Sycip Gorres Velayo and Co.

May 28, 2020 ITAD BIR RULING NO. 040-20 Articles 5 (Permanent Establishment) and 22 (Other Income) Philippines-Korea tax treaty Sycip Gorres Velayo and Co. 6760 Ayala Avenue 1226 Makati City Attention: AAA _______________ Gentlemen : This refers to your tax treaty relief application filed on May 27, 2011 requesting confirmation that guarantee fee paid by Phoenix Semiconductor Philippines Corporation ("Phoenix Semiconductor") (now SFA Semicon Philippines Corporation ) to STS Semiconductor and Telecommunications Company Ltd. ("STS Semiconductor") (formerly Science Technology Society Semiconductor and Telecommunications Company Ltd. ) is exempt from income tax pursuant to the Convention between the Republic of the Philippines and the Republic of Korea for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income ("Philippines-Korea tax treaty") . FACTS STS Semiconductor is a corporation organized and existing under the laws of Korea and a resident thereof based on its Articles of Incorporation and Certificate of Business Registration issued by the Cheonan District Tax Office in Korea. It is engaged in the following activities: a) Sale and manufacture of semiconductor and liquid color display; b) Manufacture, sale, trading, rent and service of semiconductor manufacturing and inspecting machinery; c) Renting of real estate; d) Sale and manufacture of broadcasting and wireless devices; e) Sale and manufacture of electric and electronic components; f) Sale and manufacture of electronic game components; g) Export and import of finished goods (games machine and semiconductor); h) Hardware development and sale; i) Wholesale and retail trading through e-commerce; j) Engineering consulting for the above items; and k) Other additional businesses. AIDSTE It is not registered as a corporation or partnership in the Philippines based on its Certificate of Non-Registration of Company issued by the Securities and Exchange Commission. On the other hand, Phoenix Semiconductor is a domestic corporation engaged in the construction, ownership and operation of a plant which manufactures, assembles, tests and warehouses semiconductor and memory devices and applications and other related products. It is registered with the Clark Development Corporation and has a permit to operate within the Clark Freeport Zone in the Philippines. Based on Article 3 of its Certificate of Registration and Tax Exemption, Phoenix Semiconductor is subject to 5% tax on its gross income in lieu of national and local taxes, pursuant to Section 12 (c) of Republic Act No. 7227, 1 as amended. On March 23, 2011, Phoenix Semiconductor (as borrower), STS Semiconductor (as guarantor), Banco De Oro Unibank, Inc. ("BDO") (as lender) and Banco De Oro Unibank, Inc. Trust and Investment Group (as security trustee) entered into an Omnibus Loan and Security Agreement where BDO granted Phoenix Semiconductor a credit facility not exceeding US$ _______________ , and STS Semiconductor agreed to guarantee the advance drawn by Phoenix Semiconductor from the facility. BDO is a domestic bank which provides a complete array of products and services including lending (corporate and consumer), deposit taking, foreign exchange, brokering, trust and investments, credit cards, corporate cash management, and remittances. 2 The advance bears interest at the applicable three-month London Interbank Offered Rate (LIBOR) plus a margin of 3.90% per annum, and payable in full between a period of 27 to 72 months. The advance will be used to finance Phoenix Semiconductor 's procurement and importation of various equipment to be installed in its plant facility. As guarantor, STS Semiconductor undertakes that, in case of default, it will pay BDO on demand any outstanding amount owed by Phoenix Semiconductor to BDO . On May 4, 2011, Phoenix Semiconductor and STS Semiconductor entered into a Guarantee Fee Agreement to set the rate of guarantee fee to 1.00% per annum. Based on a sworn statement issued by Phoenix Semiconductor , the income subject of this ruling is not under investigation, on-going audit, administrative protest, claim for refund or issuance of a tax credit certificate, collection proceeding, or judicial appeal. RULING a) Income tax In reply, please be informed that under Section 28 (B) (1) of the National Internal Revenue Code of 1997 ("Tax Code") , as amended, income derived by a nonresident foreign corporation is subdject to income tax at the rate of 30%, 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: n Provided, That effective January 1, 2009, the rate of income tax shall be thirty percent (30%)." AaCTcI However, under Section 32 (B) (5) of the Tax Code, such income is exempt to the extent required by any treaty obligation binding upon the Philippine government, to wit: " 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." In this connection, Articles 22 and 5 of the Philippines-Korea tax treaty provide as follows: " Article 22 OTHER INCOME 1. Items of income of a resident of a Contracting State, wherever arising, not dealt with in the foregoing Articles of this Convention shall be taxable only in that State. 2. The provisions of paragraph 1 shall not apply to income, other than income from immovable property as defined in paragraph 2 of Article 6, if the recipient of such income, being a resident of a Contracting State carries on business in the other Contracting State through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the right or property in respect of which the income 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." " Article 5 PERMANENT ESTABLISHMENT 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 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 any other place of extraction of natural resources; g) premises used as a sales outlet; and h) a warehouse, in relation to a person providing storage facilities for others." Under Article 22, income derived by a resident of Korea, wherever arising, and not dealt with in any specific articles of the tax treaty shall be taxable only in Korea, unless the income is effectively connected with a permanent establishment (if the recipient is an enterprise) or a fixed base (if the recipient is an individual) which the recipient has in the Philippines. In such case, the income may be taxed in the Philippines. EcTCAD Relative thereto, under Article 5, the term permanent establishment means a fixed place of business through which the business of an enterprise is wholly or partly carried on, and includes especially, a place of management, a branch, an office, a factory, and a workshop, among others. Accordingly, since STS Semiconductor is not engaged in trade or business in the Philippines, and it does not have a branch, an office, or other fixed place of business in the country, it is not deemed to have a permanent establishment in the Philippines under paragraphs 1 and 2, Article 5 of the Philippines-Korea tax treaty. This being the case, guarantee fee paid by Phoenix Semiconductor to STS Semiconductor for guaranteeing advances drawn by Phoenix Semiconductor from the credit facility granted by BDO is exempt from income tax under paragraphs 1 and 2, Article 22 of the tax treaty. On the reason why the guarantee fee is treated as other income taxable under Article 22 and not business profits under Article 7 of the Philippines-Korea tax treaty, note that providing guarantee or engaging in similar activity is not included in STS Semiconductor 's registered business activity contained in its Articles of Incorporation. Moreover, the guarantee fee cannot be regarded as interest under Article 11 because STS Semiconductor , the guarantor, did not provide loan to Phoenix Semiconductor , the guaranteed party. Moreover, without giving further explanation, guarantee fee cannot be assimilated with the remaining types of income of the tax treaty and relevant to an enterprise, namely: 1. Income from real property (Article 6); 2. Profits from the operation of ships or air transport in international traffic (Article 8); 3. Dividends (Article 10); 4. Interest (Article 11); 5. Royalties (Article 12); and 6. Capital gains (Article 13). b) Value-added tax Finally, since Phoenix Semiconductor is registered with the Clark Development Corporation and subject to 5% on its gross income in lieu of national and local taxes under Section 12 (c) of Republic Act No. 7227, guarantee fee paid by Phoenix Semiconductor to STS Semiconductor is exempt from value-added tax ("VAT") imposed under Section 108 (A) of the Tax Code, 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 twelve percent (12%) of gross receipts derived from the sale or exchange of services, including the use or lease of properties." In Commissioner of Internal Revenue vs. Seagate Technology (Philippines) (G.R. No. 153866 dated February 11, 2005), the Supreme Court ruled that domestic enterprises enjoying 5% gross income taxation under special laws in lieu of national and local taxes are exempt from VAT, to wit: "Applying the special laws we have earlier discussed, respondent as an entity is exempt from internal revenue laws and regulations. HSAcaE This exemption covers both direct and indirect taxes, stemming from the very nature of the VAT as a tax on consumption, for which the direct liability is imposed on one person but the indirect burden is passed on to another. Respondent, as an exempt entity, can neither be directly charged for the VAT on its sales nor indirectly made to bear, as added cost to such sales, the equivalent VAT on its purchases . Ubi lex non distinguit, nec nos distinguere debemus. Where the law does not distinguish, we ought not to distinguish. Moreover, the exemption is both express and pervasive for the following reasons : First, RA 7916 states that 'no taxes, local and national, shall be imposed on business establishments operating within the ecozone.' Since this law does not exclude the VAT from the prohibition, it is deemed included . Exceptio firmat regulam in casibus non exceptis. An exception confirms the rule in cases not excepted; that is, a thing not being excepted must be regarded as coming within the purview of the general rule . Moreover, even though the VAT is not imposed on the entity but on the transaction, it may still be passed on and, therefore, indirectly imposed on the same entity a patent circumvention of the law. That no VAT shall be imposed directly upon business establishments operating within the ecozone under RA 7916 also means that no VAT may be passed on and imposed indirectly . Quando aliquid prohibetur ex directo prohibetur et per obliquum. When anything is prohibited directly, it is also prohibited indirectly ." (Underscoring supplied) Since exempt, Phoenix Semiconductor cannot be imposed VAT directly as a regular VAT-registered taxpayer, and indirectly where VAT will be passed on or shifted to Phoenix Semiconductor by STS Semiconductor . 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.) CAESAR R. DULAY Commissioner of Internal Revenue Footnotes 1. An Act Accelerating the Conversion of Military Reservations into Other Productive Uses, Creating the Bases Conversion and Development Authority for this Purpose, Providing Funds Therefor and for Other Purposes. 2. https.//www.bdo.com.ph/sites/default/files/pdf/BDO-Unibank-2016-Annual-Report.pdf n Note from the Publisher: Copied verbatim from the official document.