DA ITAD BIR Ruling No. 047-06

May 4, 2006 DA ITAD BIR RULING NO. 047-06 Articles 5 and 7, Philippines-Japan Tax Treaty; BIR Ruling No. 117-96; BIR Ruling No. ITAD 13-06 Futaba Corporation of the Philippines 120 North Science Avenue, Laguna Technopark SEPZ, Bian, Laguna Attention: Mr. Shoki Yoshimoto President Gentlemen : This refers to your application for relief from double taxation dated January 12, 2004, requesting confirmation of your opinion that the compensation for the technical services rendered by Futaba Corporation (NF) Japan (Futaba-Japan) to Futaba Corporation of the Philippines (Futaba-Phils) is exempt from Philippine income tax, pursuant to Articles 5 & 7 of the Philippines-Japan tax treaty. It is represented that Futaba-Japan is a corporation organized and existing under the laws of Japan with principal place of business at 629 Oshiba, Mobara City, Chiba-Prefecture 297-8588, Japan; that it is not registered either as a corporation or as a partnership in the Philippines per certification issued by the Securities and Exchange Commission dated July 15, 2004; that Futaba-Phils is registered with the then Export Processing Zone Authority (EPZA), now Philippine Economic Zone Authority (PEZA), as an Export Enterprise under Registration Certificate No. 95-28 dated March 13, 1995 as stated in Certificate No. 2005-336 dated on January 14, 2005 issued by the Deputy Director General for Operations, PEZA; that it is engaged in the manufacturing of vacuum fluorescent display; that Futaba-Japan and Futaba-Phils entered into a Technical Service Agreement (Agreement) dated August 8, 2003, which took effect on August 25, 2003 and expired on September 13, 2003; that pursuant to said Agreement, and with respect to aspects of manufacturing and operations of said business, Futaba-Japan rendered the following technical services to Futaba-Phils: a) provided skilled technicians with special diagnostic tools to perform the required maintenance service/check-up and testing on jointly agreed schedules, b) conducted unit inspection and operation check-up and performed servicing activities, and c) provided appropriate training to operators regarding proper operation and maintenance procedures on site; that said services were rendered in the Philippines by Futaba-Japan, through its personnel, from August 25, 2003 to September 13, 2003; and that in consideration for said services, Futaba-Phils agreed to pay Futaba-Japan the sum of Twenty Four Thousand Two Hundred Three and 53/100 US Dollar (US$24,203.53) via telegraphic transfer. In reply, please be informed that Article 7 of the Philippines-Japan tax treaty provides as follows: "Article 7 1. The profits of an enterprise of a Contracting State shall be taxable only in that Contracting State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. If the enterprise carries on business as aforesaid, the profits of the enterprise may be taxed in that other Contracting State but only so much of them as is attributable to that permanent establishment." xxx xxx xxx" Moreover, paragraphs (1) and (6) of the Article 5 of the same treaty provides, viz: "Article 5 1. For the purposes of this Convention, the term 'permanent establishment' means a fixed place of business through which the business of an enterprise is wholly or partly carried on. xxx xxx xxx 6. An enterprise of a Contracting State shall be deemed to have a permanent establishment in the other Contracting State if it furnishes in that other Contracting State consultancy services, or supervisory services in connection with a contract for a building, construction or installation project through employees or other personnel other than an agent of an independent status to whom paragraph (7) applies , provided that such activities continue (for the same project or two or more connected projects) for a period or periods aggregating more than six months within any taxable year. . . ." TASCEc Based on the aforequoted provisions, it is clear that profits of a corporation which is a resident of Japan and which carries on business in the Philippines through a permanent establishment situated therein, shall be subject to Philippine income tax, but only so much of such profits as are attributable to that permanent establishment. For this purpose, a corporation which is a resident of Japan may be deemed to have a permanent establishment in the Philippines if, among others, the furnishing of consultancy services by such corporation, through its employees or other personnel, in the same or connected project, continue within the Philippines for period or periods aggregating more than six (6) months in any taxable year. Considering that the stay in the Philippines of the employees of Futaba-Japan to render the above-stated services to Futaba-Phils under the Agreement did not exceed six (6) months for taxable year 2003, Futaba-Japan is not deemed to have a permanent establishment in the Philippines to which its business profits may be attributed to. Therefore, the income derived by Futaba-Japan is not subject to Philippine income tax in accordance with Article 7(1) in relation to Article 5(1) & (6) of the Philippines-Japan tax treaty. ( BIR Ruling No. 117-96 dated November 4, 1996 ) As the regards the imposition of the VAT on the rendition of services of Futaba-Japan, please be informed further that Section 108 of the Tax Code of 1997 1 provides as follows, to wit: "SEC. 108. Value-added Tax on Sale of Services and Use or Lease of Properties . (A) Rate and Base of Tax . There shall be levied, assessed and collected, a value-added tax equivalent to ten percent (10%) of gross receipts derived from the sale or exchange of services, including the use or lease of properties. The phrase ' sale or exchange of services ' means the performance of all kinds of services in the Philippines for others for a fee, remuneration or consideration, . . . ." (Emphasis supplied). Thus, in general, the VAT should be imposed since " the said services were rendered in the Philippines by Futuba-Japan, through its personnel, from August 25, 2003 to September 13, 2003 ." Futuba-Phils is required to withhold such VAT and treat the same as a " passed on " VAT, pursuant to Section 4.110-3(b) of Revenue Regulations No. 7-95 as amended [ now Section 4.114-2(b) of Revenue Regulations No. 16-05 ]. However, in Commissioner of Internal Revenue vs. Seagate Technology (Philippines) (G.R. No. 153866, February 11, 2005), the Supreme Court held, viz : "Special laws may certainly exempt transactions from the VAT. 2 However, the Tax Code provides that those falling under PD 66 are not. PD 66 is the precursor of RA 7916 the special law under which respondent was registered. The purchase transactions it entered into are, therefore, not VAT-exempt. These are subject to the VAT; respondent is required to register. xxx xxx xxx Since the purchases of respondent are not exempt from the VAT, the rate to be applied is zero. Its exemption under both PD 66 and RA 7916 effectively subjects such transactions to a zero rate, because the ecozone within which it is registered is managed and operated by the PEZA as a separate customs territory . This means that in such zone is created the legal fiction of foreign territory. Under the cross-border principle of the VAT system being enforced by the Bureau of Internal Revenue (BIR), no VAT shall be imposed to form part of the cost of goods destined for consumption outside of the territorial border of the taxing authority. If exports of goods and services from the Philippines to a foreign country are free of the VAT, then the same rule holds for such exports from the national territory except specifically declared areas to an ecozone. xxx xxx xxx Applying the special laws we have earlier discussed, respondent as an entity is exempt from internal revenue laws and regulations. This exemption covers both direct and indirect taxes, stemming from the very nature of the VAT as a tax on consumption, for which the direct liability is imposed on one person but the indirect burden is passed on to another. Respondent, as an exempt entity, can neither be directly charged for the VAT on its sales nor indirectly made to bear, as added cost to such sales, the equivalent VAT on its purchases. Ubi lex non distinguit, nec nos distinguere debemus . Where the law does not distinguish, we ought not to distinguish. Moreover, the exemption is both express and pervasive for the following reasons: . . . , RA 7916 states that 'no taxes, local and national, shall be imposed on business establishments operating within the ecozone.' Since this law does not exclude the VAT from the prohibition, it is deemed included. Exceptio firmat regulam in casibus non exceptis . An exception confirms the rule in cases not excepted; that is, a thing not being excepted must be regarded as coming within the purview of the general rule. Moreover, even though the VAT is not imposed on the entity but on the transaction, it may still be passed on and, therefore, indirectly imposed on the same entity a patent circumvention of the law. That no VAT shall be imposed directly upon business establishments operating within the ecozone under RA 7916 also means that no VAT may be passed on and imposed indirectly. Quando aliquid prohibetur ex directo prohibetur et per obliquum . When anything is prohibited directly, it is also prohibited indirectly. xxx xxx xxx" Based on the foregoing, transactions exempt from VAT by reason of PD 66 and RA 7916 are effectively zero-rated. However, instead of zero-rating which is not available to non-resident suppliers, the provision for exempt transactions under Section 109(q) [ now Section 109 (K) ] of the Tax Code of 1997 which provides VAT exemption for transactions that are exempt under specials law, e.g., Republic Act No. 7916 or PEZA Law, is particularly applicable to the instant case. ( BIR Ruling No. ITAD 13-06 dated February 20, 2006 ) Such being the case, the payment of services fees by Futuba-Phils, being an EPZA-registered (now a PEZA-registered) export enterprise, to Futuba-Japan, under the above Agreement, should be as it is hereby confirmed to be exempt from VAT. This ruling is issued on the basis of the facts as represented. However, if upon investigation it shall be disclosed that the facts are different, then this ruling shall be without force and effect insofar as the herein parties are concerned. SEcAIC Very truly yours, Commissioner of Internal Revenue By: (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service Footnotes 1. Please note that this cited provision has been retained by Republic Act (RA) No. 9337, although with the modification as to the applicable rate when the circumstances so warrant. 2. Referring to the old Section 109 (q) of the Tax Code of 1997 [now Section 109(K), as amended by RA. No. 9337] .