Isla Lipana & Co.

November 10, 2008 BIR RULING [DA-(S40M-017) 405-08] S40, Merger Isla Lipana & Co. 28th/F Philam Life Tower, 8767 Paseo de Roxas Avenue, Makati City Attention: Atty. Malou P. Lim Partner, Tax Services Gentlemen : This refers to your letter dated June 25, 2008 requesting for a confirmatory ruling that the merger of your clients, APLAYA LAIYA CORPORATION ("ALC") and LAIYA TOURISM DEVELOPMENT CORPORATION ("LTDC"), with ALC as the surviving corporation, is a tax-free exchange under Section 40 (C) (2), in relation to Section 40 (C) 6 (b) of the Tax Code of 1997, as amended. The facts as represented are as follows: ALC is a corporation organized and existing under the laws of the Philippines duly registered with the Securities and Exchange Commission (SEC) and is primarily engaged in developing real estate properties. It has an authorized capital stock of Three Hundred Twenty Million Pesos (P320,000,000.00) consisting of Two Hundred Ten Million (210,000,000) common shares and One Hundred Ten Million (110,000,000) redeemable preferred, participating and non-voting shares both with par value of One Peso (P1.00) per share. It has issued and outstanding common stock amounting to Seventy One Million Nine Hundred Ninety Seven Thousand Six Hundred Twenty Four Pesos (P71,997,624.00) at P1 per share, and redeemable preferred, participating and non-voting shares amounting to Forty Nine Million Eight Hundred Eighty Three Thousand One Hundred Sixty Eight Pesos (P49,883,168.00) at P1 per share. On the other hand, LTDC is a corporation organized and existing under the laws of the Philippines duly registered with the SEC and likewise primarily engaged in developing real estate properties. It has an authorized capital stock of Fifty Million Pesos (P50,000,000.00) consisting of Five Hundred Thousand (500,000) shares with a par value of One Hundred Pesos (P100.00) per share. It has issued and outstanding capital stock amounting to Twelve Million Five Hundred Thousand Pesos (P12,500,000.00) consisting of One Hundred Twenty Five Thousand shares (125,000). Both Boards of Directors and stockholders of ALC and LTDC have determined that the merger will be mutually desirable and advantageous to ALC and LTDC and will result in the consolidation of economic resources, economy of scale, and efficiency of operations. Accordingly, the merger will improve profitability and reduce costs. The Articles and Plan of Merger by and between ALC and LTDC were filed with the SEC on April 29, 2008. The merger was approved by the SEC and issued the SEC Certificate of Filing of the Articles and Plan of Merger on June 2, 2008 which is likewise the effectivity of the merger. Pursuant to the Plan of Merger, upon effectivity of the merger, ALC shall be the surviving corporation. It shall possess all the rights and privileges of LTDC arising out of its government licenses, permits, and registrations as well as all the properties of LTDC, contractual and property rights, claims, bank deposits, and every asset, right or interest belonging or due to LTDC as of December 31, 2007 as shown in the audited financial statements. In the same manner, all the liabilities and obligations falling due from LTDC as of December 31, 2007 shall be, assigned and transferred to and assumed by ALC, as the surviving corporation. ALC shall be liable for all such liabilities and obligations of LTDC in the same manner as if ALC had itself incurred such liabilities and obligations and any pending claim, action or proceeding brought by or against LTDC may be prosecuted by or against ALC. HCTEDa LTDC, shall, upon the basis of their ownership participation in the corporation, receive shares of stock in ALC amounting to Pesos Thirteen Million One Hundred Twenty Seven Thousand Four Hundred Five common shares (P13,127,405.00) with a par value of One Peso (P1.00) per share. Based on the foregoing representations, you now request confirmation of your opinion that 1. No gain or loss shall be recognized by the absorbed corporation, LTDC, from the transfer of their assets and liabilities in exchange solely for shares of stock of the surviving corporation, ALC; and by the stockholders of LTDC in their exchange of LTDC shares, solely for the shares of stock of ALC in accordance with Section 40 (C) (2) and 6 (b) of the Tax Code of 1997, as amended; 2. The transfer of assets of LTDC to ALC pursuant to the Plan of Merger will not be subject to any output VAT, and any unused input VAT of the absorbed corporation as of the effective date of merger, will be transferred to and absorbed by ALC pursuant to Section 4.106-8 (b) (3) of Revenue Regulations No. 16-2005, as amended; 3. The merger will not be subject to donor's tax since there is no intention on the part of LTDC to donate its assets to ALC as the transaction is effected solely for legitimate business purposes and thus, a bona fide merger; 4. The transfer by LTDC of the properties (assets and liabilities) to ALC as a result of the merger is not subject to DST in accordance with Section 199 (m) of the Tax Code, as amended by Republic Act No. 9243; and 5. The other asset ( i.e., booked as deferred charges MCIT) of LTDC will be transferred and vested in ALC, as the surviving corporation, at the time of the effectivity of the merger by operation of Section 80 of the Corporation Code. In reply thereto, please be informed that your opinion is hereby confirmed as follows: 1. Tax-Free Exchange The merger between ALC and LTDC whereby ALC, as the surviving corporation, shall acquire all the assets and liabilities of LTDC and which was undertaken for a bona fide business purpose is a tax-free exchange within the contemplation of Section 40 (C) (2) in relation to paragraph 6 (b) of the Tax Code of 1997, as amended, which provides that: "SEC. 40. Determination of Amount and Recognition of Gain or Loss. xxx xxx xxx (C) Exchange of Property. xxx xxx xxx (2) Exception. No gain or loss shall be recognized if in pursuance of a plan of merger or consolidation (a) A corporation, which is a party to a merger or consolidation, exchanges property solely for stock in a corporation, which is a party to the merger or consolidation; or (b) A shareholder exchanges stock in a corporation, which is a party to the merger or consolidation, solely for the stock of another corporation also a party to the merger or consolidation; or xxx xxx xxx (6) Definitions. xxx xxx xxx (b) The term 'merger' or 'consolidation', when used in this Section, shall be understood to mean: (i) the ordinary merger or consolidation; or (ii) the acquisition by one corporation of all or substantially all the properties of another corporation solely for stock: Provided, That for a transaction to be regarded as a merger or consolidation within the purview of this Section, it must be undertaken for a bona fide business purpose and not solely for the purpose of escaping the burden of taxation: Provided, further, That in determining whether a bona fide business purpose exists, each and every step of the transaction shall be considered and the whole transaction or series of transactions shall be treated as a single unit: Provided, finally, That in determining whether the property transferred constitutes a substantial portion of the property of the transferor, the term 'property' shall be taken to include the cash assets of the transferor. . . . ." DTEScI The elements of a tax-free exchange are all present in the instant case, thus: 1. There must be a merger and a plan of merger; 2. The parties to the merger must, as a general rule, exchange property solely for stock, pursuant to the plan of merger; and 3. The merger must be undertaken for a bona fide business purpose and not solely for purpose of escaping the burden of taxation. Based from the foregoing, no gain or loss shall be recognized by LTDC, as transferor on the transfer of all its assets and liabilities to ALC and by the stockholders of LTDC in their exchange of LTDC shares pursuant to the Plan of Merger. (BIR Ruling No. DA-371-06 dated June 15, 2006) 2. Transfer of Assets not Subject to Value Added Tax (VAT) Section 4.106-8 (b) (3) of Revenue Regulation (RR) 16-2005, as amended by RR No. 4-07, expressly provides that merger is not subject to output tax, thus: "SEC. 4.106-8. Change or Cessation of Status as VAT-registered Person. xxx xxx xxx (b) Not subject to output tax The VAT shall not apply to goods or properties existing as of the occurrence of the following: xxx xxx xxx (3) Merger or consolidation of corporations. The unused input tax of the dissolved corporation, as of the date of merger or consolidation, shall be absorbed by the surviving or new corporation." Hence, based on the above cited provisions, the transfer of assets by LTDC to ALC as a consequence of the merger shall not be subject to VAT since the transfer is considered as a transaction "not subject to output tax". Consequently, the unused input tax of LTDC, if any, shall be absorbed by the surviving corporation, ALC. 3. Transfer is not Subject to Donor's Tax The transfer of assets by LTDC to ALC pursuant to the merger shall not be subject to donor's tax. As discussed in BIR Ruling No. DA-075-03 dated March 11, 2003, the essential elements of a valid donation are: (1) the reduction of the patrimony of the donor, (2) the increase in the patrimony of the donee; and (3) the intent to do an act of liberality ( animus donandi ). Here, there is no animus donandi on the part of LTDC and its shareholders as their intent or motive in agreeing to the merger is driven by business reason, as they believe that this will result in the efficiency of operations, improve profitability and reduce costs. 4. Transfer of Properties not Subject to Documentary Stamp Tax (DST) No DST shall be due on the transfer of properties by LTDC to ALC pursuant to the Plan of Merger in accordance with Section 199 (m) of the Tax Code, as amended by Republic Act No. 9243, in relation to Section 40 (C) (2) of the Tax Code, as amended. However, the original issuance of ALC shares to the stockholders of LTDC in exchange for the properties transferred shall be subject to DST under Sections 174 of the Tax Code of 1997, as amended, at the rate of one peso (P1.00) on each Two hundred pesos (P200), or fractional part thereof, of the par value, of such shares of stock. 5. Excess Minimum Corporate Income Tax (MCIT) will be transferred to Surviving Corporation By operation of Section 80 of the Corporation Code, ALC shall possess all the rights, privileges, immunities and franchises of LTDC and all property shall be carried on to and vested in ALC without further act or deed. Accordingly, upon the effectivity of the merger, the excess MCIT of the absorbed corporation shall be carried forward and credited against the normal income tax due of the surviving corporation for the three immediately succeeding taxable years Pursuant to Section 27 (E) (3) of the Tax Code of 1997, as amended. (BIR Ruling No. DA-147-07 dated March 8, 2007) Since the excess MCIT of LTDC forms part of its assets, it shall be transferred to and vested in ALC, the surviving corporation on the effective date of the merger. Thus, the excess MCIT of LTDC shall be carried forward, and credited against the normal corporate income tax of ALC for the next three (3) immediately succeeding taxable years, or until December 31, 2010. Finally, in order that the above-described reorganization can be considered as a merger under Section 40 (C) (2) of the Tax Code of 1997, as amended, the parties to the merger should comply with the following requirements: cEAIHa A. The plan of reorganization should be adopted by each of the corporations, parties thereto, the adoption being shown by the acts of its duly constituted responsible officers and appearing upon the official records of the corporation. Each corporation, which is a party to the reorganization, shall file, as part of its return for the taxable year within which the reorganization occurred, a complete statement of all facts pertinent to the non-recognition of gain or loss in connection with the reorganization, including: (1) A copy of the plan of reorganization, together with a statement, executed under the penalties of perjury, showing in full the purposes thereof and in detail all transactions incident to, or pursuant to the plan; (2) A complete statement of the cost or other basis of all properties, including all stocks or securities, transferred/received incident to the plan; (3) A statement of the amount of stock or securities and other property or money received from the exchange including a statement of all distribution or other disposition made thereof. The amount of each kind of stock or securities and other property received shall be stated on the basis of the fair market value thereof at the date of the exchange; and (4) A statement of the amount and nature of any liabilities assumed upon the exchange, and the amount and nature of any liabilities to which any of the property acquired in the exchange is subject. B. Every taxpayer, other than a corporation, who is a party to the reorganization, who received stock or securities and other property or money upon a tax-free exchange in connection with a corporate reorganization shall incorporate in his income tax return for the taxable year in which the exchange takes place a complete statement of all facts pertinent to the non-recognition of gain or loss upon such exchange including: (1) A statement of the cost or other basis of the stock or securities transferred in the exchange; and (2) A statement in full of the amount of the stock or securities and other property or money received from the exchange, including any liability assumed upon the exchange, and any liability to which property received is subject. The amount of each kind of stock or securities and other property (other liabilities assumed upon the exchange) received shall be set forth upon the basis of the fair market value thereof at the date of exchange. C. Permanent records in substantial form shall be kept by every taxpayer who participates in a tax-free exchange in connection with a corporate reorganization showing the cost or other basis of the transferred property or money received (including any liability assumed on the exchange, or any liability to which any of the properties received were subject), in order to facilitate the determination of gain or loss from a subsequent disposition of such stock or securities and other property received from the exchange. In addition to the foregoing requirements, the parties shall enclose with their respective income tax returns for the taxable year in which the merger occurred a copy of the request for ruling filed with, and the corresponding ruling issued by, the Bureau of Internal Revenue, both duly stamp-received by the appropriate office of the Bureau of Internal Revenue. Such parties shall include as a note to their respective audited financial statements for the taxable year in which the merger occurred a statement to the effect that they hold such assets/shares acquired in a merger and the year in which such merger occurred, and in the taxable years until the subject properties are subsequently transferred to another transferee. The parties shall, pursuant to Section 58 (E) of the Tax Code of 1997, as amended, also cause the Register of Deeds to annotate on the corresponding Transfer Certificates of Title, the date the deed of transfer or the document of merger, as in this case, was executed, the original or historical cost of acquisition of the properties involved, and the fact that no gain or loss was recognized as a result of such merger. It is further required that the parties to the transaction must submit to the Law Division, Bureau of Internal Revenue, a certified true copy by the Register of Deeds, of duly annotated Transfer Certificates of Title for the real properties involved in the merger transaction and proof of annotation of the substituted basis of the shares of stock involved therein, as well as, the shares of stock to be issued to the stockholders of the transferor corporation within ninety (90) days from the effective date of merger. Violation of the above requirements is subject to the penalties provided under Section 269 and/or Section 275 of the Tax Code of 1997, as amended, whichever is applicable. 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, and/or any of the requirements imposed in this letter is not complied with, then this ruling shall be considered null and void. EcAHDT Very truly yours, Commissioner of Internal Revenue By: (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service