DA ITAD BIR Ruling No. 084-06

July 28, 2006 DA ITAD BIR RULING NO. 084-06 Articles 5 & 7 Philippines-Switzerland Tax Treaty; ITAD Ruling No. 24-04 V.C. Mamalateo And Associates Unit 6C, 20 Lansberge Place 170 T. Morato Avenue, Quezon City Attention: Carmencita P. Victorino Partner Gentlemen : This refers to your letter dated May 12, 2006, on behalf of your client, Electrowatt-Ekono Ltd. ("EEL" for brevity), requesting for a ruling that: CAaDTH 1. EEL does not have a permanent establishment in the Philippines pursuant to Article 5(2)(h) of the Philippines-Switzerland tax treaty; and 2. Since EEL does not have a permanent establishment in the Philippines under the tax treaty, the compensation paid by United Pulp and Paper Co., Inc. ("UPPC" for brevity), a domestic corporation, to EEL, as consideration for engineering works and services under the Engineering Services Contract for the Coal Fired Boiler Plant dated April 30, 2004 and the Amendment to the Engineering Service Contract dated November 30, 2004, is exempt from Philippine income tax and consequently from the withholding income tax pursuant to Article 7(1) in relation to Article 5(2)(h), both of the Philippines-Switzerland tax treaty. It is represented that EEL is a nonresident foreign corporation organized and existing under the laws of Switzerland with principal office at Hardturmstrasse 161, Postfach 8037 Zurich, Switzerland as shown in the Certificate of Residence dated April 25, 2006; that EEL is not registered either as a corporation or as a partnership in the Philippines as confirmed by the Certification of Non-Registration issued by the Securities and Exchange Commission on June 23, 2006; that, on the other hand, UPPC is a corporation organized and existing under the laws of the Philippines with principal office at 5th Floor, Phinma Plaza, 39 Plaza Drive, Rockwell Center, Makati City. It is further represented that on April 30, 2004, EEL and UPPC entered into an Engineering and Supervision Services Contract for Coal Fired Boiler Plant ("Contract" or brevity) to construct a new circulating fluidized bed boiler at its compound at Calumpit, Bulacan; that under the Contract, EEL shall provide UPPC documentation and drawings for the Balance of Plant (BOP) engineering, machinery design, drawing services and Plant civil engineering and shall render supervisory services for the erection, installation, commissioning, start up and performance test of the said plant for a consideration of USD One Million Two Hundred Seventy Six Thousand Five Hundred Ninety Four (US$ 1,276,594.00); that on April 26, 2005 (Amended Contract), EEL and UPPC agreed to amend the following Articles of the Engineering and Supervision Services Contract for Coal Fired Boiler Plant: 1. The Definitions under Article 1 of the Contract; 2. The Obligations of the Engineer under Article 3 of the Contract; 3. UPPC's obligations under Article 4 of the Contract; 4. The Contract Price under Article 5 of the Contract; and 5. The Terms of Payment under Article 6, and Article 25 respectively of the Contract; That the highlights of the foregoing amendments are as follows: 1. Amendment No. 1. to the Engineering and Supervision Services Contract: (effective November 30, 2004) a) The Contract is renamed as Engineering Services Contract; b) The provisions of the Supervisory Services under Article 3 (Obligations of the Engineer) of the amended contract are deleted; c) The definition of the term "Supervisor" is deleted; and d) The Contract Price is reduced to USD One Million Forty Four Thousand Two Hundred (US$1,044,200.00) It is also represented, based on a July 11, 2006 notarized Sworn Statement of Aurasa Jinawath, Vice President/Finance & Treasurer of the UPPC, that EEL did not perform any construction, erection, commissioning, start-up and performance test of the Plant under the Original and Amended Contract dated April 31, * 2004 and April 26, 2005 respectively; that a local company did the construction, erection, commissioning, start-up and performance test of the subject Plant; that EEL did not perform any supervision services under ( i.e. , including prior to, during or after the amendment thereof) the said Contract for the erection, installation, commissioning, start up and performance test of the said plant; that pursuant to Section 3.2(1) of both the original and Amended Contract EEL rendered only the following services to UPPC: "(1) Provision of the documentation, drawings and other necessary data of the BOP engineering, material list, machinery design, Plant civil design and drawing services, in the form of Technical Documents, so as to enable to successful erection, operation and maintenance of BOP as well as Plant construction." that EEL did not perform any supervision services under the Amended Contract dated April 26, 2005. Moreover, it is represented that the two (2) employees of EEL, Mr. Peter Heizelmann and Mr. Andreas Bacholen, who rendered engineering works under the above mentioned original and amended Contracts, stayed in the Philippines for a total of forty-nine (49) days and twenty-three (23) days, respectively, as shown in the certification dated June 15, 2006 issued by UPPC's Vice-President for Finance and Treasurer, Aurasa Jinawath. In reply, please be informed that Article 7 of the Philippines-Switzerland tax treaty provides, viz: "Article 7 BUSINESS PROFITS 1. The profits of an enterprise of a Contracting State shall be taxable only in that 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 the other State but only so much of them as is attributable to that permanent establishment. xxx xxx xxx." In relation thereto, Article 5 of the same tax treaty defines permanent establishment, as follows: "Article 5 PERMANENT ESTABLISHMENT 1. For the purposes of this Convention, the term 'permanent establishment' means a fixed place of business through which the business of the enterprise is wholly or partly carried on. aCcHEI 2. The term 'permanent establishment' includes especially: a) a place of management; b) a branch; c) an office; d) a factory; e) a workshop; f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources; g) a building site, a construction, assembly or installation project or supervisory activities in connection therewith, but only where such site, project or activity continues for a period of more than six months; h) the furnishing of services, including consultancy services, by an enterprise through employees or other personnel engaged by the enterprise for such purpose, but only where activities of that nature continue (for the same or a connected project) within the country for a period or periods aggregating more than six months within any twelve-month period. xxx xxx xxx." Based on the foregoing provisions, if a corporation which is a resident of Switzerland carries on business in the Philippines through a permanent establishment situated therein, the profits of the said Swiss corporation shall be subject to Philippine income tax but only so much of them as is attributable to the permanent establishment. For this purpose, a corporation may be deemed to have a Permanent Establishment in the Philippines if it furnishes services, including consultancy services through its employees, where such rendition of services continues (for the same or connected project) within the Philippines for a period or periods aggregating more than 6 months within any 12-month period. In other words, if the duration of a contract until its completion in connection with furnishing services including consultancy services exceeds more than six (6) months, an enterprise is already deemed carrying on business in the Philippines through a permanent establishment. Inasmuch as it has been represented that the EEL did not perform any supervisory services in the erection, installation, commissioning, start up and performance test of the said plant and the engineering works performed in the Philippines did not exceed 6 months or 183 days in any twelve-month period, EEL considered as not having a permanent establishment in the Philippines. And is, therefore, not subject to Philippine income tax and consequently to the withholding tax under Section 28(B)(1) of the same Code. (BIR Ruling No. DA-ITAD 24-04 dated March 11, 2004) Moreover, Section 108 of the Tax Code of 1997, as cited below, provides: "Section 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 . . ." The aforementioned provisions state that the sale or exchange of services which are subject to VAT include only those services that are performed in the Philippines. Accordingly, since the engineering works are performed in the Philippines, the fees to be paid by UPPC to EEL in consideration thereof are subject to the 10% VAT. 1 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. Very truly yours, (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service Footnotes 1. Effective January 1, 2006 the rate is increased to 12%, pursuant to Republic Act No. 9337 (An Act Amending Section 27, 28, (An Act Amending Sections 27, 28, 34, 106, 107, 108, 109, 110, 111, 112, 113, 114, 116, 117, 119, 121, 148, 151, 151, 236, 237 And 288 Of The National Internal Revenue Code Of 1997, As Amended, And For Other Purpose)