Net Income Derived from Operation of Vessel Exempt from Income Tax

May 27, 1998 BIR RULING NO. 076-98 R.A. 7471 106 (A) (2) (a) (1) 000-00 076-98 Balmeo Bautista & Penasales Law Offices Unit 312 Cityland III Condominium 105 Herrera cor. Esteban Streets Legaspi Village, Makati City Attention: Atty . Lovell R . Bautista Gentlemen : This refers to your letter dated January 19, 1998 stating that Aboitiz Jebsens Bulk Transport Corporation (Aboitiz Jebsens) is a domestic corporation with office address at 2F Harbour Center II Building corner Chicago and Railroad Streets, Port Area, South Harbour, Manila; that Aboitiz Jebsens purchased a vessel from abroad for overseas shipping and has been generating foreign exchange which are all being inwardly remitted to the Philippines; that because the said transactions are zero-rated, Aboitiz Jebsens is registered as a "zero rated" VAT taxpayer; that the said vessel is now known as "MV Ramon Aboitiz" and is registered with the MARINA under the provision of R. A. No. 7471 otherwise known as the "Philippine Overseas Shipping Development Act"; that one of the incentives granted by the said act is exemption from income tax; that Section 4.05 of the Rules and Regulations to implement the provisions of the said law, as published in Revenue Memorandum Circular No. 17-93, provides that: prLL "Sec. 4.05 Exemption from Income Tax . A Philippine Shipping Enterprise shall be exempt from payment of income tax on income derived directly from Philippine Overseas Shipping up to 5 May 2002, Provided, that: a) The entire net income, after deducting not more than ten per cent (10%) thereof for distribution of profits or declaration of dividends, which would otherwise be taxable under the provision of Title II of the National Internal Revenue Code, is actually reinvested in accordance with these Regulations not later than 5 May 2005 for: (i) the construction, purchase or acquisition of Vessel and related equipment; and/or (ii) the improvement or modernization of its vessels and related equipment. b) The cumulative amount so reinvested shall not be distributed as profits or dividends until after 5 May 2012 or until the vessel or related equipment so acquired have been fully paid, whichever date comes earlier. c) Any amount not so reinvested, or withdrawn prior to the expiration of the period stipulated in paragraphs (a) and (b) hereof, respectively, shall be subject to the payment of the corresponding income tax due thereon, including penalties, surcharges and interests, as provided for in the National Internal Revenue Code. d) The income derived from Philippine Overseas Shipping entitled to exemption from the payment of income tax hereunder is limited to income from the transport of goods and/or passengers overseas. It does not include income not directly related to transport of goods and passengers overseas. e) A Philippine Shipping Enterprise availing itself of this incentive shall submit to the BIR reports and other documents that shall be prescribed in revenue regulations that shall be issued for this purpose." that as provided for in the aforementioned paragraph (a) of Section 4.05, it is a requirement for exemption that the entire net income is actually reinvested not later than 5 May 2005; that in 1995 and 1996, the company realized net income but no actual reinvestment was made for these years; that however, in 1997, it incurred dry docking cost for major repairs and improvements in the amount of P9,980,069.80 which is almost equivalent to the cumulative income for the preceding two (2) years; that also, in 1997 the company's board of directors passed a resolution setting aside any remaining net income to service the foreign exchange requirements to pay the loans related to the acquisition of the vessel; that this year 1998, the board of directors and the management decided to sell the said vessel (which has been situated abroad and has been engaged in overseas voyage) to a foreign buyer, not engaged in trade or business in the Philippines, payable in foreign currency which will be inwardly remitted to the Philippines. Based on the foregoing representations, you now request for a ruling on the following issues: "(1) the net income derived from the operation of the vessel is exempt from income tax because the cost of dry docking for major repairs and improvement and the setting aside of any net income to service the loans as aforementioned would be considered actual reinvestments for purposes of the above mentioned paragraph (a)(i) and (ii) of Section 4.05; and "(2) the sale of the vessel is not subject to the value added tax." In reply, please be informed when the vessel, "MV Ramon Aboitiz" was placed in a dry dock, it underwent a major repair. Dry docking greatly promotes the efficiency of the vessel and more importantly, helps in the lengthening of the economic life of the vessel. Gleaned from the documents and invoices presented, the scope of the repair includes, among others: the repair of various machinery and equipment including navigation and communication equipment; hull cleaning, blasting and painting; painting of flatbottoms and vertical sides; rehabilitation and renewal of the bridges control system; and other major repairs. Such being the case, it is our opinion that the cost of dry docking may be considered actual reinvestment for the improvement of the vessel for purposes of paragraph (a)(ii) of Sec. 4.05 of the Rules and Regulations to implement R. A. No. 7471. Moreover, the setting aside of any net income to service the loans related to the acquisition of the vessel is considered actual reinvestment for it meets the requirement stated therein. Accordingly, we hereby confirm your position that the net income derived from the operation of the vessel is exempt from income tax because the actual reinvestments required by R. A. No. 7471 may also include expenditure for the cost of dry docking for the major repairs and improvement of the vessel for purposes of paragraph (a)(ii) of said Section 4.05 and the setting aside of any net income to service the loans related to the acquisition of the vessel. Furthermore, we confirm your opinion that the sale of the vessel is not subject to the value added tax because said sale is a business transaction entered into, pursued, executed and consummated outside the Philippine taxing jurisdiction involving a property situated and doing business outside the Philippine territorial jurisdiction. Accordingly, such sale can be treated as an export sale under Section 106(A)(2)(a)(1) of the Tax Code of 1997. 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. LibLex Very truly yours, (SGD.) LIWAYWAY VINZONS-CHATO Commissioner of Internal Revenue