E.L. Punsalan and Associates

October 29, 2008 BIR RULING [DA-(C-113) 368-08] E.L. Punsalan and Associates G-104 Medical Plaza Makati Amorsolo corner Dela Rosa Streets Legaspi Village Makati City Attention: Atty. Eranio L. Punsalan Gentlemen : This refers to your letter dated October 24, 2008 stating that your clients, Excelsior Properties, Inc. (EPI) and Corporate Investments Phils., Inc. (CIPI), acquired agricultural land covered by Tax Declaration Nos. 002-03075, 010-01127, 010-01129, 002-02377, 002-02376, 010-01124, 010-01126, 010-01125, 010-01123, 010-01532, 010-01128 and 010-01122, pro rata and pro indiviso , among others, from Mr. Rene Ledesma (Mr. Ledesma), as Assignor, in payment of the outstanding obligation of the latter to the former; that EPI and CIPI accepted the dation in payment as a last recourse to recoup their extended loans to Mr. Ledesma, even if this would mean realized loss, to a certain extent; that EPI and CIPI, since the start of its operations, treated the said agricultural properties as capital assets as contemplated in Section 27 (D) (5) of the National Internal Revenue Code; that it was never the intention of EPI and CIPI to develop the above-mentioned agricultural land due to the following reasons: (i) it requires exemption from the CARP coverage of the Department of Agrarian Reform (DAR); (ii) it has yet to be converted into residential and/or commercial land; (iii) it has to be surveyed and judicially titled; and (iv) many more tedious and prolonged processes to make it viable for development; that in order to avoid the foregoing costly and risky venture, EPI and CIPI opted to look for possible buyer/s; that sometime in October 2008, a prospective buyer signified its interest to buy the above-mentioned properties subject to the following conditions, i.e., the sale is on installment basis, and that it is exempt from CARP, topographic map, survey, judicial titling and etc.; and that pertinent provisions of the Contract to Sell provides that: "if for any reason, aside from force majeure and/or fortuitous event, within thirty six (36) months from the signing of this Agreement, the Seller incurs in default in any of their undertakings or obligations herein including the issuance and delivery of titles under the name of the Buyer, or that the exemption/conversion order or clearance from the DAR cannot be obtained on the ground that the properties or any portion thereof do not qualify from exclusion, or conversion into non-agricultural uses under the provisions of the CARP Law, the aforesaid Agreement may be rescinded at the sole option of the Buyer." Based on the foregoing representations, you now request for confirmation of your opinion that the proposed sale of the above-mentioned properties are classified as capital assets subject to the 6% capital gains tax, documentary stamp tax but is exempt from the value-added tax (VAT); and that since the sale is subject to suspensive conditions, i.e. , judicial titling, exemption from CARP by the DAR, the payment of the aforesaid taxes shall be accrued only upon the fulfillment of the said suspensive conditions. In reply thereto, please be informed that Section 27 (D) (5) of the Tax Code of 1997, as implemented by Revenue Regulations No. 7-2003, provides CScaDH "(5) Capital Gains Realized from the Sale, Exchange or Disposition of Lands and/or Buildings. A final tax of six percent (6%) is hereby imposed on the gain presumed to have been realized on the sale, exchange or disposition of lands and/or buildings which are not actually used in the business of a corporation and are treated as capital assets, based on the gross selling price or fair market value as determined in accordance with Section 6(E) of this Code, whichever is higher, of such lands and/or buildings." It is undisputed that the yardstick for determining whether the property is capital asset or ordinary asset is the actual use of the said property. Thus, if the property is not actually used in trade or business of the taxpayer, whether or not connected with his trade or business, or not held for lease or sale to customers, it will be classified as a capital asset. Moreover, if the property is merely held for investment purposes and remains vacant and idle, it is deemed a capital asset. In stressing the rationale of the above-mentioned rule, this Office elucidated the matter in BIR Ruling No. 014-2003 dated October 28, 2003, as follows: "It is apparent under the foregoing provision that for a property to be considered an ordinary asset it must be actually used in the business of the corporation. Accordingly, on the condition that Wendell Holdings Co., Inc. is not habitually engaged in the real estate business as represented, the property under consideration is a capital asset. The property was neither held primarily for sale to customers nor actually used in the business of Wendell Holdings Co., Inc. . . . The property is not actually used in the business of Wendell Holdings Co., Inc. as it has remained idle and undeveloped. Therefore, the sale of the property under consideration is a sale of a capital asset, not an ordinary asset. As such, the transaction is subject to capital gains tax of 6% under Section 27(D)(5) and not to the creditable withholding tax." At this juncture, observation may be made of the fact that agricultural properties which are not used in the ordinary course of trade or business nor had it ever been classified as property of a kind which would properly be included in the inventory if on hand at the close of the taxable year, nor had it ever been held by the taxpayer primarily for sale to customers in the ordinary course of trade or business, the income derived from the sale thereof is not subject to the expanded withholding tax under Section 2.57.2 (J) of Revenue Regulations No. 2-98, but only to the 6% capital gains tax imposed under Section 27 (D) (5) of the Tax Code of 1997 and to the documentary stamp tax under Section 196 of the same Code, based on the gross selling price or fair market value (FMV) as determined in accordance with Section 6 (E) of the Code, whichever is higher. Lots or improvements, classified as "investment properties", which are idle, unproductive and unimproved since the time of acquisition, and do not fall under any of the assets enumerated under Section 39 (A) (1) of the Tax Code of 1997 and 2 (b) of Revenue Regulations No. 7-2003 are classified as capital assets, the sale of which is subject to 6% capital gains tax, DST of 1.5% but exempt from 12% VAT. (BIR Ruling No. DA152-04 dated March 31, 2004) DSAICa Moreover, since the sale of the above-mentioned agricultural properties is subject to the suspensive conditions, the capital gains tax and documentary stamp tax due thereon shall only accrue upon the fulfillment of the said conditions. Accordingly, we hereby confirm your opinion that the proposed sale of the above-mentioned properties which are considered as capital assets, is: (1) subject to the capital gains tax of 6% pursuant to Section 27 (D) (5) of the Tax Code of 1997; (2) subject to DST at the rate of P15.00 for each P1,000.00 or fractional part thereof in excess of P1,000.00, or 1.5% of the consideration or fair market value of the properties, whichever is higher, pursuant to Section 196, supra ; (3) exempt from the expanded withholding tax prescribed in Revenue Regulations No. 2-98, as amended; and (4) exempt from 12% VAT, the property not being primarily held and offered for sale or lease to customers in the ordinary course of EPI and CIPI's trade or business, as provided under Section 109 (w) of the Tax Code of 1997, as amended by Republic Act No. 9337, as implemented by Revenue Regulations No. 16-2005, as amended. (BIR Ruling No. DA270-04 dated May 17, 2004) (5) The capital gains tax and documentary stamp tax shall only accrue upon the fulfillment of the suspensive conditions. 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. CAIHaE Very truly yours, (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service