Puno and Puno Law Offices

December 5, 2008 BIR RULING [DA-(C-165) 501-08] Sec. 27 (D) (5); DA-684-06; DA-318-05; and DA-156-98 Puno and Puno Law Offices 12th Floor East Tower, Philippine Stock Exchange Centre Exchange Road, Ortigas Center, Pasig City Attention: Attys. Ma. Elizabeth E. Peralta-Loriega Menchie M. Tormon and Dionne Marie M. Sanchez Gentlemen : This refers to your letter dated November 26, 2008 requesting, on behalf of your client, Indophil Resources NL ("IRNL"), confirmation of your opinion on the following matters: 1. The sale by IRNL's Philippine affiliate, Indophil Resources Philippines, Inc. ("IRPI") of common shares of Sagittarius Mines, Inc. ("SMI") to Alsons Corporation ("Alsons") is subject to tax of 5% on the first Php100,000 and 10% on the excess over Php100,000 of any capital gain derived by IRPI from such sale and to documentary stamp tax of Php0.75 on each Php200 of the aggregate par value of the SMI common shares sold; 2. Any resulting capital gain from the redemption by IRPI of its redeemable shares from IRNL, a corporation organized under the laws of Australia and a resident of Australia, is exempt from Philippine income tax; and 3. The redemption by IRPI of its redeemable shares from IRNL will not attract documentary stamp tax if the said shares will be subsequently retired by IRPI. It is represented that IRNL is a foreign corporation organized and existing under the laws of Australia as evidenced by its Articles of Incorporation, with principal office address at ACN 076 318 173 of Level 3, 411 Collins Street, Melbourne, Victoria 3000. IRNL was issued a license to establish its regional or area headquarters in the Philippines on February 2, 1999 per certification issued by the Securities and Exchange Commission dated November 25, 2008, however, since then, IRNL has not actually established a regional or area headquarters in the Philippines or any other actual fixed place of business in the Philippines through which its business is wholly or partially carried out. IRPI, on the other hand, is a corporation duly organized and existing under the laws of the Philippines with principal office and place of business at Level 3, L&F Building, 107 Aguirre Street, Makati City, Republic of the Philippines. AaSIET It is further represented that IRNL owns 40% of IRPI, in the form of redeemable shares. IRNL, directly and indirectly, owns 21,137,559 common shares with par value of Php1.00 per share of SMI, a corporation duly organized and existing under the laws of the Philippines with principal office and place of business at Room 205, Carriedo Building, Magallanes Street, Davao City, Philippines. Of these SMI shares, IRNL directly holds 4,703,496 shares and, through IRPI, indirectly holds 16,434,066 shares. SMI currently holds a Financial and Technical Assistance Agreement ("FTAA") granted by the Republic of the Philippines to explore, develop, and operate certain mines located in Mindanao. It is finally represented that IRNL intends to divest of its indirect interest in SMI to Alsons, a corporation duly organized and existing under the laws of the Philippines with principal office and place of business at Alsons Building, 2286 Pasong Tamo Extension, Makati City, Philippines. This divestment will involve the sale by IRPI of its SMI shares to Alsons and the subsequent redemption by IRPI of IRNL's redeemable shares in IRPI. Upon redemption, IRPI will retire the redeemed IRPI shares. On the basis of the foregoing, you now request confirmation that: 1. The sale by IRPI of SMI shares to Alsons is subject to tax of 5% on the first Php100,000 and 10% on the excess over Php100,000 of any capital gain derived by IRPI from such sale and to documentary stamp tax of Php0.75 on each Php200 of the aggregate par value of the SMI shares sold. 2. Any resulting capital gain from the redemption by IRPI of its redeemable shares from IRNL, a resident of Australia, is exempt from tax under the RP-Australia Tax Treaty. 3. The redemption by IRPI of its redeemable shares from IRNL will not attract documentary stamp tax if the said shares will be subsequently retired by IRPI. cHCaIE In reply, please be informed as follows: 1. The sale by IRPI to Alsons of SMI shares is subject to capital gains tax and documentary stamp tax under the Tax Code of 1997, as amended ("Tax Code"). Section 27 (D) (2) of the Tax Code provides thus: "SEC. 27. Rates of Tax on Domestic Corporations. "(D) Rates of Tax on Certain Passive Incomes. "(2) Capital Gains from Sale of Shares of Stock not Traded in the Stock Exchange. The provisions of Section 39 (B) notwithstanding, a final tax at the rates prescribed below is hereby imposed upon the net capital gains realized during the taxable year from the sale, barter, exchange or other disposition of shares of stock in a domestic corporation, except shares sold, or disposed of through the stock exchange. Not over P100,000.00 5% On any amount in excess of P100,000.00 10%" In relation thereto, Sec. 39 (A) (2) of the Tax Code defines Net Capital Gains, viz.: "(2) Net Capital Gains. The term "net capital gains" means the excess of the gains from sales or exchanges of capital assets over the losses from such sales or exchanges." Accordingly, since the shares of stock owned by IRPI will be sold directly to Alsons and not through the stock exchange, the net capital gains realized therefrom shall be subject to the capital gains tax pursuant to the aforecited provisions of the Tax Code. The net capital gains shall be computed based on the actual consideration/selling price or the fair market value, whichever is higher, less the cost and other selling expenses. For purposes of determining the fair market value, the book value per share based on the latest audited financial statement closest to the date of sale shall be used pursuant to Revenue Regulations (RR) No. 2-82 [now RR No. 6-2008]. Furthermore, the sale of the aforementioned shares of stock shall be subject to the documentary stamp tax imposed under Section 175 of the same Code, at the rate of seventy-five centavos (P0.75) on each two hundred pesos (P200.00), or fractional part thereof, of the par value of such stock. ( BIR Ruling DA-684-06, November 30, 2006 ). ESCcaT 2. The resulting capital gain from redemption by IRPI of its shares from IRNL is exempt from capital gains tax under the RP-Australia Tax Treaty. Under the Tax Code, any gain by a corporation from the redemption of its shares is not subject to income tax. As repeatedly held by the BIR, the rule is that the redemption by a company of its shares may be considered akin to a partial liquidation of a corporation and as such, the redeeming corporation shall not be liable for income tax on its receipt of the surrendered shares. The BIR has explained: "the transfer by the liquidating corporation of its remaining assets to its stockholders is not considered as a sale of assets. Thus, a liquidating corporation does not realize gain or loss in partial or complete liquidation. Conversely, neither is a liquidating corporation subject to tax on its receipt of the shares surrendered by its shareholders pursuant to a complete or partial liquidation." (BIR Ruling No. 171-92 dated May 28, 1992; BIR Ruling No. 039-02 dated November 11, 2002; BIR Ruling DA-033-2005 dated January 27, 2005 and BIR Ruling DA-318-2005 dated July 15, 2005.) While the redeeming corporation shall not be subject to tax on the redemption of its shares, the stockholder whose shares are to be redeemed shall be liable to pay taxes on any gain that it may derive from the transaction. It has been held in a number of rulings issued by this Office that for tax purposes, the transfer of shares by a shareholder to a corporation even in liquidation is considered as a sale of shares. Consequently, the gains from liquidation are treated as gains from the sale or exchange of shares (BIR Ruling DA-316-07 dated May 29, 2007, BIR Ruling No. 039-02 dated November 11, 2002, BIR Ruling DA-008-01 dated January 30, 2001 and ITAD Ruling No. 065-05 dated June 29, 2005). In the redemption of shares, the gain consists of the excess of the redemption price over the acquisition cost or adjusted cost to the shareholder of the redeemed shares. Section 9 of RR No. 6-2008 dated April 22, 2008, provides: "Section 9. Taxation of Shares Redeemed for Cancellation or Retirement . When preferred shares are redeemed at a time when the issuing corporation is still in its "going-concern" and is not contemplating in dissolving or liquidating its assets and liabilities, capital gain or capital loss upon redemption shall be recognized on the basis of the difference between the amount/value received at the time of redemption and the cost of the preferred shares. Similarly, the capital gain or loss derived shall be subject to the regular income tax rates imposed under the Tax Code, as amended, on individual taxpayers or to the corporate income tax rate, in case of corporations." CaASIc While the gain is treated as a gain from the sale or exchange of shares subject to the ordinary income tax rates, the BIR has ruled, however, that if the income recipient is a resident of a tax treaty country which provides for a tax exemption on capital gains, the gain derived may be exempt from income tax under the corresponding tax treaty provided that the conditions prescribed for the exemption are complied with (BIR Ruling DA-318-05 dated July 15, 2005). In the instant case, since IRNL is a resident of Australia, the provisions of the RP-Australia Tax Treaty will apply. Article 13 of the Treaty provides thus: "ARTICLE 13 Alienation of Property (1) Income from the alienation of real property may be taxed in the Contracting State in which that property is situated. (2) For the purposes of this Article (a) the term "real property" shall have the meaning which it has under the laws in force in the Contracting State in which the property in question is situated and shall include (i) a lease of land or any other direct interest in or over land; (ii) rights to exploit, or to explore for, natural resources; and (iii) shares or comparable interests in a company, the assets of which consist wholly or principally of direct interests in or over land in one of the Contracting States or of rights to exploit, or to explore for, natural resources in one of the Contracting States; . . . (3) Subject to the provisions of paragraph (1), income from the alienation of capital assets of an enterprise of one of the Contracting States or available to a resident of one of the Contracting States for the purpose of performing professional services or other independent activities shall be taxable only in that Contracting State, but, where those assets form part of the business property of a permanent establishment or fixed base situated in the other Contracting State, such income may be taxed in that other State." DcHaET Based on the foregoing, shares of stocks owned by an Australian resident in a domestic corporation can be considered as real property situated in the Philippines and thus be subject to Philippine income tax if the corporation's assets consist wholly or principally of direct interests in or over land or of rights to exploit, or to explore for, natural resources in the Philippines. In determining whether the assets of a corporation consist principally of real property interest under tax treaties, RR No. 4-86 dated April 2, 1986 provides that the term "principally", "wholly or principally", "directly principally" or "attributable" shall mean more than fifty percent of the entire assets in terms of value. The basis is further provided as: SEC. 4. Basis. The value of all the assets of the subject corporation both real and personal as appearing in its financial statement on the date of sale of the share or interest in such corporation, as verified by the BIR, shall be used as the basis for determining the composition of its assets. In case the financial statement as of the date of the sale is not available, the most recent financial statement may be used, after the necessary adjustments are made to reflect transactions made during the period from the date of such financial statement to the date of the sale. A perusal of the 2007 AFS of IRPI reveals that IRPI does not even have land among its assets. Moreover, the mine exploration costs reported as Noncurrent Assets is only equal to Php1,116,969.00 or 0.985% of the Total Assets worth Php113,378,970.00. This is unequivocally below the more than 50% threshold for the assets to consist wholly or principally of direct interest in or over land or rights to exploit or to explore for natural resources. Thus, inasmuch as the IRPI shares do not fall under paragraph (2) (a) (iii) of Article 13 of the Treaty, par. 3 of the treaty provision will apply. This Office has already ruled that shares of stock owned by Australian residents in domestic corporations whose assets do not consist wholly or principally (more than 50%) of direct interest in or over land in the Philippines, or of rights to exploit, or to explore for, natural resources in the Philippines are considered capital assets within the purview of par. 3 of Article 13. Hence, the sale, assignment or transfer of such shares is considered as alienation of capital assets by the Australian residents and any gain arising therefrom is treated as exempt from Philippine income tax. (BIR Ruling No. 089-97 dated August 5, 1997; BIR Ruling DA-156-98 dated April 21, 1998) Considering that (i) IRNL has no actual fixed place of business in the Philippines through which its business is wholly or partially carried out and (ii) the shares of stocks of IRNL in IRPI are capital assets of IRNL which do not form part of the business property of any permanent establishment or fixed base situated in the Philippines, the transfer of the IRPI shares from IRNL to IRPI by way of redemption is an alienation of capital assets under par. 3 of Article 13 of the RP-Australia Tax Treaty. Accordingly, any gain derived by IRNL from the redemption of such shares shall be exempt from Philippine income tax and shall be taxable only in Australia. 3. The redemption by IRPI of its shares from IRNL is not subject to documentary stamp tax if redeemed shares are subsequently retired. In BIR Ruling No. DA-318-05 dated July 15, 2005, it was held that documentary stamp tax on transfer of shares will not apply to the surrender of redeemed shares if such shares are cancelled and retired upon redemption. As held by the BIR: AaCTID "No documentary stamp tax shall be due on the surrender and cancellation of shares in the case of a partial liquidation. The surrender of the shares does not constitute a sale, assignment or transfer because the liquidating corporation is not taking title to the surrendered shares and the shares are retired and not retained as treasury shares. In effect, the liquidating corporation does not realize any benefit, as owner or otherwise, from its receipt of the shares." Considering that the IRPI shares will be retired upon redemption, there shall be no documentary stamp tax due from such redemption. This ruling is being issued on the basis of the foregoing facts as represented. However, if upon its investigation, it will be ascertained that the facts are different, then this ruling shall be considered null and void. Very truly yours, > (SGD.) GREGORIO V. CABANTAC Deputy Commissioner Legal and Inspection Group