BIR Ruling No. 047-12

February 9, 2012 BIR RULING NO. 047-12 Sections 32 (B) (6) (b) & 34 (A) (1) (a) (i) 1997 Tax Code, as amended; BIR Ruling No. 199-2011 Li & Fung (Philippines),Inc. Valderrama Building, 107 Esteban St. Legazpi Village, Makati City Attention: Eliseo C. Miranda Vice-President Gentlemen : This refers to your letter dated August 1, 2011, requesting on behalf of Li & Fung (Philippines),Inc. (the "Company") for legal opinion as to the tax treatment of the separation benefits paid by Li & Fung (Philippines),Inc. to its employee. It is represented that the Company's operations in the Philippines relative to some of its products have lost competitiveness and required the Company to cease the operations of one of its hard goods divisions; and that as a consequence thereof, one of its employees, Mr. Jaime M. Biacora, who was working as a Senior QA Inspector in the Company's closed division, has been separated from employment with corresponding separation benefits. AcHEaS In reply, please be informed that pursuant to Section 32 (B) (6) (b) of the Tax Code of 1997, any amount received by an official or employee or by his heirs from the employer as a consequence of separation of such official or employee from the service of the employer because of death, sickness or other physical disability or for any cause beyond the control of said official or employee is exempt from taxes regardless of age or length of service. The phrase "for any cause beyond the control of said official or employee" connotes involuntariness on the part of the official or employee. The separation from the service of the official or employee must not be asked for nor initiated by him. The above-mentioned provision requires the presence of two (2) conditions in order that the benefits may be granted tax exemption, namely: (1) the employee is separated from the service of the employer due to death, sickness or other physical disability or for any cause beyond the control of the said official or employee; and (2) the employer pays benefits to the official or employee or his heirs as a consequence of such separation. As noted, Mr. Biacora's separation from employment was due to the cessation of the operations of his division, a cause which is not of his own volition. Accordingly, where the employee is separated involuntarily from the service due to a cause beyond his control, the separation benefits received by him as a result thereof are exempt from income tax and consequently from the withholding tax prescribed by Section 79 of the Tax Code of 1997 and as implemented by Revenue Regulations No. 2-98, as amended. ( BIR Ruling No. 199-2011 dated June 29, 2011) Accordingly, no withholding taxes shall be deducted from the separation benefits and the entire amount thereof shall be given to the separated employee. Moreover, pursuant to Section 2.78.1 (A) (7) of RR 2-98, as amended, the terminal pay, i.e. ,commutation and payment of monetized unused vacation leave credits not exceeding ten (10) days during the year are not subject to income tax and consequently to the withholding tax. Conversely, the cash equivalent of vacation leave exceeding ten (10) days is subject to tax. However, this same principle cannot apply to SICK leave credits since an employee must actually go on sick leave to be able to avail of said leave credits. It is, however, understood that this exemption does not include the payment to Mr. Biacora of his salaries and the payment of the 13th month pay and other benefits in excess of the Php30,000 threshold under Section 2.78.1 (A) (3) (a) and (A) (7) of RR 2-98, as amended. ( BIR Ruling No. 199-2011 dated June 29, 2011) Finally, the expenses incurred by the Company in providing the said benefits are deductible from its gross income for being an ordinary and necessary trade or business expense pursuant to Section 34 (A) (1) (a) (i) of the Tax Code of 1997. SHIcDT 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.) KIM S. JACINTO-HENARES Commissioner of Internal Revenue