Sr. Josefina F. Nebres, ICM

March 20, 2009 BIR RULING [NSNP-(S30H-042) 229-09] Section 4 (3), Article XIV, 1987 Constitution Sr. Josefina F. Nebres, ICM School Directress, St. Theresa's College 116 D. Tuazon Avenue Brgy. Lourdes, Quezon City Dear Sister Josefina : This refers to your letter dated March 19, 2007 requesting for a clarificatory ruling on what appears to be a conflict in the provision of Section 4 (3), Article XIV of the 1987 Constitution and the last paragraph of Section 30 of the Tax Code and tax exemption in favor of St. Theresa's College of Quezon City (STC-Q.C.) on its income from any of its properties, real or personal, or from any activity conducted for profit, as well as interest income from its currency bank deposits or any monetary benefit from deposit substitute instruments and from trust funds and similar arrangements, royalties derived from sources within the Philippines, which income is actually, directly and exclusively used for educational purposes. cHAaCE As represented, STC-Q.C. is a non-stock, non-profit educational institution which has been in the service of formal education for the last sixty (60) years. STC has managed also to render quality education to economically-less privileged students through its scholarship program. It is your opinion that there is a conflict in the provisions of the 1987 Philippine Constitution which exempts STC from internal revenue taxes and the National Internal Revenue Code of 1997, its implementing regulations and rulings. In reply, please be informed that paragraph 3, Section 4, Article XIV of the 1987 Constitution provides, viz. : "(3) All revenues and assets of non-stock, non-profit educational institutions used actually, directly and exclusively for educational purposes shall be exempt from taxes and duties. . . ." The above provision in our Constitution is self-executing and does not need any implementing statute (p. 72, Bar Reviewer in Taxation, Jose N. Nolledo, 1994 Revised Edition). Section 4 (3), Article XIV of the 1987 Constitution refers to internal revenue taxes and customs duties, in appropriate cases, imposed by the national government on all revenues and assets of non-stock, non-profit educational institutions used actually, directly and exclusively for educational purposes (BIR Ruling No. 248-88 dated June 6, 1988). The test of exemption from taxation is the use of the property for purposes mentioned in the Constitution [Apostolic Perfect vs. City Treasurer of Baguio, 71 Phil. 547 (1941)]. The Supreme Court in the case of Abra Valley College, Inc. vs. Aquino, L-39086, June 15, 1988) interpreted the phrase "exclusively used for educational purposes" to extend to "facilities which are incidental to and reasonably necessary for the accomplishment of the main purposes". Thus, the High Court stated in the said case that while the use of the second floor of the main building for residential purposes of the Director and his family, may find justification under the concept of incidental use, which is complimentary to the main or primary purpose educational, the lease of the first floor thereof to the Northern Marketing Corporation cannot by any stretch of the imagination be considered incidental to the purposes of education. The Court of Tax Appeals, in the case of Xavier School, Inc., CTA Case No. 1682, October 8, 1969, held that the isolated sale by the school of its real properties and using the proceeds thereof to purchase lots for a new site and constructing improvement thereon in furtherance of its educational purposes cannot be considered as an activity conducted solely for profit, because a single transaction of incidental character does not constitute engaging in business (cited in BIR Ruling No. DA-316-98 dated July 16, 1998). aIcCTA In the light of the 1987 Constitution, the Government may no longer tax the income and the real estate property of non-profit educational institutions operated by religious orders (Section 4 (3), Article XIV of the 1987 Constitution and Section 28 (3) Id. ). The purpose of these constitutional exemptions is to provide incentives to non-profit educational institutions which play a complementary role in providing education to the citizenry, a basically state function. [p. 70, Bar Reviewer in Taxation, Jose N. Nolledo, 1994 Revised Edition] On the other hand, Section 30 of the Code specifically stated that non-stock, non-profit and Government educational institutions are tax-exempt but the law also provides that income derived from any activity conducted for profit or any of their property real or personal, shall be subject to tax regardless of the disposition made of such income. Educational corporations under this section may include associations whose sole purpose is the instruction of the public (Section 30, Revenue Regulations No. 2, as amended). In Commissioner of Internal Revenue vs. Court of Appeals and YMCA, G.R. No. 124043, October 14, 1998, 298 SCRA 83, the Supreme Court ruled that the very wording of the last paragraph of Section 27 (now Section 30) of the Tax Code mandates that the income of exempt organizations from any of their properties, real or personal, shall be subject to income tax. The Court of Tax Appeals further held in the case of Landbank Countryside Development Foundation, Inc. vs. Commissioner of Internal Revenue, CTA Case No. 5879, January 19, 2001 ". . . all income of an exempt corporation mentioned in Section 26(now Section 30) of the Tax Code is subject to income tax, even if the said income comes or arises from a single isolated transaction of incidental character. It need not be characterized by regularity, habituality and continuity suggesting an intention to engage in business for the purpose of profit. Any income of an exempt corporation under Section 26 (now Section 30) is always a taxable income. Clearly, Petitioner's income from the sale of the donated realty is covered by the last paragraph of Section 26 (now Section 30) of the Tax Code, thus, is subject to income tax." IDSaEA The rule under Section 30 of the Tax Code is that income not derived from the institution's properties, real or personal, are exempt. However, if such exempt income is invested by the corporation, the income from such investment, as interests from the capital where the capital has been loaned or dividends on stock where the capital has been invested in shares of stock, will constitute taxable income (Section 30, Revenue Regulations No. 2, as amended). In order for this particular exemption to apply, the conditions for its enjoyment were laid under the implementing regulations, DECS Order No. 137-87 dated December 16, 1987: (1) The exemption herein granted refers to internal revenue taxes and customs duties imposed by the National Government on all revenues and assets of non-stock, non-profit educational institutions. a) The exemption is not only limited to revenues and assets derived from strictly school operations like income from tuition and other miscellaneous fees such as matriculation, library, ROTC etc. fees but it also extends to incidental income derived from canteen, bookstore, and dormitory facilities. b) In the case, however, of incidental income, the facilities mentioned must not only be owned and operated by the school itself but such facilities must be located inside the school campus. Canteens operated by mere concessionaires are taxable. c) Income which is unrelated to school operations like income from money market placements, time and other bank deposits are taxable. d) The use of the school's income or assets must be in consonance with the purposes for which the school is created; in short, use must be school-related like the grant of scholarships, faculty upliftment, establishment of professorial chairs, etc. Since tax exemption is a mere privilege and not a right, a taxpayer must apply in order to avail of the benefits under the law. Educational institutions have the option to apply for tax exemption under either Section 4 (3), Article XIV of the 1987 Constitution or Section 30 of the Tax Code. acAIES In view of all the foregoing, this Office hereby rules that as a non-stock, non-profit educational institution, STC-Q.C. is exempt from tax on all revenues derived in pursuance of its purpose as an educational institution and used actually, directly and exclusively for educational purposes pursuant to Section 4 (3), Article XIV of the 1987 Constitution. STC-Q.C. is, however, subject to internal revenue taxes on income from trade or business or other activity the conduct of which is not related to the exercise or performance of its educational purposes or functions (Section 2, Finance Department Order No. 137-87, as amended by Finance Department Order No. 92-88). Accordingly, revenues derived from and assets used in the operations of cafeterias/canteens, dormitories, bookstores are exempt from taxation provided they are owned and operated by the school as ancillary activities and the same are located within the school premises (Section 2, Finance Department Order No. 137-87, as amended by Finance Department Order No. 92-88; BIR Ruling No. 248-88 dated June 6, 1988; BIR Ruling No. ENPS-012-98 dated November 25, 1998; and BIR Ruling No. ENPS-006-99 dated May 17, 1999). Accordingly, if the cafeteria/canteen is being leased, income from the operation thereof is subject to income tax. Under Department Order No. 149-95 dated November 24, 1995 amending Department Order No. 137-87, interest income from currency bank deposits and yield from deposit substitute instruments used actually, directly and exclusively in pursuance of the educational purpose of the institution is exempt from the 20% final tax and 7-1/2% tax on interest income under the expanded foreign currency deposit system imposed under Section 27 (D) (1) of the Tax Code of 1997 subject to compliance with the conditions that as a tax-exempt educational institution it shall on an annual basis submit to the Revenue District Office concerned an annual information return and duly audited financial statement together with the following: 1) Certification from its depository bank as to the amount of interest income earned from passive investment not subject to the 20% final withholding tax and 7-1/2% tax on interest income under the expanded foreign currency deposit system imposed by Section 27 (D) (1) of the 1997 Tax Code; 2) Certification of actual utilization of the said income; and 3) Board Resolution by the school administration on proposed projects ( i.e. , construction and/or improvement of school buildings and facilities, acquisition of equipment, books and the like) to be funded out of the money deposited in banks or placed in money markets, on or before the 15th day of the fourth month following the end of its taxable year (Sec. 4, Finance Department Order No. 137-87; ENPS-012-98 dated November 25, 1998; and BIR Ruling No. 46-00 dated September 26, 2000) Accordingly, this serves as authority for depository banks to forego the withholding of the 20% tax imposed on interest income from bank deposits and interest and/or yield from deposit substitute instruments maintained by STC-Q.C. with them. IDTSaC In the case of investments in shares of stock, the conduct of said activity is not related to the performance of its purpose as an educational institution, the gains derived from the sale, exchange or disposition thereof is subject to the capital gains tax imposed under Section 27 (D) of the 1997 Tax Code (BIR Ruling No. 130-90 dated July 4, 1990). As a non-stock, non-profit educational institution, STC-Q.C. is also exempt from payment of the 20% final tax on interest earnings derived from time deposit accounts (BIR Ruling No. 46-00 dated September 26, 2000), treasury bonds, treasury bills and other bank notes which also form part of its assets used for educational purposes (BIR Ruling No. DA-13-02 dated January 30, 2002). Likewise, gross receipts from its operations as a non-stock, non-profit educational institution are exempt from the 12% (then 10%) value-added tax (VAT) pursuant to Section 109 (H) [then Section 109 (m)] of the Tax Code of 1997 as amended by Republic Act No. 9337 provided that it is accredited as such by the Department of Education or by the Commission on Higher Education. The VAT exemption provided under Section 109 (H) [then Section 109 (m)] of the Tax Code only pertains to the educational services rendered by private educational institutions but does not include their purchases of goods and services. Thus, while the school is exempt from VAT, it cannot invoke the same exemption privilege to avoid paying VAT on its purchase of goods and/or services even if intended for school operational use because its exemption covers only taxes for which it is directly liable, as a seller of educational service. It does not cover VAT, which is an indirect tax on its purchases of goods and services from VAT-registered suppliers. Thus, the 12% (then 10%) VAT for the supply of goods and services may be shifted or passed on to the school by its VAT-registered suppliers. Once shifted, the VAT will form part of the cost of the goods and/or services supplied to the school. (VAT Ruling No. 017-02 dated March 20, 2002 and VAT Ruling No. 031-03 dated June 24, 2003). Moreover, the above exemption does not extend to the school's other activities involving sale of goods and services which are subject to the 12% VAT imposed under Section 106 of the same Code. Hence, as long as STC-Q.C. engages in the regular conduct or pursuit of a commercial or economic activity, including transactions incidental thereto, it is subject to VAT (BIR Ruling No. 248-88 dated June 6, 1988; BIR Ruling No. DA-40-02 dated March 7, 2002; and BIR Ruling No. S30-27-2003 dated November 21, 2003). Section 116 of the Tax Code of 1997 subjects to the 3% percentage tax "any person whose sales or receipts are exempt under Section 109 (z) [now Section 109 (V)] of this Code from the payment of value-added tax and who is not a VAT-registered person . . . ." The 12% VAT or the 3% percentage tax, whichever is applicable, is a tax on the business transaction or activity and is an indirect tax which the seller may pass-on or shift to the customer who ultimately bears or assumes the burden of the tax. acHETI Accordingly, the school's sale of goods or services which is not directly related to or necessary in the performance of educational services is subject to either the 12% VAT or 3% percentage tax if such gross sales or receipts from sale of goods and services do not exceed P1,500,000.00, which tax payment may legitimately be passed on to its customers i.e. , students (BIR Ruling No. 248-88 dated June 6, 1988). However, its importation of books, films, slides and other educational materials and equipment such as computers to be actually, directly and exclusively used for educational purposes shall be exempt from VAT and customs duties, provided the guidelines under Department Order No. 137-87 in addition to the usual import requirements are observed (BIR Ruling No. 248-88 dated June 6, 1988 and BIR Ruling No. 130-90 dated July 4, 1990). Finally, the books of accounts and other pertinent records of STC-Q.C. shall be subject to examination by the Bureau of Internal Revenue for the purpose of ascertaining whether it is complying with the conditions under which it has been granted tax exemption and its tax liability, if any (RMC No. 89-78 dated October 30, 1973 publishing the amendment effected by P.D. No. 1457 to then Section 324 [now Section 235 in relation to Section 232] of the Tax Code). 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 as null and void. Very truly yours, Commissioner of Internal Revenue By: (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service