Tax Implications on Assignment by Eglen Development Corp. of Its Real Property Instead of Its Own Shares of Stock

November 9, 1998 BIR RULING NO. 156-98 000-00-156-98 Atty. Mildred Aguilar-Pfleider 112 Herrera Street, Legaspi Village Makati City M a d a m : This refers to your letter dated August 27, 1998 stating that Eglen Development Corporation is a domestic corporation duly registered with the Securities and Exchange Commission (SEC); that it has an authorized capital stock of P10,000,000.00 divided into 10,000,000 shares with a par value of P1.00 per share; that Emiliano Lizares Jr. was the registered owner of 2,300,000 shares of stock of the said corporation; that on April 19, 1995, Emiliano Lizares, Jr. died in Talisay, Negros Occidental leaving the following real and personal properties, more particularly described as follows: A. Real Properties: TCT No. Tax Declaration Area Fair Market Value Classification/ No. Location T-169048 024 24.1640 has. P3,503,280.00 Sugarland-Virgen del Pilar, Talisay. Negros Occidental T-1636 013-1015 400.7775 has. 26,414,320.00 Sugarland Emiliano, Silay City T-180150 002-01092 555 sq. m. 5,550,000.00 Residential Lot- Mercedes St., Bel Air Village, Makati City T-180150 002-01093 1,843,200.00 Residential Home- Mercedes St., Bel Air Village, Makati City A. Personal Properties: Cash P467,267.57 Shares of Stock in Eglen 2,300,000.00 Motor Vehicle 300,000.00 that the properties of the late Emiliano Lizares, Jr. including the aforesaid 2,300,000 shares of stock in Eglen Development Corporation have been the subject of testate estate proceedings before the Regional Trial Court of Makati City docketed as Special Proceeding No. M-4182; that the estate tax on the transfer of the properties of the deceased including his corporate shares in Eglen Development Corporation, in the amount of P1,600,180.75 has been fully paid as evidenced by BIR Certification dated February 7, 1996 under ATAP Nos. 2900275 and 2900276 dated December 29, 1995; that in an Order dated April 17, 1998 entitled "Petition to Approve the Will of Emiliano Lizares, Jr." docketed as Special Proceeding No. M-4182 issued by the Honorable Judge Manuel D. Victorio of the RTC, National Capital Judicial Region, Branch CXLI, Makati City, it was ruled as follows: "Finding the Project of Partial Distribution submitted by the Administratrix to be in accordance with the Holographic Will, the same is hereby approved. Thus, cd "1. To Eva L. Ledesma Personal Properties Shares of Stock 2,300,000 (in Eglen Development Corporation) Real Properties House and Lot with its improvements known as Lot 19, Block 12 containing an area of 555 square meters covered by Transfer Certificate of Title No. T-180150 and located at 46 Mercedes Street, Bel-Air Village, Makati City. aisadc Two-Thirds (2/3) undivided portion in a sugar farm with improvements located in Silay City consisting of 400.7775 hectares known as Lot 950, covered by Transfer Certificate of Title No. T-1636 and more commonly referred to as Hda. Emiliano/Pula. "2. To Leticia L. Del Rosario Personal Properties Motor Vehicle (Honda Civic White, 2-Dr. HB 4 Cyl. 1200 cc 1993 Model) Real Properties Residential land known as Lot 15, Block 9 containing an area of 1000 square meters covered by Transfer Certificate of Title T-108885 and located at Ayala Alabang Village, Muntinlupa, Metro Manila. One-third (1/3) undivided portion in a Sugar Farm with improvements located in Silay City consisting of 400.7775 hectares known as Lot 950, covered by Transfer Certificate of Title No. T-1636 and more commonly referred to as Hda. Emiliano/Pula. xxx xxx xxx "Acting on the accounting of administration as contained in the audited financial statements for the years 1995, 1996 and 1997, and finding the same to be in order, the Court resolves to approve the same. "So Ordered. "City of Makati, 17 April 1998." that Ms. Eva L. Ledesma had been instituted by the late Emiliano Lizares Jr. in his will as the principal heir entitled to one-half of his entire estate with a corresponding power of appointment to designate the recipient of the other half thereof; that in compliance with the Will, Ms. Eva L. Ledesma had designated her sister, Ms. Leticia L. Del Rosario, to share with her the whole estate of the late Emiliano Lizares, Jr. on a 2/3 and 1/3 proportion, including the shareholdings in Eglen Development Corporation; that Ms. Leticia L. Del Rosario opted to waive and swap her 1/3 share in the shareholdings of the late Emiliano Lizares Jr., and in lieu thereof, had chosen to have the property of Eglen Development Corporation more particularly described as follows: Lot 15, Block 9 located in Barrio Alabang, Muntinlupa, containing an area of 1,000 sq. m. and covered by TCT No. S-108885 issued by the Registry of Deeds for Muntinlupa; and that on April 4, 1998, a Deed of Assignment was executed by and between Eglen Development Corporation, represented herein by Ms. Eva L. Ledesma and Ms. Leticia Del Rosario whereby it; was agreed that in lieu of a proportionate share in the capital stock of Eglen Development Corporation, the above-mentioned real property together with the improvements thereon, shall be assigned to Ms. Leticia L. Del Rosario which was unanimously approved by the Board of Directors in a Special Meeting held on April 4, 1998. Based on the foregoing representations, you now request for a ruling as to the tax implication on the transfer by way of assignment by Eglen Development Corporation of its real property to Ms. Leticia L. del Rosario, instead of its own shares of stock. cdt In reply, please be informed that Section 777 of the Civil Code of the Philippine, provides: "ART. 777. The rights to the succession are transmitted from the moment of the death of the decedent." In the instant case, upon the death of Emiliano Lizares Jr., a stockholder of Eglen Development Corporation, his properties including his 2,300,000 shareholdings are transmitted through his death to his instituted heirs, Ms. Eva L. Ledesma and Leticia L. del Rosario by virtue of a holographic will, which had been approved by the probate court in an Order dated April 17, 1998, to which the estate tax on the transmission of the said estate to the heirs, in the amount of P1,600,180.75 had been fully paid. From that time on, ownership over the said properties were transferred in favor of Ms. Eva L. Ledesma and Ms. Leticia L. del Rosario, on a 2/3 and 1/3 proportion, respectively. Accordingly, the subsequent transfer by way of assignment by Ms. Leticia L. del Rosario of her 1/3 shareholdings in said corporation in exchange for the real property of Eglen Development Corporation, which had been approved by the Board of Directors of the said corporation in a Special Meeting held on April 4, 1998, gives rise to a taxable transaction under Section 40(A) of the Tax Code of 1997, which reads: "SEC. 40. Determination of Amount 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;" The amendatory provisions of then Section 34(a) of the Tax Code, as amended [now Section 40(A) of the Tax Code of 1997] 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, 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) Thus, the net capital gains to be realized by Ms. Leticia L. del Rosario from the transfer of her 1/3 shares in Eglen Development Corporation in exchange for the latter's real property shall be computed by considering the selling/transfer price thereof; i.e., the fair market value of the shares of stock received in the exchange which are the 1/3 shares of Ms. Leticia L. del Rosario in Eglen Development Corporation and not the fair market value of the real property of Eglen Development Corporation transferred or exchanged. Such being the case, the gains realized by Ms. Leticia L. del Rosario on the transfer of her 1/3 shareholdings in Eglen Development Corporation in exchange for the latter's real property is subject to the regular income tax imposed under Section 24 of the Tax Code of 1997, based on the difference between the fair market value of the property received and the value of the 1/3 shares of stock in Eglen Development Corporation, as the time of transfer. 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.) BEETHOVEN L. RUALO Commissioner of Internal Revenue