Fiesta Communities, Inc.

November 6, 2009 BIR RULING [DA-(JV-029) 655-09] Sec. 22 (B); DA-657-2007 Fiesta Communities, Inc. HLDC Corporate Center 43-35 Don Bonifacio Avenue Pulung Maragul, Angeles City Attention: Atty. Christopher Ryan Tan In-house Counsel Gentlemen : This refers to your letter dated July 21, 2009, requesting confirmation of the various tax consequences arising from a Joint Venture Agreement for construction purposes, between Fiesta Communities, Inc. (hereinafter, "Fiesta") and Land and Shelter Realty Development Corporation (hereinafter, "LSRDC"). The facts of the case are as follows: LSRDC is the registered owner of several parcels of land located at Brgy. Matatalaib, Tarlac City, with a total area of 81,821 square meters, more or less, presently covered by several Transfer Certificates of Title issued by the Register of Deeds for Tarlac. Fiesta, on the other hand, is an entity which shall finance and develop the properties into a residential subdivision with a commercial strip (the "Project") to be called Fiesta Communities. On February 29, 2008, LSRDC and Fiesta entered into a Development Agreement (DA) whereby they agreed to develop the properties. The capital contributions of the parties to the joint undertaking are as follows: (a) LSRDC shall contribute the properties for the Project; (b) Fiesta shall develop the properties by financing, planning, designing, marketing, construction, management and general operation of all facets of the Project. After the development of the Project, based from the re-planned and/or re-partitioned subdivision plan, the parties will receive the following as a return of their investment, Fiesta will receive 80% of the saleable lots while LSRDC will receive 20%. Said distribution shall be implemented through a fair allocation of lots in accordance with the Partition Agreement and the same shall be registered in the names of the parties. DaAETS In view of the foregoing, you are requesting confirmation of your opinion as follows: 1. The terms of the Development Agreement between LSRDC and Fiesta do not give rise to a separate taxable joint venture pursuant to Section 22 (B), in relation to Section 27 (A), both of the National Internal Revenue Code (NIRC), as amended; 2. The allocation and distribution of saleable lots to LSRDC and Fiesta in the project pursuant to the Development Agreement, and the execution of the Partition Agreement to the Development Agreement to implement such allocations, are not taxable event and therefore are not subject to income tax, and subsequently withholding tax, Value-Added Tax (VAT), and documentary stamp tax, since the allocation of saleable units is in fact a mere return of capital that each has contributed. In reply, please be informed as follows: Section 22 (B) of the Tax Code of 1997, as amended, states as follows: "Section 22. Definitions. When used in this Title: xxx xxx xxx (B) The term 'corporation' shall include partnerships, no matter how created or organized, joint-stock companies, joint accounts (cuentas en participacion), associations, or insurance companies, but does not include general professional partnerships and a joint venture or consortium formed for the purpose of undertaking construction projects or engaging in petroleum, coal, geothermal and other energy operations pursuant to an operating or consortium agreement under a service contract with the Government. 'General professional partnerships' are partnerships formed by persons for the sole purpose of exercising their common profession, no part of the income of which is derived from engaging in any trade or business." (Emphasis supplied) The abovementioned exemption was initiated under Presidential Decree (PD) No. 929, dated May 4, 1976, which amended the definition of a "taxable" corporation in the Tax Code, as amended, to specifically exclude joint ventures formed for the purpose of undertaking construction projects. Said PD instituted the amendment of the definition of the term "taxable" corporation in recognition of the following situations: (1) Local contractors contribute substantially to the development program of the country; (2) Local contractors are at a disadvantage in competitive bidding with foreign contractors in view of limited capital and financial resources; (3) In order to be able to compete with big foreign contractors, it may be necessary for local contractors to enter into joint ventures to pool, their limited resources in undertaking big construction projects. Hence, to assist the local contractors in achieving competitiveness with foreign contractors, the joint ventures formed by said local contractors were thus deemed as not falling under the definition of a "taxable" corporation, and thus not subject to income tax. This was, and still is, the intention of the legislature. Such being the case, the Development Agreement entered into by and between Fiesta and LSRDC is not subject to the income tax under Section 27 (A) of the Tax Code of 1997, as amended. cCHITA Moreover, the allocation of the saleable units between Fiesta and LSRDC, which is done effectively in consideration of their respective contributions, does not constitute a taxable event, as no income is actually realized by either Fiesta and/or LSRDC. The Partition Agreement or Deed of Allocation will be executed without consideration, and will not be in connection with any sale between the said parties. As has been ruled by the BIR on numerous occasions, income, in a broad sense, means all wealth which flows into the taxpayer other than as a mere return of capital (Section 36, RR No. 2) . Fiesta and LSRDC, having contributed to the development of the aforementioned real properties, will not realize any income upon the allocation of the saleable units. Hence, the allocation of units arising from the Partition Agreement is not subject to income tax, and consequently, to withholding tax. The said allocation, likewise, is not subject to VAT. Under Section 105 of the 1997 Tax Code, as amended, any person who, in the course of trade or business, sells, barters, exchanges, leases goods or properties, renders services and any person who imports goods shall be subject to VAT. However, by contributing the parcels of land, LSRDC neither sells, barters, exchanges goods, property nor renders services to be subject to VAT. (BIR Ruling No. DA-240-2001 dated November 16, 2001; BIR Ruling No. DA-115-2001 dated September 5, 2001). Fiesta and/or LSRDC will only realize income upon their respective sales of the saleable units allocated to each of them. In this regard, said sales to third parties, if ever undertaken by Fiesta and/or LSRDC, would be subject to regular (corporate) income tax at the rate of 30%, in accordance with Section 27 (A) of the 1997 Tax Code, as amended, and consequently to withholding tax as implemented under Revenue Regulations (RR) No. 2-98, as amended. The said sales by Fiesta and/or LSRDC to third parties would likewise be subject to the VAT at the rate of 12%, in accordance with Sections 106 and 109 of the 1997 Tax Code, as amended, and to the Documentary Stamp Tax (DST) at the rate fifteen pesos (P15.00) for each one thousand pesos (P1,000.00), or fractional part thereof in excess of one thousand pesos (P1,000.00) of such consideration or value, in accordance with Section 196 of the 1997 Tax Code, as amended. Moreover, the marketing and management fee equivalent to 15% of selling price paid by the landowner to the developer shall be accounted by the developer as part of its gross income subject to income tax and VAT. Such 15% of the selling price which covers the cost of promotion, marketing expense, sales commission and administrative expense, shall be accounted by the landowner as business expense when it declares/reports its taxable income. (5.3, Art. V, Development Agreement) Further, the Partition Agreement or Deed of Allocation whereby Fiesta and LSRDC will allocate unto each other their share in the saleable units in consideration of their respective contributions, is not subject to the DST imposed under Section 196 of the 1997 Tax Code, as amended, considering that, as stated earlier, the allocation is made without monetary consideration and is not in connection with a sale. In this regard, Section 185 of the Revised Documentary Stamp Tax Regulations (Regulations No. 26)provides that "conveyances of realty not in connection with a sale, to trustees or other persons without consideration are not taxable". Accordingly, since the aforementioned Partition Agreement will be executed without consideration and not in connection with a sale between Fiesta and LSRDC, no DST therefore is due and collectible on said Partition Agreement or Deed of Allocation. However, the notarial acknowledgment to said Partition Agreement or Deed of Allocation shall be subject to the DST pursuant to Section 188 of the 1997 Tax Code, as amended, in the amount of P15.00. In connection with the above construction undertaking, the Joint Venture and the co-venturers are hereby required to register with the Revenue District Office (RDO) where their principal place of business is located. Moreover, this ruling authorizes the Revenue District Officer of the revenue district where the property is located to issue the corresponding Tax Clearance Certificate (TCL) with regard to the transfer of the titles to the units to be received by Fiesta and LSRDC based on their respective allocations pursuant to the partition without need of presentation of proof of payment of the capital gains tax or the creditable Withholding Tax, Documentary Stamp Tax and Value-Added Tax and/or Donor's Tax. CHTAIc 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. Very truly yours, (SGD.) GREGORIO V. CABANTAC Deputy Commissioner Legal and Inspection Group