Sycip Gorres Velayo & Co.

June 26, 2020 ITAD BIR RULING NO. 048-20 Articles 5 and 7 Philippines-Japan tax treaty Sycip Gorres Velayo & Co. 6760 Ayala Avenue 1226 Makati City Attention: AAA _______________ Gentlemen : This refers to your tax treaty relief application filed on January 22, 2014 requesting confirmation that service fee paid by Fujifilm Optics Philippines, Inc. ("Fujifilm Philippines") to Fujifilm Optics Company Ltd. ("Fujifilm Japan") is exempt from income tax pursuant to the 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 by Protocol. 1 FACTS Fujifilm Japan is a foreign corporation organized and existing under the laws of Japan and a resident thereof based on its amended Articles of Incorporation and Certificate of Residence issued by the Ota Tax Office in Japan. It is engaged in manufacturing and selling optical equipment, precision equipment, and their accessories. It is not registered as a corporation or partnership in the Philippines based on the Certificate of Non-Registration of Company issued by the Securities and Exchange Commission. On the other hand, Fujifilm Philippines is a domestic corporation registered with the Philippine Economic Zone Authority ("PEZA") based in its amended Registration Agreement with PEZA. As an ecozone export enterprise, Fujifilm Philippines is engaged in manufacturing spherical glass lens, and importation of raw materials, machinery, equipment, tools, goods, wares, articles, or merchandise directly used in its registered operations. It is also engaged in installation of glass lens into sub-assembly parts; bonding of lens into sub-assembly parts; combining sub-assembly parts with other parts to form a product unit; inspecting products to ensure quality before they are shipped out to customers; and packaging products for transport to customers. On April 1, 2013, Fujifilm Philippines and Fujifilm Japan entered into a Service Agreement where Fujifilm Japan agreed to provide services to Fujifilm Philippines in relation to the installation and operation of equipment to be used by the latter in manufacturing lens, and in relation to the commissioning and starting-up of commercial operations of Fujifilm Philippines ' manufacturing plant in Laguna, Philippines. These services include conducting system audit and testing of newly installed facilities that require special analysis and remedy. Fujifilm Japan will send its workers to the Philippines to perform the following services: IDTSEH a) Undertake an in-depth assessment of Fujifilm Philippines ' existing system at its manufacturing plant and evaluate the system's efficiency; b) Inspect and evaluate the facility under test-run, start-up, and commissioning; c) Provide guidelines in operating and undertaking appropriate adjustments at the facilities; d) Inform and demonstrate to Fujifilm Philippines ' personnel the proper operation of the facility and appropriate handling of equipment and machines; e) Make recommendation or summary of findings to Fujifilm Philippines ; and f) Provide or undertake other services as may be required or necessary. The equipment subject of the Agreement will be used to manufacture lens model PT375 for Epson Precision (Philippines), Inc. In consideration, Fujifilm Philippines will pay service fee to Fujifilm Japan amounting to __________. The Agreement took effect on April 1, 2013 and would be in effect until the services were completed. Based on a sworn statement issued by Fujifilm Philippines , Fujifilm Japan had completed the services for a period of 175 days from March 17 to September 7, 2013, particularly, April 1-30 (30 days); May 1-31 (31 days); June 1-30 (30 days); August 1-31 (31 days); and September 1-7 (7 days). The personnel concerned and their dates of arrival and departure in the Philippines are as follows: Name Arrival Departure AAA _______________ _______________ BBB _______________ _______________ CCC _______________ _______________ DDD _______________ _______________ EEE _______________ _______________ FFF _______________ _______________ GGG _______________ _______________ HHH _______________ _______________ III _______________ _______________ JJJ _______________ _______________ KKK _______________ _______________ LLL _______________ _______________ MMM _______________ _______________ NNN _______________ _______________ OOO _______________ _______________ Based on another sworn statement issued by Fujifilm Philippines , 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 proceedings, or judicial appeal. RULING 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 in the Philippines by a nonresident foreign corporation is subject 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%)." However, under Section 32 (B) (5) of the Tax Code, such income is exempt to the extent required by any treaty obligation on the Philippine government, thus: " 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." Relative thereto, paragraph 1, Article 7, and paragraphs 1, 2 and 6, Article 5 of the Philippines-Japan tax treaty provide as follows: " 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." " 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. DHIcET 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 twelve-month period. 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." Under Article 7, the profits of an enterprise shall be taxable only in a Contracting State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated in the other State. Under Article 5, a permanent establishment means a fixed place through which the business of the enterprise is wholly or partly carried on, and includes especially, a store or other sales outlet, a branch, an office, a factory, and a workshop (paragraphs 1 and 2) . The enterprise is also deemed to have a permanent establishment if it furnishes consultancy services in the other State, or supervisory services in connection with a contract for a building, construction or installation project, through employees or other personnel thereof, where such activities continue in that State for a period or periods aggregating more than six months or 180 days within any twelve-month period (paragraph 6) . Accordingly, since Fujifilm Japan 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, and it did not furnish services in the Philippines (through employees or other personnel thereof) for a period or periods aggregating more than six months or 180 days, Fujifilm Japan is not deemed to have a permanent establishment in the Philippines under paragraphs 1, 2 and 6, Article 5 of the Philippines-Japan tax treaty. As represented, Fujifilm Japan had completed the services in the Philippines for a period of 175 days only . This being the case, the service fee paid by Fujifilm Philippines to Fujifilm Japan is exempt from income tax pursuant to paragraph 1, Article 7 of the tax treaty. With regard to value-added tax ("VAT") , services performed in the Philippines, even by a nonresident foreign corporation, are subject to VAT at the rate of 12% under Section 108 (A) in relation to Section 105 of the Tax Code, 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, 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. HcDSaT 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 ." (Underscoring supplied) However, Section 108 (B) (3) of the Tax Code treats sales of services to persons exempt under special laws as zero-rated, thus: " (B) Transactions Subject to Zero Percent (0%) Rate. The following services performed in the Philippines by VAT-registered persons shall be subject to zero percent (0%) rate. xxx xxx xxx (3) Services rendered to persons or entities whose exemption under special laws or international agreements to which the Philippines is a signatory effectively subjects the supply of such services to zero percent (0%) rate." xxx xxx xxx (Underscoring supplied) Fujifilm Philippines is registered with PEZA as an Ecozone Export Enterprise at the Carmelray International Business Park under Certificate of Registration No. 12-54 dated July 16, 2012, and as such, it is governed by Republic Act No. 7916 ("RA No. 7916") . 2 Sections 23 and 24 thereof, as amended by RA No. 8748, read as follows: " SEC. 23. Fiscal Incentives. Business establishments operating within the ECOZONES shall be entitled to the fiscal incentives as provided for under Presidential Decree No. 66, the law creating the Export Processing Zone Authority, or those provided under Book VI of Executive Order No. 226, otherwise known as the Omnibus Investment Code of 1987. Furthermore, tax credits for exporters using local materials as inputs shall enjoy the same benefits provided for in the Export Development Act of 1994. SEC. 24. Exemption from National and Local Taxes. Except for real property taxes on land owned by developers, no taxes, local and national, shall be imposed on business establishments operating within the ECOZONE. In lieu thereof, five percent (5%) of the gross income earned by all business enterprises within the ECOZONE shall be paid and remitted as follows: (a) Three percent (3%) to the National Government; ASTcaE (b) Two percent (2%) which shall be directly remitted by the business establishments to the treasurer's office of the municipality or city where the enterprise is located." Furthermore, Section 8 of RA No. 7916 mandates that PEZA shall manage and operate the ecozone as a separate customs territory. The provision thereby establishes the fiction that an ecozone is a foreign territory separate and distinct from the customs territory. PEZA-registered enterprises, which would necessarily be located within the ECOZONES, are VAT-exempt entities, not because of Section 24 of RA No. 7916, as amended, but rather, because of Section 8 thereof which establishes the fiction that ECOZONES are foreign territory. In Commissioner of Internal Revenue vs. Seagate Technology (Philippines) (G.R. No. 153866, February 11, 2005) , the Supreme Court had the occasion to rule that the exemption granted to PEZA-registered enterprises covers both direct and indirect taxes, and as such, they can neither be directly charged for VAT on their sales nor indirectly made to bear, as added cost to such sales, the equivalent VAT on their purchases : "Applying the special laws we have earlier discussed, respondent as an entity is exempt from internal revenue laws and regulations. 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: 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. Second, when RA 8748 was enacted to amend RA 7916, the same prohibition applied, except for real property taxes that presently are imposed on land owned by developers. This similar and repeated prohibition is an unambiguous ratification of the laws intent in not imposing local or national taxes on business enterprises within the ecozone." In the instant case, Fujifilm Philippines , a manufacturer of spherical glass lens, engaged the services of Fujifilm Japan with respect to the installation and operation of equipment to be used in manufacturing glass lens, and with respect to the commissioning and starting-up of commercial operations of Fujifilm Philippines ' manufacturing plant for a service fee of _______________. No doubt, the services rendered by Fujifilm Japan are directly connected with Fujifilm Philippines ' PEZA-registered activity. The sale of services by Fujifilm Japan to Fujifilm Philippines is, however, subject to VAT at the rate of zero percent (0%). As a PEZA-registered enterprise operating within a special economic zone, Fujifilm Philippines is entitled to the fiscal incentives, privileges, benefits, advantages or exemptions under both Presidential Decree ("PD") No. 66 3 and RA No. 7916, as amended by RA No. 8748. Its exemption under both PD No. 66 and RA No. 7916 effectively subjects such transactions to a zero rate, because the ecozone within which it is registered is managed and operated by PEZA as a separate customs territory. As such, the purchase of services by Fujifilm Philippines that is destined for consumption within the ECOZONE should be free of VAT; hence, no input VAT should then be paid on such purchase. cDSAEI In sum, the service fee paid by Fujifilm Philippines to Fujifilm Japan for the services rendered by the latter is subject to VAT at the rate of zero percent (0%) under Section 108 (B) (3) of the Tax Code. 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. Protocol Amending the 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 effective January 1, 2009. 2. An Act Providing for the Legal Framework and Mechanisms for the Creation, Operation, Administration, and Coordination of Special Economic Zones in the Philippines, Creating for this Purpose, the Philippine Economic Zone Authority (PEZA), and for Other Purposes, as amended . 3. Creating the Export Processing Zone Authority and Revising Republic Act No. 5490 . n Note from the Publisher: Copied verbatim from the official document.