ITAD BIR Ruling No. 040-13

February 28, 2013 ITAD BIR RULING NO. 040-13 Article 12 (Royalties); Philippines-Netherlands tax treaty; BIR Ruling No. ITAD 30-11; BIR Ruling No. ITAD 40-10 Sycip Gorres Velayo and Co. 6760 Ayala Avenue 1226 Makati City Attention: Reynante M. Marcelo Partner, Tax Services Gentlemen : This refers to your tax treaty relief application ("TTRA") filed on June 24, 2011 requesting confirmation that royalties paid by Perfetti Van Melle Philippines, Inc. ("Perfetti Philippines") to Perfetti Van Melle Benelux BV ("Perfetti Benelux") and Perfetti Van Melle Holding BV ("Perfetti Holding") are subject to income tax at the rate of 15 percent pursuant to the Convention between the Kingdom of the Netherlands and the Republic of the Philippines for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income ("Philippines-Netherlands tax treaty") . Facts It is represented that Perfetti Benelux and Perfetti Holding are corporations organized and existing under the laws of the Netherlands and are residents thereof based on their respective Articles of Association and Articles of Incorporation and on the Declarations of Residence issued by the Tax Administration of Rivierenland Kantoor Arnhem in the Netherlands on April 20, 2011; that these corporations are situated at Zoete Inval 20, 4815 HK Breda, the Netherlands, and are not registered as corporations or partnerships in the Philippines based on the Certification of Non-Registration of Company issued by the Securities and Exchange Commission on May 30, 2011; and that, on the other hand, Perfetti Philippines is a domestic corporation situated at 16th Floor, Octagon Centre, San Miguel Avenue, Ortigas Center, Pasig City, Philippines. It is also represented that on June 1, 2011, Perfetti Benelux, Perfetti Holding and Perfetti Philippines entered into a Trademarks and Know-How License Agreement where Perfetti Benelux and Perfetti Holding granted Perfetti Philippines the license to sell in the Philippines various kinds of confectionery including candies, chewing gums, bubble gums, jelly candies, lollipops, lozenges and other innovative confectionery products (the "Products ") under the Products' trademarks (" Trademarks "); that Perfetti Benelux and Perfetti Holding also granted Perfetti Philippines the license to use the technological, technical marketing, and commercial know-how in sales, advertisement and promotion of the Products; that Trademarks means the following trademarks belonging to Perfetti Benelux : IEaATD Trademark Philippines Registration Number Dragees background black and white 4-2002-007803 FRUIT-TELLA 4-2001-002711 MARBELS 4-1998-000331 MELLER 4-1996-109374 MENTOS 4-2002-007774 MENTOS 4-1997-121520 MENTOS ICE BLAST 4-2008-500124 MENTOS PURE FRESH PURE BREATH 4-2008-006902 MENTOS 18070 THE FRESHMAKER 58769 That, on the other hand, Perfetti Holding holds the proprietary rights in the technology applied to the manufacturing of the Products and extensive sophisticated know-how in the manufacturing, sales, advertising, promotion, food law, legal assessments and any other fields related to the confectionery business; that in consideration, Perfetti Philippines will pay royalties to Perfetti Benelux and Perfetti Holding based on the Royalty Percentage of the Products and on the Net Sales of the Products to third parties; that Royalty Percentage is equivalent to 2.5 percent for the global brands Mentos, 2 percent for the regional brands Fruitella and Meller, and 1.5 percent for the local brands Marbels; that Net Sales means revenues at list price from third party sales of finished products on the domestic or export market reduced by the following deductions adjustment for price changes, discounts and allowances, price promotions, annual rebates and bonuses to customers, cash discounts to customers, sales returns of finished products previously invoiced to customers, and free goods; that Perfetti Holding will invoice Perfetti Philippines of the amount of the royalties payable to the former and Perfetti Benelux within 7 working days from the end of each quarter, and that Perfetti Philippines will pay the royalties within 30 days from the date of the invoice; that the Agreement took effect retroactively on January 1, 2010, and will be in effect for a period of 5 years; and that thereafter, the Agreement will be renewed automatically for the same period or periods, unless terminated. It is finally represented that the income subject of this ruling is not subject of investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceedings, or judicial appeal, based on the Sworn Statement issued by Perfetti Philippines on June 1, 2011. Ruling In reply, please be informed that under Section 28 (B) (1) of the National Internal Revenue Code of 1997 (" Tax Code "), as amended, the royalties payable to Perfetti Benelux and Perfetti Holding are subject to income tax at the rate of 30 percent, to wit: "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, 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) and (d) above: * Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%)." However, under Section 32 (B) (5) of the Tax Code, such royalties may be exempt from income tax or subject to a reduced rate to the extent required by any treaty obligation on the Philippines, to wit: HATEDC "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: 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." With respect to a treaty, you invoke the Philippines-Netherlands tax treaty. Paragraphs 1, 2, 3 and 4, Article 12 thereof provide: "Article 12 Royalties 1. Royalties arising in one of the States and paid to a resident of the other State may be taxed in that other State. 2. However, such royalties may also be taxed in the State in which they arise, and according to the laws of that State, but if the recipient is the beneficial owner of the royalties the tax so charged shall not exceed: a) 10 per cent of the gross amount of the royalties where the royalties are paid by an enterprise registered, and engaged in preferred areas of activities in that State; and b) 15 per cent of the gross amount of the royalties in all other cases. 3. The competent authorities of the States shall by mutual agreement settle the mode of application of paragraph 2. 4. The term 'royalties' as used in this Article means payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work including cinematograph films or tapes for radio or television broadcasting, any patent, trademark, design or model, plan, secret formula or process, or for the use of, or the right to use, industrial, commercial or scientific equipment, or for information concerning industrial, commercial or scientific experience." Based on the aforequoted provisions, royalties arising in the Philippines and paid to a resident of the Netherlands may be taxed in the Philippines at a rate not to exceed (a) 10 percent if royalties are paid by an enterprise registered, and engaged in preferred areas of activities in the Philippines, and (b) 15 percent in all other cases. Royalties means payments of any kind received as a consideration for the use of, or the right to use, any copyright of literary, artistic or scientific work including cinematograph films or tapes for radio or television broadcasting, any patent, trademark , design or model, plan, secret formula or process, or for the use of, or the right to use, industrial, commercial or scientific equipment, or for information concerning industrial, commercial or scientific experience ("know-how") . ISCaTE Accordingly, since Perfetti Philippines is not an enterprise registered with (particularly, the Board of Investments) and engaged in preferred areas of activities in the Philippines as such, the royalties paid by Perfetti Philippines to Perfetti Benelux and Perfetti Holding under the Agreement for the use of the trademarks and know-how in the manufacture and sale of the Products shall be subject to income tax at the rate of 15 percent of the gross amount thereof. (BIR Ruling No. ITAD 30-11 dated January 28, 2011; BIR Ruling No. ITAD 40-10 dated September 21, 2010) However, considering that the Agreement in question took effect on January 1, 2010 and the subject TTRA was filed only on June 24, 2011 , please take note that Section 14, in relation to Section 13, of Revenue Memorandum Order No. 72-2010 (Guidelines on the Processing of Tax Treaty Relief Applications (TTRA) Pursuant to Existing Philippine Tax Treaties) , provides that the filing of TTRA should be made BEFORE the occurrence of the FIRST TAXABLE EVENT, to wit: "Section 14. When and Where to File the TTRA. xxx xxx xxx Filing should always be made BEFORE the transaction. Transaction for purposes of filing the TTRA shall mean before the occurrence of the first taxable event. Failure to properly file the TTRA with ITAD within the period prescribed herein shall have the effect of disqualifying the TTRA under the RMO. "Section 13. Definitions. xxx xxx xxx 4. First taxable event for purposes of filing the Tax Treaty Relief Application (TTRA), shall mean the first or the only time when the income payor is required to withhold the income tax thereon or should have withheld taxes thereon had the transaction been subjected to tax . . ." Thus, with respect to the subject TTRA filed on June 24, 2011 , or filed before the closest taxable event falling on July 10, 2011 , only royalties paid by Perfetti Philippines to Perfetti Benelux and Perfetti Holding beginning July 10, 2011 shall be subject to the reduced rate of 15 percent . On the other hand, those royalties paid before June 1, 2011 shall be subject to the regular rate of 30 percent under Section 28 (B) (1) of the Tax Code. Finally, regarding value-added tax ("VAT"), under Section 108 (A), in relation to Section 105 of the Tax Code, the royalties paid by Perfetti Philippines to Perfetti Benelux and Perfetti Holding beginning , being payments for the use of intangible properties (trademarks and know-how) in the Philippines made to nonresident foreign persons, are subject to VAT, to wit: "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, 1 raise the rate of value-added tax to twelve percent (12%) . . ." "SEC. 105. Persons Liable. Any person who, in the course of trade or business, sells, barters, exchanges, leases goods or properties, renders services, and any person who imports goods shall be subject to the value-added tax (VAT) imposed in Sections 106 to 108 of this Code. DAHSaT The value-added tax is an indirect tax and the amount of tax may be shifted or passed on to the buyer, transferee or lessee of the goods, properties or services. This rule shall likewise apply to existing contracts of sale or lease of goods, properties or services at the time of the effectivity of Republic Act No. 7716. The phrase 'in the course of trade or business' means the regular conduct or pursuit of a commercial or an economic activity, including transactions incidental thereto, by any person regardless of whether or not the person engaged therein is a non-stock, nonprofit private organization (irrespective of the disposition of its net income and whether or not it sells exclusively to members or their guests), or government entity. The rule of regularity, to the contrary notwithstanding, services as defined in this Code rendered in the Philippines by nonresident foreign persons shall be considered as being rendered in the course of trade or business ." (emphasis added) Relative thereto, Perfetti Philippines shall withhold VAT on the royalties at the rate of 12 percent before remitting them to Perfetti Benelux and Perfetti Holding. Perfetti Philippines shall use BIR Form No. 1600 (Monthly Remittance Return of Value-Added Tax and Other Percentage Taxes Withheld). The duly filed BIR Form No. 1600 and its accompanying proof of payment shall serve as documentary substantiation for Perfetti Philippines' claim of input tax on the royalties. Otherwise, if Perfetti Philippines is not a VAT-registered taxpayer, it may treat the VAT as an asset or expense , whichever is applicable. VAT withheld shall be remitted within 10 days following the end of the month the withholding was made. 2 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. Very truly yours, (SGD.) KIM S. JACINTO-HENARES Commissioner of Internal Revenue Footnotes 1. The VAT rate was increased to 12 percent beginning 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. 2. Pursuant to Section 4.112-2 of Revenue Regulations No. 16-2005 (Consolidated Value-Added Tax Regulations of 2005) , as amended by Revenue Regulations No. 4-2007 (Amending Certain Provisions of Revenue Regulations No. 16-2005, As Amended, Otherwise Known as the Consolidated Value-Added Tax Regulations of 2005) , which provides: "SEC. 4.114-2. Withholding of VAT on Government Money Payments and Payments to Non-Residents. xxx xxx xxx (b) The government or any of its political subdivisions, instrumentalities or agencies including GOCCs, as well as private corporation, individuals, estates and trust, whether large or non-large taxpayers, shall withhold twelve percent (12%) VAT, starting February 1, 2006, with respect to the following payments: (1) Lease or use of properties or property rights owned by non-residents; and (2) Services rendered to local insurance companies with respect to reinsurance premiums payable to non-residents; and (3) Other services rendered in the Philippines by non-residents. In remitting VAT withheld, the withholding agent shall use BIR Form No. 1600 Remittance Return of VAT and Other Percentage Taxes Withheld. VAT withheld and paid for the non-resident recipient (remitted using BIR Form No. 1600), which VAT is passed on to the resident withholding agent by the non-resident recipient of the income, may be claimed as input tax by said VAT-registered withholding agent upon filing his own VAT Return, subject to the rule on allocation of input tax among taxable sales, zero-rated sales and exempt sales. The duly filed BIR Form No. 1600 is the proof or documentary substantiation for the claimed input tax or input VAT. Nonetheless, if the resident withholding agent is a non-VAT taxpayer, said passed-on VAT by the non-resident recipient of the income, evidenced by the duly filed BIR Form No. 1600, shall form part of the cost of purchased services, which may be treated either as an 'asset' or 'expense', whichever is applicable, of the resident withholding agent. VAT withheld under this Section shall be remitted within ten (10) days following the end of the month the withholding was made."