Tax Consequence of the Transferred to a Corporation by a Person in Exchange for Stock

March 18, 1987 BIR RULING NO. 076-87 35-c-2-c 171-81 30-04 076-87 S i r : This refers to your letter dated February 3, 1987 requesting confirmation of your opinion on the following: "(a) that the exchange of substantially all the assets of CARCO solely for 100% of voting shares of PAMCOR, with PAMCOR assuming the liabilities of CARCO is a tax free exchange under Section 35(c) (2)(c) of the Tax Code as amended by Republic Act No. 4522 and Presidential Decree Nos. 1703 and 1773; and "(b) that PAMCOR, the new (transferee) corporation can depreciate the aforedescribed assets (from CARCO) on the basis of its cost which is the aggregate of the par value of the shares it issued to CARCO in exchange." It is represented that on January 30, 1987, the Securities and Exchange Commission approved the Articles of Incorporation and By-Laws of the Philippine Automotive Manufacturing Corporation (PAMCOR), that the total subscribed and paid-up capital stock of PAMCOR was funded by way of "spin-off" or transfer of substantially all the assets of Canlubang Automotive Resources Corporation (CARCO) amounting to P303,511,947.00 and the net assumption by PAMCOR of the liabilities of CARCO amounting to P114,512,447.00 solely in exchange for 1,889,995 shares worth P188,999,500.00 or almost 100% of PAMCOR voting shares of stock; that the five (5) minority stockholders have paid a total of P500.00 in cash on their subscriptions; that part of the assets transferred are "property, plant and equipment" which are stated at sound value as determined by an independent appraiser; and that sound value represents replacement/reproduction cost less accumulated depreciation based on appraisal. In reply thereto, I have the honor to inform you that pursuant to Section 35 paragraph (c)(2)(c) of the Tax Code as amended by Republic Act No. 4522 and Presidential Decree Nos. 1705 and 1773 no gain or loss shall be recognized if property is transferred to a corporation by a person in exchange for stock in such a corporation of which as a result of such exchange said person, along or together with others, not exceeding four persons, gains control of said corporation. The term "control" shall mean ownership of stocks in a corporation possessing at least fifty-one (51%) per cent of the total voting power of all classes of stocks entitled to vote. Control is determined by the amount 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. Accordingly, no gain or loss shall be recognized both to the transferor and the transferee corporation on the transfer by CARCO of its assets and liabilities in exchange for shares of stock of PAMCOR, considering that as a result of the said exchange CARCO will gain control of the transferee corporation. 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 the cost basis to the transferee of the properties exchange for stocks shall be the same as it would be in the hands of the transferor. (Section 35(c)(5)(a) & (b) of the Tax Code as amended). If pursuant to the exchange transaction, and as a part of the consideration, the transferee corporation assumed the liability of the transferor or acquired from the transferor property subject to a liability, such assumed or acquired liability shall not be treated as money and or other property, and shall not prevent the exchange from being tax free. (See Sec. 35(c)(4) (a) of the Tax Code as amended by P.D. No. 1773) If the amount of the liabilities assumed, plus the amount of the liabilities to which the property is subject, exceed the total of the adjusted basis of the property transferred pursuant to such exchange, then such excess shall be considered as a gain from the sale or exchange of a capital asset or of property which is not a capital asset as the case may be (Sec. 35(c)(4)(b) of the Tax Code as amended by P.D. No. 1773). The cost basis or value of the stocks received by the transferor of property subject to a liability, where the liability transferred and assumed by transferee corporation does not exceed the transferor's basis or the original and/or acquisition cost of the property transferred shall be the difference between the liability or liabilities assumed by the transferee corporation and the acquisition or original cost of the property transferred. On the other hand, where the total liabilities to be assumed by the transferee corporation exceed the original or acquisition cost of the property transferred, the excess shall be recognized as gain to the transferor and the value or cost basis of the stocks to the transferor shall be the difference between the original cost of the property transferred subject to a liability (plus the gain recognized to the transferor) and the liability or liabilities assumed by the transferee corporation (Sec. 35(c)(5), supra ) In this connection, you are further advised that in order that the parties to the exchange can avail of the non-recognition of gains provided for in Section 35(c)(2)(c) of the Tax Code, as amended, it should comply with the requirements hereunder mentioned: (a) The transferor must file with its income tax return for the taxable year in which the exchange was consummated a complete statement of all facts pertinent to the exchange, including: (1) A description of the property transferred, or of its interest in such property, together with a statement of the original acquisition cost or other basis thereof and the adjusted cost basis at the time of the transfer; (2) The kind of stock received and preference, if any; (3) The number of shares of each class received; and (4) The fair market value per share of each class at the date of the exchange. (b) On the other hand, the transferee corporation must file with its income tax return for the taxable year in which the exchange was consummated the following: (1) A complete description of all property received from the transferor; (2) A statement of the original acquisition cost or other basis of the property in the hands of the transferor and the adjusted cost basis thereof at the time of the transfer; and (3) Information with respect to the capital stock of the corporation including: (a) The total issued and outstanding capital stock immediately prior to and after the exchange, with a complete description of each class of stock; (b) The classes of stock and number of shares issued to the transferor in the exchange; and (c) The fair market value as of the date of exchange of the capital stock issued to the transferor. In addition to the foregoing requirements, permanent records in substantial form must be kept by the taxpayers participating in the exchange, showing the information listed above in order to facilitate the determination of gain or loss from a subsequent disposition of stocks/properties received in the exchange. Moreover, this Office hereby confirms your opinion that PAMCOR can depreciate the aforementioned assets acquired from CARCO on the basis of the total par value of the shares it issued to CARCO in the exchange. (BIR Ruling No. 30-f-000-00-030-84 dated January 7, 1984). Very truly yours, (SGD.) BIENVENIDO A. TAN, JR. Commissioner