Tax Consequence of Transfer of Property of a Corporation

November 27, 1990 BIR RULING NO. 221-90 34 (c) (2) (c) 85-90 221-90 Gentlemen : This refers to your letter dated May 10, 1990 stating that San Miguel Corporation (SMC), Packaging Products Corporation (Packpro) and SM Foundation, Inc. (SMFI) will organize a new corporation to be called the Real Estate Company (REC); that for this purpose, SMC will transfer to REC: (a) certain real estate assets in various locations; and (b) its shares of stock in KSA Realty Corporation a joint venture Company; that Packpro will transfer its assets located at Sucat, Paraaque; that SMFI will contribute its real estate assets in Mandaue, Cebu; that the transfer of assets by SMC, Packpro and SMFI will solely be in exchange for shares of stock in REC; and that as a result of the exchange, SMC, Packpro and SMFI will own 100% of the outstanding shares of REC; that the transferors intend to transfer the real properties either at book or at market value; that if at book value, REC will issue to the transferors shares of stock at par equivalent to the book value of the real properties; that alternatively, the transferors may transfer the real properties at appraised value; that the real properties will be appraised and REC will issue shares of stock to the transferors with par value equivalent to the appraised value of the real properties; that after the asset for shares exchange, REC intends to embark on an extensive development of these real properties which will call for a broadening of ownership base; that REC will go public by way of listing at the local stock exchange; and that after such listing, SMC, Packpro and SMFI may sell some of their shares of stock in REC through the stock exchange. aisadc In connection therewith, you now request confirmation of your opinion as follows: "1. No gain or loss will be recognized by SMC, Packpro and SMFI on the transfer of their assets to REC solely in exchange for shares of stock of REC. Such transfer of assets in exchange for the latter's shares can be effected on a tax free (deferment) basis pursuant to Section 34 (c)(2) of the Tax Code. The conditions provided therein are met because as a result of the transfer of the assets, SMC together with Packpro and SMFI will gain control of REC (at least 51% of the total voting shares of REC); "2. The basis of the REC shares of stock in the hands of SMC, Packpro and SMFI shall be the same as the latter's basis in the assets transferred to REC; "3. The basis of the assets transferred to REC in REC's hands shall be the same as it would be in the hands of SMC, Packpro and SMFI; "4. The transfer by SMC, Packpro, SMFI of the real properties in exchange for REC shares will not be considered as a transfer of property for insufficient consideration subject to gift tax since there is no intention to donate on the part of any of the parties and the transaction is effected purely for business reasons; "5. The assets may be transferred by SMC, Packpro and SMFI to REC either at cost or at market value without affecting the tax-free character of the transfer; "6. Documentary stamp tax (DST) to be paid on the transfer of real properties by SMC, Packpro and SMFI will be based on the par value of the shares of REC to be received by them in exchange for the said real properties; "7. In the event of sale by SMC, Packpro and SMFI of its shares of stock in REC effected through the local stock exchange, the sale will be subject to the stock transaction tax of of 1%." In reply thereto, please be informed that pursuant to Section 34 (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 alone 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 51% of the total voting power of all classes of stocks entitled to vote. Control is determined by the amount of stocks received, i.e., subscribed, 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, your opinion that no gain or loss shall be recognized both to the transferor corporations and the transferee corporation on the proposed transfer by SMC, Packpro and SMFI of their properties in exchange for shares of stock of the transferee corporation, REC, considering that as a result of said proposed exchange SMC, Packpro and SMFI will gain control of REC, the transferee corporation, is hereby confirmed. It should be noted, however, that Section 34 (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 parcels of land or of the stocks involved in the exchange, the original or historical cost of the properties or the stocks is considered. Thus, if the transferors will later sell or exchange the shares of stock acquired by them in the exchange, the same shall be subject to income tax on 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 transferors of the property exchanged therefor; and that the cost basis to the transferee of the property exchanged for stocks shall be the same as it would be in the hands of the transferors [Section 34 (c)(5)(a) and (b), Tax Code, as amended by Presidential Decree No. 1773]. In connection therewith, 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 34 (c)(2)(c) of the Tax Code, as amended, they should comply with the requirements hereunder mentioned: (a) The transferors corporations must file with their 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 properties transferred, or of their interest in such properties, 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 preferences 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 properties received from the transferors; 2. A statement of the original acquisition cost or other basis of the properties in the hands of the transferors 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 immediately after the exchange, with a complete description of each class of stock; b) The classes of stocks and number of shares issued to the transferors in the exchange; and c) The fair market value as of the date of the exchange of the capital stock issued to the transferors. 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. The parties shall also cause to be annotated on the Transfer Certificates of Titles and at the back of the Certificate of Stocks, the date the deed of exchange was executed and the fact that no gain or loss was recognized as a result of such exchange. Moreover, pursuant to Section 196 of the Tax Code, as amended, a conveyance or deed whereby land is assigned or transferred to the purchaser is subject to documentary stamp tax based on the consideration or value received or contracted to be paid for such realty. A stock in a corporation is a valuable consideration for transfer of real property. (Section 177, Documentary Stamp Tax Regulations). Accordingly, if parcels of land are exchanged with stocks in a corporation, as contemplated in this case, the latter is the consideration, the value of which shall be the basis of the documentary stamp tax on the deed to be executed to effect the aforesaid proposed transfer. (BIR Ruling No. 245-00-000-00-109-82 dated April 6, 1982). Furthermore, your opinion to the effect, viz: (1) That the transfer by SMC, Packpro and SMFI of their real properties in exchange for REC shares will not be considered as a transfer of property for insufficient consideration subject to gift tax since there is no intention to donate on the part of any of the parties and the transaction is effected purely for business reasons; (2) That the assets may be transferred by SMC, Packpro and SMFI to REC either at cost or at market value without affecting the tax-free character of the transfer because as heretofore, stated for purposes of determining the gain or loss from a subsequent disposition, sale or exchange of the parcels of land or of the stocks acquired as a result of the exchange, the original or historical cost of the properties or the stocks shall be considered; and (3) That in the event of sale by SMC, Packpro and SMFI of their shares of stock in REC which are listed in and effected through the local stock exchange, said sale shall be subject to a tax of of 1% on the gross selling price of the shares under Section 24 (e)(2)(B) of the Tax Code, are hereby confirmed. Finally, the certificates of stocks to be issued by REC, are in all probability, original issues which are subject to the documentary stamp tax imposed by Section 175 of the Tax Code, as amended. 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, and/or any of the requirements imposed in this letter are not complied with, then this ruling shall be considered null and void. Very truly yours, (SGD.) JOSE U. ONG Commissioner