ITAD BIR Ruling No. 016-10

August 11, 2010 ITAD BIR RULING NO. 016-10 Articles 5 & 7, Philippines-Japan tax treaty; BIR Ruling No. 068-88; BIR Ruling No. ITAD-101-00; BIR Ruling No. ITAD-091-01; BIR Ruling No. ITAD-184-02; BIR Ruling No. ITAD-078-02; BIR Ruling No. DA-ITAD-151-06; BIR Ruling No. DA-ITAD-065-07 Punongbayan & Araullo Certified Public Accountants 20th Floor, Tower 1 The Enterprise Center 1200 Makati City Philippines Attention: Ms. Marivic C. Espao Tax Partner Gentlemen : This refers to your letter dated February 5, 2008, received by this Office on April 25, 2008, on behalf of your client, Ushio Philippines, Inc. (Ushio Phils) , requesting confirmation of your opinion that the service fees paid to Ushio, Inc. (Ushio Japan) under a Marketing Support Service Agreement are not subject to Philippine income tax and value-added tax (VAT) pursuant to the Philippines-Japan tax treaty. cACTaI It is represented that Ushio Japan is a nonresident foreign corporation with office address at 6-1 Ohtemachi 2-chome, Chiyoda-ku, Tokyo, Japan; that it is not registered either as a corporation or a partnership in the Philippines per certification issued by the Securities and Exchange Commission dated June 29, 2007; that Ushio Japan operates the business of manufacturing in Japan as well as providing marketing services; that Ushio Phils is a corporation organized and existing under the laws of the Philippines with principal office at FCIE Compound, Brgy. Langkaan, Dasmarias, Cavite; and that it is engaged in the business of manufacturing various kinds of halogen lamps. It is further represented that Ushio Phils and Ushio Japan entered into a Marketing Support Agreement (Agreement) to take effect on April 1, 2007 under which Ushio Japan shall provide the following offshore services: 1. Advertisement and promotion of the products manufactured by Ushio Phils in the Philippines to potential clients in Japan and other countries outside the Philippines; 2. Development and maintenance of marketing strategies outside the Philippines; 3. Undertake such other incidental marketing services as may be required by Ushio Phils to promote Ushio Phils business in other countries but shall not involve any transfer of technology, know-how or other intellectual property rights; and that 4. The above-described offshore services shall be performed solely by Ushio Japan outside the Philippines, through its employee or personnel. That as compensation for the services performed by Ushio Japan, Ushio Phils shall pay a basic fee of 4,100,000.00 Japanese Yen and alterable addition charge to depend on the service performed monthly for the period beginning from April 2007 to March 2008; that thereafter, the monthly fee to be charged by Ushio Japan shall be evaluated and agreed by both parties; and that the term of the Agreement shall be effective for a period of twelve-months and commences from the Effective Date, subject to an automatic renewal for successive periods of one (1) year each, unless either party provides to the other party notice to the contrary not later than one (1) month prior to the expiration of the term, and the same shall apply to any successive extension; and that the issue or transaction subject of this request for ruling is not under investigation, on-going audit, administrative protest, claims for refund or issuance of a tax credit certificate, collection proceedings, or judicial appeal per Sworn Statement issued by Ushio Phils dated January 30, 2008. HIAcCD In reply, please be informed that Section 28 (B) (1) of the National Internal Revenue Code (Tax Code) of 1997, as amended, applies in general to income received by a nonresident foreign corporation which provides: "Section 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 interest, dividends, rents, royalties, salaries, premiums (except reinsurance premiums), annuities, emoluments or other fixed or determinable annual, periodic or casual gains, profits and income, and capital gains, except capital gains subject to tax under subparagraphs 5(c): Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%)." However, Section 32 (B) (5) of the Tax Code of 1997, as amended provides: "Section 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: 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. xxx xxx xxx" Thus, you invoked Article 7 of the Philippines-Japan tax treaty which provides: "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." cCAaHD Based on the above, 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 that is attributable to that permanent establishment. Applying this to the instant case, if, the service fees to be received by Ushio Japan are for services rendered in the Philippines, then it shall be taxable in the Philippines only if it has a permanent establishment in the Philippines in connection with the activities giving rise to such income. In relation thereto, Article 5 of the same tax treaty defines a permanent establishment, as follows: "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. However, if the furnishing of such services is effected under an agreement between the Governments of the two Contracting States regarding economic or technical cooperation, that enterprise shall, notwithstanding any provisions of this Article, not be deemed to have a permanent establishment in that other Contracting State." Considering that the services is performed by Ushio Japan outside the Philippines, Ushio Japan is not deemed to have a permanent establishment in the Philippines to which its business profits may be attributed to. Such being the case, the services fees paid by Ushio Phils to Ushio Japan are not subject to Philippine income tax pursuant to Article 7 (1) in relation to Articles 5 (1) and (6) of the Philippines-Japan tax treaty. (BIR Ruling No. 068-88 dated March 3, 1988; BIR Ruling No. ITAD-101-00 dated August 7, 2000; BIR Ruling No. ITAD 091-01 dated October 18, 2001; BIR Ruling No. ITAD 184-02 dated October 17, 2002; BIR Ruling No. ITAD-078-02 dated May 2, 2002) aCIHAD Lastly, since it is represented that the said services will be rendered entirely in Japan, the service fees to be paid by Ushio Phils to Ushio Japan will not be subject to the VAT imposed under Section 108 (A) of the Tax Code of 1997, as amended, which provides: "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: Provided, that the President, upon the recommendation of the Secretary of Finance, shall, effective January 1, 2006, raise the rate of value-added tax to twelve percent (12%), 1 after any of the following conditions has been satisfied: (i) . . . (ii) . . . . . . 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, . . ." Sec. 108 (A) clearly states that the sale or exchange of services subject to VAT include only those services that are performed in the Philippines. Accordingly, since the subject services will not be performed in the Philippines, the service fees in consideration for the said services paid by Ushio Phils to Ushio Japan are therefore not subject to VAT. (BIR Ruling No. DA-ITAD-151-06 dated December 8, 2006; BIR Ruling No. DA-ITAD-065-07 dated May 16, 2007) This ruling is issued on the basis of the 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. cETCID Very truly yours, (SGD.) KIM S. JACINTO-HENARES Commissioner of Internal Revenue Footnotes 1. The VAT rate was increased to 12% on February 1, 2006, in accordance with the Memorandum of the Executive Secretary to the Secretary of Finance dated January 31, 2006, as circularized by Revenue Memorandum Circular No. 7-2006 (Publishing the Full Text of the Memorandum from Executive Secretary Eduardo R. Ermita dated January 31, 2006 Approving the Recommendation of the Secretary of Finance to Increase the Value Added tax Rate from Ten Percent to Twelve Percent) dated January 31, 2006.