BIR Ruling [UN-250-95]

July 7, 1995 BIR RULING [UN-250-95] Sycip Gorres Velayo & Co. 6760 Ayala Avenue Makati, Metro Manila Attention: Atty . C . C . Gison Tax Division Gentlemen : This refers to your letter dated May 30, 1995 requesting on behalf of your client, PROCTER & GAMBLE PHILIPPINES, INC. (PGPI) for a ruling that the gain realized by PGPI from the subsequent transfer of its STAR & DARI, INC. (SDI) shares acquired through a tax-free exchange transaction under Section 34 (c)(2) & (6)(c) of the Tax Code, in favor of San Miguel Corporation (SMC) is subject to 10%-20% capital gains tax pursuant to Section 24(a)(2)(A) of the Tax Code; and that in computing the net capital gain the cost basis to PGPI of the SDI shares to be transferred to SMC shall be their original acquisition/historical cost, which is the book value of the assets transferred by PGPI TO SDI in exchange for SDI shares. aisadc It is represented that PGPI is a domestic corporation duly registered with the Securities and Exchange Commission engaged in the business of manufacturing and distribution of laundry cleaning and personal care products as well as margarine products under the brand names "Star and "Dari Creme"; that PGPI is a wholly-owned subsidiary of Procter & Gamble Company of U.S.A. (P&G-USA) which is involved in the manufacture and distribution of household and beverage products; that in order to fit into P&G-USA's global strategy, PGPI is reorganized by spinning off its margarine operations/division or the spread business into a separate and distinct corporate entity called SDI; that assets pertaining to the margarine business were transferred on a tax-free basis under Section 34(c)(2) and (6)(c) of the Tax Code to SDI in exchange for the latter's shares of stock; and that PGPI has agreed to sell its spread business to SMC by selling its SDI shares to SMC. In reply please be informed that this Office has consistently ruled, and specifically in BIR Ruling No. 6-34-127-95 dated May 16, 1995 that Section 34(c)(2) & (6)(c) of the Tax Code, as amended merely defers recognition of gain or loss from the exchange transaction, and in determining the gain or loss from a subsequent transaction of the properties of the stocks involved in the exchange, the original or historical cost of the properties or stocks is considered. Thus, if the transferor later sells or exchanges the shares of stock acquired by it in the exchange, it 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. [Sec. 34 (c)(5)(a) and (b), NIRC as amended by P.D. 1773]. It is to be noted that tax-free exchanges under Section 34(c)(2) and (6)(c) of the Tax Code merely defer recognition of gain or loss from such transactions, not the tax due . In other words, as of the time of the exchange which is tax-free, there is actually no gain or loss to tax or deduct, as the case may be. The gain or loss, if ever, is recognized only upon subsequent transaction which may be a sale or exchange or disposition of the properties or of the stocks involved in the exchange. Consequently, the law providing for the taxability or prescribing the applicable tax rate at the time of actual sale or exchange or disposition of the properties or shares shall govern and not the law which is effective at the time of the tax-free exchange . It is axiomatic that the law in force as of the time of the taxable event shall govern. Thus, Section 24(e)(2)(A) of the Tax Code, as amended provides that capital gains realized from the sale, exchange or disposition of shares of stocks in any domestic corporation shall be taxed as follows: "(A) Net capital gains as defined in Section 33(a)(2) of the same Code realized during each taxable year from sale or exchange or other disposition of shares of stock not traded through a local stock exchange: Not over P100,000 10% Over P100,000 20% xxx xxx xxx" In view of the foregoing, your opinion that the gain realized by your client, Procter & Gamble Philippines, Inc. from the subsequent transfer of its Star & Dari, Inc. shares acquired through a tax-free exchange transaction under Section 34(c)(2) and (6)(c) of the Tax Code, in favor of San Miguel Corporation is subject to 10%-20% capital gains tax pursuant to Section 24(e)(2)(A) of the Tax Code, as amended; and that in computing the net capital gain, the cost basis to PGPI of the SDI shares to be transferred to SMC shall be their original acquisition/historical cost, which is the book value of the assets transferred by PGPI to SDI in exchange for SDI shares is hereby confirmed. (BIR Rulings No. 186-91 dated September 11, 1991). Very truly yours, ALICIA P. CLEMENO Assistant Commissioner (Legal Service)