Tax Liability of Fidelity Meredian

January 14, 1987 BIR RULING NO. 009-87 37 (a) (5) 000-00 009-87 Gentlemen : This refers to your letters dated December 4 and 8, 1986 requesting information on a query stated as follows: "a. Fidelity Meredian, a non-resident foreign corporation owned unit of the 4th Floor of the Universalre Building in Makati and is selling the property to another non-resident company and a domestic company on a joint venture of 50/50 basis. The sale will be negotiated and consummated in HongKong where Fidelity Meredian is based. C. Illies and Co. (Phils.) Inc. is renting the property and withholding 35% tax before it remits proceeds to Fidelity Meredian. Fidelity Meredian is registered with the BOI, SEC and CB. The query is that will Fidelity Meredian be subject to capital gains tax even though the sale is consummated abroad? "b. Is the buyer, the non-resident foreign corporation and domestic company subject to any taxation? "c. The buyer will invest their holding to the capitalization of C. ILLIES AND CO. (Phils.) Inc., a domestic corporation. Will they still be subject to taxation?" In this connection, you explained that the buyers, Illies Engineering Co., HongKong Ltd., a non-resident foreign corporation and C.F. Sharp & Company, Inc., a domestic corporation will buy the property in the amount of P2 million on a 50/50 basis that will be equivalent to 100,000 shares each at P10.00 per share as an investment in the second increased capitalization of P3,000,000 (the first increased capitalization was P1,000,000) of C. Illies & Co., Phils., Inc. Documentary evidence submitted show that in the first authorized increased capital stock of P1,000,000 of C. Illie & Co. (Phil.), Inc., C.F. Sharp & Company, Inc. was one of its controlling stockholders with a paid-up subscription of 14, 996 shares (P10/share) worth P149,960.00, and that of the second increased capitalization of P3,000,000 of C. Illies & Co. (Phil.) Inc., the buyers, Illies Engineering Co., HongKong Ltd. and C.F. Sharp & Company, Inc. had a paid-up subscription of 100,000 shares worth P1,000,000 (P10/share) each. adc In reply, please be informed as follows: 1. Fidelity Meredian is subject to income tax on the gains to be derived by it from said sale even if the same is consummated abroad since the transaction involves a sale of real property located in the Philippines. Under Section 37 (a)(5) of the Tax Code, gains, profits and income from the sale of real property located in the Philippines are considered income from sources within the Philippines. 2. The Fidelity Meredian is subject to income tax at the rate of 35% pursuant to Section 25(b)(1) of the Tax Code, as amended by Executive Order No. 37. Accordingly, the buyers of its property as payors shall withhold the 35% tax on the gains derived by the seller before remitting the proceeds of the sale to the latter, in accordance with Section 51(a) in relation to Section 52 of the Tax Code. 3. If the buyers Illies Engineering Co., HongKong, Ltd. and C. F. Sharp & Company, Inc. will transfer to C. Illies and Co. (Phil.), Inc. their property which they acquired by purchase from Fidelity Meredian for a consideration of H.K. $430,000 and negotiated in HongKong consisting of unit of the 4th Floor of the Universalre Building in Makati in payment of their subscription in the C. Illies & Co. (Phil.), Inc. increased authorized capital stock of P3,000,000 there owning 100,000 shares or P1,000,000 worth of C. Illies & Co. (Phil.), Inc. shares in addition to its 14,996 shares worth P149,960.00 in the case of C. F. Sharp & Company, Inc., and 100,000 shares or P1,000,000 worth of shares in the case of Illies Engineering Co., HongKong, Ltd. or more than 51% of the total voting power of all classes of stocks entitled to vote, no gain or loss shall be recognized both to the transferors Illies Engineering Co., HongKong, Ltd. and C. F. Sharp & Company, Inc., and the transferee corporation, C. Illies & Co. (Phil.), Inc. pursuant to Section 35(c)(2)(c) of the Tax Code as amended, considering that as a result of the said exchange, the transferor Illies Engineering Co., HongKong, Ltd. gained control while transferor C. F. Sharp & Company, Inc. gained further control of the transferee corporation. The term "control" shall mean ownership of stocks in a corporation possessing at least fifty-one percent (51%) of the total voting power of all classes of stock received, i.e., subscribed and paid-up, whether for property or for services, by the transferor or transferors. In determining the 51% stock ownership only those persons who transferred property for stock in the same transaction may be counted up to a maximum of five. It should be emphasized, however, that Section 35(c)(2)(c) of the Tax Code merely defers recognition of gain or loss from such transaction, for in determining the gain or loss from a subsequent transaction of the properties or of the stocks involved in the exchange, the original or historical cost of the properties or the stocks is considered. Thus, if the transferor later sells or exchanges the shares of stock acquired by it in the exchange, it shall be subject to income tax on the gains derived from such sale or exchange, taking into consideration that the cost basis of the shares of stock shall be the same as the original acquisition cost or adjusted cost basis to the transferor of the properties exchanged therefor; and that cost basis to the transferee of the properties exchanged for stocks shall be the same as it would be in the hands of the transferor. (Section 35(c)(5)(a) and (b), Tax Code as amended by Presidential Decree No. 1773). Very truly yours, (SGD.) BIENVENIDO A. TAN, JR. Commissioner