ITAD BIR Ruling No. 019-13

February 1, 2013 ITAD BIR RULING NO. 019-13 Article 10 (2) (a), Philippines-Japan tax treaty, as amended; BIR Ruling No. ITAD-32-11 Isla Lipana & Co. 29/F Philamlife Building 8767 Paseo de Roxas Makati City Attention: Carlos Hilario Mateo Gentlemen : This refers to your Tax Treaty Relief Application ("TTRA") filed on April 3, 2012, on behalf of NTT Docomo, Inc. ("NTT Docomo" ) , requesting confirmation that the dividends paid by Philippine Long Distance Telephone Company ("PLDT") to NTT Docomo are subject to preferential tax rate of 10 percent pursuant to Article 10 (2) (a) of the amended 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 ("Philippines-Japan tax treaty, as amended") . cDCSTA It is represented that NTT Docomo , with address at 2-11-1, Nagata-cho, Chiyoda-ku, Tokyo, 100-6150, Japan, is a corporation organized and existing under the laws of Japan, and is a resident of Japan per the Certificate of Residence issued on March 23, 2012 by the District Director of Kojimachi Tax Office; that it was licensed to established a branch office in the Philippines ( "NTT Docomo Philippine Branch" ) on May 31, 2006 per Certificate of Corporate Filing/Information issued by the Securities and Exchange Commission dated April 10, 2012; that per Certification issued by NTT Docomo Philippine Branch , the subject income derived by NTT Docomo from its investment in PLDT is neither connected with, nor resulting from the ordinary course of trade or business of NTT Docomo Philippine Branch , and that the shares of NTT Docomo in PLDT or the dividends derived therefrom are neither used nor held for use in the conduct of trade or business of NTT Docomo Philippine Branch ; and that, on the other hand, PLDT is a corporation, organized and existing under the laws of the Philippines, with principal address at Cojuangco Building, Makati Avenue, Makati City. It is further represented, that during the meeting of the Board of Directors of PLDT held on March 6, 2012, the Board of Directors declared out of the audited unrestricted retained earnings as of December 31, 2011, a regular dividend of Sixty-Three Pesos (P63.00) per outstanding share of common stock of PLDT, payable on April 20, 2012; that as of record date and until the payment date, NTT Docomo is the beneficial holder of the 31,330,155 common shares valued at Php83,463,532,920.00, which represents 14.5% shareholdings in PLDT; and that, per certification issued by The Hongkong and Shanghai Banking Corporation Limited dated July 17, 2012, such dividends were remitted to NTT Docomo on April 20, 2012. It is finally represented, per Sworn Statement dated April 2, 2012 issued by PLDT, 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. 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 dividends derived in the Philippines by a nonresident foreign corporation. It 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 subparagraph 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, Article 10 of the Philippines-Japan tax treaty, as amended, which you invoke, may apply to the instant case. It provides: "Article 10 1. Dividends paid by a company which is a resident of a Contracting State to a resident of the other Contracting State may be taxed in that other Contracting State. TaISDA 2. However, such dividends may also be taxed in the Contracting State of which the company paying the dividends is a resident, and according to the laws of that Contracting State, but if the recipient is the beneficial owner of the dividends the tax so charged shall not exceed: a) 10 per cent of the gross amount of the dividends if the beneficial owner is a company which holds directly at least 10 percent either of the voting shares of the company paying the dividends or of the total shares issued by that company during the period of six months immediately preceding the date of payment of the dividends; b) 15 per cent of the gross amount of the dividends in all other cases. xxx xxx xxx 4. The term 'dividends' as used in this Article means income from shares or other rights, not being debt-claims, participating in profits, as well as income from other corporate rights assimilated to income from shares by the taxation laws of the Contracting State of which the company making the distribution is a resident." Based on the aforequoted provisions, dividends arising in the Philippines and paid to a resident of Japan may be taxed in the Philippines at a rate not to exceed (a) 10 percent of the gross amount of the dividends if (i) the beneficial owner is a company which holds directly at least 10 percent of the voting shares of the company paying the dividends or of the total shares issued by that company during the period of six months immediately preceding the date of payment of the dividends, or (ii) the dividends are paid by a company, being a resident of the Philippines, which is registered with the Board of Investments and engaged in preferred pioneer areas of investment under the investment incentives laws of the Philippines; and (b) 15 percent of the gross amount of the dividends, in all other cases. However, under paragraph 5, Article 10 of the same treaty, the Philippines, being the source of the dividends, is not obliged to limit the tax rates on dividends under paragraphs 2 and 3 of the article if the holding in respect of which the dividends are paid is effectively connected with a permanent establishment which NTT Docomo has in the Philippines. Under paragraph 2 (b), Article 5 of the tax treaty, NTT Docomo Philippine Branch , is considered a permanent establishment of NTT Docomo , thus: "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. 2. The term 'permanent establishment' includes especially: a) a store or other sales outlet; b) a branch ; c) an office; d) a factory; e) a workshop; f) a warehouse; g) a mine, an oil or gas well, a quarry or other place of extraction of natural resources. . . ." (Underscoring ours) On the question of whether dividends are effectively connected with a permanent establishment, the following commentaries of the Organisation for Economic Co-operation and Development ("OECD") Model Tax Convention on Income and on Capital (Condensed Version, July 22, 2010 p. 193) mention that such dividends are effectively connected if they are paid in respect of holdings forming part of the assets of the permanent establishment or otherwise effectively connected with that establishment, thus: "24. Certain States consider that dividends, interest and royalties arising from sources in their territory and payable to individuals or legal persons who are residents of other States fall outside the scope of the arrangement made to prevent them from being taxed both in the State of the beneficiary's residence when the beneficiary has a permanent establishment in the former State. Paragraph 4 (paragraph 5 of Article 10 of the Philippines-Japan tax treaty) is not based on such conception which is sometimes referred to as 'the force of attraction of the permanent establishment'. It does not stipulate that dividends flowing to a resident of a Contracting State from a source situated in the other State must, by a kind of legal presumption, or fiction even, be related to a permanent establishment which that resident may have in the latter State, so that the said State would not be obliged to limit its taxation in such a case. The paragraph merely provides that in the State of source the dividends are taxable as part of the profits of the permanent establishment there owned by the beneficiary which is a resident in the other State, if they are paid in respect of holdings forming part of the assets of the permanent establishment or otherwise effectively connected with that establishment. In that case, paragraph 4 (paragraph 5 of Article 10 of the Philippines-Japan tax treaty) relieves the State of source of the dividends from any limitations under the Article. The foregoing explanations accord with those in the Commentary on Article 7 (on Business Profits)." (Underscoring supplied) EICScD Similarly, following the Supreme Court in Marubeni Corporation vs. Commissioner of Internal Revenue and the Court of Tax Appeals (G.R. No. 76573 dated September 14, 1989) , dividends derived by a foreign corporation can become effectively connected with its branch office in the Philippines if the business activities that give rise to such dividends are conducted through the branch office, following the principal-agent relationship theory, thus: " The general rule that a foreign corporation is the same juridical entity as its branch office in the Philippines cannot apply here. This rule is based on the premise that the business of the foreign corporation is conducted through its branch office, following the principal-agent relationship theory. It is understood the branch becomes its agent here. So that when the foreign corporation transacts business in the Philippines independently of its branch, the principal-agent relationship is set aside. The transaction becomes one of the foreign corporation, not the branch or the resident foreign corporation. Corollarily, if the business transaction is conducted through the branch office, the latter becomes the taxpayer, and not the foreign corporation." (Underscoring supplied) Accordingly, the holdings in respect of the dividends paid by PLDT to NTT Docomo are not effectively connected with NTT Docomo Philippine Branch since they are paid not in respect of holdings forming part of the assets of NTT Docomo Philippine Branch or otherwise effectively connected therewith, and since the business activities that give rise to such dividends are not conducted through NTT Docomo Philippine Branch . This is because NTT Docomo Philippine Branch neither has investments nor owns shares of stock in PLDT; does not use or hold for use in the conduct of its trade or business any shares of stock in PLDT; NTT Docomo acquired such shares in PLDT directly and without the participation of NTT Docomo Philippine Branch ; and, dividends arising from these shares inure solely to the benefit of NTT Communications and NTT Docomo Philippine Branch did not receive any of these dividends. Hence, NTT Docomo Philippine Branch is not a material factor in the realization of dividends received by the NTT Docomo . In view thereof, considering that NTT Docomo holds 14.5% of the outstanding shares of the common stock of PLDT, such dividends paid by PLDT to NTT Docomo are subject to the preferential tax rate of 10 percent of the gross amount thereof, pursuant to paragraph 2 (a), Article 10 of the Philippines-Japan tax treaty, as amended. ( BIR Ruling No. ITAD-32-11 dated January 28, 2011 ) 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, (SGD.) KIM S. JACINTO-HENARES Commissioner of Internal Revenue