Proper Computation of Net Capital Gain

September 14, 1995 BIR RULING NO. 143-95 34 (a) 000-00 143-95 Y Realty Corporation Yuchengco Building 484 Q. Paredes Street Manila Attention: Mr . Alfonso S . Yuchengco III President Gentlemen : This refers to your letter dated July 10, 1995 stating that Y Realty Corporation, a corporation duly organized and existing under and by virtue of the laws of the Philippines, owns 78,720 shares of the Philippines Telecommunication Investment Corporation (PTIC), likewise a corporation duly organized and existing under the laws of the Philippines, with a par value of P100.00 per share or a total of P7,872,000.00; that Y Realty Corporation intends to transfer to PTIC all its PTIC shares in exchange for approximately 991,773 Philippine Long Distance Telephone Company (PLDT) shares held by PTIC; that the book value of the PTIC shares as of December 31, 1994 based on "cost method" accounting is P1,070.55 per share or a total of P20,040,721.00. In connection therewith, you are requesting confirmation of your opinion that the net capital gain that will be derived from the aforesaid transaction shall be computed as follows: "1. The selling/transfer price shall be the fair market value (FMV) of the PTIC shares to be transferred and not the FMV of the PLDT shares received in exchange; LLphil "2. Since the PTIC share are not listed in the stock exchange, the FMV of these shares shall be based on their book value nearest the valuation date; "3. The accumulated and current equity in the investee's net earnings are not considered as income and should not therefore be included in the determination of the book value of the PTIC shares for purposes of the capital gains tax on the transfer of said shares." In reply thereto, please be informed that Section 34 (a) the Tax Code, as amended provides, viz: "SEC. 34. Determination of Amount of and Recognition of Gain or Loss . "(a) Computation of gain or loss . The gain from the sale or other disposition of property shall be the excess of the amount realized therefrom over the basis or adjusted basis for determining gain and the loss shall be the excess of the basis or adjusted basis for determining loss over the amount realized. The amount realized from the sale or other disposition of property shall be the sum of money received plus the fair market value of the property (other than money) received." (As amended by E.O. No. 37) The amendatory provisions of Section 34 (a) of the Tax Code was introduced by Executive Order No. 37 effective "beginning with the calendar year 1986, except that in the case of corporations filing their income tax returns on a fiscal year basis, the same shall take effect on fiscal years beginning on or after July 1, 1986" (Sec. 28, E.O. No. 37) The taxable profit on a sale or an exchange is the excess of the net cash, or fair market value of other property received for the property sold or exchanged over the cost or other basis of the property sold or exchanged, adjusting that basis by adding to it any capital expenditures of the seller while he held the property and deducting any depreciation or depletion and other capital recoveries (par. 1701, page 424, 1989 U.S. Master Tax Guide). Accordingly, for transactions effected or made on or after said effectivity date, the amendatory provision of Section 34 (a) shall apply, in which case, the amount of income derived or loss sustained from an exchange of property is the difference between the fair market value at the time of the exchange of the property received in exchange and the original cost or other basis, of the property exchanged. (Sec. 141, Revenue Regulations No. 2) The effectivity of an interpretation should date back to the passage of the law and not only upon the issuance of a definitive ruling or implementing regulations. the interpretation of a statute constitute part of the law as of the date it was originally passed, i.e., 1986 in this case, since the construction merely establishes the contemporaneous legislative intent that the interpreted law carried into effect. (Commissioner of Internal Revenue vs. Republic Cement Corporation, et.al. Nos. L-35668-72 and L-356683, May 7, 1987 and Commissioner of Internal Revenue vs. Cepoc Industries, Inc. & CTA, No. L-35677, May 7, 1987, 149 SCRA 487) Revenue Regulations No. 2-82 insofar as it provides, inter alia, that the selling price of the shares of stock shall be the fair market value of the shares of stock transferred or exchanged and not the fair market value of the property received in exchange; and that if the total consideration of the sale or disposition consists partly in cash or money and partly in kind, the selling price shall be the fair market value of the shares disposed is inconsistent with the aforequoted provision of Section 34 (a) of the Tax Code, as amended. (Sec. 6 (a) Id.) In this connection, under Section 27 of E.O. No. 37 all laws, orders, issuances, rules and regulations, e.g., Revenue Regulations No. 2-82 or any part thereof inconsistent with said Executive Order are hereby repealed or modified accordingly. Such being the case, the net capital gains that will be realized by Y Realty Corporation from the aforesaid transaction shall be computed by considering that the selling/transfer price thereof shall be the fair market value of the shares of stock received in exchange which are the PLDT shares of stock and not received in exchanged which are the PLDT shares of stock and not the fair market value of the PTIC shares of stock transferred or exchanged; and that the difference between the fair market value of the PLDT shares of stock and the acquisition cost or adjusted cost of the PTIC shares represents the gain realized by Y Realty Corporation which is subject to the 10% 20% capital gains tax under Section 24 (e) (2) of the Tax Code, as amended. Your request for confirmation of your opinion Nos. 2 and 3 is no longer necessary in view of the denial of the confirmation of your opinion No. 1. Very truly yours, LIWAYWAY VINZONS-CHATO Commissioner of Internal Revenue