GX International, Inc. v Commissioner of Internal Revenue

SIXTEENTH DIVISION [CA-G.R. SP No. 79734. April 21, 2006.] GX INTERNATIONAL, INC., petitioner , vs . COMMISSIONER OF INTERNAL REVENUE and COURT OF TAX APPEALS , respondents . D E C I S I O N DE LOS SANTOS , J p : Assailed on appeal to Us is a portion of the decision of the Court of Tax Appeals dated June 5, 2003 in CTA No. 5956 directing petitioner to pay to respondent P1,496,447.79 as deficiency value-added tax for 1995 plus 20% deficiency interest from February 12, 1999 until fully paid, pursuant to Section 249 (c) of the National Internal Revenue Code, and the respondent's resolution dated September 19, 2003 denying the petitioner's motion for reconsideration, The fallo of the decision reads: "In view of the foregoing, the 1995 deficiency tax assessments for income and expanded withholding tax issued against petitioner are hereby CANCELLED and WITHDRAWN for lack of factual and legal bases. However, petitioner is DIRECTED to PAY the respondent the sum of P1,496,447.49, as deficiency value-added for the year 1995 plus 20% delinquency interest from February 12, 1999 until fully paid pursuant to Section 249(c) of the Tax Code." (Decision, p. 11, Rec. p. 280) Petitioner is a domestic corporation engaged in the wholesale and retail of pharmaceutical products. On January 12, 1999, it received from the Bureau of Internal Revenue (BIR) three (3) assessment notices on its corporate annual income tax return for 1995, together with their corresponding demand letters, all numbered 000325-95-99-465 and all dated January 8, 1999, from the Revenue Region No. 8 of the BIR, through the Chief of its Assessment Division, Ma. Nieva A. Guerrero, summarized as follows: Particular Exh. Basic Interest Compromise Total Deficiency Income Tax SS, SS-1 P3,273,479.55 P1,800,413.75 P25,000.00 P5,098,893.30 Deficiency VAT TT, TT-1 935,279.87 561,167.92 25,5000.00 1,521,447.79 Deficiency Expanded Withholding Tax UU, UU-1 647,149.95 388,289.97 25,000.00 1,060,439.92 Totals P4,855,909.37 P2,749,871.64 P75,000.00 P7,680,781.01 ========== ========== ======== ========== (Rec., p. 271) (Rec., p. 271) On February 4, 1999, petitioner filed a protest with the Bureau of Internal Revenue contesting each of the aforementioned deficiency tax assessments. On October 29, 1999, petitioner filed a petition for review with the Court of Tax Appeals pursuant to Section 228 of the Tax Code, as amended, after obtaining no decision from the respondent. In its Answer filed on December 28, 1999, respondent claimed by way of Special and Affirmative Defenses that: "7. The Assessments in question were issued in accordance with laws and regulations; 8. All presumptions are in favor of the correctness of the tax assessments ( Interprovincial Autobus Inc. vs. CIR , 98 Phil. 290); 9. Under Section 105 in relation to Section 108 of the Tax Code, it is provided that ". . . The phrase sale or exchange of services mean the performance of all kinds of services in the Philippines for others for a fee, remuneration or consideration . . ." A person is subject to VAT only if he renders services in the course of trade or business (Section 105). This implies that the rendering of services is done with regularity and continuity, and not just occasionally. Although the distribution service was not carried out by GX International, it was made for and in behalf of the latter therefor subject to VAT." AECcTS (Rec., p. 17) Among the issues brought before the tax court were whether petitioner had unreported taxable income for 1995 of P9,352,798.71, and whether it had undeclared sales for the calendar year ended December 31, 1995 subject to value-added tax. Concerning the first issue, the BIR examiners believed that based on Paragraph 11 of the Distribution Agreement between petitioner and Metro (page 50, BIR records), petitioner underdeclared its sales to Metro Drug Distribution ("Metro") by 15%. The said stipulation is quoted below: "11. Metro will seek a "basic" distribution fee pegged at 15.0%, based on sales after/net-of-returns and calculated against price-to-trade, exclusive of VAT. Computation of VAT will be consistent with the BIR regulations." (Decision, p. 4, Rec., p. 273) The examiners concluded that the recorded sales of petitioner through Metro represented only 85% of its actual sales, thereby depriving the government of income and value-added taxes on the 15% unrecorded sales, as shown in the following computation: ( page 493, BIR records ) Sales of Metro Drug as reported P52,999,190.29 Divided by 85% Grossed-up sales P62,351,989.00 Add: In house sale 8,524,163.71 Total sales per investigation P70,876,152.71 Less Reported sales 61,523,354.00 Unreported Sales per Investigation P9,352,798.71 ============= Petitioner, on the other hand, avers that the distribution fee of 15% was not part of the selling price to its distributor Metro and that it was reflected in the Distribution Agreement as a separate item for the purpose merely of arriving at a computation of the selling price by Metro to drugstores. The tax court disagreed. Attached to the Agreement is an illustration made by Metro in computing the 15% distribution fee as well as the VAT component, hereunder reproduced for easy reference: Exclusive +10% VAT Inclusive Of VAT Component of VAT Price to Drugstore P296.44 P29.64 P326.08 15% Metro Distribution Fee 44.47 4.44 48.91 Price to Metro P251.97 P25.20 P277.17 ======= ======= ======= (Decision, p. 5, Rec., p. 274) The above computation is Metro's figurative translation of Stipulation No. 11 of the Agreement to illustrate that the 15% distribution fee is based "on sales after/net-of-returns and calculated against price-to-trade exclusive of VAT". However, the tax court understood it to mean that Metro was seeking 15% distribution fee in exchange for distributing petitioner's pharmaceutical products, which petitioner should record as part of its sales: "It is the cause of the contract between petitioner and Metro. Therefore, petitioner is obliged to pay Metro 15% distribution fee based " on sales after/net-of-returns and calculated against price-to-trade, exclusive of VAT. " Since the distribution fee is based on sales after/net-of-returns and calculated against price-to-trade, petitioner must record the sales of medicine to Metro based on the price of sales to drugstore. Otherwise, if petitioner will record the sales based on price to Metro, the transaction will not be accurately reflected on petitioner's books. ASDCaI Inasmuch as the 15% distribution fee is the consideration sought by Metro in distributing petitioner's pharmaceutical products which formed part of the price of sales to drugstores, it must likewise form part of petitioner's sales." (Decision, pp. 5-6) Nonetheless, since the said fee may at the same time be claimed by the latter as an expense, the court concluded that the government was not deprived of income taxes "Even if there was an under-declaration of sales, it will result to no under-declaration of income and therefore, there was no deficiency income tax due." The distribution fee is an income of Metro and an expense of petitioner. If petitioner records sales through Metro inclusive of the 15% distribution fee, it will also claim the same as an operating expense, and this is shown in the following computation: Per BIR Per Court Actual Computation Evaluation Sales Price P277.17 P277.17 P277.17 Add: Distribution Fee 0 48.91 48.91 Gross Sales P277.17 P326.08 P326.08 Less: Distribution Fee 0 0 48.91 Taxable Sales P277.17 P326.08 P277.17 ======= ======= ======= (Decision, p. 6) On the other hand, in regard to petitioner's value-added tax liability, the tax court insisted that the sales to Metro should have been recorded at gross, that is, inclusive of the 15% distribution fee. "Inasmuch as petitioner recorded its sales to Metro net of the 15% distribution fee and considering that under Section 100 of the 1995 Tax Code, the value-added tax is based on the gross selling price or gross value in money of the goods sold , it follows that the government was deprived of the corresponding 10% value-added tax on the unrecorded 15% distribution fee." It therefore ordered petitioner to pay P1,521,447.79 as deficiency value-added tax assessed by respondent, but less P25,000.00 representing the compromise penalty. In its motion for reconsideration filed on June 20, 2003, petitioner insisted that the government was never deprived of the corresponding 10% value-added tax on the undeclared 15% distribution fee, since the arrangement between petitioner and Metro Drug Distribution, Inc. was a consignment sale, and there was no service relationship between them. This is why the 15% distribution fee was not recorded and recognized as an expense by the petitioner but as part of Metro's net sales subject to VAT. Besides, the 15% distribution fee is the mark-up price of Metro Drug Distribution, Inc. on its sales of petitioner's products to the drugstores, an amount it never received. Only the amounts appearing on the invoices (Exhibits F to N) were paid to petitioner by Metro, and these did not include the 15% distribution fee. Clearly, therefore, it is Metro who is responsible to pay the output VAT on the 15% distribution fee. In dismissing petitioner's motion for reconsideration, the tax court held: "It is incomprehensible for the petitioner to reason that Metro Drug Distribution, Inc. has no service relationship with it. The fact that the Distribution Agreement provides that "Metro will seek a "basic" distribution fee pegged at 15%, based on sales after/net-of-returns and calculated against price-to-trade, exclusive of VAT, Clearly shows that a contract of service exists. As stated in our questioned decision, it is clear from the parties' stipulation number eleven (11) that Metro is seeking 15% distribution fee in exchange for its distribution of petitioner's pharmaceutical products. The arguments of petitioner that its invoices do not include the 15% distribution fee and that it is Metro who is liable for the 10% VAT due thereon hold no water. We have already stressed in the assailed decision that the aforesaid fee should form part of petitioner's gross receipts to accurately reflect the correct transaction stipulated in paragraph #11 of the Distribution Agreement. The word used in the agreement "distribution fee" which means income on the part of Metro and expense on the part of petitioner. This distribution fee was billed to the drugstore through the services of Metro. And in payment for the services performed by Metro in distributing petitioner's products to the drugstore, a 15% distribution fee was paid. Clearly, in order to reflect the correct transaction, petitioner is bound to record the said 15% distribution fee as part of its gross receipts and later on claim the same as an expense upon payment to Metro. EDcIAC "The fact that petitioner's products are on consignment basis has no bearing in the proper recording of the sale. Petitioner is obliged to record the correct amount of sales inclusive of the 15% distribution fee. Inasmuch as petitioner recorded its sales net of the distribution fee, its gross receipts were underdeclared by 15%. Consequently, it should be liable to the corresponding 10% VAT on such unrecorded sales." (Resolution, pp. 2-3, Rec., pp. 319-320) On petition for review to Us, petitioner alleges that the Court of Tax Appeals erred (1) in holding that the sales of Petitioner to its distribution arm, Metro Drug Distribution, Inc. should have been recorded at gross (i.e., inclusive of the 15% distribution fee); and (2) in declaring that the government was deprived of the corresponding 10% value-added tax on the "unrecorded 15% distribution fee". We find merit in the petition. Petitioner argues that it is not obliged to record its sales to Metro Drug Distribution, Inc. inclusive of the 15% distribution fee, which is really a mark-up made by Metro Drug Distribution, Inc. on its sales of petitioner's pharmaceutical products to the customers. The "15% distribution fee" would have been generated by Metro Drug Distribution, Inc. from its relationship with petitioner as its consignee and "exclusive" distributor of its products nationwide, including the Mercury Drug. The 15% "distribution fee" was the consideration for its "distributorship" relationship with petitioner, which Metro Drug Distribution, Inc. could add when it sells Petitioner's pharmaceutical products. There being no showing that the petitioner and Metro Drug Distribution, Inc. are not separate and independent entities or companies not related by common ownership, it is clear that the arrangement between petitioner and Metro Drug Distribution, Inc. was that of seller and buyer, albeit a sale on consignment (paragraph 2 of Exhibit "A"), although couched in terms of an exclusive distributorship. Whether or not there was a service relationship between the parties is of no moment, since petitioner issued to Metro invoices for its consignment purchases. This is the reason why the "15% distribution fee" was not recorded and recognized by petitioner as an expense. This position should have been respected by the respondent, its only concern being to see to it that Metro Drug Distribution, Inc. also pays the 10% VAT on its incremental sale to the drugstores. Ultimately, the real question is whether the government has been deprived of the VAT due on all the sales involving the same product, first sold by petitioner Metro, and then by Metro to the drugstore. The Distributorship Agreement does not create a service relationship between petitioner and Metro Drug Distribution, Inc., for Metro is an independent company in the business of distributing various kinds of pharmaceutical products consigned by various companies, including petitioner, and except for the pricing the consignors do not dictate the manner by which their products are sold. Thus, the basis of Metro's "distribution" fee is not per se the rendition of a distribution service, but rather the extent of its actual net sales to the drugstores. The agreement simply assured Metro that it alone was authorized to sell the pharmaceutical products of petitioner to the drugstores, to the exclusion of all other distributors, while petitioner is assured that it could maintain the affordability of its products by prohibiting Metro from selling them at a more prohibitive mark-up in excess of 15%. Thus, Metro Drug Distribution, Inc. is billed by petitioner only the amount appearing on the sales invoices it issued on the sales consummated by the Metro Drug Distribution, Inc. (Exhibits "F" to "N"). These sales invoices do not include the "15% distribution fee". How then is the Government not deprived of the corresponding 10% value-added tax on the said "15% distribution fee"? The answer found in the figurative illustration, reproduced below, attached to the Distribution Agreement showing the computation of the 15% distribution fee as wall as the VAT component. EcTCAD Exclusive +10% VAT Inclusive of VAT Component of VAT Price to Drugstore P296.44 P29.64 P326.08 15% Metro Distribution Fee 44.47 4.44 48.91 Price to Metro P251.97 P25.20 P277.17 ======= ======= ======= The court a quo was of the understanding that the above illustration means that Metro was really seeking a 15% distribution fee in exchange for distributing petitioner's pharmaceutical products, but this view is really of no consequence, for based on the above table, the full VAT of P29.64 computed based on Metro's selling price to drugstores of P326.08, which is inclusive of the VAT, is eventually paid when the petitioner remits to BIR its VAT of P25.20, based on its invoice price to Metro of P277.17, and Metro remits the additional amount of P4.44 as net output VAT after applying and deducting the input VAT of P25.20 on its purchase from the petitioner. The P4.44 paid by Metro represents the 10% VAT on the 15% distribution fee of P44.47 collected by Metro by way of mark-up over the selling price of petitioner of P251.97. It may also be further noted that under the Distribution Agreement, Metro would pay petitioner for consummated sales only after 45 days from billing, whereas the VAT must be paid within 25 days following the end of the month of the sale. For petitioner to declare the 15% distribution fee as part of its sales would create an unjust situation where it must assume and advance the payment of the full VAT, inclusive of the portion applicable to Metro's distribution mark-up, although the said amount would not even part of its billed price to Metro. In sum, we conclude that the government is not deprived of any value-added tax on the sales of petitioner's products by Metro to the drugstores. WHEREFORE, premises considered, the petition is GRANTED. The appealed decision is REVERSED and SET ASIDE. SO ORDERED. Reyes, Jr. and Tayag, JJ., concur.