DA ITAD BIR Ruling No. 109-08

December 23, 2008 DA ITAD BIR RULING NO. 109-08 Article 11, Philippines-Japan tax treaty Section 179, National Internal Revenue Code of 1997, as amended; BIR Ruling No. DA-ITAD-16-08 Isla Lipana & Co. 29th Floor Philamlife Tower 8767 Paseo de Roxas 1226 Makati City Attention: Atty. Malou P. Lim Partner, Tax Services Gentlemen : This refers to your letter dated 19 December 2007, on behalf of TONETS Corporation, requesting confirmation that interest income earned by TONETS Corporation on a loan made to MODAIR Manila Co. Ltd., Inc. is subject to the preferential tax treaty rate of fifteen percent (15%), pursuant to the provisions of the Philippines-Japan tax treaty. 1 It is represented that TONETS Corporation (hereinafter referred to as "TONETS") is a company duly organized and existing under the laws of Japan and is a resident of Japan, as evidenced by a Certification issued by the District Director of Kyobashi Tax Office dated 26 March 2008, with office address at 5-12 Kyobashi 2-Chome, Chuo-ku, Tokyo, Japan; that it had a Manila branch which was duly registered with the Philippines' Securities and Exchange Commission (SEC) under Certificate of Registration No. A1996-06866; that the said Manila branch has ceased its operations since 31 December 1998 following the completion of the fire protection, fire and sanitary systems works for Ninoy Aquino International Airport Terminal 2 Development project (the only purpose for the establishment of the branch office), per the Affidavit of Cessation of Business Operations executed by the General Manager of the said Manila branch on 22 July 2002 and attached to the General Information Sheet submitted to the SEC on 29 July 2002, in compliance with the reportorial requirements of the latter; that MODAIR Manila Co. Ltd., Inc. (hereinafter referred to as "MODAIR"), on the other hand, is a company duly organized and incorporated under the laws of the Philippines, with office address at 3rd Floor Emmanuel House, 115 Aguirre Street, Legaspi Village, Makati City. cETDIA It is further represented that on 20 October 1999, TONETS and MODAIR entered into a Loan Agreement in the amount of Three Million Nine Hundred Ninety-three Thousand One Hundred Eighty-three and 51/100 US Dollars (US$3,993,183.51), equivalent to Four Hundred Eighty-three Million Three Hundred Seventy-two Thousand Three Hundred Ninety and 00/00 Yen (483,372,390) at an interest rate of 2.1% per annum (for the first year only) with the succeeding interests revised on an annual basis as may be agreed upon by the parties; and that the transaction subject of the above request for ruling is not under investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceedings, or a judicial appeal of the taxpayers involved. In reply, please be informed that interest income derived by a nonresident foreign corporation is generally taxable under Section 28, paragraph B, sub-paragraphs 1 and 5 (a) of the National Internal Revenue Code of 1997 (Tax Code of 1997), as amended by Republic Act No. 9337. It provides: "SEC. 28. Rates of Income Tax on Foreign Corporations. xxx xxx xxx (B) Tax on Nonresident Foreign Corporation. (1) In General. Except as otherwise provided in this Code, a foreign corporation not engaged in trade or business in the Philippines shall pay a tax equal to thirty-five percent (35%) of the gross income received during each taxable year from all sources within the Philippines, such as interests, . . .: Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%)." cAHDES xxx xxx xxx (5) Tax on Certain Incomes Received by a Nonresident Foreign Corporation. (a) Interest on Foreign Loans. A final withholding tax at the rate of twenty percent (20%) is hereby imposed on the amount of interest on foreign loans contracted on or after August 1, 1986; However, said interest income may be exempt or partially exempt pursuant to a treaty obligation to which the Philippine government is bound. Thus, Section 32 (B) (5) of the Tax Code of 1997, as amended provides: "SEC. 32. Gross Income. xxx xxx xxx (B) Exclusions from Gross Income. The following items shall not be included in gross income and shall be exempt from taxation under this Title: 2 xxx xxx xxx (5) Income Exempt under Treaty. Income of any kind, to the extent required by any treaty obligation binding upon the Government of the Philippines." ITaCEc Accordingly, the Philippines-Japan tax treaty, which you have invoked, may apply to the interest payments made by TONETS to MODAIR. Article 11 provides: "Article 11 1. Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other Contracting State. HTCAED 2. However, such interest may also be taxed in the Contracting State in which it arises, and according to the laws of that Contracting State, but if the recipient is the beneficial owner of the interest the tax so charged shall not exceed: a) 10 per cent of the gross amount of the interest if the interest is paid in respect of Government securities, or bonds or debentures; b) 15 per cent of the gross amount of the interest in all other cases. HaAIES 3. Notwithstanding the provisions of paragraph 2, the amount of tax imposed by the Philippines on the interest paid by a company, being a resident of the Philippines, registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines to a resident of Japan, who is the beneficial owner of the interest, shall not exceed 10 per cent of the gross amount of the interest. 4. Notwithstanding the provisions of paragraphs 2 and 3, interest arising in a Contracting State and derived by the Government of the other Contracting State including political subdivisions and local authorities thereof, the Central Bank of that other Contracting State or any financial institution wholly owned by that Government, or by any resident of the other Contracting State with respect to debt-claims guaranteed or indirectly financed by the Government of that other Contracting State including political subdivisions and local authorities thereof, the Central Bank of that other Contracting State or any financial institution wholly owned by that Government shall be exempt from tax in the first-mentioned Contracting State. For the purposes of this paragraph, the term "financial institution wholly owned by the Government" means: a) In the case of Japan, the Export-Import Bank of Japan, the Overseas Economic Cooperation Fund and the Japan International Cooperation Agency; b) In the case of the Philippines, the Development Bank of the Philippines; and c) Any such financial institution the capital of which is wholly owned by the Government of either Contracting State, other than those referred to in sub-paragraphs (a) and (b) above, as may be agreed from time to time between the Governments of the two Contracting States. TEDAHI 5. The term "interest" as used in this Article 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. 6. The provisions of paragraphs 1, 2 and 3 above shall not apply if the beneficial owner of the interest, being a resident of a Contracting State, carries on business in the other Contracting State in which the interest arises, through a permanent establishment situated therein, or performs in that other Contracting 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 case the provisions of Article 7 or Article 14, as the case may be, shall apply. xxx xxx xxx" Based of the above provisions, interest on foreign loans are generally taxable in the Philippines at the rate of twenty percent (20%). However, interests derived by a corporation which is a resident of Japan may qualify for a preferential rate of fifteen percent (15%) of the gross amount thereof, under the Philippines-Japan tax treaty, if the recipient of such interest is also the beneficial owner thereof. However, the 15% tax rate shall not apply if the Japanese corporation has a permanent establishment in the Philippines and the subject interest income is effectively connected to the said permanent establishment. EHSITc In the instant case, considering that the Manila branch of TONETS has ceased its operations since December 1998, it may be deemed as not having a permanent establishment in the Philippines. Thus, this Office is of the opinion and so holds that said interest income derived from the herein subject Loan Agreement between TONETS and MODAIR is subject to the preferential tax rate of 15% of its gross amount, pursuant to Article 11 (2) b of the Philippines-Japan tax treaty. (BIR Ruling No. DA-ITAD-16-08 dated 07 March 2008 and BIR Ruling No. 142-95 dated 13 September 1995) Moreover, the said Loan Agreement entered into between TONETS and MODAIR is subject to documentary stamp tax imposed under Section 179 of the Tax Code of 1997, as amended, at the rate of One Peso (P1.00) on each Two Hundred Pesos (P200) or fractional part thereof, of the issue price of any such loan agreement. ScTaEA This ruling is issued on the basis of the foregoing facts as represented. However, if upon investigation it shall be disclosed that the actual 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.) GREGORIO V. CABANTAC Deputy Commissioner Legal and Inspection Group Footnotes 1. Formally known as The Convention Between The Republic of the Philippines and Japan for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income. 2. TITLE II TAX ON INCOME.