Isla Lipana & Co.

March 26, 2018 ITAD BIR RULING NO. 047-18 Article 13 (Gains from the Alienation of Property) Philippines- Netherlands tax treaty Isla Lipana & Co. 29th Floor, Philamlife Tower 8767 Paseo de Roxas 1226 Makati City Attention: AAA __________ Gentlemen : This refers to your tax treaty relief application filed on December 19, 2014 requesting confirmation that gains derived by Asia Outsourcing Netherlands B.V. (" Asia Outsourcing ") from the redemption of its shares of stock in Asia Outsourcing Philippines Holdings, Inc. (" Asia Outsourcing Philippines ") are exempt from income tax 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 "). cDCEIA FACTS Asia Outsourcing is a foreign corporation organized and existing under the laws of the Netherlands and a resident thereof based on its Deed of Incorporation and Declaration of Residence issued by the Tax Administration Authorities Office of Arnhem in the Netherlands. The objects of Asia Outsourcing are to incorporate, to participate, to manage, and to supervise businesses and companies; to finance businesses and companies; to borrow, to lend and to raise funds, including the issue of bonds, promissory notes or other securities or evidence of indebtedness and to enter into agreements in connection with the foregoing activities, among others. Asia Outsourcing is not registered as a corporation or partnership in the Philippines based on the Certification of Non-Registration of Company issued by the Securities and Exchange Commission. On the other hand, Asia Outsourcing Philippines is a domestic corporation organized and existing under Philippine laws. Its primary purpose is to hold, purchase, acquire, lease, and contract real and personal properties. Asia Outsourcing Philippines is a wholly-owned subsidiary of Asia Outsourcing . Based on Asia Outsourcing Philippines ' Audited Financial Statements as of December 31, 2013 and Corporate Secretary's Certificates, Asia Outsourcing is the registered owner of 191,494,839 redeemable preferred shares in Asia Outsourcing Philippines , each share with a par value of P1.00. Those shares were acquired on April 22, 2013 by original issuance. On November 25, 2014, the Board of Directors of Asia Outsourcing Philippines authorized the redemption of the company's 12,684,000 preferred shares. The shares will be redeemed on December 15, 2014 at a redemption price of P33.99 per share. 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 In reply, please be informed that based on the following commentaries of the Organisation for Economic Co-operation and Development Model Tax Convention on Income and on Capital Organisation (Condensed Version, November 21, 2017 Edition) , gains from redemption of shares are generally characterized as dividends , thus: "31. If shares are alienated by a shareholder in connection with the liquidation of the issuing company or the redemption of shares or reduction of paid-up capital of that company, the difference between the proceeds obtained by the shareholder and the par value of the shares may be treated in the State of which the company is a resident as a distribution of accumulated profits and not as a capital gain. The Article does not prevent the State of residence of the company from taxing such distributions at the rates provided for in Article 10: such taxation is permitted because such difference is covered by the definition of the term 'dividends' contained in paragraph 3 of Article 10 and interpreted in paragraph 28 of the Commentary relating thereto, to the extent that the domestic law of that State treats that difference as income from shares . . ." (Page 296) However, based on the same commentaries, income from redemption of shares are taxed as dividends to the extent that the domestic law of the taxing State treats the income as income from shares or dividends. In the Philippines, under Section 73 (b) of the National Internal Revenue Code of 1997 (" Tax Code "), as amended, gains from redemption of shares are taxable as dividends only if those shares were acquired as stock dividends, thus: " Sec. 73. Distribution of dividends or assets by corporations. xxx xxx xxx (b) S tock dividends A stock dividend representing the transfer of surplus to capital account shall not be subject to tax. However, if a corporation cancels or redeems stock issued as a dividend at such time and in such manner as to make the distribution and cancellation or redemption, in whole or in part, essentially equivalent to the distribution of a taxable dividend, the amount so distributed in redemption or cancellation of the stock shall be considered as taxable income to the extent it represents a distribution of earnings or profits accumulated after March first, nineteen hundred and thirteen." (Emphasis ours) Otherwise, under Section 9 of Revenue Regulations No. 6-2008, 1 the difference between the amount/value received at the time of redemption and the cost of the preferred shares is recognized as a capital gain (or capital loss as the case may be) and subject to regular income tax rates, thus: DHESca " SEC. 9. TAXATION OF SHARES REDEEMED FOR CANCELLATION OR RETIREMENT. When preferred shares are redeemed at a time when the issuing corporation is still in its 'going-concern' and is not contemplating in dissolving or liquidating its assets and liabilities, capital gain or capital loss upon redemption shall be recognized on the basis of the difference between the amount/value received at the time of redemption and the cost of the preferred shares . Similarly, the capital gain or loss derived shall be subject to the regular income tax rates imposed under the Tax Code, as amended, on individual taxpayers or to the corporate income tax rate, in case of corporations." (Emphasis ours) In Commissioner of Internal Revenue v. Goodyear Philippines, Inc., G.R. No. 216130 dated August 03, 2016 , the Supreme Court ruled that the redemption price paid by a domestic corporation to its stockholder is not treated as dividends : "In light of the foregoing, the Court therefore holds that the redemption price representing the amount of P97,732,314.00 received by GTRC could not be treated as accumulated dividends in arrears that could be subjected to 15% FWT. Verily, respondent's AFS covering the years 2003 to 2009 show that it did not have unrestricted retained earnings, and in fact, operated from a position of deficit. Thus, absent the availability of unrestricted retained earnings, the board of directors of respondent had no power to issue dividends . . . It is also worth mentioning that one of the primary features of an ordinary dividend is that the distribution should be in the nature of a recurring return on stock which, however, does not obtain in this case. As aptly pointed out by the CTA En Banc, the amount of P97,732,314.00 received by GTRC did not represent a periodic distribution of dividend, but rather a payment by respondent for the redemption of GTRC's 3,729,216 preferred shares . . . All told, the amount of P97,732,314.00 received by GTRC from respondent for the redemption of its 3,729,216 preferred shares were not accumulated dividends in arrears . Contrary to petitioner's claims, it is therefore not subject to 15% FWT on dividends in accordance with Section 28 (B)(5)(b) of the Tax Code." (Emphasis Ours) In the instant case, since the redeemable preferred shares were acquired by Asia Outsourcing by original subscription and not as stock dividends, the redemption price paid to Asia Outsourcing by Asia Outsourcing Philippines for the redeemed shares are taxable as capital gains, and not dividends, under Section 73 (b) of the Tax Code and Section 9 of Revenue Regulations 6-2008. As capital gains, the taxation of this income is governed by Article 13 of the Philippines-Netherlands tax treaty below: " Article 13 GAINS FROM THE ALIENATION OF PROPERTY 1. Gains from the alienation of immovable property, as defined in paragraph 2 of Article 6, may be taxed in the State in which such property is situated. 2. Gains from the alienation of movable property forming part of the business property of a permanent establishment which an enterprise of one of the States has in the other State, or of movable property pertaining to a fixed base available to a resident of one of the States in the other State for the purpose of performing professional services, including such gains from the alienation of such a permanent establishment (alone or together with the whole enterprise) or of such a fixed base, may be taxed in the other State. 3. Notwithstanding the provisions of paragraph 2, gains derived by an enterprise of one of the States from the alienation of ships and aircraft operated in international traffic and movable property pertaining to the operation of such ships or aircraft shall be taxable only in that State. 4. Gains from the alienation of any property other than those mentioned in paragraphs 1, 2 and 3, shall be taxable only in the State of which the alienator is a resident." Under paragraph 1 , gains from the alienation of immovable property may be taxed in the State in which the property is situated. Under paragraph 2 , gains from the alienation of movable property forming part of the business property of a permanent establishment of an enterprise, or of a fixed base for the purpose of performing professional services of an individual, may be taxed in the State where the permanent establishment or fixed base is situated. Under paragraph 3 , gains from the alienation of ships or aircraft operated in international traffic are taxable only in the State where the operator is a resident. Under paragraph 4 , gains from the alienation of any property other than those mentioned in paragraphs 1, 2 and 3 of Article 13 are taxable only in the State where the alienator is a resident. TEHIaD Accordingly, since shares of stock are not in the nature of property contemplated in paragraph 1, 2 or 3 of Article 13 of the Philippines-Netherlands tax treaty ( i.e. , immovable property; movable property of a permanent establishment or fixed base; ships or aircraft), gains derived by Asia Outsourcing from the redemption of its preferred shares in Asia Outsourcing Philippines are taxable only in the Netherlands and exempt from income tax in the Philippines, pursuant to paragraph 4, Article 13 of the Philippines-Netherlands tax treaty. On documentary stamp tax (" DST "), under Section 175 of the Tax Code, this tax is imposed on the delivery or transfer of shares or certificates of stock, to wit: " SEC. 175. Stamp Tax on Sales, Agreements to Sell, Memoranda of Sales, Deliveries or Transfer of Shares or Certificates of Stock. On all sales, or agreements to sell, or memoranda of sales, or deliveries, or transfer of shares or certificates of stock in any association, company, or corporation, or transfer of such securities by assignment in blank, or by delivery, or by any paper or agreement, or memorandum or other evidences of transfer or sale whether entitling the holder in any manner to the benefit of such stock, or to secure the future payment of money, or for the future transfer of any stock, there shall be collected a documentary stamp tax Seventy-five-centavos (P0.75) on each Two hundred pesos (P200), or fractional part thereof, of the par value of such stock: Provided, That only one tax shall be collected on each sale or transfer of stock from one person to another, regardless of whether or not a certificate of stock is issued, indorsed, or delivered in pursuance of such sale or transfer: and Provided, further, That in the case of stock without par value the amount of the documentary stamp tax herein prescribed shall be equivalent to twenty-five percent (25%) of the documentary stamp tax paid upon the original issue of said stock." However, under Section 4 of Revenue Regulations No. 13-2004, 2 it clarifies that for a sale or exchange to be subject to DST, there must be an actual or constructive transfer of beneficial ownership of the shares from one person to another, thus: " SECTION 4. New Rate of DST on Sales, Agreements to Sell, Memoranda of Sales, and Subsequent Transfer of Shares of Stocks xxx xxx xxx All transfer of shares of stock of a domestic corporation are subject to the DST upon execution of the deed transferring ownership or rights thereto, or upon delivery, assignment or indorsement of such shares in favor of another. No transfer of shares of stock shall be recorded unless DST thereon has been duly paid for in accordance with section 201 of the Code. For a sale or exchange to be taxable, there must be an actual or constructive transfer of beneficial ownership of the shares of stock from one person to another. Such transfer may be manifested by the clear exercise of attributes of ownership over such stocks by the transferee, or by an actual entry of a change in the name appearing in the certificate of stock or in the Stock and Transfer Book of the issuing corporation or by any entry indicating transfer of beneficial ownership in any form of registry including those of a duly scripless registry, such as those maintained for or by the Philippine Stock Exchange . . ." In case of redemption, there is no actual or constructive transfer of beneficial ownership of the shares of stock from one person to another. This is because in a redemption, the investor merely returns the shares to the issuer, and not assigned or transferred to another person. The investor in this case may reclassify those shares to treasury shares for future reissuance, or formally retire them. Accordingly, the redemption of the preferred shares in Asia Outsourcing Philippines is exempt from DST pursuant to Section 4 of Revenue Regulations 13-2004. 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. DETACa Very truly yours, (SGD.) CAESAR R. DULAY Commissioner of Internal Revenue Footnotes 1. Consolidated Regulations Prescribing the Rules on the Taxation of Sale, Barter, Exchange or other Disposition of Shares of Stock Held as Capital Assets. 2. Implementing the Provisions of Republic Act No. 9243, An Act Rationalizing the Provisions on the Documentary Stamp Tax of the National Internal Revenue Code of 1997, as Amended, and for Other Purposes.