SGV & Co.

October 27, 2008 BIR RULING [DA-(VAT-023) 358-08] R.A. 7916; RMC 61-2005; VAT Ruling No. 037-98; 025-02 SGV & Co. 6760 Ayala Avenue 1226 Makati City Attention: Atty. E. C. Alcantara Tax Division Gentlemen : This refers to your letter dated February 4, 2008 requesting on behalf of your client, TeaM Philippines Energy Corporation (TPEC), confirmation of your opinion that the sale of electricity by TPEC to Philippine Economic Zone Authority (PEZA), a developer and operator of economic zones (ECOZONE) in the Philippines, which will in turn distribute said electricity to its locators inside the Baguio City Economic Zone (BCEZ) is a zero-rated sale transaction. It is represented that pursuant to the Tripartite Memorandum of Agreement (TMA) executed among the National Power Corporation (NPC), TPEC, formerly known as Mirant Philippines Energy Corporation (MIRANT) and PEZA, TPEC shall supply and deliver electricity to PEZA. PEZA, mandated by law to develop and operate ECOZONE in the Philippines, will in turn, distribute the said electricity to its locators inside the BCEZ. In order to faithfully comply with its obligations under the TMA, TPEC undertook to construct and install, on its own account, the required equipment and facilities within the BCEZ. In reply, please be informed that under Section 108 (B) of the 1997 Tax Code, as amended, which provides, in part, as follows: "SEC. 108. Value-added Tax on Sale of Services and Use or Lease of Properties. (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: DCcHAa xxx xxx xxx (3) Services rendered to persons or entities whose exemption under special laws or international agreements to which the Philippines is a signatory effectively subjects the supply of such services to zero percent (0%) rate; . . ." In relation to the foregoing provision of law is Revenue Memorandum Circular No. 61-2005 dated October 27, 2005 (RMC 61-05), which clarifies the VAT provisions of Republic Act No. 9337 dated May 24, 2005, as applied to the power industry, states in part as follows: "Q19 What is the treatment of sales of electricity (by generation, transmission and distribution companies or electric cooperatives) to PEZA- or SBMA-registered enterprises? A19 Since PEZA- or SBMA-registered enterprises are entitled to the five percent (5%) preferential tax rate under R.A.7916 and R.A.7227, respectively, sales of electricity by generation, transmission and distribution companies or electric cooperatives shall effectively be subject to the zero percent (0%) VAT rate. Sales to enterprises duly-registered and accredited with the SBMA and PEZA shall effectively be subject to zero percent (0%) VAT. The zero-percent (0%) VAT rate shall not apply to sales made to individuals who are mere residents in the PEZA Ecozone or Subic Bay Freeport and Economic Zone." In VAT Ruling 025-02, dated April 25, 2002, the BIR had occasion to rule on the destination principle as adopted by the Philippine VAT system, thus: "In reply thereto, please be informed that the Philippine VAT System adopts the destination principle wherein imports are taxed while exports are given total immunity. This system of taxation, when applied to goods crossing borders, is designed to make our local products competitive in the foreign market. In line with this principle which is the backbone of the Philippine VAT System, the royalty payments by TIEPI to Toshiba are exempt from VAT whether at the time it enjoys income tax holiday or at the time that it is subject to the 5% commutation tax. Otherwise, TIEPI will be required to shoulder the VAT on inputs, which will be added-up to the export cost of its products. As a matter of fact, the local sale of VAT suppliers to PEZA registered enterprises were declared zero-rated to afford full immunity to the export producer. It is on this principle that the royalty payments by TIEPI to Toshiba shall be exempt from VAT so that the PEZA locator would be truly relieved from the burden of indirect tax consonant with the "Cross Border Doctrine" thereby ensuring that the export price of the commodities has no VAT component. (VAT Ruling No. 63-2001)." IaECcH PEZA-registered enterprises are VAT exempt because of Section 8 of R.A. 7916, as amended, which mandates that the PEZA shall manage and operate the ecozones as a separate customs territory, thus, creating the fiction that the ecozone is a foreign territory. As a result, sales made by a supplier in the Customs Territory to a purchaser in the ecozone shall be treated as an exportation from the Customs Territory. Conversely, sales made by a supplier from the ecozone to a purchaser in the Customs Territory shall be considered as an importation into the Customs Territory (CIR vs. Toshiba Information Equipment (Phils.), Inc., G.R. No. 150154, August 9, 2005). Corollarily, the Philippine VAT system adheres to the Cross Border Doctrine, according to which, no VAT shall be imposed to form part of the cost of goods destined for consumption outside of the territorial border of the taxing authority. Hence, actual export of goods and services from the Philippines to a foreign country must be free of VAT; while, those destined for use or consumption within the Philippines shall be imposed with 12% VAT (CIR vs. Toshiba, ibid.). Sales of goods, properties and services by a VAT-registered supplier from the Customs Territory to an ECOZONE enterprise shall be treated as export sales. If such sales are made by a VAT-registered supplier, they shall be subject to VAT at zero percent (0%). In zero-rated transactions, the VAT-registered supplier shall not pass on any output VAT to the ECOZONE enterprise, and at the same time, shall be entitled to claim tax credit/refund of its input VAT attributable to such sales. Zero-rating of export sales primarily intends to benefit the exporter ( i.e., the supplier from the Customs Territory), who is directly and legally liable for the VAT, making it internationally competitive by allowing it to credit/refund the input VAT attributable to its export sales. (CIR vs. Toshiba, id.) In the case of Atlas Consolidated Mining and Development Corporation v. Commissioner of Internal Revenue, G.R. Nos. 141104 & 148763 dated June 8, 2007, the Supreme Court had occasion to further explain the "Cross Border Doctrine" of the VAT system, to wit: aSHAIC "Such tax treatment of goods brought into the export processing zones are only consistent with the Destination Principle and Cross Border Doctrine to which the Philippine VAT system adheres. According to the Destination Principle, goods and services are taxed only in the country where these are consumed. In connection with the said principle, the Cross Border Doctrine mandates that no VAT shall be imposed to form part of the cost of the goods destined for consumption outside the territorial border of the taxing authority. Hence, actual export of goods and services from the Philippines to a foreign country must be free of VAT, while those destined for use or consumption within the Philippines shall be imposed with 10% VAT. Export processing zones are to be managed as a separate customs territory from the rest of the Philippines and, thus, for tax purposes, are effectively considered as foreign territory. For this reason, sales by persons from the Philippine customs territory to those inside the export processing zones are already taxed as exports." Under the cross-border principle, no VAT shall be imposed to form part of the cost of goods destined for consumption outside of the territorial border of the taxing authority. If exports of goods and services from the Philippines to a foreign country are free of VAT, then the same rule holds for such exports from the national territory except specifically declared areas to an ECOZONE. It was further held that, significantly, an ECOZONE indubitably a geographical territory of the Philippines is regarded in law as foreign soil. ( Commissioner of Internal Revenue v. Seagate Technology (Philippines), G.R. No. 153866, February 11, 2005). Since the power to be supplied by TPEC to PEZA will ultimately be distributed to BCEZ locators, which are PEZA-registered entities, the sale of power ( i.e. sale of services) is effectively destined for consumption outside of the taxing jurisdiction of the Philippines. It is settled that an ECOZONE is technically treated as a separate customs territory. In view of the foregoing, this Office hereby confirms your opinion that sales of electricity by TPEC to PEZA for distribution to the ultimate end-users/consumers, the PEZA-registered entities, is subject to zero percent (0%) VAT. SEACTH This ruling is being issued on the basis of the foregoing facts as represented. However, if upon investigation, it shall be ascertained that the facts 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