Disini & Disini Law Office

July 24, 2009 BIR RULING [DA-(C-148) 406-09] 23 (F); 27 (A); RR 16-2005; Ruling No. 009-05; DA-147-06; DA-498-06 Disini & Disini Law Office 304 UPAA Ang Bahay ng Alumni, Magsaysay Avenue, U.P. Campus, Diliman, Quezon City Attention: Atty. Jesus M. Disini, Jr. Gentlemen : This refers to your letter dated July 14, 2009 requesting, on behalf of your client, PAY-ON PHILIPPINES, INC. (PO-PHI), confirmation of your opinion on the following issues regarding the tax liabilities of PAY-ON AG (PO-AG) and PO-PHI: 1. PO-AG, as an online payment processing service provider, is engaged in the sale of services, not goods; 2. PO-AG, as a non-resident foreign corporation performing online payment processing services outside of the Philippines for customers located inside as well as outside of the Philippines, is not subject to Philippine taxation (income tax, withholding tax, and value added tax) on fees collected in the Philippines for customers located in the Philippines for such services performed outside of the Philippines; 3. PO-PHI, the Philippine collecting agent of PO-AG, is likewise not subject to Philippine taxation on fees collected by such agent in the Philippines, considering that such fees are merely collected by such agent for and in behalf of PO-AG, to be ultimately delivered to the latter; and 4. PO-PHI, in rendering collecting and marketing services for PO-AG, is liable for zero percent (0%) value added tax on and thirty percent (30%) corporate income tax on fees earned from PO-AG. It is represented that PO-AG is a corporation organized and existing under the laws of Germany, with principal office located at Lucile-Grahn-Stra b e 37, 81675 Munich, Germany; that PO-AG is an e-commerce application service provider that processes transactions between online payment portals (such as a website) and an acquiring bank (which accepts payments on behalf of online merchants); that the following are the processing/technology services provided by PO-AG to Philippine customers (local banks and payment gateways): 1. Processing of local and international credit card and debit card payments after linking to major Acquiring Banks and ATM Network Providers; 2. Processing of online remittance activities of Philippine banks and remittance providers based on credit and debit cards not issued in the Philippines; and 3. Providing extended risk management services (account validation, doublet checks, velocity checks, internal and external blacklist/white list checks, consistency checks, address checks for some countries, various authentication methods, etc.) that the following outlines the online payment processing service rendered by PO-AG: 1. The Shopper/Cardholder browses the Merchant site, adds items to shopping cart, then finalizes purchase the Merchant receives all necessary data including credit card/bank account number and user device information; 2. The Merchant sends payment request to PO-AG; 3. PO-AG sends a request to the Bank/Issuer (PO-AG's client) and inquires if the authentication process can be executed; 4. The Bank/Issuer response is returned to PO-AG (1) if authentication is not available, the process ends and (2) and if authentication is successful, transaction specific data is returned to PO-AG; 5. In case of positive response from the Bank/Issuer, a response to the Merchant request is sent by PO-AG containing a redirect URL; 6. The Merchant redirects the Shopper/Cardholder's browser to the redirect URL; 7. The Bank/Issuer receives Payer Authentication Request from the Shopper/Cardholder; 8. The Bank/Issuer authenticates the request; 9. A Payer Authentication Response is sent to PO-AG via a redirect from the Bank/Issuer; 10. In case of successful authentication, PO-AG sends the original payment transaction to the authorization system typically a bank or acquirer; 11. The Acquirer sends PO-AG its response based on the authentication information and account data; 12. PO-AG sends the response message to the response URL 1 provided by the Merchant and redirects the Shopper/Cardholder's browser to it; 13. The Merchant presents shopper information on authorization outcome. that PO-PHI does not take part in the online payment processing transaction; that PO-AG's servers are all located outside the Philippines; that since the actual service rendered is the online payment processing, all PO-AG's services are therefore hosted and performed outside the Philippines; that PO-AG, in rendering these services, does not transfer any technology, know-how or other intellectual property rights to any person whatsoever; that PO-PHI, with Taxpayer Identification No. 007-279-852, is a domestic corporation duly registered with the Securities and Exchange Commission under Company Registration No. CS200905304 dated April 28, 2009; that PO-PHI renders marketing support and collection services for PO-AG's customers in the Philippines which involve client assistance, some technical support, and customer service; that in consideration of the foregoing undertaking, PO-AG shall pay PO-PHI a fixed sum in foreign currency remitted through the banking system; that in case payments are received by PO-PHI in behalf of PO-AG, PO-PHI remits all payments to PO-AG; and that the amounts collected in behalf of PO-AG are not entered in the books of PO-PHI as income. In reply, please be informed as follows: 1. PO-AG is engaged in the sale of services In BIR Ruling No. 009-05 dated August 2, 2005, sale of services was distinguished from the sale of goods, to wit: "In order to determine whether a certain transaction is a service transaction or a property transaction, it is imperative that a characterization of the same shall be made. A distinction between transactions in goods and transactions in services is important for purposes of characterization of the revenue/income derived from a particular transaction. The basic distinction between a transaction in goods versus a transaction in services is whether the customer acquires property from the provider. Implicit in the concept of services income is the notion that the value conferred on the purchaser does not take the form of a cognizable property interest. Therefore, generally speaking, if the seller transfers possession of property rights to the purchaser, the transaction should be characterized as a transfer of property rather than the provision of a service. On the other hand, if the customer does not receive an interest in property, then the revenue should be characterized as revenue or income from services. (Taylor S. Reid, ESQ., Tax Characterization of Electronic Commerce Revenue, E-Commerce Tax Report, Vol. 1, No. 5, BNA Tax, 2000) Thus, when a customer receives property in connection with the rendition of services by the vendor, it will often be necessary to determine whether the income from the transaction should be characterized as services income or income from the sale of goods. If the customer owns the property after the transaction, but beneficial ownership of the property was not transferred from the vendor to the customer, then the transaction generally should be treated as a services transaction. For example, if the customer engages the vendor to create an item of property that the customer will own from the moment of its creation, then no property will have been transferred from the vendor to the customer, and the transaction should be characterized as the provision of services ( Boulez v. Commissioner, 83 T.C. 584 (1984))." In this regard and since PO-AG, being a payment processing service company, merely renders administrative functions that do not involve any transfer of technology, equipment or property to its subscribers, nor does its rendition of services to its subscribers effectively transfer ownership of the technology it used in the transaction, PO-AG therefore is classified to be engaged in the sale of services, not of goods. 2. PO-AG is not subject to Philippine taxes on fees collected in the Philippines for customers located in the Philippines for such services performed outside of the Philippines Being a corporation organized and existing under the laws of Germany, and not being registered to do business in the Philippines, PO-AG is classified for purposes of taxation as a non-resident foreign corporation, or a foreign corporation not engaged in trade or business in the Philippines. Pursuant to Section 23 (F) of the Tax Code of 1997, as amended, a foreign corporation, whether or not engaged in trade or business in the Philippines, is taxable only on income derived from sources within the Philippines. Income derived by such non-resident foreign corporation from sources without the Philippines is therefore not taxable under Philippine laws (BIR Ruling No. 009-05 dated August 2, 2005). The rule in this jurisdiction regarding tax situs is: the source of an income is the property, activity or service that produced the income; the test of taxability is the source, and the source of an income is that activity which produced the income ( CIR v. British Overseas Airways Corporation, G.R. Nos. 65773-74, April 30, 1987). Stated differently, the situs of the income derived from labor or personal services is determined solely by the place where service is rendered ( CIR v. Japan Airlines, Inc., G.R. No. 60714 March 6, 1991). Compensation from services performed abroad is, therefore, considered income from sources without the Philippines and thus not subject to Philippine income tax (BIR Ruling No. 464-93, BIR Ruling No. 009-05, BIR Ruling No. DA-344-08) Services performed abroad by PO-AG are not subject to withholding tax under RR 2-98, as amended. Under the creditable withholding tax system, taxes withheld on certain income payments are intended to equal or at least approximate the tax due of the payee on said income [Section 2.57 (B), Revenue Regulations (RR) No. 2-98, as amended]. Needless to state, the withholding of income/creditable withholding tax on a certain income payment presupposes that the said income payment is considered taxable income to the payee. Therefore, reference must necessarily be made to the income source rules under our tax system. Corollarily, Section 2.57-1 (I) of RR 2-98, as amended, provides that non-resident foreign corporations are subject to final withholding tax only on their income derived from all sources within the Philippines. The said section does not provide that non-resident foreign corporations are subject to final withholding tax on their income derived from sources without the Philippines. Since payments to foreign corporations, like PO-AG, are not among those specified in the said regulations, consequently, services rendered abroad by these corporations are not subject to the expanded withholding tax prescribed in RR 2-98, as amended. Moreover, services performed abroad by PO-AG are not subject to VAT under Section 108 of the Tax Code, as amended. Section 108 (A) of the Tax Code of 1997, as amended, states that VAT shall be imposed on gross receipts derived from the sale or exchange of services, and the use or lease of properties. The phrase "sale or exchange of services" means the performance of all kinds of services in the Philippines for others for a fee, remuneration or consideration. Conversely, services performed outside the Philippines are not subject to VAT. Thus, the services to be rendered abroad by PO-AG are not subject to VAT. (BIR Ruling No. DA-054-08 January 30, 2008) 3. PO-PHI is not subject to Philippine taxation on fees collected by it for PO-AG in the Philippines In the case of Commissioner of Internal Revenue vs. Tours Specialists, Inc., G.R. No. 66416 dated March 21, 1990 citing the case of Commissioner of Internal Revenue vs. Manila Jockey Club, Inc., 108 Phil. 882, the Supreme Court declared that: "Gross receipts subject to tax under the Tax Code do not include monies or receipts entrusted to the taxpayer which do not belong to them and do not redound to the taxpayer's benefit; and it is not necessary that there must be a law or regulation which would exempt such monies and receipts within the meaning of gross receipts under the Tax Code." (BIR Ruling No. DA-147-06 dated March 17, 2006; BIR Ruling No. DA-(C-016) 085-08 dated July 30, 2008) Considering that the payment processing service fees collected by PO-PHI for and on behalf of PO-AG are merely held in trust by former for the latter and are remitted to the latter in full, it does not constitute income of PO-PHI and are, in fine, not subject to any form of Philippine taxation. 4. PO-PHI is liable for zero percent (0%) value added tax on its collecting and marketing services for PO-AG and thirty percent (30%) corporate income tax on fees earned from PO-AG Section 4.108-5 (b) (2) of Revenue Regulations (RR) No. 16-2005 states that: "(B) Transactions subject to Zero Percent (0%) Rate. The following services performed in the Philippines by VAT-registered persons shall be subject to zero percent (0%) rate: "(2) Services other than processing, manufacturing or repacking rendered to a person engaged in business conducted outside the Philippines or to a non-resident person not engaged in business who is outside the Philippines when the services are performed, the consideration for which is paid for in acceptable foreign currency and accounted for in accordance with the rules and regulations of the BSP; . . ." From the foregoing, it can be seen that for PO-PHI's services rendered to PO-AG to qualify for VAT zero-rating, it must meet two requisites under RR-16-2005, namely: (1) The services must be rendered to persons engaged in business conducted outside the Philippines or to non-resident foreign clients not engaged in business who are outside the Philippines when the services are performed; and (2) The fees to be paid to PO-PHI are in acceptable foreign currency and accounted for in accordance with the rules and regulations of the BSP. Thus, the services that PO-PHI renders to PO-AG may automatically qualify as VAT zero-rated transactions if said services are paid for in foreign currency and are accounted for through our local banking system. Failing that, the sale of said services will be regarded as subject to 10% (now 12%, starting February 1, 2006) VAT pursuant to Section 108 (A) of the Tax Code of 1997, as amended by R.A. 9337. In addition, to qualify PO-PHI's sale of services to its foreign clients as VAT zero-rated sales, PO-PHI must be a VAT-registered taxpayer in accordance with Section 4.108-5 (b) of RR 16-2005. (BIR Ruling No. DA-498-06 dated August 15, 2006; BIR Ruling No. DA-063-99 dated February 05, 1999; BIR Ruling No. DA-376-06 dated June 15, 2006) The fees earned by PO-PHI from the collection and marketing services it performs for PO-AG is subject to the regular corporate income tax at the rate of thirty percent (30%) 2 pursuant to Section 27 (A) of the NIRC. All service fees paid by PO-AG to PO-PHI shall form part of PO-PHI's gross income subject to the regular corporate income tax rate of thirty percent (30%) of net taxable income. Since PO-AG is a non-resident foreign corporation not engaged in business in the Philippines, and thus, beyond the jurisdiction of the Philippine authorities, it is not designated as withholding agent and is not required to withhold and remit withholding taxes on its payments to PO-PHI (Revenue Regulation No. 02-1998). 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 as null and void. Very truly yours, Commissioner of Internal Revenue By: (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service Footnotes 1. URL Uniform Resource Locator Definition. The URL is the address of a resource, or file, available on the Internet. 2. Section 27 (A) of National Internal Revenue Code provides that for domestic corporations the rate of income tax shall be 30% effective Jan. 1, 2009.