Tax Consequence of a Transfer of Stockholdings

July 13, 1988 BIR RULING NO. 319-88 34 (c) (2) (c) 259-88 319-88 Gentlemen : This refers to your letter dated April 29, 1988 requesting a ruling on the tax consequence of the plan of your client, Mrs. Maria Araneta-Fores, to transfer her stockholdings in the Progressive Development Corporation (PDC),consisting of 21,396,299 shares, with par value of P1.00 per share or totalling P21,396,299.00 to Arafor Trading and Development Corporation (Arafor),solely in exchange for its shares of stock. It is represented that Arafor was duly incorporated under Philippine Laws, on December 6, 1985 and has an authorized capital stock of P2,000,000.00 divided into 20,000 shares with a par value of P100.00 per share of which P500,000.00 has been subscribed and P125,000.00 paid in, viz: Name Amount of Number of Amount Subscription Shares Paid in Maria Araneta-Fores P349,900.00 3,499 P87,475.00 Raul G. Fores 25,000.00 250 6,250.00 Ma. Victoria A. Fores 25,000.00 250 6,250.00 Jose Amado A. Fores 25,000.00 250 6,250.00 Ma. Margarita A. Fores 25,000.00 250 6,250.00 Jorge A. Fores 25,000.00 250 6,250.00 Gerardo A. Fores, Jr. 25,000.00 250 6,250.00 Mario C.V. Jalandoni 100.00 1 25.00 P500,000.00 5,000 P125,000.00 ========== ===== ========== that Mrs. Fores intends to transfer her 21,396,299 shares of PDC with an aggregate par value of P21,396,299 solely in exchange for 213,963 shares of Arafor with a par value of P100 per share; that Arafor is in the process of increasing its capital stock from P2M to P24M to make possible the said issuance of shares; that the business purpose for the contemplated transfer is the desire of Mrs. Fores to encourage her children to participate and get involved in her business affairs and management of her assets, and she believes that this can be more effectively accomplished by consolidating them in one corporation and operating as such rather than as a single proprietorship; that it has been the experience of many that consolidating one's assets in a single entity facilitates the allocation and distribution, on a fair and equitable basis, of the just share of each and every child or grandchild, either on an inter vivos or mortis causa basis; and that under the proposed transfer, Mrs. Maria Araneta-Fores alone, or together with others not exceeding 4 persons, will own more than 51% of the voting stock of Arafor. In reply thereto, I have the honor to inform you that pursuant to section 34, paragraph (c)(2)(c) of the Tax Code as amended by Republic Act No. 4522 and P.D. Nos. 1705 and 1773, no gain or loss shall be recognized if property is transferred to a corporation, by a person in exchange of stock in such 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 possesses at least fifty-one percent (51%) of the total voting power of all classes of stocks entitled to vote. Control is determined by the amount of stock received, i.e., subscribed and paid-up, 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, no gain or loss shall be recognized both to the transferor and the transferee corporation on the proposed transfer by Mrs. Maria Araneta-Fores of her shares of stock in PDC in exchange for the shares of stock of Arafor considering that as a result of the said exchange, the transferor will gain control of the transferee corporation. cdtech It should be emphasized, 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 properties or of the stocks involved in the exchange, the original or historical cost of the properties or the stocks is considered. Thus, if the transferor later sell or exchange the shares of stock acquired by her in exchange, she shall be subject to income tax on the 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 transferor of the properties exchanged therefor; and that the cost basis to the transferee of the properties exchanged for stocks shall be the same as it would be in the hands of the transferor [Section 34(c)(5)(a) and (b), Tax Code as amended by Presidential Decree No. 1773]. In this connection, you are further advised that in order that the parties to the proposed 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 transferor must file with her 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 preference 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 transferor; (2) A statement of the original acquisition cost or other basis of the properties in the hands of the transferor 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 prior to and immediately after the exchange, with a complete description of each class of stock; b) The classes of stock and number of shares issued to the transferor in the exchange; and (c) The fair market value as of the date of exchange of the capital stock issued to the transferor. 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 certificates of stocks issued by Arafor Trading and Development Corporation are, in all probability, original issues, which are subject to the documentary stamp tax imposed by Section 188 of the Tax Code, as amended. Moreover, under Section 248(d) in relation to Section 173 of the Tax Code as amended by Executive Order No. 273, in case of failure to affix the proper documentary stamp to a document or instrument, there shall, for every violation, be imposed, in addition to the amount of documentary stamp tax required to be paid an amount equivalent to twenty-five percent of such unpaid amount which shall be in lieu of the interest prescribed in section 249 of the same Code. cdt Very truly yours, (SGD.) BIENVENIDO A. TAN, JR. Commissioner