it was opined that the reclassification of shares does not partake of the issuance of original shares of stock, hence, the same is not subject to the documentary stamp tax imposed under Section 174 of the Tax Code of 1997 (BIR Ruling DA-406-03 dated November 10, 2003; BIR Ruling 158-98 dated November 10, 1998). ECaITc Moreover, the re-classification of the shares from preferred shares into common shares of the stockholders in a corporation is not subject to the documentary stamp tax provided the new certificates are issued to the same stockholders and the par value is not higher than the replaced certificates (BIR Ruling 406-03, supra). Since the new stock certificates to be issued to SFS pertained to the conversion of its preferred shares to common shares, the said issuance shall not be subject to DST because it does not pertain to an issuance of original shares of stock. aDHScI Accordingly, the conversion by UBC of its preferred shares to common shares is not subject to documentary stamp tax, as the issuance of new shares for converted shares is not an issuance of original shares under Section 174 of the Tax Code, as amended. 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 as represented are different, then this ruling shall be considered null and void. aSTHDc Very truly yours, Commissioner of Internal Revenue By: (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service