BIR Ruling No. 369-11

October 5, 2011 BIR RULING NO. 369-11 Section 27 (C); Section 32 (B) (7) (b) of the Tax Code of 1997; BIR Ruling Nos. 069-84, 055-91 and 383-91; Presidential Decree No. 1931 (1984) and Executive Order No. 93 (1987) The Provincial Government of Camarines Sur Office of the Provincial Governor Provincial Capitol Complex Cadlan Capili, Camarines Sur Attention: Luis Raymund F. Villafuerte Provincial Governor Gentlemen : This refers to the letter of OIC-Regional Director Atty. Diosdado R. Mendoza of Revenue Region No. 10 dated August 20, 2010, requesting for a ruling regarding the taxability of the proprietary functions of the Provincial Government of Camarines Sur, particularly on the operation of the Camarines Sur Watersports Complex (CWC). As represented, the Provincial Government of Camarines Sur is a political subdivision of the Republic of the Philippines and therefore an agent and an instrumentality of the State granted with sovereign functions. The substantial portion of the Provincial Government of Camarines Sur's income comes from the operation of the CWC. In a letter dated December 4, 2007 the Office of the Governor of Camarines Sur, thru the Honorable Governor Luis Raymund F. Villafuerte, submitted a position paper arguing that that the operation of Provincial Government of Camarines Sur of the CWC should be exempt from income taxes imposed by the National Internal Revenue Code (Tax Code) of 1997, as amended, based on the following reasons: 1. Section 2, Article X of the 1987 Philippine Constitution provides that the Local Government Units (LGUs) being political subdivisions "shall enjoy local autonomy" and Section 5 of the same Article which provides that "each LGU shall have the power to create its own sources of revenues and to levy taxes, fees and charges subject to such guidelines and limitations as the Congress may provide, consistent with the basic policy of local autonomy. Such taxes, fees and charges shall accrue exclusively to the local government." ETHCDS 2. Section 18 of Republic Act (R.A.) No. 7160 (The Local Government Code of 1991) which grants the LGUs the authority to "create its own sources of revenues and to levy taxes, fees and charges which shall accrue exclusively for their use and disposition and which shall be retained by them. " 3. Section 22 of R.A. No. 7160 which further directs that the LGUs shall "enjoy full autonomy in the exercise of their proprietary functions and in the management of their economic enterprises" and 4. Section 313 of R.A. No. 7160 which provides that "profits or income derived from the operation of public utilities and other economic enterprises, after deductions for the cost of improvement, repair and other related expenses of the public utility or economic enterprise concerned, shall first be applied for the return of the advances or loans made therefore. Any excess shall form part of the general fund of the local government unit concerned. In reply, please be informed that Section 27 (C) of the Tax Code of 1997, as amended provides, viz.: Sec. 27. Rates of income tax on domestic corporations. "(C) Government-owned or Controlled Corporations, Agencies or Instrumentalities . The provisions of existing special or general laws to the contrary notwithstanding, all corporations, agencies, or instrumentalities owned or controlled by the Government, except the Government Service Insurance System (GSIS), the Social Security System (SSS), the Philippine Health Insurance Corporation (PHIC), the Philippine Charity Sweepstakes Office (PCSO) and the Philippine Amusement and Gaming Corporation (PAGCOR), shall pay such rate of tax upon their taxable income as are imposed by this Section upon corporations or associations engaged in a similar business, industry, or activity." However, Section 32 (B) (7) (b) of the Tax Code of 1997, as amended, provides, viz.: Sec. 32. Gross Income. "(B) Exclusions from gross income. The following items shall not be included in gross income and shall be exempt from taxation under this Title: aCITEH "(7) Miscellaneous Items. (b) Income Derived by the Government or its Political Subdivisions. Income derived from any public utility or from the exercise of essential governmental function accruing to the Government of the Philippines or to any political subdivision thereof. Under Sec. 27 (C) of the Tax code of 1997, as amended, government-owned or -controlled corporations, agencies or instrumentalities of the government are no longer exempt from taxation and shall be liable to pay such rate of tax upon their taxable income as are imposed upon corporations or associations engaged in similar business, industry or activity. On the other hand Section 32 (B) (7) (b) of the Tax code of 1997, as amended, excludes from the gross income and exempts from income tax, including the final tax under Section 27 (D) (1) of the Tax code of 1997, as amended, the income derived from the discharge of any essential governmental functions accruing to the Government of the Philippines or to any of its political subdivisions. It is necessary then to determine whether the Provincial Government of Camarines Sur, in operating the CWC, performs an essential government function. There is no hard and fast rule for purposes of determining the true nature of an undertaking or function of a provincial, city, or a municipal corporation (local government unit). The surrounding circumstances of a particular case are to be considered and would be decisive. "The basic element, however beneficial to the public the undertaking may be, is that it is governmental in essence, otherwise the function becomes private or proprietary in character" (Torio vs. Fontanilla, 85 SCRA 602 (1978)) . It has been established though that an instrumentality of the government which acts for the purpose of accomplishing government policies and objectives and extending essential services to the people performs governmental and not proprietary functions (Peoples' Homesite and Housing Corporation vs. Court of Industrial Relations, 150 SCRA 296, 310. (1987)). In Angat River Irrigation System, et al. vs. Angat River Workers' Union, et al., 102 Phil. 789, 796-797 (1957), the Supreme Court made a distinction between acts in the performance of a government function and those in the performance of a corporate or proprietary function and held: "As ordinarily constituted, municipal corporations (and this may be said of the National Government) have dual character, the one governmental, legislative, or public; the other, proprietary or private. In their public capacity, a responsibility exists in the performance of acts for the public benefit, and in this respect they are merely a part of the machinery of government of the sovereignty creating them, and the authority of the state is supreme. But in their PROPRIETARY or private character their powers are supposed to be conferred not from considerations of state, but for the private advantage of the particular corporation as a distinct legal personality (Bouvier's Law Dictionary, 3rd revision, vol. II, p. 2270). aAEHCI In its governmental or public character, the corporation is made by the state one of its instruments, or the local depository of certain limited and prescribed political powers, to be exercised for the public good in behalf of the state rather than for itself. But in its proprietary or private character, the theory is that the powers were supposed not to be conferred primarily or chiefly from considerations connected with the government of the state at large, but for the private advantage of the compact community which is incorporated as a distinct legal personality or corporate individual; and as to such powers, and to property acquired and contracts made thereunder, the corporation is frequently regarded as having the rights and obligations of a private rather than those of a public corporation (Trenton vs. New Jersey, 262 US 182, 67 L Ed. 937, 29 ALR 1471). The governmental functions of a municipal corporation or a local government unit are those conferred or imposed upon it as a local agency, to be exercised not only in the interest of its inhabitants, but also in the advancement of the public good and welfare as affecting the public generally (37 Am. Jur. 727). The distinction between acts in the performance of a governmental function and those in the performance of a corporate or proprietary function is that in the case of the former, the municipal corporation is executing a legislative mandate with respect to a public duty generally, while in the other, it is exercising its private rights as a corporate body (Loeb vs. Jacksonville, 101 Fla. 429, 69 ALR 459). In the case of the operation of the CWC, the Provincial Government of Camarines Sur engages primarily in an economic activity with a view to obtaining profit. The Provincial Government of Camarines Sur acts in its proprietary or private character since no governmental or public policy of the state is involved. As a corporation, the Provincial Government of Camarines Sur enjoys full autonomy in the exercise of its economic enterprises, subject to the limitations provided in the Local Government Code of 1991 and other applicable laws (Local Government Code, Sec. 22 (d)). When a public corporation or a local government unit acts in its proprietary character, it is regarded as having the rights and obligations of a private corporation. Its income realized from or received in the exercise of its proprietary powers is subject to income tax in the same manner as other private corporations similarly situated. (Sison vs. Ancheta, 130 SCRA 654, 664 (1984)). cSEaTH Therefore the Provincial Government of Camarines Sur City in its operation of the CWC is subject to taxation and shall be liable to pay such rate of tax upon its taxable income as are imposed upon corporations or associations engaged in similar business, industry or activity as provided under Section 27 (C) of the Tax Code of 1997, as amended. In the previous rulings of this Office, it has been established that provincial, city and municipal governments are liable for income tax in the performance of their corporate or proprietary functions because the tax exemption privileges, including preferential tax treatment of all government units, i.e., the National Government, its agencies and political subdivisions as well as government-owned or controlled corporations, were withdrawn by Presidential Decree No. 1931 (1984) and Executive Order No. 93 (1987) (BIR Ruling Nos. 069-84, 055-91 and 383-91). There is no reason to depart from these rulings. Very truly yours, (SGD.) KIM S. JACINTO-HENARES Commissioner of Internal Revenue