BIR Ruling No. 081-12

February 15, 2012 BIR RULING NO. 081-12 Sec. 3 of Revenue Regulations (RR) No. 11-2005 dated April 25, 2005; 00-000 Diaz Murillo Dalupan and Company 5th Floor, Don Jacinto Building, Dela Rosa corner Salcedo Streets, Legaspi Village, Makati City 1200 Attention: Atty. Bethuel V. Tanupan Gentlemen : This refers to your letter dated June 6, 2011, requesting for and on behalf of your client, Kor Landa Corporation (KLC) , for confirmation of your opinion that the Research and Development Costs are deductible for purposes of computing the 5% GIT to the extent that they are associated with the production of KLC. HCETDS It is represented that KLC, with Tax Identification Number 004-263-442-000, is duly registered with the Securities and Exchange Commission and that it was issued SEC Registration No. CS095-000327 on June 8, 1995. Its principal place of business is at Mactan Export Processing Zone, Lapu-lapu City, Cebu, Philippines. On June 9, 1995, the Export Processing Zone Authority (EPZA) issued Certificate of Registration No. 95-65 to KLC thus confirming that its status as an Ecozone Export Enterprise. The registered activity of KLC is to engaged in the manufacture and export of fashion jewelry made of natural materials like wood, fiber, shells, semi-precious metals and stones and other indigenous materials. As a manufacturer of fashion jewelries, it is represented that KLC incurs Research and Development Cost in the production process. The Research and Development Cost includes creating the design of the fashion jewelry and production of samples to be used as a basis for the customers to choose from. In reply, please be informed that to implement the tax provisions of Republic Act 7916, Revenue Regulations (RR) No. 11-2005 was promulgated. The said Revenue Regulations defined the term "gross income earned" as follows: "SEC. 3. Gross Income Earned. For purposes of implementing the tax incentive of registered Special Economic Zone (ECOZONE) enterprises in Section 24 of Republic Act No. 7916, the term "gross income earned" shall refer to gross sales or gross revenues derived from business activity within the ECOZONE, net of sales discounts, sales returns and allowances and minus cost of sales or directs costs but before any deduction is made for administrative, marketing, selling and/or operating expenses or incidental losses during a given taxable period." For purposes of computing the total five percent (5%) tax rate imposed, the following direct costs are included in the allowable deductions to arrive at gross income earned for specific types of enterprises: 1. ECOZONE Export Enterprises, Free Trade Enterprises and Domestic Market Enterprises: Direct salaries, wages or labor expenses Production supervision salaries Raw materials used in the manufacture of products Decrease in Goods in Process Account (Intermediate goods) Decrease in Finished Goods Account Supplies and fuels used in production Depreciation of machinery and equipment used in production, and of that portion of the building owned or constructed that is used exclusively in the production of goods Rent and utility charges associated with building, equipment and warehouses used in production Financing charges associated with fixed assets used in production the amount of which were not previously capitalized" aHADTC In interpreting the scope of the foregoing list, one must keep in mind the principle in taxation that deductions, for income purposes, partake of the nature of the tax exemptions; hence, if tax exemptions are to be strictly construed, then it follows that deductions must also be strictly construed. 1 Moreover, the Supreme Court in the case of Commissioner of Internal Revenue vs. Julieta Ariete (G.R. No. 164152, January 21, 2010), citing CIR vs. CA , 338 Phil. 322, 330 (1997), held that the general rule of requiring adherence to the letter in construing statutes applies with particular strictness to tax laws and provisions of a taxing act are not to be extended by implication . (emphasis supplied) The allowable deductions enumerated in Section 3 of Revenue Regulations (RR) 11-2005 are exclusive. To stretch its coverage by implication to include other items of deduction would run contrary to the aforementioned principle in taxation as well as the cited Supreme Court decision. WHEREFORE, in view of the foregoing, this Office hereby holds that the Research and Development Costs are Not Deductible for purposes of computing the 5% GIT. IADCES Very truly yours, (SGD.) KIM S. JACINTO-HENARES C ommissioner of Internal Revenue Footnotes 1. Paragraph (7), page 119, Law of Basic Taxation in the Philippines, Revised Edition, Benjamin B. Aban.