DA ITAD BIR Ruling No. 077-06

July 5, 2006 DA ITAD BIR RULING NO. 077-06 Arts. 12, Philippines-United States tax treaty; BIR Ruling No. DA-ITAD-187-03 Puyat Jacinto & Santos Law 12/F Manilabank Building 6772 Ayala Avenue 1226 Makati City Attention: Atty . Virginia B . Viray Atty . Divina Gracia Cabildo-Yap Gentlemen : This refers to your letter dated November 29, 2005 on behalf of your client, Morgan Stanley Emerging Markets Inc . (MSEMI), requesting confirmation of your opinion that the interests on a loan advanced by MSEMI to Philippine Asset Investment (SPV-AMC) Inc . (PAII) shall be subject to the preferential tax rate of fifteen percent (15%) pursuant to Article 12(2) of the Philippines-United States of America (US) tax treaty. It is represented that MSEMI is a nonresident foreign corporation duly organized and existing under the laws of the State of Delaware, USA with principal address at 1585 Broadway, New York, USA; that it is not registered either as a corporation or as a partnership in the Philippines per Certification of Non-Registration issued by the Securities and Exchange Commission (SEC) dated November 29, 2005; that, on the other hand, PAII is a corporation duly organized and existing under the laws of the Philippines per Certificate of Incorporation and Company Registration No. CS200412996 issued by the SEC dated August 20, 2004; that PAII is organized as a Special Purpose Vehicle (SPV) pursuant to Republic Act No. 9182, otherwise known as SPV Act of 2002, to engage in the business of investing in or acquiring Non Performing Assets (NPAs) of Financial Institutions (FIs). It is further represented that on January 3, 2005, MSEMI and PAII entered into a Loan Agreement where an amount of US$2,920,000.00 equivalent to Php164,045,600.00 was advanced by MSEMI to PAII to be used by PAII to finance its purchase of NPAs; that the loan has a term of 25 years, with a basic interest of 8% per annum, subject to adjustment every anniversary date of the advance based on the change in the Philippines' 365-day treasury bill rate; that in addition to the basic interest, PAII shall pay a turnover 1 interest of 1% of its turnover exceeding Php56,000,000.00 in the financial 2 year preceding the date of payment; that both basic and turnover interest rates in each financial year shall not exceed the T-Bill rate plus 1% at date of drawdown of the outstanding principal balance of the advance, the rate of which is subject to adjustment every anniversary date of the advance based on the change in the Philippines' 365-day treasury bill rate; and that MSEMI may, at the end of 25 years from the date of advance, elect to convert all of the outstanding principal balance of the advance into shares of PAII, with each Php1,000.00 in the principal amount shall be converted into one (1) share. In reply, please be informed that Article 12 of the Philippines-US tax treaty provides as follows: "Article 12 INTEREST 1. Interest derived by a resident of one of the Contracting States from sources within the other Contracting State may be taxed by both Contracting States. 2. Interest derived by a resident of one of the Contracting States from sources within the other Contracting State shall not be taxed by the other Contracting State at a rate in excess of 15 percent of the gross amount of such interest. 3. Interest derived by a resident of one of the Contracting States from sources within the other Contracting State with respect to public issues of bonded indebtedness shall not be taxed by the other Contracting State at a rate in excess of 10 percent of the gross amount of such interest. 4. Notwithstanding paragraphs 1, 2, and 3, interest derived by (a) One of the Contracting States, or an instrumentality thereof (including the Central Bank of the Philippines, the Federal Reserve Banks of the United States, the Export-Import Bank of the United States, the Overseas Private Investment Corporation of the United States, and such other institutions of either Contracting State as the competent authorities of both Contracting States may determine by mutual agreement), or b) A resident of one of the Contracting States with respect to debt obligations guaranteed or insured by that Contracting State or an instrumentality thereof. shall be exempt from tax by the other Contracting State. 5. Paragraphs 2, 3, and 4 shall not apply if the recipient of interest from sources within one of the Contracting States, being a resident of the other Contracting State, carries on business in the first-mentioned Contracting State through a permanent establishment situated therein or performs in that other State independent personal services from a fixed base situated therein and the debt claim in respect of which the interest is paid is effectively connected with such permanent establishment or fixed base. In such a case, the provisions of Article 8 (Business Profits) or Article 15 (Independent Personal Services), as the case may be, shall apply. xxx xxx xxx 7. The term "interest" as used in this Convention means income from debt-claims of every kind, whether or not secured by mortgage, and whether or not carrying a right to participate in the debtor's profits, and in particular, income from government securities and income from bonds or debentures, including premiums and prizes attaching to such securities, bonds or debentures, as well as income assimilated to income from money lent by the taxation law of the Contracting State in which the income arises, including interest on deferred payment sales. xxx xxx xxx" Based on the foregoing, interest arising from the Philippines and paid to a resident of the US which does not have a permanent establishment in the Philippines will be taxed at a preferential tax rate not exceeding ten percent (10%) of the gross amount of interest with respect to public issues of bonded indebtedness; or exempt from income tax if the interest is derived, guaranteed or insured by the US government or an instrumentality thereof or by other institutions as may be mutually agreed upon by the competent authorities of the Philippines and the US. In all other cases, a tax rate not exceeding fifteen percent (15%) of the gross amount of interest shall apply. Such being the case, this Office is of the opinion and so holds that since MSEMI is not engaged in business in the Philippines through a permanent establishment situated therein, and the interest is neither with respect to public issues of bonded indebtedness nor derived, guaranteed or insured by the US government or an instrumentality thereof, the interest income to be paid by PAII to MSEMI, whether falling under the purview of basic or turnover interest , shall be subject to a preferential tax rate of 15% pursuant to Article 12(2) of the Philippines-US tax treaty. (BIR Ruling No. ITAD-187-03 dated December 1, 2003) Moreover, the subject Loan Agreement shall be subject to the documentary stamp tax imposed under Section 179 of the National Internal Revenue Code of 1997 (Tax Code), as amended. The same Tax Code also provides that the corresponding documentary stamp taxes shall be levied, collected and paid, for and in respect of the transactions so had or accomplished, by the person making, signing, issuing, accepting, or transferring the document, instrument or paper wherever the same is made, signed, issued, accepted or transferred when the obligation or right arises from Philippine sources or the property is situated in the Philippines. Thus, the burden of paying the documentary stamp tax is placed upon the parties to the contract and leaves the tax to be paid indifferently by either of the parties, and accordingly, the party assuming payment of said tax under the contract becomes directly liable therefor. But if for one reason or another, the said tax is not paid, either party to the contract may be made liable to the tax. In view thereof, the documentary stamp tax (including penalties thereto, if there are any) on the Loan Agreement must be paid and the corresponding return thereon be filed by either PAII or MSEMI in accordance with the provisions of the Revenue Regulations No. 9-2000 (Mode of Payment and/or Remittance of the Documentary Stamp Tax (DST) under Certain Conditions) and the Tax Code, as amended. This ruling is issued on the basis on 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. Very truly yours, Commissioner of Internal Revenue By: (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service Footnotes 1. Turnover means gross revenue of PAII before deduction of expenses, including revenue arising from PAII's principal activities as well as any items of revenue and gains that arise incidentally. 2. Financial Year means December 1 to November 30 or such period for which PAII publishes its financial statements.