Pinnacle Realty and Development Corporation

November 20, 2009 BIR RULING [DA-(C-272) 683-09] Secs. 24; 25; 27; 28; 176; 196; BIR Ruling 039-02 Pinnacle Realty and Development Corporation 1771 Palomaria Street, Dasmarias Village Makati City Attention: Mr. Cecilio M. Hidalgo Vice-President Gentlemen : This refers to your letter dated August 18, 2009 requesting for a ruling on the tax implications of the surrender of shares by your company, Pinnacle Realty and Development Corporation ("PRDC"), in exchange for property ( i.e., shares of stocks) to be distributed as liquidating dividends by Trans-Phil Builders Corporation ("TPBC"), the issuing corporation, upon the latter's partial liquidation. The facts, as represented, are as follows: PRDC is a corporation organized under and by virtue of Philippine laws engaged in the business of real estate operations. On the other hand, TPBC is a domestic corporation engaged in the business of general contracting with principal address at 7th Floor, Trans-Phil House Building, 1177 Don Chino Roces Ave corner Bagtikan Street, Makati City. PRDC is a stockholder of record of TPBC owning 3,240,398 of the TPBC's 10,000,000 common shares. Due to financial difficulties, TPBC is planning to partially liquidate its assets and liabilities by decreasing its authorized capital stock by 4,000,000 common shares, with a par value of PhP10.00 per share, and a total value of Forty Million Pesos (PhP40,000,000.00). Upon approval by TPBC's stockholders of the said decrease, PRDC shall surrender its TPBC common shares and in exchange for which TPBC shall transfer to PRDC the common shares owned by TPBC in Trans-Phil House Corporation ("Distributed Assets"). Based on the foregoing, you now request for confirmation that the above surrender of shares by PRDC in connection with the partial liquidation of TPBC shall have the following tax consequences: TEDHaA 1. PRDC shall realize capital gain or loss when it surrenders its shares in TPBC in exchange for the assets distributed by TPBC as liquidating dividends, and such capital gain or loss shall be subject to the ordinary income tax rates provided under Sections 24 (A) (1) (c), 25 (A) (1), 27 (A) and (E), 28 (A) (1) and (2) and (B) (1) of the Tax Code; 2. TPBC shall not be liable for income tax either for its receipt of the surrendered shares, or its transfer of the Distributed Assets to PRDC as liquidating dividends; and 3. No documentary stamp tax under Section 175 of the Tax Code is due on the surrender by PRDC of the TPBC shares and the subsequent cancellation thereof. In reply, please be informed as follows: 1. PRDC shall realize capital gain or loss when it surrenders its shares in TPBC in exchange for the assets distributed by TPBC as liquidating dividends, and such capital gain or loss shall be subject to the ordinary income tax rates provided under Sections 24 (A) (1) (c), 25 (A) (1), 27 (A) and (E), 28 (A) (1) and (2) and (B) (1) of the Tax Code. In BIR Ruling No. 039-02 dated November 11, 2002, this Office had the occasion to rule that the tax treatment of liquidating dividends depends on the characterization of the income in the form of such dividends received by shareholders as a result of the dissolution of the corporation in which they hold shares. The second paragraph of Section 73 (A) of the Tax Code states: "Where a corporation distributes all of its assets in complete liquidation or dissolution, the gain realized or loss sustained by the stockholder, whether individual or corporate, is a taxable income or a deductible loss, as the case may be." In Wise & Co., Inc., et al., vs. Bibiano L. Meer, Collector of Internal Revenue (78 Phil 655 [1947]), the Supreme Court, in interpreting a similarly worded provision as above cited as in Section 25 (a) of Act No. 2833 ("Income Tax Law"), as amended by Section 4 of Act No. 3761 [which is partially lifted from section 201 (c) of the US Revenue Act of 1918], adopted the judicial construction of the US Supreme Court in Hellmich vs. Hellman (276 US 233), where it was held that the amounts distributed in the liquidation of a corporation shall be treated as payments in exchange for stock or shares, and any gain or profit realized thereby shall be taxed to the distributee as other gains or profits. The Supreme Court also stated that "(W)hen the corporation was dissolved and in the process of complete liquidation and its shareholders surrendered their stock to it and it paid the sums in question to them in exchange, a transaction took place, which was no different in its essence from a sale of the same stock to a third party who paid therefor". SIAEHC In BIR Ruling No. 190-84 dated December 21, 1984, the issue raised was precisely whether the liquidating gain (that is, the difference between the fair market value of the properties received and the cost basis of the shares to the stockholders) derived by an individual stockholder is subject to the then 10%/20% tax rates under Section 34 (g) of the then Tax Code or to the graduated income tax rates under then Section 21 (b). This Office ruled that such gain should be subject to the tax rates under then Section 21 (b). The same conclusion was reached in other rulings of the BIR. (BIR Ruling Nos. 322-87 dated October 19, 1987; 136-88 dated April 12, 1988; 021-89 dated February 13, 1989; 270-91 dated December 23, 1991; DA-223-98). In effect, following the interpretation of these rulings, liquidating gain is to be treated as the gain from the sale or exchange of shares, consistent with the decision of the Supreme Court in Wise & Co., Inc., supra , subject, however, not to the 5%/10% final tax rate under Sections 24 (C), 25 (A) (3) or (B), 27 (D) (2), 28 (A) (7) (c) and (B) (5) (c) of the Tax Code, but to the ordinary income tax rates provided under Sections 24 (A) (1), 25 (A) (1) and (B) [that is, the 25% rate], 27 (A) or (E), 28 (A) (1) or (2) and (B) (1) of the Tax Code, depending on the status of the shareholder/stockholder (for instance, whether the shareholder is a corporation or an individual, resident or non-resident). 2. TPBC shall not be liable for income tax either for its receipt of the surrendered shares or its transfer of the Distributed Assets to PRDC as liquidating dividends. In BIR Ruling No. 171-92 dated May 28, 1992, as reiterated in BIR Ruling No. 039-2002 dated November 11, 2002, this Office ruled that the transfer by the liquidating corporation of its remaining assets to its stockholders is not considered a sale of these assets. Thus, a liquidating corporation does not realize gain or loss in partial or complete liquidation. (W.P. Fox & Sons, Inc., Petitioner v. Commissioner of Internal Revenue, Respondent, 15 BTA 115; Jordan Petroleum Company, 13 AFTR 2d 1692; 227 F. Supp. 174; J.T.S. Brown & Son Company v. Commissioner of Internal Revenue, 10 TC 840, cited in BIR Ruling No. 196-010-90-059-90 dated April 17, 1990) . 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, supra) . 3. Finally, no documentary stamp tax under Section 175 of the Tax Code is due on the surrender by PRDC of the TPBC shares and the subsequent cancellation thereof. EDIaSH The Tax Code of 1997 imposes a DST on the sale, assignment or transfer of shares of stock under Section 175 thereof, which in part reads: " Stamp Tax on Sales, Agreements to Sell, Memoranda of Sales, Deliveries or Transfer of Shares or Certificates of stock. On all sales, or agreements to sell, or memoranda of sales, or deliveries, or transfer of shares or certificates of stock in any association, company or corporation, or transfer of such securities by assignment in blank, or by delivery, or by any paper or agreement, or memorandum or other evidences of transfer or sale whether entitling the holder in any manner to the benefit of such stock, or to secure the future payment of money, or for the future transfer of any stock, there shall be collected a documentary stamp tax of Seventy-five-centavos (P.75) on each Two hundred pesos (P200.00), or fractional part thereof, of the par value of such stock. . . ." The surrender of the shares by PRDC does not constitute a sale, assignment or transfer because TPBC is not taking title to the surrendered shares, and the shares are retired and not retained as treasury shares. Considering that TPBC does not realize any benefit, as owner or otherwise, from its receipt of the shares, there is no basis to impose the DST on the transfer. 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. Very truly yours, Commissioner of Internal Revenue By: (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service