DA ITAD BIR Ruling No. 119-06

October 10, 2006 DA ITAD BIR RULING NO. 119-06 Arts. 7 & 5, Philippines-Malaysia Tax Treaty; BIR Ruling No. DA-ITAD 152-02 Romulo Mabanta Buenaventura Sayoc & De Los Angeles 30th Floor, Citibank Tower 8741 Paseo de Roxas, Makati City Attention: Atty. Priscilla B. Valer Gentlemen : This refers to your letter dated April 17, 2006 received by this Office on June 26, 2006, requesting confirmation of your opinion that the payments for services rendered by BASF Asia-Pacific Service Centre Sdn. Bhd. (BASC) to BASF Philippines, Inc. (BPI) are not subject to Philippine income tax pursuant to the Philippines-Malaysia tax treaty and that the value added taxes and the payments are deductible business expenses of BPI. It is represented that BASC is a nonresident foreign corporation duly organized and existing under the laws of Malaysia as confirmed by the Certification of Incorporation of Private Company issued by the Registry of Companies of Malaysia on November 24, 2004; that its business address is located at Level 14, Uptown 1, No. 1 Jalan SS21/58, Damansara Uptown, 47400 Petaling Jaya, Selangor Darul Ehsan, Malaysia; that it 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 March 20, 2006; that BPI is a domestic corporation with business address at 103 Progress Ave., Phase 1, GIZ, Carmelray Industrial Park 1, Canlubang, Laguna. It is further represented that on July 1, 2006, BPI and BASC entered into a Master Service Agreement (MSA) whereby BASC agreed to render the following services: Finance & Accounting (F&A): Accounts Payable, Accounts Receivable, General Accounting, Treasury and Financial Reporting, as set out in Annex 1; Human Resources (HR): payroll processing, salary payments and general ledger posting, employee data administration and processing, training administration, compensation and performance management administration, as set out in Annex 2; and ASTDCH Such other services as the parties may agree to in writing from time to time That under the MSA, BASC will provide the foregoing services at its own business premises in Malaysia; that in performing its obligations under the said MSA, BASC shall at all time: a) provide such qualified and/or experienced personnel and all necessary equipment and other resources as may be required to perform its obligations professionally, efficiently and safely; b) exercise the degree of diligence, skill and care which could reasonably be expected of a reasonably competent, skilled and experienced person engaged in the provision of services similar to the Services; c) to arrange and maintain at its own cost and expense all licenses, approvals and consents from the government authorities, ministries, departments required under the applicable laws and regulations necessary to perform its obligations and keep such licenses, approvals and consents valid; d) carry out its obligations promptly and in accordance with any time schedule agreed upon by the parties; and e) execute its obligations in a professional, safe and efficient manner in conformity with all relevant laws and regulations. That the documents and information required from BPI to enable BASC to render the service shall be made available by BPI by fax, phone or email; that the MSA shall be valid from July 1, 2006 and shall continue for eight (8) years (Initial Term) and indefinitely thereafter; that in consideration for the services, BPI shall pay BASC for the full cost incurred for the provision of the services plus 5% mark-up; and that the herein transaction subject of this 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. In reply, please be informed that Article 7 in relation to Article 5 of the Philippines-Malaysia tax treaty provides: "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 on so much thereof as is attributable to that permanent establishment. cESDCa xxx xxx xxx" "Article 5 PERMANENT ESTABLISHMENT 1. For the purposes of this Agreement, the term 'permanent establishment' means a fixed place of business in which the business of the enterprise is wholly or partly carried on. 2. The term 'permanent establishment' shall include 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 other place of extraction of natural resources including timber or other forest produce; g) a farm or plantation; h) a building site or construction, installation or assembly project which exists for more than 6 months." Pursuant to Article 7 in relation to Article 5 of the Philippines-Malaysia tax treaty, the Philippines is allowed to tax the business profits of an enterprise which is a resident of Malaysia if it has a permanent establishment situated in the Philippines and only so much of such profit that is attributable to that permanent establishment. Inasmuch as BASC cannot be deemed to have a permanent establishment in the Philippines, as such, the service fees to be paid by BPI for the services performed are not subject to Philippine income tax. (BIR Ruling No. DA-ITAD 152-02 dated August 29, 2002) As regards the deductibility of the service fees as an ordinary and necessary business expense on the part of BPI, this Office declines to rule on the matter considering the factual nature of the issue. However, this does not preclude the taxpayer to treat it as a deductible item, the allowability of which is subject to the findings of an investigation pursuant to the substantiation requirements under Section 34(A)(1)(b) of the National Internal Revenue Code. (BIR Ruling No. DA-ITAD 129-03 dated August 18, 2003) DSCIEa Moreover, while the payments for services rendered outside the Philippines are not subject to VAT, the fees paid for the services rendered for BPI within the Philippines are, however, subject to 10% (12% effective February 1, 2006, under Republic Act No. 9337) 1 value-added tax (VAT) pursuant to Section 108 of the Tax Code of 1997. Accordingly, BPI, being the resident withholding agent and payor in control of payment shall be responsible for the withholding of the final VAT on such fees before making any payment to BASC. In remitting the VAT withheld, BPI shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax & Other Percentage Taxes Withheld). The duly filed BIR Form No. 1600 and proof of payment thereof shall serve as documentary substantiation for the claim of input tax to be applied against the output tax that may be due from BPI if it is VAT-registered taxpayer. In case it is non-VAT registered taxpayer, the passed-on VAT withheld shall form part of the cost of the service purchased or treated as an "expense" or as an "asset", whichever is applicable. In addition, it is required to issue in quadruplicate the relevant Certificate of Creditable Tax Withheld at Source (BIR Form No. 2307) in quadruplicate, the first three copies for BASC and the fourth copy for BPI as its file copy. (Sections 4 & 6, Revenue Regulations (RR) No. 4-2002; Section 3 of RR 8-2002; Section 7 of RR 14-2002) 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, Commissioner of Internal Revenue By: (SGD.) JAMES H. ROLDAN Assistant Commissioner Legal Service Footnotes 1. RMC 7-2006 Publishing the Full text of the Memorandum from Executive Secretary Eduardo R. Ermita dated January 31, 2006, Approving the Recommendations of the Secretary of Finance to Value Added Tax Rate from Ten Percent to Twelve Percent.